Equitymaster Agora Re search Private Limited

Independent Investment Research

23 December, 2009

Alok Industries Ltd.

Buy
Market data
Current price Rs 21 (BSE) Investment Rationale
Market cap Rs 12,719 m
 Weaving a turnaround story: It is not easy to run a business that
NSE symbol ALOKTEXT can churn only one rupee of revenue for every rupee invested.
BSE code 521070 Dependence on exports to US, Europe is an added dampener.
No of shares 605.7 m Rising input costs, volatile exchange rates, high leverage ratios,
Free float 63.2% falling realisations and lower export demand can only ruin the
Face value Rs 10.0 fortunes of the business. These are certainly factors that we would
avoid while recommending stocks to invest in for the long term.
FY09 DPS (Rs) Rs 1.2
Unless, it is a brilliant turnaround story wherein the company has
52 week H/L Rs 30/11 grown its sales by 19% and profits by 15% in one of the most diffic ult
times. At the same time, valuations of the stock are only factoring in
Rs 100 inve sted i s now worth the past risks without looking at the fut ure upsides .
400
Alok Rs 37 BSE Midcap Rs 208 Stocks of textile companies have been at the receiving end of
300 investor apathy in t he past fiscal. Poor export demand from the US
200 and Europe along with high debt on their books induced investors to
overlook long-t erm t rends. Rampant closure of manufacturing
100
facilities and retrenchment of workers in the sector also painted a
- grim picture. In fact, it has been proven that there is no place for the
Dec-05 Dec-07 Dec-09 smaller play ers, but only the large and integrated ones.

While Indian apparel companies face stiff competition from their

counterparts in China, the home textile industry enjoys a hedge in
Stock price performance
terms of competition and changing fashion t rends. The market for
Alok Ind. Index* export of home t extile is very favourable for Indian players, with most
1-Yr 30.4% 97.3% of t he E uropean companies having gone bankrupt. At the same time
2-Yrs -47.5% -15.8% the apparel segment enjoys higher margins due to higher degree of
3-Yrs -30.8% 4.9% designing and sophistication.
Returns over 1 yr are compounded
annual averages * BSE Midcap Few companies have a significant presence in both the segments.
Silvassa and Gujarat based Alok Industries leads them. In cont rast to
most other single-product play ers in t he textile sector, Alok is
Shareholding (Sep-09) focused on apparels as well as home textiles.
Category (%)
Promoters 36.8 Notwithstanding its strong presence in textile manufacturing, the
FIIs 20.9 company’s low return ratios, high debt and diversific ation into the
Banks, MFs & FIs 10.2 realty business were our main concerns with regard to its long-term
prospects. However, our rec ent meeting with the management
Venture capital funds 2.4
ironed out most of these. With most of its added capacity being
Public 18.8 operational FY10 onwards, the company is looking at higher asset
Others 10.9 turnover and improved operating margins. Exit from the realty
Total 100.0 business is expected to fetch the company funds to the tune of Rs 10
bn of which Rs 6 bn will be available to repay debts aft er settling the
Report prepared by dues of the realty venture.

Equitymaster Agora Research

Resultantly, the company’s return ratios are expected to nearly
Privat e Limited
double over the next three to four years. With dividend yield in
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excess of 5% and valuations at 0.5 times book value, t he downsides
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to the stock price are limited. We expect the stock to double over
the next 3 years.

Alok Industries Ltd. Page 1 of 9


Alok’s apparel business largely caters to
domestic garmenting companies like Gokaldas
Exports, Pantaloons and Raymond, while the
home textile division caters to global home
textile retailers including Wal -Mart and JC
Penny. The business model t hus, offers
diversification in terms of products, customers,
fashion cycles and currency risks. Also, given
the government’s ambitious targets of
multiplying the export of textiles from India,
Alok’s focus on each of these segments stands
in good stead for the long term.
 Resilient to economic ri sks: Alok will be
attaining sizeable capacity across segments i.e.,
spinning, toweling, sheeting and garmenting
once the phase-III of t he capacity expansion
gets fully commissioned by FY 10. The
incremental 14,000 TPA (tonnes per annum) of
spinning capacity will make the company 60%
self sufficient as far as its yarn requirement
goes. The terry-towel, sheeting and garment
capacities will lend the company operating
leverage against its peers in the home textile
and readymade garment industry. Further, as
the company has not witnessed any major
slowdown in demand from its overseas buyers
(due to its value-added product profile) and is
strengthening its presence in domestic retailing
as well, we not see the company facing
problems in terms of excess capacity or
underutilization going forward.
More importantly, the fact that Alok has
completed nearly 90% of its capital expansion
will help it endure any economic risks that
constrain funds for expansion. At the same time,
sufficient scalability will enable the company to
cash in on accelerated economic recovery both
in India and in Western countries.
(Ref er Table:1 of page no 6 )
 Margins have significant upside: While the
spinning capacity has got Alok backward
integrated, the company’s retail initiative is
directed toward forward integration. With rising
income levels and growing urbanisation, Alok
has tried to capture t he growing demand in the
domestic market wit h its ret ail outlets. The
company had around 138 ‘Homes & Apparels’
outlets by September 2009 that is expected to
be ramped up to 600 through the franchisee
route with an average targeted turnover of Rs 10
m per outlet by FY12.
Alok Industries Ltd.
23 December, 2009
While we do not foresee a significant revenue or
margin contribution initially, we believe that the
company’s intent of saving on raw material costs
(in-house spinning capacity) and distribution
costs (branded retail outlets) will prove to be a
positive going forward. Further, the captive
power plants of the company can meet 100% of
its requirements thus ensuring uninterrupted
power supply at reasonable cost. Alok’s 90%
stake in UK based retail stores Grabal Alok and
80% stake in Czech based manufacturing
company Mileta offer it international presence
and technological knowhow for designs and new
product lines.
Alok thus plans to capitalise on its domestic low
cost manufacturing ability and seek better
realisations for the same in the overseas
markets, thereby significantly enhancing its
margins. As per the management, the entire
process of converting cotton to finished fabric
ensures operating margins of around 37%. The
conversion of fabric to garment offers additional
operating margin of 12%. Thus vertical
integration is expected to play an important role
in sustenance of the company’s operating
margins and improvement in net margins.
Investment Concerns
 Execution ri sks: The new capacities in the
greenfield project in V api have been largely
funded though the debt procured through the
Technology Upgradation Fund (TUF) at
subsidised int erest rate of 6.5%. Although the
TUF debt has kept the company’s funding costs
relatively moderate and most of the capacities
have already been commissioned, extended
period of lower capacity utilisation may force the
company to bear int erest costs longer than
expected without deriving the benefit of growth
in volumes and margins.
 Hardening raw material prices: The ris e in
cotton prices in the past fiscal has already
impacted Alok’s raw material costs. However,
the company now has its own y arn s pinning
capacity and will be manufacturing 60% of its
yarn requirement by FY10. Having said that, a
further upmove in cotton prices may squeeze its
EBIDTA margins. To mitigate this risk, Alok has
entered into an exclusive s ourcing agreement
for organic cotton that has strong demand in the
Page 2 of 9
 23 December, 2009

US and European nations and t he c ost of which rate is 34% per annum during these years, which is
can be easily passed on to the buyers. a pretty steep target. It will require a well-defined
multi prong strategy to achieve this kind of growth in
Comparative valuations the current challenging environment
(FY09) Alok Industries Arvind Ltd.
Operating ratios
Higher capacity to aid industry growth
70
Revenues (Rs m) 31,367 27,867 Domestic sales
EBIDTA margin (%) 26.5% 11.5% Exports
50

(Rs bn)
Net margin (%) 2.4% -4.1%
Return ratios
Return on equity (%) 7.1% 0.0% 30
Return on assets (%) 1.4% 0.0%
Debt to equity (x) 3.0 2.3 10
Valuation ratios (FY12 E) FY07 FY10 FY12
Current price (Rs) 21 38 Source: Company’s September 09 report
Price to earnings (x) 3.6 10.1
Apparels and garments
Price to book value (x) 0.4 1.0
Price to net sales (x) 0.3 0.2 With the second largest spinning capacity in the
world after China, India commands 25% share of the
global cotton yarn market. However, it has less than
2% of the shuttle less looms (China 10%, Pakistan
Background 7%). This leaves a lot to be desired in t he weaving
category. However, the knitting sector is forecasted
A diversified manufacturer of home textiles, apparel
to maintain a growth of 5% to 6% in volume terms
fabrics, garments and polyester yarns, Alok
and 8% to 10% in value t erms over the next 4 t o 5
Industries evolved from an apparel trader in the late years.
1980s and diversified into home textiles, made ups
and garments in the last decade. The capacity
expansion will poise the company as the country’s
Share of global apparel trade
largest apparel fabric and bed sheet manufacturer FY09 US$ bn % share
and fourt h largest towel manufacturer. The company China 177 30.2
currently derives half of its revenues from the India 19 3.3
apparel division. The contribution of apparel to sales
Turkey 23 3.9
is expected to reduce from 52% in FY09 to 37% by
US 17 2.9
FY12. This is because of inc reased contribution from
home textile, garment and POY segments. With the Europe 184 31.6
commissioning of the spinning capacity and the Others 164 28.2
domestic retail initiative, Alok has achieved complete Total 584 100.1
vertical integration.
Source: Company’s September 09 report

Industry Prospects Home textiles

Textile and clothing industry plays a dominant role in
Indian economy. At the end of FY09, the sector had
a total market size of US $ 52 bn and accounted for
26% share of the manufacturing sector, 20% of
industrial production and 18% of industrial
employment. It contributed 16% to gross export
earnings and 4% to national GDP. Besides, another
50 m people are engaged in allied activities.
The Indian textile industry is estimated to grow from
US$ 52 bn in FY 09 to US$ 115 bn by FY12,
comprising domestic market of US $ 60 bn and
exports of US $ 55 bn. Thus, the projected growth
The global home textiles industry is estimated at
US$ 70 billion (at the retail level) with US and EU
together accounting for nearly 70% of the overall
market. During 2004-2007, the global growth, sales
of new homes and increase in consumer spending
led to accelerated growth in the US and E uropean
home textile markets. However, with the drop in
sales of new homes and most of the developed
economies entering a recession, the overall home
textiles market stagnated in 2008. Currently, the US
imports nearly 75% of its overall home textile
requirement. This figure is expected to go up with
the finishing facilities for towels and basic bedding

Alok Industries Ltd. Page 3 of 9


manufacturing plants also moving out of the US.
E ven in case of E urope, manufacturing companies
in Portugal have been struggling with many small
companies like Mundo Textil, JMA, La Meirinho on
the brink of closure. This provides a huge
opportunity for Indian companies with a global
footprint to cater to thes e markets.
India is the second largest supplier of t erry towels
(16% market share) and third largest vendor of bed
linen (13% market share) to the US. Although, India
lost market share to Pakistan and China (post
quotas) due to aggressive shipments at low prices, it
continued to enjoy healthier realisations as
compared to peers. Given Indian companies’ focus
on quality, increased share in value added products,
strong relationships with global retailers and
expanded capacities, we foresee India garnering a
better share of growth going forward.
Key management personnel
Mr. Ashok Jiwrajka, Executive Chairman, is a
commerce graduat e with 30 years of experience in
the marketing of textiles. He is responsible for the
marketing and exports of the company.
Mr. Dilip Jiwrajka, Managing Director, is a science
graduate with a diploma in Business
Entrepreneurship and Management. He has 26
years of experience in the manufacturing and trading
of fabric for the garment industry. At Alok he is
responsible for the weaving and processing divisions
and overseeing the strat egic planning,
administration, finance functions and overall working
of the company.
Mr. Surendra Jiwrajka, Jt. Managing Director, is a
commerce graduat e with 24 years of experience in
the trading and manufacturing of y arn,
implementation of projects and marketing of knitted
fabrics and texturis ed yarn. At Alok, he is
responsible for the manufacturing, marketing and
purchase functions of the yarn and knitting divisions
and overseeing the implementation of projects of the
company.
Risk Analysis
Note: See the ‘Risk Matrix’ table on the page 7
Sector: The growt h in the global apparel and home
textile industries is closely linked to the GDP growth
of the US and the European nations, in addition to
the emerging economies. While the growth in the
Alok Industries Ltd.
23 December, 2009
said geographies has started picking up, what is
enthusing is the fact that with growing disposable
incomes, the domestic market also offers significant
potential. While the shrinking capacities in the US
are benign for Indian c ompanies, competition from
low cost producers like China and Pakistan cannot
be ignored. Based on these factors, we have
assigned a ‘Medium’ risk rating to the sector.
Company standing: The capacity expansion will
poise Alok Industries as the country’s largest knit
apparel fabric and bed sheet manufacturer and
fourth largest towel manufacturer. Furt her, foray into
garment and homes textile retailing in the domestic
as well as international markets, on its own as well
as in collaboration with foreign players will poise the
company very attractively against most of the large
textile players in India. Thus, we rate t he institution’s
standing in the sector as ‘Strong’.
Sales: Alok has witnessed a CAGR of 29% in its
topline over the last 3 years, whic h is higher than the
industry average. Foray into high-end value add
products and vertical integration is expected to fuel
its sales growth further. This shall be backed by rise
in volumes on account of higher capacity expansion.
On a conservative basis, we expect the company to
clock a CAGR of 10-15% in its turnover over the
next 3 years. Fall in realisations, however, pos e a
downside to the company’s sales growth. Also, since
the company has breached our parameter of sales
above US$ 100 m, we assign a low risk rating of 7 to
the stock.
Operating margins: Operating margin is a
measurement of what proportion of a company's
revenue is left over aft er paying for variable c osts of
production such as raw materials, wages, and sales
and marketing costs. A healthy operating margin is
required for a company to be able to pay for its fixed
costs, such as interest on debt. The higher the
margin, the better it is for the company as it indicates
its operating efficiency. Alok's average operating
margins for the past five years has been 20%, which
we expect to hover in the range of 25% to 28%
during the next three years. As such, we assign a
medium risk rating of 7 to the stock on this
parameter.
Long-term EPS growth: We expect the company's
net profit to grow at a CA GR of 30% between FY09
to FY12. This is because of higher operating
Page 4 of 9

margins due to better product mix and improved
capacity utilisation. In a normal scenario, we
consider a compounded growth of over 20% in net
profits over a period of 3 to 5 years as healthy for a
company. As such, the rating assigned to t he stock
on this factor is 5.
Return on invested capital: ROIC is an important
tool to assess a company's potential to be a quality
investment by determining how well the
management is able to allocate capital into its
operations for future growth. A ROIC of above 15%
is considered decent for companies that are in an
expansionary phase. Considering Alok's last five
years' average ROIC of 6%, which is lower than the
industry average, we have assigned a high-risk
rating of 3 to the stock on this parameter.
Dividend payout: Alok has had an average
dividend payout of 16% over the last 5 years, which
we expect to be maintained in the future. The rating
assigned is on this parameter is 4.
Promoter holding: A larger share of promoter
holding indicates the confidence of people who run
the company. We believe that a greater t han 40%
promoter holding indicates safety for retail investors.
At the end of September 2009, the promoter holding
in Alok stood at 37%. We have assigned a risk rating
of 3 to the stock.
FII holding: We believe that FII holding of greater
than 25% can lead to high volatility in the stock
price. FII holding in the company stood at 21% at the
end of September 2009, which is pretty high.
Therefore, the rating assigned is 4.
Liquidity: The past five years’ average daily volume
of the stock is in the range of 3.5 m shares, which
indicates ample liquidity. The rating assigned is 9.
Current ratio: Alok’s average current ratio during
the period FY10 to FY 12 is estimated to be around 6
times, indicating the company's ability to pay up
short-term obligations. A ratio under 1 suggests that
the company is unable, at that point, to pay off its
obligations if they came due. We assign a low-risk
rating of 9 to the stock.
Alok Industries Ltd.
23 December, 2009
Debt to equity ratio: A highly leveraged business is
the first to get hit during times of ec onomic
downturn, as companies have to consistently pay
interest costs, despite lower profitability. We believe
that a debt to equity ratio of greater than 1 is a high-
risk proposition. Despit e the rights issue in FY10 and
conversion of FCCBs into shares expected in FY11,
Alok’s debt to equity ratio will remain above 2.0
times until FY12. We have thus, assigned it a high
risk rating of 1.
Interest coverage ratio: It is used to determine how
comfortably a company is plac ed in terms of
payment of interest on outstanding debt. The
interest coverage ratio is c alculated by dividing a
company 's earnings before int erest and taxes (EB IT)
by its interest expense for a given period. The lower
the ratio, the greater are the risks. Alok's interest
coverage ratio has been around 3 times over the
past five years, which we expect to be around 2
times over t he next three years. Thus, the rating
assigned to the stock on this parameter is 2.
P/E Ratio: The P/E ratio (price-to-earnings ratio) of
a stock is a measure of the price paid for a share
relative to the per share income or profit earned by
the company. This is one of the most important
metrics to judge the attractiveness of a stock, and
thus gets the highest weightage in our risk matrix.
Alok's P/E ratio on its earnings of the past four
quarters currently stands at 4 times, which makes
the stock very attractive on valuation metric. As
such, we have assigned a low risk rating of 8 to the
stock on this parameter.
Considering the above analysi s, the total ranking
assigned to the company i s 62 that, on a
weighted basis, stands at 5.4. Thi s make s the
stock a medium-ri sk inve stment from a long-
term perspective.
Valuations
Operating in a sector where the risks and rewards
are heavily skewed in favour of the former does not
come easily to several large companies. However,
Alok Industries is well poised to become the largest
in its niche business has exhibited such skills
brilliantly during t he economic downt urn.
Synonymous to its chain of retail stores – ‘Homes &
Apparels’, this company’s business model is in
contrast to most other single-product players in the
textile sector. Its integrated structure makes it ideally
Page 5 of 9
 23 December, 2009

poised to capture the upsides in terms of margins. Moreover, t he higher profits are ploughed back for R& D to
achieve better product mix and improved quality.

Armed with sizeable capacity and strengthened overseas presence, the company is set to reap t he benefits of
higher sales and better realizations over the next 4 -5 years. What is more, lower interest and depreciation cost
will mean return ratios that will be nearly double of that at the end of FY09. We expect thi s company’ s stock
currently trading at nearly half its FY09 book value to double over the next 3 years. We therefore
recommend investors to BUY the stock with a 3-year perspective.

Valuations
(Rs m) FY09 FY10 E FY11 E FY12 E
Total revenues (Rs m) 31,367 32,142 35,063 41,997
Net profit (Rs m) 741.0 1,482.0 2,045.4 3,574.0
Fully diluted EPS (Rs) 1.2 2.4 3.3 5.8
Price to earnings (x) 17.6 8.8 6.4 3.6
Market cap to sales (x) 0.4 0.4 0.4 0.3

Table 1: Global sized capacities

Segment Units Capacity as on Capacity by Market position
Sep-09 FY11-12
Spinning tons 55,690 58,500 Largest at single location
Apparel fabrics
Woven m metres 105 105 Largest player
Knit tons 18,200 67,200 Largest player
Home textiles
Bed linen m metres 83 83 Largest player
Terry towels tons 6,700 6,700 Top 5 player
Garments m pcs 22 22 Top 15 player
Polyester Yarn tons 114,000 114,000 Top 3 player
Source: Company

Alok Industries Ltd. Page 6 of 9

 23 December, 2009

Risk Matrix
Rating accorded
Rating# Weighted
Rating Weightage* (A)
(B) (A*B)
Sector Risk - Medium NA
Company - Strong NA
Performance parameters
Sales (US$ m) 5.0% 7 0.4
Operating margins (%) 5.0% 7 0.4
Long term EPS growth (%) 10.0% 5 0.5
Return on invested capital (%) 10.0% 3 0.3
Technical parameters
Dividend payout (%) 5.0% 4 0.2
Promoter holding (%) 10.0% 3 0.3
FII holding (%) 5.0% 4 0.2
Liquidity (Nos. '000) 10.0% 9 0.9
Safety parameters
Current ratio (x) 5.0% 9 0.5
Debt to equity ratio (x) 10.0% 1 0.1
Interest coverage ratio (x) 5.0% 2 0.1
P/E ratio (x) 20.0% 8 1.6
Final Rating# 62 5.4
# Rating has been assigned on the basis of the company's performance over the past fiv e years and expected performance over the next 3 to
5 years. Rating is on a scale of 1 to 10, w ith 1 indicating highest risk and 10 indicating lowest ris k.
* 'Weightage' indicates the relative importance in percentage terms of the parameter. For instance, for an investor, given all the performance
metrics, valuation (say P/E) should be the foremost criteria for buying/not buying stocks.
** The final rating has been arriv ed at by multiplying the rating/points given on each parameter w ith the respective weightage

Alok Industries Ltd. Page 7 of 9

 23 December, 2009

Consolidated financials at a glance

(Rs m) FY09 FY10 E FY11 E FY12 E
Sales 30,788 31,505 34,330 41,154
Sales growth (%) 35.8% 2.3% 9.0% 19.9%
Operating profit 8,145 8,919 9,758 11,662
Operating profit margin (%) 26.5% 28.3% 28.4% 28.3%
Net profit 741 1,482 2,045 3,574
Net profit margin (%) 2.4% 4.7% 6.0% 8.7%

Balance Sheet
Net fixed assets 62,846 67,144 66,341 63,729
Goodwill on consolidation 492 492 492 492
Investments 4,639 6,495 9,093 3,183
Current assets 30,826 28,186 27,681 34,197
Total assets 98,804 102,317 103,608 101,601

Networth 19,306 24,313 27,391 30,965

FCCBs 1,032 1,032 - -
Secured loans 65,399 67,399 66,899 60,899
Usecured loans 3,133 3,133 3,133 3,133
Deffered tax liability 3,081 1,945 1,376 1,092
Current liabilities and provisions 6,851 4,494 4,808 5,511
Total liabilities 98,804 102,317 103,608 101,601

Alok Industries Ltd. Page 8 of 9

 23 December, 2009

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Disclosure: The author of this article does not hold shares in the recommended company. QIS does not hold shares in the
recommended company.

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Alok Industries Ltd. Page 9 of 9