Khadim India Ltd. IPO Review. Price band ICICI Securities Ltd Retail Equity Research

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1 IPO Review Rating matrix Rating : Subscribe (Apply) Issue Details Issue Opens Issue Closes 2-Nov-17 6-Nov-17 Issue Size ( Crore) 543 Fresh Issue 50 Offer for Sale 493 Price Band ( ) No of Shares on Offer (crore) 0.7 QIB (%) 50% Non-Institutional (%) 15% Retail (%) 35% Minimum lot size (No. of shares) 20 Objects of issue a) Repayment of all or a portion of term loans and working capital facilites availed Amount 40 crore b) General corporate purposes 10 crore Shareholding pattern (at upper price band: 750) Pre-Issue Post-Issue Promoter & promoter group 66.2% 59.7% Public 33.8% 40.3% Financial Summary Crore FY14 FY15 FY16 FY17 Total Revenue EBITDA EBITDA Margin (%) PAT 12.1 (18.7) EPS* 6.7 (10.4) * Considering post equity dilution Valuation Summary (at upper price band: 750) (x) FY14 FY15 FY16 FY17 P/E Price/Sales Research Analyst Bharat Chhoda bharat.chhodal@icicisecurities.com Cheragh Sidhwa cheragh.sidhwa@icicisecurities.com November 1, 2017 Khadim India (Khadim s), incorporated in 1981, is one of the leading footwear brands in India, positioned itself as an affordable fashion, catering to the entire family for all occasions. With 853 exclusive branded outlets (as on June 30, 2017), Khadim has the second largest number of retail stores (after Bata) with largest presence in East India and one of the top three players in South India. Bedside s its retail stores; Khadim caters to various multi branded outlets (MBOs) through its strong distribution business model, consisting of 377 distributors. Apart from its flagship brand Khadim, company has nine home-grown sub-brands catering to premium category. Khadim s, revenue and PAT in FY13-17 grew at a CAGR of 10% and 36% respectively. Key business aspects Asset light business model for retail segment Over the years, Khadim has adopted an asset light business model to operate its exclusive retail stores with minimal capex requirements. Of the total 853 exclusive stores, 168 stores are company owned and company operated stores (COO) and the rest 685 are franchisee operated stores. Under the franchisee route, inventory, capex and operating costs are borne by the franchisee owner. Out of the total 289 stores added between FY13 and FY17, 229 stores were opened through franchisee route. The company adopts dual strategy where it enters new potential markets through flagship COO s and once the brand is well established it further fortifies its presence in such markets through franchisee route. Going forward, the company intends to open stores annually with 20% through COO formats while the rest through franchisee formats. The asset-light approach has enabled Khadim to generate high return ratio for the retail segment (~27% ROCE). Premiumisation of brands to enhance profitability Apart from its flagship brand Khadim, the company has nine homegrown sub-brands catering to retail business. Over the years, company has constantly focused on increasing the share of sub-brands in overall retail sales to drive its premiumisation strategy. Share of revenues from sub-brands to total retail sales has increased from 43% in FY13 to 52% in FY17. Scaling up the share of sub-brands has resulted in increase in average selling price (ASP) for COOs from 375 in FY13 to 451 in FY17 and higher gross margins for the retail business at 47% in FY17 vs. 43% in FY13. Gross margin for the distribution business has also increased from 28.5% in FY13 to 39.2% in FY17 owing to higher share of premiumised products. Going forward, higher focus on premiumisation would assist in margin improvement. Key risks and concerns Risks associated with expansion into new geographic markets Higher concentration of operations in East India Khadim India Ltd Price band Difficulties in attaining desired quantities from outsourced vendors Reasonably valued at 2.2x MCap/sales & 43.8x P/E (FY17); Subscribe At the higher end of IPO price brand of 750, the stock is valued at 2.2x MCap/sales and P/E of 43.8x on FY17 numbers (post issue). We believe Khadim is reasonably valued as compared to its peers (Exhibit 23). Khadim has followed an asset light business model leading to superior return ratios (17%+RoCE), with debt/equity ratio comfortably placed at 0.6x. Khadim s constant efforts towards premiumisation of product mix coupled with asset light expansion plans would further enhance profitability going ahead. We advise SUBSCRIBE on Khadim.

2 % Company Background Khadim India (Khadim s), incorporated in 1981, is one of the leading footwear brands in India, positioned itself as an affordable fashion, catering to the entire family for all occasions. Khadim s operates through two distant business verticals, retail and distribution, each having its own customer base, sales channel and product range. Its retail business operates through exclusive retail stores catering to middle and upper middle income consumers in metros and Tier I-III cities, who primarily shop in high street stores and malls for fashionable products. As for the distribution business is concerned, it operates through a wide network of distributors catering to lower and middle income consumers, who primarily shop in multi brand outlets (MBO s) for functional products. Exhibit 1: Sales mix trend FY13 FY14 FY15 FY16 FY17 Others Distribution Retail. *Only footwear revenues Retail business: The retail business contributed 73.5% of the total revenues in FY17. With 853 exclusive branded outlets (as on June 30, 2017), Khadim has the second largest number of retail stores (after Bata) with largest presence in East India and one of the top three players in South India. Of the total 853 exclusive stores, 168 stores are company owned and company operated stores (COO) and the rest 685 are franchisee operated stores (which are further categorised as EBO s, BO s and FRM). Under the franchisee route, inventory, capex and operating costs are borne by the franchisee owner. As for the COO s are concerned, majority of the retail stores are leased with rental expenses in the range of %. In the retail business, the product range primarily focuses on fashionable footwear that are targeted towards middle and upper middle income consumers in metros and Tier I-III cities, who primarily shop in high street stores and malls. For FY17, the products for the retail business were priced in the range of (MRP) 75 to The company presently promotes nine-home grown brands which are Pro, Lazard, Softouch, Cleo, British Walker, Turk, Sharon, Bonito and Adrianna. These sub-brands contributed 52% of the overall retail sales. Due to the fashion oriented nature of the footwear retail business requiring lower volume per SKU, a significant portion of the products sold through the exclusive stores are sourced from the outside vendors, who are able to deliver small quantities of premium high quality products. For FY17, 85.6% of the products sold in the retail business were outsourced. Over the years, the company has rationalised its vendor base from 182 vendors in FY13 to 107 vendors as at June 30, Page 2

3 Exhibit 2: Retail segment: Revenues and gross margin trend Revenues from the retail segment grew at a CAGR of 10.6% over FY13-17 with gross margin expansion of 435 bps to 47% crore % FY13 FY14 FY15 FY16 FY17 Revenue Gross Margins Exhibit 3: Store operating metrics Exhibit 4: Format-wise revenue and profitability break-up Retail Breakup (FY17) COO EBO BO FRM Revenue ( crore) % of sales (retail) 52.6% 38.3% 6.1% 2.9% Gross Margins (%) 51.6% 40.8% 43.3% 48.5% Store level cost (%) 22.3% Store level EBITDA (%) 29.4%. Since company does not bear any operating cost for franchises, gross margins of company from its franchises is equal to store level EBITDA at company s level. Page 3

4 Exhibit 5: Stores by city type FY17 Exhibit 6: Geographical break-up of stores as on 30 th June 2017 Metros & Mini metros 18% West 9% North 7% South 18% Tier III 54% Tier I 13% Tier II 15% East 66% Source: DRHP, ICICIdirect.com, Research Source: DRHP, ICICIdirect.com, Research Exhibit 8: Sub- brands contributed 52% to overall retail sales Exhibit 7: Average Ticket size ( ) (For COO s) FY15 FY16 FY17 Source: DRHP, ICICIdirect.com, Research Page 4

5 Distribution business: Since 2015, company has focused on its distributions operations as a separate business vertical. Through this model, the company caters to lower and middle income customers who shop in MBOs. The products are sold under its Khadim brand (sub-brands are not sold through distribution model) which mainly consists of synthetic leather. For FY17, the products were priced in the range of (MRP) 30 to 500. It has a distribution network of 357 distributors and a sales team of 39 members. The distribution business contributed 21.7% of the total revenues in FY17. Due to high volume of products per SKU sold through the distribution business and for better control over cost, a significant portion of products sold through the distributors are manufactured by the company at its own manufacturing facilities and through contract manufacturing facilities. Khadim has two owned manufacturing facilities in West Bengal (installed capacity of 2.34 crore pairs) and two outsourced manufacturing facilities for which the raw material is supplied by Khadims. Also, Khadims has established relationships with large to number of vendors for procurement of raw materials to reduce any risk of supplier concentration. Khadim has 33 major raw material suppliers with no single supplier contributing more than 15% of its total raw material procurements. Exhibit 9: Distribution Segment: Revenues and gross margin trend Revenues from the distribution segment grew at a CAGR of 25.0% over FY13-17 with gross margin increasing from 28.5% in FY13 to 39.2% in FY17 crore % FY13 FY14 FY15 FY16 FY17 Revenue Gross Margins Page 5

6 Industry overview The domestic footwear market in India is projected to grow at a CAGR of 15% to reach US$ 12.6 billion by FY 2020 from US$ 7.2 billion in FY16. The key drivers for the footwear segment will be: a) increased adoption owing to versatility in usage, and b) shift from unbranded to branded. Exhibit 10: Domestic footwear industry market size US$ Billion % CAGR FY14 FY16 FY20P Source: DHRP, ICICIdirect.com Research Segment per se, the market is currently dominated by men s segment with ~54% market share, while women and kid s segment contribute 37% and 9% respectively. Going forward, women and kid s segment is expected to outpace men s growth. Growth in women s segment will be driven by increasing number of working women and increasing disposable income. Also, women are not loyal to particular brand and change their fashion trend with specific occasion, which will drive volume growth. Kid s market is growing rapidly with increasing number of working parents resulting in higher spending on kids. Also, with the advent of activity based learning in schools, different shoe types are needed for varied different activities. Men, women and Kid s segment are expected to grow at a CAGR of 12%, 18% and 20% respectively in FY16-20E. Exhibit 11: Men s segment dominates the market 14 US$ Billion % 37% 54% % CAGR 18% CAGR 12% CAGR % 41% 48% 0 FY16 FY20P Men Women Kid Page 6

7 Branded footwear market which currently has a market share of 42% is expected to grow at a CAGR of 20% in FY16-20E to account for 50% of the overall market share. The growth will be driven by penetration of existing brands such as Bata, Khadim etc. in Tier 2 and smaller cities. Growth will also be driven by the increasing reach of mid and economy brands to Tier II/III Indian cities and shift of consumers from unbranded products to branded with increase in disposable income, better availability of product and increasing health consciousness. The mass footwear segment driven by chappals and sandals too, is witnessing consumers adopting branded products owing to strong distribution network of brands like Khadim, VKC, Paragon, Relaxo etc. Exhibit 12: Branded footwear market to account for 50% market share by FY US$ Billion % 42% FY16 11% CAGR 20% CAGR FY20P 50% 50% Branded Unbranded Page 7

8 Khadim s Strategies Expanding geographical footprints in western India and northern India Over the years, Khadim has an established strong presence in East and South India through its exclusive retail network. In the last few years, its presence in West and primarily in Uttar Pradesh in North India, has also witnessed sustained growth. Going forward, the company intends to continue expanding its geographical footprints in markets across west India, south India and in Uttar Pradesh in North India through flagship COO s and further strengthen its presence in such markets through franchisee route. In order to execute this strategy, the company undertakes detailed micro-mapping which includes analysis with respect to customer profile, purchasing habits, competition, average footfall and major upcoming developments before entering new markets. For the distribution business, the company has a network of 377 distributors, spread across East (291), South (25), North and west (61). Company intends to continue to penetrate in the existing markets and increase the distribution networks in new markets. Continue to focus on asset light model led growth Over the years, Khadim has adopted an asset light business model to operate its exclusive retail stores with minimal capex requirements. Of the total 853 exclusive stores, 168 stores are company owned and company operated stores (COO) and the rest 685 are franchisee operated stores. Under the franchisee route, inventory, capex and operating costs are borne by the franchisee owner. Out of the total 289 stores added between FY13 and FY17, 229 stores were opened through franchisee route. The company adopts dual strategy, where the company enters in new potential markets through flagship COO s and once the brand is well established it further fortifies its presence in such markets through franchisee route. Going forward the company intends to open stores annually with 20% via COO formats while the rest through franchisee formats. The asset-light approach has enabled Khadim to generate high return ratio for the retail segment (~27% ROCE). For the distribution business, which has comparatively lower return ratio than the retail business, the company is planning to adopt an asset light model of manufacturing by engaging contract manufacturing, thereby restricting investments in real property and buildings. The contract manufacturer will own and operate the factory on their premises, while the company will only provide necessary machinery and moulds to manufacture products. Premiumisation of product offerings to enhance margins Apart from its flagship brand Khadim, company has nine home-grown sub-brands catering to retail business. Over the years, company has constantly focused on increasing the share of sub-brands in overall retail sales to drive its premiumisation strategy. Share of revenues from subbrands to total retail sales has increased from 43% in FY13 to 52% in FY17. Scaling up the share of sub-brands has resulted in increase in average selling price (ASP) for COO s from 375 in FY13 to 451 in FY17 and higher gross margins for the retail business at 47% in FY17 vs. 43% in FY13. For the distribution business, company had earlier primarily focused on distribution of basic Hawai, PVC, EVA and PU footwear. However since 2015, company has started introducing premiumisation versions of product offerings in Hawai, PVC and PU. Going forward company intends to increase the ASP of its products by focusing on distribution of premium products and upscale its product mix. Page 8

9 Key financials: Story in charts Exhibit 13: Revenue trajectory- CAGR of 10% in FY13-17 Exhibit 14: EBITDA growth- CAGR of 11% in FY crore FY14 FY15 FY16 FY17 crore FY13 FY14 FY15 FY16 FY17 EBITDA EBITDA Margin % Source: DRHP, ICICIdirect.com, Research Source: DRHP, ICICIdirect.com, Research Exhibit 15: Net profit- CAGR of 36% in FY13-17 Exhibit 16: Return ratio trend crore FY13 FY14 FY15 FY16 FY (5.0) (10.0) (15.0) (20.0) % (2.2) FY14 FY15 FY16 FY17 (14.5) RoE RoCE Source: DRHP, ICICIdirect.com, Research Source: DRHP, ICICIdirect.com, Research Exhibit 17: Net working capital days Exhibit 18: Debt/Equity ratio trend No. of days FY14 FY15 FY16 FY17 (x) FY14 FY15 FY16 FY17 Source: DRHP, ICICIdirect.com, Research. Calculated on net sales Source: DRHP, ICICIdirect.com, Research FY15 was a challenging year for the company owing to e-commerce disruptions negatively impacting the revenue growth. Consequently, in order to liquidate the unsold stocks, company had to provide higher discounts, thereby hampering the margins for FY15. Page 9

10 Objects of issue The offer consists of a fresh issue and an offer for sale (OFS) with a total issue size ranging from crore to crore. The company intends to raise 50 crore at a price band of leading to a fresh issue of lakh shares. Objects of fresh issue: The details of the proceeds of the fresh issue are summarised below: a) The company intends to utilise 40 crore of the net proceeds towards prepayment or scheduled repayment of all or a portion of term loans and working facilities availed by the company. b) General corporate purpose, which includes payment of issue expenses and other general expenses ( 10 crore). Exhibit 19: Repayment of working capital and term loans Name of the Lender Nature of facility Sanctioned Amount Rate of interest Amt outstanding as on 1st Oct 2017 Amount to be repaid crore crore crore Axis Bank Term Loan % Axis Bank Cash Credit % HDFC Bank Short term % ICICI Bank Demand Loan % Total 40.0 Offer for sale (OFS): The OFS consists of 66 lakh equity shares amounting to 493 crore. Fairwinds Private Equity which currently holds 34% stake in Khadims will sell 58.5 lakh shares. Promoter Siddhartha Roy Burman will offload 7.2 lakh shares. Page 10

11 Key risks and concerns Delay or default in payment from franchisees & distributors may impact profits The company s operations involve extending credit for periods of time, ranging typically from 30 to 75 days, to its franchisee operated stores and our distributors, and consequently, it faces the risk of the uncertainty regarding the receipt of these outstanding amounts. If the distributors and customers delay or default in making payments in the future, company s profits margins and cash flows could be adversely affected. Risks associated with expansion into new geographic markets Expansion into new geographic regions, including different states in India, subjects the company to various challenges, including those relating to the lack of familiarity with the culture, consumer preferences, regulations and economic conditions of these new regions. Language barriers, difficulties in staffing and managing such operations coupled with, the lack of brand recognition and reputation in such regions may also affect company s ability to expand into newer geographic regions. High dependence on outsourcing may lead to difficulties in attaining desired quantities from outsourced vendors Khadim relies on outsourced vendors for manufacturing of finished products including accessories sold through its retail business. In FY17, 85.60% of total products sold through its retail business were procured from outsourced vendors. Further, some of its products distributed through the distribution business is also procured from outsourced vendors. Thus, any shortfall or disruption in supply of products from the outsourced vendors, or insufficiency in the quality and consistency of the products supplied, would result in shortfall in supply, lower stock in stores and /or lower sales. Higher concentration of operations in East India Although Khadim s geographical footprint has reached 23 states and one union territory, its exclusive retail stores has historically been concentrated in East India. As at June 30, 2017, 66.59% of its exclusive retail stores catered to East India. Further it has two manufacturing facilities in West Bengal. Any adverse development that affects the performance of the stores or manufacturing facilities in the eastern region could have a material adverse effect on the business, financial condition and results of operations. Page 11

12 Financial Summary Exhibit 20: Profit and Loss Statement (Year-end March) FY13 FY14 FY15 FY16 FY17 Net Sales Growth (%) 13.0 (3.8) Total Raw Material Cost Gross Margins (%) Employee Expenses Other Expenses Total Operating Expenditure EBITDA EBITDA Margin Interest Depreciation Other Income PBT (19.2) Total Tax (0.4) Profit After Tax (18.7) Exhibit 21: Balance Sheet (Year-end March) FY13 FY14 FY15 FY16 FY17 Equity Capital Reserve and Surplus Total Shareholders funds Total Debt Deferred Tax Liability Non Current Liabilties Source of Funds Net Block Capital WIP Net Fixed Assets Investments Inventory Cash Debtors Loans & Advances & Other CA Total Current Assets Creditors Provisions & Other CL Total Current Liabilities Net Current Assets LT L& A, Other Assets Other Assets Application of Funds Page 12

13 Exhibit 22: Key ratios (Year-end March) FY14 FY15 FY16 FY17 Per share data ( ) EPS Cash EPS BV Cash Per Share Operating Ratios (%) EBITDA margins PBT margins Net Profit margins Inventory days Debtor days Creditor days Return Ratios (%) RoE RoCE Valuation Ratios (x) P/E EV / EBITDA Market Cap / Revenues Price to Book Value Solvency Ratios Debt / Equity Debt/EBITDA Current Ratio Quick Ratio Page 13

14 Valuation At the higher end of IPO price brand of 750, the stock is valued at 2.2x MCap/sales and P/E of 43.8x on FY17 numbers (post issue). We believe Khadim is reasonably valued as compared to its peers (Exhibit 23). Khadim has followed an asset light business model leading to superior return ratios (17%+RoCE), with debt/equity ratio comfortably placed at 0.6x. Khadim s constant efforts towards premiumisation of product mix coupled with asset light expansion plans would further enhance profitability going ahead. We advise SUBSCRIBE on Khadim. Exhibit 23: Peer comparison (FY17) Sales Market P/E Mcap/Sales RoCE RoNW Company crore Cap ( crore) (x) (x) (%) (%) Bata 2, , Relaxo 1, , Liberty Sreeleathers Khadim , Source: Company, ICICIdirect.com Research Page 14

15 RATING RATIONALE ICICIdirect.com endeavours to provide objective opinions and recommendations. ICICIdirect.com assigns ratings to its stocks according to their notional target price vs. current market price and then categorises them as Strong Buy, Buy, Hold and Sell. The performance horizon is two years unless specified and the notional target price is defined as the analysts' valuation for a stock. Subscribe: Apply for the IPO Avoid: Do not apply for the IPO Subscribe only for long term: Apply for the IPO only from a long term investment perspective Pankaj Pandey Head Research pankaj.pandey@icicisecurities.com ICICIdirect.com Research Desk, ICICI Securities Limited, 1st Floor, Akruti Trade Centre, Road No 7, MIDC, Andheri (East) Mumbai research@icicidirect.com Page 15

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