IPO Review Rating matrix Rating : Avoid Issue Details Issue opens 2-Aug-16 Issue closes -Aug-16 Issue size ( crore) 239.00 Fresh Issue 215.00 OFS (NYLIM India Fund) 2.00 Number of shares offered (crore) Lower band 0.83 Higher band 0.80 QIB 50% Non-institutional 15% Retail 35% Minimum lot size (no. of shares) 55 Objects of the Issue ( Crore) Repayment or prepayment of debt ~ 63 Expansion and modernization of facility at Valapady, Salem, Tamil Nadu Addition of balancing machineries for our existing dyeing unit at SIPCOT, Perundurai General Corporate Purposes and Issue Expenses ~ 70 Opening of new stores under Crocodile brand ~ 27.9 ~.9 Balance Amount Total primary fund raise ~ 239 Shareholding Pattern Pre Issue Post Issue# Promoter and Promoter group 87.5 59.6 Others (incl. NYLIM) 12.5.9 Public - 35.5 # On the higher band Valuation Summary (at 268 ;upper price band) FY12 FY13 FY1 FY15 FY16 P/E 69. 285.1 101.1 66. 19. EV/EBITDA 15.8 16.5 1.1 12.6 10.2 P/B 8.3 8.1 6.9 6.3.9 ROCE 11. 11.1 12.9 1.7 18.0 ROE 12. 2.9 7.1 9.8 26.2 Research Analyst Bharat Chhoda bharat.chhoda@icicisecurities.com Ankit Panchmatia ankit.panchmatia@icicisecurities.com Subdued growth; elevated valuations August 2, 2016 SP Apparels Ltd Price band 258-268 SP Apparels Ltd (SPAL), incorporated in 1989, is promoted by P Sundararajan and S Latha. The company is mainly into manufacturing and export of knitted garments for infants and children. With 21 manufacturing facilities, all in Avinashi, Tamil Nadu, SPAL produced ~39.1 million pieces (36 million exported to international customers like Tesco & Primark) in FY16. The company owns 87 sewing machines, eight cutting machines, 79 embroidery machines, 17 printing machines, 16,896 spindles and 22 dyeing machines. In addition to the manufacturing of garments, SPAL has a license agreement for the exclusive manufacture, distribution and marketing of menswear products under the trademark Crocodile in India. Under the brand name Crocodile, SPAL operates 0 exclusive brand outlets (37 - company owned operated stores and three franchise) and generates 6.% of total revenues. With a revenue growth of 8% CAGR over 2012-16, the company (19x P/E) is richly valued compared to its peers. Thus, We recommend AVOID. Investment Concerns Significant client concentration in export business SPAL manufactures and exports knitted garments for infants and children. Exports constitute ~86%, 8% and 79% of SPAL s total revenues over FY16, FY15 and FY1, respectively. In addition to the same, top five customers comprise ~95% of total revenues. In the absence of long-term supply agreements, we believe this client concentration is a major risk. Furthermore, with the new textile policy promoting smaller manufacturing units, there would be increased competition, which may lead to tepid volume growth and competitive pricing. Subdued realisation growth; volumes & repeat orders key for topline growth As global players seek price arbitrage, which apart from quality remains key, realisation growth is expected to remain subdued. Although SPAL s production volumes grew at 3% CAGR in FY13-16, repeat orders remains key to keep utilisation levels elevated. SPAL currently operates at 88% utilisation level, with order visibility of four months. We believe any softening in the same would drastically impact the financials. Growth key for valuation; 19x FY16 P/E appears expensive; AVOID At the upper price band of 268, the stock is valued at 19.x post issue equity FY16 P/E, which appears to be high considering its growth momentum. This is compared to players in a similar business like Kitex, KPR Mills and Siyaram Silk that are growing at higher annual rates and trading at lower/similar multiples. Hence, we recommend that investors AVOID subscribing to the IPO. Exhibit 1: Key Financials crore FY11 FY12 FY13 FY1 FY15 FY16 Net Sales 369.0 00.6 28.5 50.9 72.6 532.8 EBITDA 52.6 60.2 55.0 63.9 68.9 85.3 EBITDA Margins (%) 1.2 15.0 12.8 1.2 1.6 16.0 Depreciation 16.0 16.3 16.9 17.6 20.0 20.1 Interest 25.2 0.3 3.3 35.6 31.2 25.3 PAT 1.1 9.7 2. 6.7 10.2 3.7 PAT Margins (%) 3.8 2. 0.6 1.5 2.1 6.5 Diluted EPS ( ) 5.6 3.9 0.9 2.7.0 13.8, ICICIdirect.com Research
Exhibit 2: No. of garments manufactured 5 0 35 30 25 20 15 10 5 0 36 32 31 39 FY13 FY1 FY15 FY16 Garments manufactured (mn pcs.) Company Background SP Apparels (SPAL), with a production capacity of 50 million pieces per year, is a leading manufacturer and exporter of knitted garments for infants and children in India. SPAL provides end-to-end garment manufacturing services from grey fabric to finished products. With a wide range of manufacturing activities like production of yarn, dyeing of fabric, sewing, cutting, printing, embroidery and finishing of garments, SPAL executes bulk orders as per the requirements of its foreign counterpart. The product range for infants and children includes body suits, sleep suits, tops and bottoms. SPAL clientele includes international players like George, Tesco, Crystal Martin, Mother Care, Dunnes Stores, Primark, etc. SPAL follows a centralised manufacturing process with operations at 21 manufacturing facilities; all located within 125 km radius of Avinashi, Tamil Nadu and registered office at Kavindapadi. Exhibit 3: Integrated manufacturing process Source: Company, ICICIdirect.com Research SPAL undertakes in-house manufacturing activities, which include designing, embroidery, printing, sewing and cutting of garments. The manufacturing operations are supported by a wide range of infrastructure facilities, which include 87 sewing machines, eight cutting machines, 79 embroidery machines, 17 printing machines, 16896 spindles and 22 dyeing machines. For FY16, with 917 full time employees, the manufacturing capacity operated at 88% utilisation level. Subsequently, SPAL produced ~39 million pieces in FY16 out of which ~36 million garments (~92%) were exported. Page 2
Utilisation of funds in manufacturing business:- SPAL proposes to utilise 75.7 crore from the net proceeds towards: Enhancing spinning capacity (from 16896 spindles to 22272 spindles) Increasing the blow room capacity (from 3200 kg/day to 15015 kg/day) Setting up a new knitting facility and Investment in balancing equipment at the SIPCOT facility Retail & branding business SPAL also manufactures and retails menswear garments under the brand Crocodile consisting of shirts, polo shirts, t-shirts, trousers, jeans, sweaters, jackets and men s innerwear consisting of vests, briefs, boxer shorts and socks. SPAL sells Crocodile branded products through a sales and distribution network that includes 1 exclusive brand outlets, of which 37 are company owned operated stores and three are franchise stores. It also sells these products on majority of the third party e- commerce platforms. SPAL owned subsidiary Crocodile Products Pvt Ltd (CPPL) has formed a JV with Crocodile International Pte Ltd (CIPL) renewed every seven months. The JV proportion is distributed as a 70:30 of the total sales. Furthermore, CPPL is liable to pay royalty to CIPL, which is 5% in FY16 compared to the earlier 3.8% in earlier years. Exhibit : Proposed expansion in Crocodile 7 1 1 3 1 2 10 1 2 9 10 5 Page 3
Objects of issue The objects of the net proceeds (as defined below) of the fresh issue are: (a) Repayment of debt (b) Expansion & modernisation of manufacturing facility; and (c) Opening of stores under brand Crocodile Exhibit 5: Break-up of objects of offer Amount which will be Estimated net proceeds utilisation during fiscal Total estimated cost financed from net Particulars (amount in crore) proceeds 2017 2018 2019 Repayment or prepayment of debt 63.0 63.0 63.0 - - Expansion and modernization of manufacturing facility at Valapady, Salem, Tamil Nadu 70.2 70.2 28.1 35.1 7.0 Opening of new stores for the sale of Crocodile brand products 27.9 27.9 6.5 10. 10.9 Addition of balancing machineries for existing dyeing unit at SIPCOT, Perundurai.9.9.9 - - General corporate purposes TBD - * * * Total * * * * * Key Financials The company, as on FY15, has a total capacity of 50 million pieces. The number of apparels manufactured grew at a CAGR of 3% in FY13-16 from 35.5 million pieces in FY13 to 39 million pieces in FY16. Accordingly, revenues increased at a CAGR of 8% over the same period from 29 crore in FY13 to 533 crore in FY16. The capacity utilisation was at 88% for FY16. Majority of the garments were exported to international players like Tesco, George, Primark, Mothercare, etc. Sale from exports were at 36 million pieces, which is ~92% of the production. Exhibit 6: Subdued revenue growth 600.0 533 500.0 00.0 01 29 51 73 crore 300.0 200.0 100.0 0.0 FY12 FY13 FY1 FY15 FY16 Approximately 7% of total revenues are contributed by the sale of branded goods under the Crocodile brands. The retail business includes 0 outlets and sale from third party e-commerce platforms. Page
EBITDA in FY12-15 grew at a CAGR of 9%, from 60 crore FY12 to 85 crore in FY16. Following the same, EBITDA margins expanded 100 bps over the same period. Margins for FY16 were at 16% compared to 15% in FY12. In FY16, EBITDA improved on the back of lower operating expenses. However, the decline in interest expenses led PAT growth to more than double to 3 crore compared to 9 crore in FY12. Exhibit 7: Margins on an uptrend crore 180.0 135.0 90.0 5.0 0.0 60.2 15.0 55.0 12.8 63.9 1.2 1.6 68.9 FY12 FY13 FY1 FY15 EBITDA EBITDA Margins (%) 85.3 16.0 18 16 1 12 10 % 8 6 2 0 Exhibit 8: PAT growth higher on account of lower interest expense crore 0.0 30.0 20.0 10.0 0.0 6.5 2. 1.5 2.1 9.7 0.6 2. 6.7 10.2 3.7 FY12 FY13 FY1 FY15 FY16 PAT PAT Margins (%) 7 6 5 3 2 1 0 % Exhibit 9: Return ratios exhibit recovery Sustainability key!!! 50 0 % 30 20 10 0 26.2 11. 11.1 12.9 1.7 18.0 12. 7.1 9.8 2.9 FY12 FY13 FY1 FY15 FY16 ROCE ROE Page 5
Investment Concerns Overdependence on exports; absence of long term agreements The export business contributes significantly to total revenues of the company. Approximately 90% of total revenues were generated by export of knitted garments products for infants and children. The company refrain from getting into long term sales contract with any of the export customers. However, they execute sales orders based on the purchase orders received from customers. The purchase order usually involves designing, quantity, delivery schedule and price. Accordingly, SPAL manufactures the demanded requirements of the customers. The prime responsibility of SPAL is to manufacture the products as per the quality requirements and deliver such products on a timely basis. Generally, the orders are placed at the start of each season. However, there are no binding agreements with existing customer to provide future orders. SPAL does not enter into long-term sales contracts with the customers, exposing the same to the risks of bleak revenue visibility. Furthermore, 80% of total revenues are earned from customers outside India and are denominated in foreign currency. Although the company follows prudent hedging policies, cancellation of any such order would cause significant losses to the company. Dependence on limited number of customers A significant proportion of SPAL s revenues have historically been derived from a limited number of customers. Over the last five financial years, top five customers contribute more than 80% of the total exports revenues. Furthermore, SPAL s customers are predominantly based in the UK, which is currently facing an adverse scenario relating to Brexit. Manufacturing garments Labour intensive business For FY16, SPAL had 917 full-time employees at its garments division and 36 full-time employees at its retail division. The recent textile policy has indicated an increase in minimum wages to employees. However, with majority of the strikes and lockouts experienced in the textile space, the labour intensiveness of the business leads us to maintain a cautious stance. The key to margins are utilisation levels and higher production. Any impact on the same would drastically change the profitability scenario of the company. Pledging of shares by promoter. The promoter has approximately million shares pledged in favour of the State Bank of Mysore. A default would make State Bank of Mysore eligible to enforce the pledge over such collateral and take ownership of the collateral and sell the pledged equity shares to third parties, eventually diluting the promoter s stake. Sluggish growth; pricey valuations Operating revenues of SPAL grew at a CAGR of 7% in FY12-16 to 533 crore. As majority of the growth is export oriented, revenues stay impacted by a subdued global trade scenario. Simultaneously, growth of peers to the likes of Kitex, KPR mills and Siyaram s are 20%, 15% and 15%, respectively. The competitors are trading at similar to lower multiples compared to current asking multiple for SPAL. Page 6
Exhibit 10: Valuation comparison with peers CMP M Cap Peer Comparison Company ( ) ( Cr) FY1 FY15 FY16 FY1 FY15 FY16 FY1 FY15 FY16 FY1 FY15 FY16 FY1 FY15 FY16 FY1 FY15 FY16 S P Apparels (higher price band) 268 67 2.6 3.9 13.7 * - - 19. 0.0 0.0 10.2* NM NM.9* 2.8 2.2 1.7 7.1 9.8 26.2 * Kitex Garments 95 2,37 11.9 20.5 23.3 7.5 26.2 18.8.1 13.6 9.3 2. 9.7 5.7 0.8 0.7 0. 38.7 5.0 35.5 KPR Mills 1,105,173 33.2 36.6 39.6 3.6 13.1 21.0 2.8 6.5 9.5 0.6 2.1 3.2 1.3 1.0 0.8 18.8 19.9 20.7 Siyaram Silk Mills 1,000 91 66.5 82.0 93.0.3 10.7 11.8 3.7 5.9 7. 0.7 1.9 2.0 0.9 0.8 0.7 18.6 19.6 17.5 *FY16 ratios on a post IPO basis Source: Company, ICICIdirect.com Research EPS ( ) P/E (x) EV/EBITDA (x) P/B (x) D/E (x) RoE(%) Page 7
Financial Summary (Consolidated) Exhibit 11: Profit & Loss Statement (Year-end March) FY12 FY13 FY1 FY15 FY16 Revenue 00.6 28.5 50.9 72.6 532.8 Growth (%) 7.0 5.2.8 12.8 Total Raw Material Costs 150.6 170.0 206.9 206.2 20.2 Purchase of Traded Goods 0.0 0.0 0.0 0.0 0.0 Employee Cost 7.5 78.6 76.1 100.0 121.1 Other Operaitng Expense 115.3 12.9 10.0 97. 122.2 Total Expenditure 30. 373.5 387.0 03.7 7.5 EBITDA 60.2 55.0 63.9 68.9 85.3 Growth (%) -8.7 16.2 7.9 23.8 Depreciation 16.3 16.9 17.6 20.0 20.1 EBIT 3.9 38.1 6.2 8.9 65.2 Interest 0.3 3.3 35.6 31.2 25.3 Other Income 1.0 0. 1.2 6.7.9 Exceptional item 0.0 0.0 0.0 0.0 0.0 PBT.6.1 11.9 2..9 Tax -.5 2.1 5. 1.6 10.7 PAT 9.0 2.0 6.5 9.8 3.1 Minority Interest 0.0 0.0 0.0 0.0 0.0 Reported PAT 9.0 2.0 6.5 9.8 3.1, ICICIdirect.com Research Exhibit 12: Balance Sheet (Year-end March) FY12 FY13 FY1 FY15 FY16 Source of Funds Equity Capital 16.8 16.8 16.8 16.8 17.1 Preference Capital 20.0 20.0 27.2 27.2 20.0 Reserves & Surplus 1.3 3.7 50.3 59.3 95.6 Shareholder's Fund 78.1 80.5 9. 103.3 132.7 Long Term Borrowing Funds 12. 100.1 92.0 72.8 67.9 Long Term Provisions 0.0 0.0 0.0 1.5.1 Other long term liabilities 0.0 0.0 0.0 0.0 0.0 Deferred tax liabiity 10.2 12.2 17.2 31.7 37.2 Current Liabilities 308.6 337.8 321.6 310. 319. Short Term Borrowing 16.5 162.6 172.8 156.6 162.7 Trade Payables 89.9 110.5 107.5 121.5 116.8 Other current liabilities 50.5 62.0 37.2 23. 29.5 Short term provisions 3.6 2.6.1 8.9 10. Source of Funds 539.3 530.5 525.3 519.7 561.2 Application of Funds Net Block (Incl Intangibles) 275.8 293.3 278.9 269.5 271.1 Capital WIP 26.5 0.0 0.0 0.0 3.6 Total Fixed Assets 302.3 293.3 278.9 269.5 27.6 Goodwill on consolidation 5.9 5.9 5.9 5.9 5.9 Non-current investments 0.1 0.1 0.0 0.5 0. Long Term loans & advances 9.0 11.2 15.8 23.2 29.0 Other non-current assets 0.0 0.0 0.0 0.0 0.0 Current Assets 222.1 220.1 22.7 220.6 251.3 Inventories 122.9 125.7 125.3 107.3 127.5 Trade Recievables 56.8 50.9 5.2 7.3 81.6 Cash & Bank Balances 5.8 6.1 1. 6.8 11.1 Current Investments 0.9 0.9 0.7 0.3 0.2 Short Term Loans & Advances 35.7 36.3 29.3 31.5 30.7 Other Current Assets 0.0 0.2 0.8 0. 0.3 Application of Funds 539.3 530.5 525.3 519.7 561.2, ICICIdirect.com Research Page 8
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. Strong Buy: >15%/20% for large caps/midcaps, respectively, with high conviction; Buy: >10%/15% for large caps/midcaps, respectively; Hold: Up to +/-10%; Sell: -10% or more; 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 00 093 research@icicidirect.com Page 9
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