aditya birla fashion and retail - Edelweiss Research

aditya birla fashion and retail - Edelweiss Research

INITIATING COVERAGE ADITYA BIRLA FASHION AND RETAIL Peerless brand brawn India Equity Research| Retail Aditya Birla Fashion and Retail (ABFRL) is on...

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INITIATING COVERAGE

ADITYA BIRLA FASHION AND RETAIL Peerless brand brawn India Equity Research| Retail

Aditya Birla Fashion and Retail (ABFRL) is one of the largest branded clothing players with 5 brands clocking >INR10bn sales each. In 2014, ABFRL acquired Pantaloons to get a foothold in the women’s wear segment. Commendably, within 2 years, it turned around the acquisition’s ailing operations, proving its expertise in managing branded garments. ABFRL has now ventured into fast fashion via Forever 21and innerwear under the Van Heusenbrand thereby now housing full bouquet of segments in the apparel category. Anchored by these potent growth boosters, we estimate ABFRL to post sales and EBITDA CAGR of 16.4% and 29.2%, respectively, over FY16-19 and 24.1% RoE by FY19. Therefore we initiate the stock under our iconic ‘Braveheart’ series with a 'BUY' and a TP of INR202.

EDELWEISS 4D RATINGS Absolute Rating

BUY

Rating Relative to Sector

Outperformer

Risk Rating Relative to Sector

Low

Sector Relative to Market

Overweight

MARKET DATA (R: PNTA.BO, B:ABFRL IN) CMP

: INR 148

Target Price

: INR 202

52-week range (INR)

:263 / 124

Share in issue (mn)

:768.8

M cap (INR bn/USD mn)

:112 / 1,678

Avg. Daily Vol.BSE/NSE(‘000) :805.7

Ample catalysts to unlock humungous industry potential Our proprietary model forecasts India’s organised apparel market to catapult to INR2.3tn in FY25 from INR672bn in FY14, 11.8% CAGR. This impressive surge will be fueled by GDP revival,favourable demographics, rising urbanisation, increasing brand consciousness, etc. ABFRL is bound to be key beneficiary of these improving dynamics by virtue of strong brands in its kitty, large retail network and omni-channel strategy.

Madura & Pantaloons: Potent brands in one scabbard

SHARE HOLDING PATTERN (%) Current

Q1FY17

Q4FY16

Promoters *

59.5

59.5

59.5

MF's, FI's & BK’s

14.7

14.7

14.8

FII's

12.0

11.9

11.9

Others

13.8

13.9

13.8

:

* Promoters pledged shares (% of share in issue)

Entry in high-growth segments—inner wear, women’s casual & formal wear, kid’s wear—burnishes Madura’s prospects. Moreover, expansion in East &West India and smaller markets will be next growth avenue. Hence, we estimate Madura’s RoCE to jump to ~42% in FY19 with FCF of ~INR2.1bn in FY17 (consol RoCE is optically low due to loss in Pantaloons).Pantaloons has successfully emerged as a strong value fashion retailer. We forecast its margin to improve to 5.7% in FY19 (3.1% in FY16) propelled by superior throughput, pruning of sale period and increase in share of private labels.

NIL

PRICE PERFORMANCE (%) Sensex

Stock

Stock over Sensex

1 month

(2.0)

(4.6)

(2.6)

3 months

0.9

0.5

(0.4)

12 months

2.5

(0.4)

(38.7)

Outlook and valuations: Primed for growth; initiate with ‘BUY’ Anchored by revival of Maduraand Pantaloons, we are confident of jump in ABFRL’s return ratios (~1900bps RoE jump to 24.1% in FY19E over FY17E). We assign target of 20x FY19E EV/EBITDA and arrive at TP of INR202. Hence, we initiate with ‘BUY/SO’. The stock is currently trading at 20.7x and 15.3x FY18E and FY19E EV/EBITDA, respectively.

Financials Year to March Revenues (INR mn) EBITDA (INR mn) Adjusted Profit (INR mn) Adjusted Diluted EPS (INR) Diluted P/E (x) EV/EBITDA (x) ROAE (%)

Abneesh Roy +91 22 6620 3141 [email protected] Click on image to view video

FY16 60,601 3,968 (1,041) (1.4) NM 33.3 NM

FY17E 70,720 4,913 497 0.6 229.4 27.4 5.1

Edelweiss Research is also available on www.edelresearch.com, Bloomberg EDEL , Thomson First Call, Reuters and Factset.

FY18E 82,046 6,462 1,498 1.9 76.1 20.7 14.0

FY19E 95,552 8,551 3,134 4.1 36.4 15.3 24.1

Tanmay Sharma, CFA +91 22 4040 7586 [email protected]

Alok Shah +91 22 6620 3040 [email protected]

October 20, 2016 Edelweiss Securities Limited

Retail

At a Glance: ABFRL at Inflexion Point Chart 1: Revenue and EBITDA to clock 16.4% & 29.2% CAGR over FY16-19E, respectively… Share of Pantaloons’ to increase

8.0 6.0

51.0

4.0

-

-

33

35

15.0 FY15

FY16

6

37

40

43

58

54

51

40.0

2.0

20.0

0.0

0.0

FY17E FY18E FY19E

Revenue

5

60.0

67 33.0

5

(%)

69.0

80.0

(INR bn)

87.0

(INR bn)

100.0

10.0

105.0

65

FY15 Madura

EBITDA

FY16 FY17E Pantaloons

FY18E FY19E Forever21

300

15.0

2,100

250

9.0

1,950

200

3.0

1,800

150

1,650

100

(9.0)

50

(15.0)

1,500 FY15

FY16

(%)

2,250

(Nos.)

(Nos.)

Chart 2: Store expansion to see continued traction… resulting in operating leverage which will boost margins

(3.0)

FY17E FY18E FY19E

EBO's - Madura

FY15

Stores - Pantaloons

FY16 FY17E EBITDA margins

FY18E FY19E NP margins

10,000

30.0

7,500

20.0

5,000

10.0

(%)

(INRmn)

Chart 3: Poised to generate free cash flows… Return ratios too see sharp increase making it a re-rating candidate

2,500

0.0

0

(10.0)

(2,500) FY15

FY16

FY17E

Operating cash flow

FY18E

FY19E

Free cash flow

(20.0)

FY16

FY17E RoE

FY18E

FY19E

RoCE

Source: Edelweiss research Note: Revenue and EBITDA for ABFRL for FY16 shows a sharp jump owing to consolidation of Pantaloons results with Madura from FY16.

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Edelweiss Securities Limited

Aditya Birla Fashion and Retail

Investment Rationale Favourablemacrosburnish prospects of organised players India’s apparel and organised retail industry at a relatively nascent stage with per capita consumption and penetration at extremely low levels,portendinghumungous growth opportunities. Potent levers in India’s favour : (i) rising disposable incomes–37.6% jump in per capita incomesover FY12-15; (ii) attractive demographics– median age of 27 with ~50% of population in working age bracket and per capita consumption 1/5th China’s; (iii) urbanisation–urban population up to 31.2% as per 2011 census from 28.5% in 2001; and (iv) lower penetration of organised retail—8% against 85% in US.

Mr. PranabBarua, Managing Director, ABFRL

Our deep dive analysis pegs India’s organised apparel market to catapult to INR2.3tn by FY25from INR672bn in FY14, >11% CAGR. India’s apparel and organised retail industry is at a nascent stage with per capita consumption and penetration at extremely low levels, entailing humungous opportunitiesfor growth. The country’s demographics—world’s youngest nation with ~50% population below 25 years—is an added advantage for the organised retail and apparel sector. Other growth drivers include rising urbanisation and expanding overall job market. Rising disposable incomes: Discretionary spending has high correlation with disposable incomes. Disposable income is a function of economic growth, a lynchpin for new jobs creation. Recovery in discretionary spending will help revive growth of India’sorganised retail market. The country’s per capita income has also been rising steadily (up 37.6% over FY12-15), which will ultimately lead to higher discretionary spending. This is expected to further rise once GDP recovery kicks in.

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Retail Chart 4: India’s per capita income—Rising steadily 100,000

(INR)

80,000 60,000 40,000

FY15

FY14

FY13

FY12

FY11

FY10

FY09

FY08

FY07

FY06

FY05

FY04

FY03

FY02

0

FY01

20,000

Per capita income at current prices Source: Industry, Edelweiss research

Attractive demographics: With a median age of 27, India’s demographics are today one of the most enviable in the world. Further, 50% of the population is in the working age bracket (20-60 years) and discretionary consumption is poised to grow rapidly.

Chart 5: Favourable demographics; per capita consumption still 1/5thof China’s 50 750 44

600

(USD)

32

450 300

26

150 Italy

France

UK

USA

China

Brazil

UAE

India

20

South Africa

(Years)

38

0 FY05 US

Median age

EU

FY10 China

FY15 India

Source: Industry, Edelweiss research

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Edelweiss Securities Limited

Aditya Birla Fashion and Retail Chart 6: Proportion of population by different age groups 65 years and above 6% 45-64 years 15% 0-24 years 50%

Mr. Ashish Dikshit Business Head, Apparel Business 25-44 years 29%

Source: Industry, Edelweiss research

Job market perking up: India’s job market is expected to pick up, as per various industry sources, which bodes well for the apparel industry, particularly men’s wear segment (office wear). Also, as more women enter the job market, women’s wear market growth will also progressively get a leg up. HR experts forecast pay hikes of 12-15% across various sectors with up to 30% jump for top talent. Urbanisation: Apart from hiring and salary hikes, urbanisation will also improve the standard of living. As per 2011 census, urban population share to total residents increased to 31.2% from 28.5% in 2001. According to a UN report on World Population, 40.8% of India's population is expected to reside in urban areas by 2030.

Chart 7: Proportion of urban income to increase as urbanisation rises... 100.0 80.0

(%)

60.0 40.0 20.0 0.0 1990

2001 Urbal Income

2008 Rural Income

2030E

Source: Industry, Edelweiss research

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Retail Chart 8: Rate of urbanisation set to increase... 45.0 40.0

(%)

35.0 30.0 Mr. Vishak Kumar Business Head, Madura

25.0 20.0 1990

1991

2001

2005

2008

2011

2025E

2030E

Urbanisation Rate Source: Industry, Edelweiss research

Chart 9: ...rising urbanisation to bolster growth of branded apparel 1,750 1,400

(mn)

1,050 700 350 0 1990

1991

2001

2005

Total Population(MN)

2008

2011

2025E

2030E

Urban Population Source: Industry, Edelweiss research

Lower penetration and per capita consumption indicates strong opportunity: Penetration of organised retail in India stands at a minuscule 8% versus other developed markets where it is as high as 85% (US), indicating the high growth potential.

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Edelweiss Securities Limited

Aditya Birla Fashion and Retail Chart 10: Penetration of organised retail at ~8%, one of the lowest 100.0 80.0

(%)

60.0 40.0 Mr. Shital Mehta CEO, Pantaloons

20.0 0.0 US

Taiwan

Malaysia Thailand Indonesia

China

India

Source: Industry, Edelweiss research

Chart 11: Apparel—Largest contributor to organised retail market Home products 3% Consumer durables, IT 16%

Apparel 28%

Pharmacy 2% Jewellery, watches, etc 27%

Footwear 5% Others 1% Foods and grocery 18% Source: Industry, Edelweiss research

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Edelweiss Securities Limited

Retail Chart 12: Apparel market—Organised, unorganised and online 50.0

(USD bn)

40.0 30.0 20.0 10.0 0.0 Organised FY12

Unorganised FY14

Online FY20E Source: Industry, Edelweiss research

Apparel market offers humongous growth opportunity A.

8

Market size huge and attractive: India’s apparel market is fragmented and unorganised with very few branded players boasting of national or even significant presence. As per industry estimates, total size of the organised apparel market in FY14 stood at INR672bn (~15% of Private Final Consumption Expenditure towardsclothing and footwear). We have done a deep dive analysis of projected organised Indian apparel market size by FY25. Our proprietary analysis indicates that India’s organised apparel market is poised to grow from INR672bn in FY14 to INR2.3tn by FY25, >11% CAGR over FY14-25E.

Edelweiss Securities Limited

Aditya Birla Fashion and Retail Table1: Organised apparel market—Poised to clock >11% CAGR over FY14-25E (INR mn) Indian GDP by expenditure Expenditure towards clothing & footwear Clothing & Footwear exp as a % of GDP % growth in exp towards clothing & footwear

2014 2015 2016 2017 2018 2019 112,727,640 124,882,050 135,760,860 147,300,533 159,084,576 171,811,342 4,600,750 5,378,640 5,915,068 6,491,499 7,090,361 7,743,496 4.08 4.31 4.36 4.41 4.46 4.51 30.0 16.9 10.0 9.7 9.2 9.2

Population of India (mn) Per capita spend on clothing (INR) Size of organised apparel market Per capita spend on organised apparel (INR) Spending on organised apparel, as % of total spending on clothes

(INR mn) Indian GDP by expenditure Expenditure towards clothing & footwear Clothing & Footwear exp as a % of GDP % growth in exp towards clothing & footwear

1,311 4,103

1,327 4,457

1,340 4,843

1,354 5,238

1,367 5,664

672,000 518 14.6

812,514 620 15.1

923,124 696 15.6

1,045,541 780 16.1

1,177,448 870 16.6

1,324,627 969 17.1

2020 2021 2022 2023 2024 2025 185,556,249 199,472,968 214,433,440 230,515,948 246,652,065 263,917,709 8,455,754 9,139,804 9,878,897 10,677,444 11,461,862 12,303,780 4.56 4.58 4.61 4.63 4.65 4.66 9.2 8.1 8.1 8.1 7.3 7.3

Population of India (mn) Per capita spend on clothing (INR) Size of organised apparel market Per capita spend on organised apparel (INR) Spending on organised apparel, as % of total spending on clothes

1,298 3,544

1,381 6,123

1,395 6,553

1,409 7,013

1,423 7,505

1,437 7,977

1,451 8,478

1,488,747 1,078 17.6

1,632,032 1,170 17.9

1,788,704 1,270 18.1

1,959,985 1,378 18.4

2,121,168 1,476 18.5

2,295,432 1,582 18.7

Source: CMIE, Industry, Edelweiss research Assumptions and methodology used to determineIndia’s organised apparel market:

9



We expect India’s GDP by expenditure (herein referred to as India’s GDP) to grow at 8.5% in FY17, 8% over FY18-20, 7.5% over FY21-23 and 7% each in FY24 and FY25.



Whileexpenditure towards clothing & Footwear as % of GDP as at FY14 was 4.1%, it rose to 4.3% in FY15 (up ~20bps). Going forward, we estimate a conservative growth of 5bps over FY16-20, which will taper gradually to 2.5bps over FY21-23 and to 1.5bps in FY24 & FY25. While we remain confident of the proportion of household expenditure rising over the coming decade, we are tapering the growth rate to reflect a higher base.



Using our assumption of India’s GDP and percentage of expenditure towards clothing, we estimate expenditure towards clothing and footwear over FY16-25 to clock 9.4% CAGR.



Over the past 4-5 years, India’s population has been rising at a steady 1% p.a. Going forward too we are assuming 1% population growth rate p.a. till FY25.



India’s organised apparel market, as per various industry sources, was estimated at INR672bn as at FY14 (source: ABFRL’s corporate presentation). This industry size indicates that the proportion of organised apparel spending as a % of overall clothing spending is mere ~14.6%. Assuming India’s population at 1.3tn as at FY14, the per capita spend on organised apparel comes to INR518 per head (~14.6% per Edelweiss Securities Limited

Retail capita spend towards organised apparel as % of overall expenditure towards clothing). Following rising aspirations, overall economic growth, increasing urbanisation, etc., we expect per capita spending towards organised retail to increase 50bps p.a. over FY15-20. Post which, this growth will taper to 25bps p.a. between FY21 and FY23, followed by 15bps p.a. growth in FY24 and FY25 each. Considering these growth rates, we estimate per capita spending on organised apparel market to rise at a modest 10.7% CAGR over FY14-25. 

Based on the above calculations, weestimate the organised apparel market to touch INR2.3tn by FY25, a CAGR of >11% over FY14-25E.

B.

Pillars of apparel industry’s growth Robust momentum The apparel industry is gaining palpable momentum fuelled by improving economic conditions, rising disposable incomesand increasing awareness &availability of brands. Rising penetration of branded offerings in the Indian market was further aided by entry of international players and expansion by existing players, expanding the overall industry pie. Proliferation of online retailing has also deepened penetration of branded apparel in tier I and III cities. This apart, impulse shopping has been another major growth driver, luring customers through offers and promotions offline as well as online.

Fig. 1: India’s branded apparel industry – Key drivers

Favourable demographics

Foray of foreign brands

Pick up of Value fashion format

Increasing penetration

Traction in ecommerce space

Source: Edelweiss research

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Aditya Birla Fashion and Retail Imminent triggers Economic revival to propel discretionary spending Increase in discretionary spending is a natural corollary of economic turnaround. Discretionary spendingrose in line with healthy jump in India’s GDP during FY04-07, FY09-11 and FY13-15.

Chart 13: Proportion of discretionary spends increasing steadily 20.0 16.0

(%)

12.0 8.0 4.0 0.0

FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 Proportion of discretionary spends

Source: CMIE, Edelweiss research Note: Calculated from PFCE taken from CMIE. Discretionary spends includes spends towards alcoholic beverages, tobacco, clothing and footwear, communication, recreation, restaurants & hotel

Even though the proportion has been consistently increasing from FY13, it is still below the highs clocked in FY07 and FY11. That’s not all, we have further broken down Private Final Consumption Expenditure (PFCE) into different segments. Our indepth analysis indicates that even within PFCE, the proportion of clothing &footwear has improved at a steady pace to 7.4% in FY15 from ~6.2% in FY13. We have further broken down discretionary spend segment-wise. It emerges that proportion of clothing and footwear too has been increasing within the overall discretionary pie, i.e.,up to 49.1% in FY15from 43.9% in FY13.

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Retail Chart 14: Proportion of clothing rising within overall consumption basket &also within discretionary spending 100.0 100.0 80.0

60.0

60.0

(%)

(%)

80.0

40.0

6.3

7.0

6.2

7.4

40.0

42.7

43.9

47.9

49.1

2011-12

2012-13

2013-14

2014-15

20.0

20.0

0.0

0.0 2011-12 2012-13 Food & beverages Housing, water,etc Health Misc goods & services

2013-14 2014-15 Clothing & footwear Furnishings, etc Transport

Alcohol & tobacco Communication Restaurants & hotels

Clothing and footwear Recreation & culture Source: CMIE, Edelweiss research

Other triggers for increase in discretionary spending are government’s focus on urbanisation, job creation, Seventh Pay Commission payout (effective January 1, 2016 and will benefit 4.7mn central government employees and 5.2mn pensioners), One Rank One Pension (OROP), interest rate cuts, etc. All these will not only put more money in the hands of consumers, but will also encourage them to spend. Even on the job market front, companies are expected to add more than 1mn employees on their payrolls and dole out salary hikes. Similarly, Digital India and Make In India push are likely to spur manpower demand in core technology and manufacturing sectors, further bolstered by e-commerce and startups. IT sector is likely to create ~0.27mn jobs, e-commerce &digital marketing will create ~0.15mn jobs each, while banking & finance ~0.3mn. Rising discretionary spend reflects in Madura’s better growth As seen in charts (refer Chart 15-16), there is a positive correlation between private consumption, GDP by expenditure, discretionary spends, spend towards clothing & footwear and Madura’s revenues. As seen during FY05-07, FY11 and FY14, the proportion of uptick in Madura was ~2x the increase in discretionary spends and almost 3x GDP rise.

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Aditya Birla Fashion and Retail Chart 15: Mapping GDP, discretionary spends to Madura’s growth rates (old base) 50.0 40.0

(%)

30.0 20.0

PFCE Discretionary spends

GDP by expenditure Madura

2011-12

2010-11

2009-10

2008-09

2007-08

2006-07

2005-06

0.0

2004-05

10.0

Clothing & Footwear

Chart 16: Mapping GDP, discretionary spends to Madura’s growth rates (new base) 40.0 32.0

(%)

24.0 16.0 8.0 0.0 2012-13 PFCE Discretionary spends

2013-14

2014-15

GDP by expenditure Madura

Clothing & Footwear Source: CMIE, Edelweiss research

Similar pattern (i.e. positive correlation of GDP vis-a-vis discretionary spends by consumers) is being recorded by other discretionary companies too.

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Retail Chart 17: LTL growth across discretionary companies 20.0 15.0

(%)

10.0 5.0 0.0 -5.0

FY13

Jubilant Foodworks Raymond retail SSG GDP by expenditure

FY14

FY15

USL volume growth Arvind

FY16 Madura Shoppers stop

Source: CMIE, Companies, Edelweiss research

Above analysis clearly reflects that with a pick up in discretionary spending, well established companies should clock ~2x growth compared to GDP. We believe players with a strong parentage, established brands, best-in-class distribution network, among others, will be first amongst the sector to benefit from the above growth drivers,burnishing prospects of ABFRL.

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Aditya Birla Fashion and Retail Madura: Worst likely behind; well placed to ride recovery Madura is a leader in men’s wear with marquee brands like Louis Philippe, Van Heusen, Allen Solly and Peter England, in its kitty, each with MRP sale of >INR10bn p.a. The company is eyeing entry in adjacent high growth segments such as inner wear, women’s casual & formal wear as well as kid’s wear. Each segment entails potential to grow at a faster clip than men’s formal segment—Madura’s forte. Despite over >2,000 stores across various formats, Madura’spresence is still low in East and West India as well as Tier III and IVareas. These poorly tapped geographies will be the next growth avenueand we estimate it to add 100 stores p.a. till FY19. We forecast Madura to clock RoCE of 42% and generate free cash flow of ~INR4.4bn by FY19.

Well poised to capitalise on burgeoning growth opportunities Formidable player in mid- high-end apparel segments Madura is a powerhouse of 4 strong brands—Louis Philippe, Van Heusen, Allen Solly and Peter England. Each brand generates turnover of >INR10bn (at MRP level), amongst the highest in the industry. While Louis Philippe and Van Heusen are positioned as premium formal men’s wear, Allen Solly and Peter England are positioned as smart causal and subpremium brands, respectively. Thus, the company has strong portfolio of brands that straddles price points ranging from mid to premium.

Chart 18: Madura—Market size of brands vis-à-vis competition 13 Madura: INR40bn

Arvind: INR30bn

(INR bn)

10 FLF: INR14bn

Raymond: INR12bn

8 KKCL: INR4.2bn

5

Indigo Nation

John Miller

Tommy Hilfiger

Flying Machine

USPA

Arrow

Parx

Colour Plus

Raymond

Indian Terrain

Lawman

Integriti

Killer

Peter England

Allen Solly

Van Heusen

Louis Phillipe

0

Park Avenue

3

Net Sales Source: Companies, Edelweiss research Note: Above numbers are approximates

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Edelweiss Securities Limited

Retail Chart 19: Sales turnover of top brands—Madura’s brands outpacing competitors… 15.0

(INRbn)

12.0 9.0 6.0 3.0

Revenues

Killer

Zodiac

Park Avenue

Tommy Hilfiger

UCB

Zara

Arrow

US Polo

Peter England

Allen Solly

Van Heusen

Louis Philippe

0.0

Source: Companies, Edelweiss research Note: Above numbers are approximates

Chart 20: … achieved by robust EBO network (>2x 2nd largest player) 2,050

(Nos.)

1,650 1,250 850 450 50

Madura FY14

Arvind

Raymond FY15

KKCL

Indian Terrain FY16

FLF

Source: Companies, Edelweiss research

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Edelweiss Securities Limited

Aditya Birla Fashion and Retail Fig. 2: Product repertoire across brands

Source: Newspaper articles

Diversification in adjacent categories: Potent growth catalyst As per a Nielsen study, extensions of existing FMCG brands are 5x more successful than launching a new brand in India. A study of top brands in 46 FMCG categories and 82 brand extensions in food and non-food categories indicates that in addition to promoting brand equity, brand extensions can add incremental sales of up to 38% and contribute 30% to parent brand sales. Realising the power of synergy and equipped with 4 brands that are pioneers in their segments, Madura has now diversified into adjacent categories such as men’s casual wear, women’s wear, children’s wearand inner wear,either as sub-categories of existing brands or as new brands. This has been achieved via a conscious strategy wherein it intends to transcend its image of being a mere men’s formal wear brand. This venture should also augur well for the company since the new categories it is entering are poised to grow at a faster clip than its bread-and-butter men’s formal segment—while women’s and kid’s wear segments are poised to grow at >15%, overall men’s formals is poised to grow ~10% over FY14-25E, according to industry estimates. Further, Madura’s entry in inner wear also augurs well for overall growth since the overall inner wear industry in India is estimated to

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Edelweiss Securities Limited

Retail post 13-14% growth over the next couple of years. Madura’s strong brand equity in men’s wear will not only ensure strong growth in adjacent categories, but also help the company rapidly scale up in women’s and kid’s wear segments. “We have identified opportunities of luxury business, lounge wear, inner wear, leisure wear segments, casual wear for men, and young women’s side of business. So when the opportunity came with Forever 21, we pursued them-this will be one of the fastest growing segments, growing at 30-40% per annum. We can build a very large business very quickly— about INR10bn by 2020”

Table 2: Women’s and kid’s wear offer strong growth potential…. Size (USD bn)

2014

2020E

2025E

CAGR 2014-25E

Women's western wear

0.7

2.5

7.5

~20%

Women's ethnic

1.7

2.7

5.2

~15%

Total women's wear

2.4

5.2

12.7

~16.5%

Kids

2.7

4.7

7

~15%

Size (USD bn)

2014

2020E

2025E

CAGR 2014-25E

Men's Formal

3.6

5

9

~10%

Men's casual

1.4

5

12.5

~20%

5

10

21.5

~15%

Table 3: …versus formal menswear

Total Men's wear market – Mr. Pranab Barua

Source: Industry, Edelweiss research

Apart from this, Madura has also launched accessories like belts, wallets, purses, watches, etc., under its main 4 brands. Despite the diversification, we believe the men’s causal segment will continue to be the company’s biggest growth driver.

Chart 21: Shifting revenue share ample proof of strong growth in new categories

FY10

FY15

Women Sports 4% 3% Jeans 7%

Sports 16% Women 5%

Luxury and others 14%

Jeans 7%

Mainstrea m segment 72%

Mainstrea m segment 55%

Luxury and others 17% Source: Company, Edelweiss research

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Edelweiss Securities Limited

Aditya Birla Fashion and Retail Fig. 3: Madura’s core segments and diversification into allied segments via brand extension

Source: Company, Edelweiss research

Innerwear: To fuel next leg of growth (not factored in our numbers) ABFRL recently entered men’s inner wear and athleisure (emerging segment of multipurpose wear from gym to street, etc) segments under the Van Heusenbrand. As per the company, men’s innerwear and athleisure market in India was worth ~INR200bn in 2014,which is estimated to grow at 13-14% p.a. to INR680bn by 2024, thus implying humungous size and growthpotential. Within the overall inner wear segment, the premium segment is expected to grow at an even faster pace. Further, considering that ~90% of this segment is unorganised, potential for growth in men’s and women’s segments is immense. Madura has initially introduced the range in Bengaluru, Chennai and Hyderabad markets via local distribution model. The brand has been launched in 4 collections: •

Classic: It will offer features like all-day fresh and colour fresh.



Platinum: The range will offer sophisticated styling and elevated comfort with Pima cotton.



Signature: Fashion innerwear with flexi stretch feature for body defining fit.



Active: True sports innerwear with swift-dry feature.

ABFRL has big plans in this segment and expects it to contribute a sizeable chunk to overall portfolio in the long term. Currently, it is in the pilot phase—understanding the segment

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Retail and gauging initial results. Depending on the success and initial feedback, Madura will plan a pan-India launch over the next 9-12 months. It has hired a team with innerwear business experience to gain insights into the technology, supply chain, new distribution channel (targetting 10,000 distributors), etc.This reflects the company’s seriousness and optimism in this segment. Currently, Madura is outsourcing the product and going forwardmaycontemplatemanufacturingonce it achieves scale. Case study: Page Industries In order to give some colour on the potential and historical growth prospects of the inner wear segment, we have analysed performance of Page industries (Page), which is the leader within the organised inner wear segment. Page is the leader in the premium inner wear market in India. Over FY11-16, the company has clocked sales CAGR of ~30% and EBITDA CAGR of ~33%. EBITDA margin too has remained upwards of 20% with RoE of ~60% in FY16. Considering the healthy margin and accretive return ratios, we envisage Madura’s inner wear segment to clock similar margin and return ratios once it reaches the stable phase.

Table 4: Page Industries—Financial snapshot (INR mn) FY11 FY12 Revenues 4,916 6,834 Revenue growth (%) 44.8 39.0 Gross profits 3,092 4,018 Gross margins (%) 62.9 58.8 EBITDA 899 1,330 EBITDA margins (%) 18.3 19.5 ROCE (%) 40 57

FY13 FY14 FY15 FY16 8,763 11,876 15,434 17,834 28.2 35.5 30.0 15.5 4,560 6,217 9,444 10,930 52.0 52.3 61.2 61.3 1,771 2,512 3,194 3,771 20.2 21.2 20.7 21.1 52 49 51 60 Source: Company, Edelweiss research

Madura’s game plan:Madura believes its Van Heusen brand has enough scope to emerge a strong No. 2. In every market the company plans to enter,it is eyeing to mimic Page’s distribution network over the long term. Madura is venturing into the inner wear segment via its Van Heusenbrand, whichhasbetter product quality, function values and properties and will offer some sense of fashion and design in inner wear. While Van HeusenClassic is priced at same level as Page’s offering (Classic will constitute 65% of Madura’s portfolio), Superior lines will be priced at a premium of ~7-10%. Thus, the company is banking on brand strength, superior quality and similar pricing to wrest market share from Page. Over the next 2-3 years, Madura will focus on building its distribution reach and spruce up its supply chain in this segment. If successful and once the distribution &supply chain scale up, we expect ABFRL to extend the innerwear segment to other established brands like Peter England (mid premium range) as well. Post this, the company could even contemplate entry in women’s innerwear segment. We believe, while initially the segment’s gross margin will be lower than Page’s, once the segment attains scale, margin will improve gradually. Overall, margin is expected to be accretive for the company. Also, Madura will be investing in a phased manner,whichwill not impact the company’s overall margin.

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Aditya Birla Fashion and Retail Acquisiton of Forever 21: Right acquisition, right fit Forever 21 Inc., headquartered in Los Angeles, California, is a fashion retailer of women’s, men’s and kid’s clothing and accessories, known for offering the most current fashion trends at great value to consumers. Forever 21 is ranked the 5th largest speciality retailer in the US. In India, ABFRL entered into an MoU with Diana Retail to acquire exclusive online and offline rights of the global brand for the Indian market and its existing store network in India from the current franchisee. The proposed acquisition is in line with ABFRL’s strategic intent to become the largest integrated branded fashion player in the country. With the acquisition of Forever 21’s India business, ABFRL aims to gain a strong foothold in the womens’wear business in the western wear segment. This also gives it entry in the fast fashion segment which is growing at a faster clip (reflected in suceess of Zara)and entails better inventory turns and superior return ratios. The acquisition will further strengthen ABFRL’s leadership in the branded fashion space. Till date, Zara had a strong brand recall in this segment and hence we have analysed its performance over the past 4-5 years. Case study:Zara India During FY11-16, Zara India clocked revenue CAGR of ~41% with EBITDA margin of 18% and RoCE of 43% in FY16. Zara (Inditex Group of Spain) entered India in 2010 via JV—Inditex Trent Retail India, with Trent India. The shareholding pattern in this JV is 51% (Inditex):49% (Trent). During FY10, the company invested INR317.5mn in the JV and started with 2 stores—1 each in Delhi and Mumbai. The JV has clocked revenue CAGR of ~41% over FY1116 with its store presence increasing from 3 in FY11 to 18 in FY16. Zara operates in the fast fashion segment where the focus is on bringing apparels to stores just after they are launched at fashion weeks. The strategy is to enhance inventory turn and bring in new fashion which attracts higher footfalls, resulting in better store metrics. Zara brings in the intrend merchandise and keeps its stores full of latest fashion trends at attractive prices. However,its growth rate is ebbing, which is not only a function of slowdown in discretionary spending, but also fall in availability of the right real estate property at the right price at malls or high streets. Zara’s revenue growth slipped from 24.1% YoY in FY15 to 16.9% YoY in FY16. It could come under further pressure with the advent of increased competition in the fast fashion space from the likes of Forever21 and H&M. The latter has recently entered India (globally H&M and Zara are rivals) which is known for its fast fashion at high street prices (generally it is ~20-30%cheaper than Zara). Forever21, which also operates in the fast fashion space, will further increase the competitive intensity. Some of the other players in the segment globally are Gap, Abercrombie & Fitch, American Eagle, Ralph Lauren, among others.

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Retail Chart 22: Zara—Revenue growth tapering led by slowdown 85.0 70.0

(%)

55.0 40.0 25.0 10.0 FY12

FY13

FY14 Revenue growth (%)

FY15

Table5: Zara (Inditex) India—Robust margin and return ratios INR mn FY11 FY12 FY13 FY14 Revenues 1,493 2,599 4,048 5,807 % growth 74.1 55.8 43.5 Gross profits 707 1,245 1,981 2,603 EBITDA 370 678 896 753 EBIT 317 558 761 507 Gross margins (%) 47.4 47.9 48.9 44.8 EBITDA margins (%) 24.8 26.1 22.1 13.0 Number of stores 3 8 9 13 Total net assets 856 1,239 1,691 1,991 RoCE (%) 42.6 53.2 52.0 27.5

FY16

FY15 7,206 24.1 3,198 1,265 948 44.4 17.6 16 2,787 39.7

FY16 8,426 16.9 3,899 1,560 1,206 46.3 18.5 18 2,756 43.5

Source: Trent Annual Report, Edelweiss research

Akin to Zara, we expect Forever 21 has the potential to improve ABFRL’s overall return ratios over the long term—though margin in this business is expected to be in the mid single digit range (Forever 21’s pricing is ~50-60% lower than Zara and ~30-40% lower than H&M). However, lower pricing will help in better through put per outlet and better turns, which burnishes return ratios.

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Aditya Birla Fashion and Retail Chart 23: Pricing of Forever 21 is lower compared to Zara and H&M 1.0 0.8

(x)

0.6 0.4 0.2 0.0

Zara

H&M

Forever 21

Chart 24: Forever21 to clock revenue CAGR of 38% over FY17-19E

Forever 21 revenues

7,000

(INR mn)

5,600 4,200 2,800 1,400 0

FY17E

FY18E

FY19E Source: Edelweiss research

Robust distribution channelimpartscompetitive edge Madura boasts of a strong distribution network of 1,877 EBOs spread over 2.6mn sq ft as of FY16 (1,856 EBOs as at Q1FY17), clocking an impressive 30% CAGR over FY07-16 in terms of store addition. A strong retail network acts as a strong entry barrier, making it difficult for comeptitors to match Madura’s scale.

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Retail 3.0

1,700

2.4

1,300

1.8

900

1.2

500

0.6

100

(mn sq ft)

(Nos.)

Chart 25: Impressive EBO expansion –>30% CAGR over FY07-16 2,100

0.0 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 Total EBOs

Area (mn sq ft) Source: Company, Edelweiss research

Going ahead, we expect Madura’s retail expansion to be gradual as it has already achieved a very high base of 1,850 plus EBOs. On an average, we forecast the company to add close to 100 EBOs per year. Also, with advent of the online channel, it is likely to shift focus to this new channel of distribution—vast EBO network will serve as a means to execute the company’s omni-channel strategy.

Chart 26: Madura—Far outpacing peers in number of EBOs and area sqft 3.0 2.4 1.8 1.2 0.6 0.0

FY14 FY15 FY16 FY14 FY15 FY16 FY14 FY15 FY16 FY14 FY15 FY16 Madura

Arvind

Total EBOs (in'000)

Raymond

FLF

Area (mn sq ft) Source: Companies, Edelweiss research

In-step with times: Gradual makeover from wholesale to retail model With emergence of organised retail, players have revamped their distribution channels to incrementally mark their presence through multi brand outlets (MBO) or through large format stores (LFS)/shop-in store (SIS). Keeping in step with times and gauging latent potential, Madura also seamlessly converted its distribution model ~10 years ago—from wholesale to retail. This has helped the company take its brands to the retail level, which in turn has helped create better brand equity. Madura’s presence through MBOs and LFS/SIS too has scaled up from 1,945 to 3,896 and 440 to 2,904, respectively, over FY10-15.

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Aditya Birla Fashion and Retail Chart 27: Strong expansion in MBO and SIS/LFS 4,500

(Nos.)

3,600 2,700 1,800 900 0

FY10 EBOs

Shop in Shop

FY15 MBOs Source: Company, Edelweiss research

Fig. 4: Madura brands’ EBOs

Source: Company

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Retail Chart 28: Shift from wholesale to retail amply reflected in revenue mix too

FY10

Others 16%

Others 26%

FY15

Retail 40%

Retail 44% Trade 24%

Trade 26%

Departmen t Stores 8%

Departmen t Stores 16% Source: Company, Edelweiss research

The next frontier Huge expansion scope in poorly tapped East and West India “We launched a project called ‘Project Bharat’ under our planet retail format which will open 400-500 stores in the next 3-4 years through franchises in tier III and IV towns”

Although Madura is on top of the pyramid in terms of store presence, our analysis indicatesimmense scope to further ramp up the company’s overall distribution in India.There is huge scope for expansion, especially in the West and the East,where Madura’s store presence is on the lower side.

Chart 29: Store presence by region

% of stores

– Mr. Pranab Barua, MD, ABFRL

North 34%

South 35%

East 12%

West 19% Source: Company, Edelweiss research

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Aditya Birla Fashion and Retail Fig. 5: ABFRL’s pan-India reach

Source: Company, Edelweiss research

Chart29 and the map clearly indicate that, comparatively, Madura has limited presence in East and West, signifying immense scope for penetration. On an average, the company has been adding ~150 EBOs per year and we expect it to add close to 100 stores per annum going forward. Apart from ramping up in East and West, having had strong presence in Tier I & II cities, the next leg of expansion should also happen in relatively unchartered Tier III & IV territories. The company has mapped close to 600 towns and cities where it can expand. Apart from growth in EBOs, it will also ramp up other distribution formats viz., MBOs and SIS. These 2 formats have been growing at a faster clip led by change in trends as more consumers start visiting malls for outings and increased store addition by departmental stores. We expect this format to grow ahead of the EBO format. Also, this growth will not impact Madura’s RoE since ~85% of the expansion will be via the franchise route.

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Retail Chart 30: MBOs spurt outpacing growth in EBOs 80.0 65.0

(%)

50.0 35.0 20.0 5.0 FY11

FY12

FY13

EBO Channel

FY14

FY15

MBOs and departmental stores Source: Company, Edelweiss research

Inherently a higher return ratio and free cash flow generating business Madura has inherently been a higher return ratio business led by the fact that ~65% of the total expansion has been via the franchise model. Also, it clocked margin of 12.4%, RoCE of 72% and RoE of 42.7% in FY15. It also generated free cash flow of close to INR3.5bn in FY15, ~80% of total sales. However, the company’s return ratios may dip in FY17—RoCE may fall to 32% in FY17E (72% in FY15) and free cash flow may dip to INR2.1bn in FY17E (~INR3.5bn in FY15). Key reasons for the same are sharp rise in discounting by online players, increased competition with the entry of new global players, slowdown in men’s formal market and clutter of EBOs (refer company description section for details). However, with overall changing dynamics, discounts offered by e-commerce companies are waning, entry of foreign players is expanding overall organised apparel market, thereby benefitting not only foreign players, but also other premium players present across segments such as ABFRL.

Chart 31: Madura’s margins to improve led by recovery in SSG 15.0 13.0

(%)

11.0 9.0 7.0 5.0 FY12

FY13

FY14

FY15

FY16

FY17E

FY18E

FY19E

Madura EBITDA margins (%) Source: Edelweiss research

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Aditya Birla Fashion and Retail Chart 32: Madura’sreturn ratios to see improve Madura ROCEs (%) 95.0 80.0

(%)

65.0 50.0 35.0 20.0 FY15

FY16

FY17E Madura ROCEs (%)

FY18E

FY19E

Chart 33: Free cash flow to catapult for Madura 5,000

(INR mn)

4,300 3,600 2,900 2,200 1,500 FY17E

FY18E Free cash flow (INR mn)

FY19E Source: Edelweiss research

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Retail Pantaloons: Turnaround story; margin set to recoup lost ground Pantaloons has successfully transitioned from being tagged a discounted brand to a value fashion retailer post ABFRL’s commendable initiatives to revaitalise the company. Management’s target is to: (i) accelerate revenue growth (led by store expansion); (ii) expand margin (more private labels, prune sale period); and (iii) achieve cash independence (better return ratios—value fashion from discounted fashion). We forecast Pantaloons’ margin to improve to 5.7% in FY19 from 3.1% in FY16 fuelled by superior throughput, pruning of sale period, increase in proportion of private labels, among others.

Transformation largely done; now time to grow Pantaloons was started by the Future Group as a discount apparel store in 1997. Over the years, it has gradually transitioned from being a discount store to a full, but reasonably priced, value fashion player.

Fig.6: Pantaloons—Transformation over the years

Source: Company, Edelweiss research

In FY13-14, the Aditya Birla Group acquired Pantaloons and subsequently undertook a scheme of arrangement, pursuant to which ABFRL was born. Pantaloons houses India’s leading women’s wear brand. With this acquisiton, ABFRL via Madura and Pantaloons now straddles the entire value chain—men’s, women’s and children’s wear.

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Aditya Birla Fashion and Retail Chart 34: Pantaloons—Revenue and gross profit mix by segment 40.0 Revenue mix (%)

40.0 33.0

26.0

26.0

(%)

(%)

33.0

Gross margin mix (%)

19.0

19.0

12.0

12.0

5.0

5.0 Kids

Non apps

Men

Women Women Kids Non apps western ethnic Gross margin mix (%)

Revenue mix (%)

Men

Source: Company, Edelweiss research

Post the Pantaloons acquisition, ABFRL has: (i) revamped Pantaloons’ business model; (ii) undertaken some course correction primarily related to right and affordable pricing (cut prices ~20%); (iii) reduced reliance on end of season sale (EOSS); (iv) refurbished existing stores; (v) chalked out new strategy to enhance growth, among others.

Lay the Foundation

Begin the growth jouney

FY17 onwards

Manage the Transition

FY15

FY14

Fig.7: Strategic steps to integrate Pantaloons into ABFRL’s business model

FY16

Women Women western ethnic

Build scale

Source: Company, Edelweiss research

FY14: Manage the transition

31



Enhanced store network: 14 new stores, 22 store refreshes/renovation and 100% store relayouts (1.8 mn sq ft).



Merchandise creation: (i) set up a new in-house “Design Studio”, recruited experts in product design, brand aesthetics and fixture design, with >90% comprising a new team; and (ii) in-house team delivered on 5,000 plus designs consistently every season.



New vendor network: (i) virtually created a new vendor network (>35% new); and (ii) established relationships with 240 plus vendors to deliver on availability, quality and cost targets.



Built the organisation: (i) recruited ~280 people at HO; and (ii) detailed key business processes, defined job descriptions and KRAs for key functional positions.

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Retail FY15: Lay the foundation •

Store expansion: Launched 25 new stores, moved from run rate of a new store every 2 months prior to the acquisition to a new store every 2 weeks.



Margin expansion: Delivered an unprecedented >3% improvement in gross margin led by cost efficiencies, pricing improvement, optimisation of mix of exclusive brands as well as margin renegotiation for external brands.



Portfolio overhaul: Launched 6 new brands, filling key niches and gaps in brand portfolio.



SAP transition: (i) rollout of new systems completed in all stores (120 plus) &warehouses; and (ii) >10 lakh articles cutover from legacy system to new ABG systems, with no business disruption.

FY16 and beyond:Phase 3 and 4 During Phase 1 and 2 things moved at a slow pace since only a few people joined ABFRL from Pantaloons. Hence, ABFRL management’s time was expended on recruiting a new team leaving little time to understand the business model and consumers. During Phase 2, the company focused on improving performance at the store level and putting in place the right business model. Focus was on creating a value fashion brand similar to H&M, Uniqlo and Mr Price. Post stabilisation and zeroing on the business model in the first 2 stages, Pantaloons embarked on the growth path, which had come to a halt in the previous few years due to transition. In Phase 3, the company is increasing store additions and it is targeting addition of ~50 stores per annum. The new stores will be of smaller size (~10,000-15,000 sq ft) compared to large stores earlier (25,000-30,000sq ft). This will take care of growth without impacting margin as small size stores will focus on better throughput per outlet. Pantaloons is also evaluating the franchise model and till date has opened 7 such stores on pilot basis. Though finding a franchise is difficult as it entails investment of ~INR20-30mn per Pantaloons store versus INR2-3mn for Madura, franchise stores will bring in savings for the company in terms of capex (15-20%). In Phase 4, focus is on achieving scale, which will benefit Pantaloons in various aspects of supply chain—sourcing, transportation, warehousing, logistics, inventory management, etc. Management, post completion of acquisition, has 3 focus areas for Pantaloons: (i) revenue growth; (ii) margin expansion; and (iii) free cash flow generation. Key levers to achieve the above:

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Period of sale season is being curtailed from the current 2 months to 1 month. This is being done by right pricing products on pilot basis—it cut prices of kid’s segment by 20% and volumes jumped 40%. This pilot was extended to other segments in FY16 through Project Wow, wherein most products were sold at full price.



Increasing the number of fashion seasons in India, i.e., increasing the number of times a new collection comes to the store. In India, there are only 2 seasons compared to 6 globally. If the company is able to have 4 seasons, inventory turns will rise, which will improve throughput; right pricing will also aid this.



Achieve low-single digit growth in EOSS and 17-18% LTL in non-sale seasons, which will boost margin.

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Aditya Birla Fashion and Retail •

Proportion of private labels has been increased, which is the key reason for success of retail players like Trent (~90% private labels). Proportion of Pantaloons’ private labels hascatapulted 650bps to ~63%. Madura brands currently contribute 6-7% (8-9% earlier) and the contribution is expected to remain in this range.



For Pantaloons, 65-70% of total sales come from women’s, kid’s and private footwear & handbags. The company recently launched its own private label which earns ~50% gross margin (earlier brands like Catwalk, etc., had gross margin of ~23%).



Converting its 25-30 factory outlets into women’s and kid’s outlets as these stores are operating at negative 15-20% margin. This will help improve margin as footfalls in kid’s and women’s stores are much higher than at factory outlets.

Margins poised for gradual uptrend as clean-up is complete Post acquisition, ABFRL rationalised ramp up of stores and revamped Pantaloons’ business strategy. As a logical corollary, Pantaloons’ EBITDA margin dipped in FY14on account of sharp jump in staff costs (new management hired 200 executives at mid level in finance, legal and other teams). However, this aberration now stands corrected as Pantaloons has started gaining from the stores that have reached vintage and new store size has been rationalised. This is already evident in the jump in EBITDA margin from 2% in FY14 to 4.5% in Q1FY17.Anchored by the company’s new business strategy, we estimate Pantaloons’ overall margin to improve gradually from 3.1% in FY16 to 5.7% in FY19.

“We are working on the whole of assortment planning, replenishment planning, how to get better throughput right, customer engagement and keeping costs under check. We will sell more of high-margin products such as apparel, general merchandise in our stores”

Chart 35: Teething problems—EBITDA margin’stook a hit post acquisition 7.0

– Mr. Pranab Barua, MD, ABFRL

5.6

(%)

4.2 2.8 1.4 0.0

FY13

FY14

FY15

FY16

Q1FY17

Pantaloons EBITDA margins(%) Source: Company, Edelweiss research

Store additions to accelerate Histrorically, Pantaloons has been a strong brand, especially in East India. However, during FY10-13, the company started losing ground due to lack of store additions (only 21 were added), which hurt growth. However, one year after ABFRL took over Pantaloons, there was strong ramp up in store additions, as was delineated in management’s growth map. Total number of Pantaloons stores (excluding factory outlets) increased from 68 in FY13 to 146 by Q1FY17, a robust 26% CAGR over FY13-Q1FY17 (addition of 1 store per quarter prior to acquisition vis-à-vis >5 stores per quarter under ABFRL). Going forward too, Pantaloons is likely to add 40-50 stores annually.

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Retail Chart 36: Ramp up in Pantaloons outlets 300

9,500

(Nos.)

8,700 200

(INR)

9,100

250

8,300 150

7,900

100

FY15

FY16

FY17E

FY18E

Total number of stores (excluding factory outlet)

7,500

FY19E

Sales per sq ft (RHS)

Source: Company, Edelweiss research Pantaloons is the market leader in East India. It is now targeting expansion to Southand other regions of the country as well. It already has strong brand recall in other parts of the country, which will make it easy for the retail store to attract footfalls in smaller cities where aspiration levels remain high. Strong branch ramp up will propel Pantaloons’ revenue trajectory. As stores mature, operating leverage will kick in, which will also improve margin. Further, the company has been steadily expanding its network of stores in East India—a high-margin geography owing to lower rentals, etc. This is another reason why we envisage further jump in the company’s margin.

Chart 37: Revenue and profitability by geography

Store profitability mix (%)

Revenue mix (%) North 26%

West 29%

West 22%

North 23%

South 12%

South 14%

East 43%

East 31%

Source: Company, Edelweiss research

As Pantaloons rationalises its store size it will still house all key brands under one roof which will help curtail rental expenses. Thus, we estimate sales per sq ft to increase from INR7,899 to INR9,234 over FY15-19E.

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Aditya Birla Fashion and Retail Proportion of own brands rising; better control on pricing, assortment From FY14, Pantaloons decided to increase portfolio of own brands by: (i) setting up new inhouse “Design Studio”, recruiting experts in product design, brand aesthetics and fixture design; and (ii) launching 6 new brands to fill gaps in overall portfolio. Consequently, there was strong ramp up in proportion of own brand sales from 56% in Q1FY16 to 63% in Q1FY17 (~40% during acquisition).It is also working on increasing the number of fashion seasons. This will lead to fresh and latest design options resulting in higher off take by consumers. With better cost control and higher pricing power, Pantaloons is expected to clock better margin in private labels.

Chart 38: Private label mix improving 65.0 62.0

(%)

59.0 56.0 53.0 50.0

Q1FY16

Q1FY17 Private label mix (%) Source: Company, Edelweiss research

Fig. 8: Portfolio of own and in-licensed brands

Source: Company

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Retail Shifting to value fashion to drive throughput The value fashion segment is the first step towards organised retail market for customers moving up from unorganised/mom & pop retaliers. This space is less crowded with Pantaloons, Max Fashion, Reliance Trends, among a few others. Since entering the segment in 2007, Pantaloons has made a mark in this fast growing segment. Value fashion means retailing products at lower prices and not selling at huge discounted rates. This segment has helped Pantaloons keep its products in the affordable price range, while maintaining brand value. The company is also paring non-moving inventory and accessories and filling the space with new assortments and value focused brands, which will drive footfalls. High-margin own brands are also being emphasised, which will further improve return ratios and sales per sq ft.

“Fast fashion in women’s' wear is new concept in India but worldwide it is a huge market” – Mr. Ashish Dikshit, Business Head, Apparel Business

Table6: Sales per square feet across fashion retail chains INR mn FY13 FY14 Pantaloons Sale of Traded Goods 12,567 16,286 Total area (mn sq ft) 1.7 2.0 Sales per sq ft 7,392 8,143

FY15

FY16

18,169 2.3 7,899

21,222 2.7 7,925

Shopper's Stop Sales Total area (mn sq ft) Sales per sq ft

FY13 25,316 3.1 8,166

FY14 30,170 3.9 7,736

FY15 33,702 4.2 8,094

FY16 37,170 4.3 8,675

Max Sales Total area (mn sq ft)* Sales per sq ft

FY13 8,000 0.8 9,697

FY14 10,000 1.0 10,101

FY15 14,000 1.3 10,606

FY16 18,000 1.7 10,909

Westside Sales** Total area (mn sq ft)* Sales per sq ft

FY13 8,772 1.4 6,265

FY14 12,086 1.6 7,554

FY15 13,233 1.7 7,784

FY16 15,086 1.9 7,940

Source: Companies, Edelweiss research, Media articles *Square feet area is computed based on estimated square feet per store times total number of stores **Total sales of Westside is computed considering the sales growth rate provided in Trent’s annual report

Sales per square feet of value fashion players like Max is highest at ~INR10,900 (refer table 6). Currently, Pantaloons’ sales per sq ft is lower at sub-INR8,000 level. However, with higher number of branches, vintage of existing stores and addition of lower size stores, we anticipate the company’s sales per sq ft to increase from INR7,925 to ~INR9,234. This will be achieved through implementation of its new strategy that targets higher throughput, better assortment and focus on customer satisfaction. Our confidence in Pantaloons emerges from the case study of South Africa based Mr Price Group (refer box below).

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Edelweiss Securities Limited

Aditya Birla Fashion and Retail 2.5

120

2.0

90

1.5

60

1.0

30

0.5

(Nos.)

150

0

(mn sq.ft)

Chart 39: Pantaloons—Expected ramp up in stores and sales per square feet

0.0 FY12

FY13

FY14

FY15

Total stores (including factory outlet)

Area (mn sq ft) Source: Companies, Edelweiss research

Fig.9: Pantaloons advertisement positioned on fair price

Source: Company

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Retail Fig. 10: Patanloons extending to fast growing kids segment

Source: Company

Case study: Mr Price Group Mr Price of South Africa, positioned as a value fashion retailer, clocked EBITDA margin of 16.7% in 2015. Mr Price Group is a fashion value retailer predominantly selling goods directly for cash. The group, which retails apparel, homeware and sportwear is acknowledged as one of the fastest growing retailers in South Africa. It is organised into business units based on products and services and has 3 segments: (i) Apparel-retailing including clothing, sportwear, footwear, sporting, equipment and accessories; (ii) Home-retailing including homeware; and (iii) Central services-provides services to trading segments including information technology, internal audit, human resources, group real estate and finance. The company is also a highgrowth omni-channel, fashion value retailer with its target audience being young customers in the mid to upper LSM categories. Its business model runs on offering fashionable merchandise at excellent value. Further, the value model is core to the group’s existence. Thus, being a value retailer with lower markups and higher volumes, it offers ‘everyday products at low prices’.

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Edelweiss Securities Limited

Aditya Birla Fashion and Retail Cash sales constitute 81% of total sales and the group is focused on remaining a cash driven retailer. It is predominantly retailing own branded merchandise through 1,166 stores and online portals. To meet customers’ fashion needs, the company has developed various merchandise using techniques like involving specialist teams, frequent international travels, active interactionsvia social&digital media, product testing and slow moving merchandise clearance to make way for fresh merchandise. Unwavering focus on quality and price leads to fashion at best price with lower markups to offer everyday products at low prices with large order quantities and sales volume that keep input prices low. The company, which started with the franchise model due to lack of funds, currently has 1,000plus corporate-owned stores in South Africa. Group’s strategy  To expandearnings through local and international growth. 

Delight customers with fashionable offerings at great value.



Developworld-class infrastructure to unfold its growth strategy.



Create energised environment with empowered and motivated employees.



High standards of ethical behaviour and sustainable business practices.

Table7: Mr Price’sKey financial variables FY11 FY12 Gross margins (%) 41.9 41.8 Staff costs (% of sales) 11.9 11.9 Rental (% of sales) 8.0 7.5 EBITDA margins (%) 15.2 16.4 EBIT margins (%) 13.1 14.4 ROE (%) 46.0 47.3 ROCE (%) 67.6 68.7 Inventory turn 6.6 6.5 Net asset turn 4.5 4.2 Total stores 961 990 Apparel stores 578 588 Home stores 359 374 Franchise stores 24 28

“Our mandate is to make money in year one for each store. To bring costs down and achieve scale, Pantaloons is piloting specialist stores such as Pantaloons Kids and Pantaloons Women, and is looking at the franchise and omnichannel model” – Mr. Shital Mehta, CEO, Pantaloons

FY13 41.6 11.4 7.4 17.0 15.1 51.1 70.2 6.4 4.0 1,055 626 403 26

FY14 41.5 11.2 7.2 17.9 16.0 52.2 68.0 6.8 3.9 1,102 656 423 23

FY15 41.1 10.5 7.1 19.0 17.1 51.4 67.1 6.5 3.4 1,165 706 444 15

FY16 40.6 10.2 7.1 20.1 18.1 50.3 63.6 5.8 3.4 1,200 736 443 19

Source: Company, Edelweiss research

Pilot franchise model: High on promise Post intial success of pilot franchise store, by Q1FY17 Pantaloons had opened 4 such stores and has been seeing good traction. Under this model, the company retains long-term lease, while the franchisee infuses capital. Pantaloons proposes to study viability of the franchise model before embarking on it in full swing. If the model succeeds, it will improve return ratios as this format will enable the company retain long-term lease while store capex will be incurrred by the franchisee. Top line of the franchise store will be recorded as total sales, while commission paid to the franchisee will be registered as expenses. Size of franchise stores is in line with size of new Pantaloons stores at ~12,000-15,000 sq ft.

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Edelweiss Securities Limited

Retail E-commerce: Exploring new promising growth avenue E-commerce portals were once the bane of brick-and-mortar players. But now, companies with strong brands are themselves embarking on this bandwagon. Till now, ABFRL has taken limited steps—tied up with Amazon (dedicated office in Madura’s warehouse), Myntra, etc., has set up websites for each brand. However, the way forward is moving to the omnichannel and use big data to analyse customers’ behaviour patterns and garner more insights. Until recently, e-commerce was the bane of brick-and-mortar players as they were greatly impacted by the high discounts offered by online players. However, taking cognizance of the fact that the platform is here to stay and instead of criticising it, players like ABFRL have gone ahead and joined the online bandwagon. Overall, e-commerce is fast emerging as the new growth opportunity for brick-and-mortar players to expand their reach. Shoppers Stop and the Future Group are already in the process of strengthening their online presence. In fact, these companies are moving towards setting up omni channels (mix of physical and online platforms),whichfocus on improving online platform of companies and integrating their physical and online presence. A.

ABFRL:Eying top slot in online apparel brands ABFRL has been quick to embrace the online platform. Earlier too, the company was quick to adapt to emerging platforms like departmental stores, modern trade, among others. Ergo, it is taking commendable initiatives to emerge as a leader in the ecommerce space, though it may take some time to learn the ropes of the game.

“In the next 18-24 months, all the retail stores of the Company will offer a rich, seamless and integrated online – offline experience to all its consumers”

ABFRL has chalked out firm plans for its online venture. The company believes it will be the largest player on e-commerce sites led by its bouquet of strong brands. Nevertheless, it is not going all out in online expansion as it is waiting for some discipline to set in among online players. Currently, players are clawing to wrest market share via deep discounts. Gauging the importance of ABFRL’s brands, Amazon—India’s second largest e-commerce player—has set up its own dedicated office in Madura’s warehouse. ABFRL has also effected strong technological integration with Amazon, Myntra and Jabong.

– ABFRL Annual Report, FY16

Some measures adopted by ABFRL to strengthen its omni-channel capability and online prowess include:

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A multi-pronged strategy has been chalked out to enhance investment in own ecommerce business, launchedanomnichannel initiative and build deeper partnerships with e-commerce players. Madura and Pantaloonsbrands are being offered on almost all the large e-commerce websites in India.



Omni-channel programme has been rolled out in ~400 stores. A strong network of EBOs and large bouquet of brands gives the company an edge in implementing its omnichannel strategy (logistics become easier) and negotiating with online platforms. With omni channel, consumers can buy from any platform (online or physical), choose from a large variety of products available at all the warehouses &retail stores of the company and take delivery anywhere they want. To reduce loss of sale due to limited number of offerings in a store, the company is building a common platform on which a consumer can select from an entire range of

Edelweiss Securities Limited

Aditya Birla Fashion and Retail products. Thus, instead of having to choose from only ~2,000 products at a retail store, a customer gets the option to choose from ~4mn pieces.

“We have started experimenting with e-commerce sites in the past six months and have been entering into partnerships with a number of sites- latest being Snapdeal. We will put up our stores on this large marketplace as we expect it to help in garnering additional sales” – Mr. Shital Mehta

B.



Management is trying to leverage the vast customer database of Madura (~4.7mn members) and Pantaloons (8.6mn loyalty base). Big Data Analytics will offer good insights into consumers’ buying behaviour. ABFRL is running a Mission Happiness Programme wherein it takes feedback from ~0.3mn customers every month and telephonic feedback from ~20,000 customers.



ABFRL already has its own brand wise online websites. Though contribution from online platform is currently minuscule, the company is investing in this platform to improve overall salience and to counter competition. Till date, it has spent close to INR100mn on its omnichannel platform. Good execution of this channel entails IT costs of ~INR80-120mn and then some investment in stores. Total investment of INR220mn is required for execution of omni channel, which is not significant. ABFRL is focusing on seamless operations between its online and offline platforms so that it doesnot make a difference to customers whether they buyproducts online or offline.

In-house online platform www.trendin.com extended to separate site Apart from having a strong distribution network through EBOs, MBOs and SIS, ABFRL is also targeting the next-generation consumer segment that is hooked on shopping online, through its website trendin.com. However, recently the company has entered the online segment with a separate online site for each of its brands.According to a recent Bain-Google study on e-commerce, 650mn people will be online in India by 2020 with about 20% of retail sales happening on line. Individual brand sites offer richer brand experience, consumer engagement and multi-channel commerce in line with the company’s omnichannel strategy. Individual websites will also act as a back-end portal to aid the omnichannel experience.

Fig. 11: ABFRL’s online website

Source: Company

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Retail C.

Abof Apart from brand wise websites, promoters of ABFRL own abof.com, albeit not under ABFRL. Abof.com, launched in October 2015, targets a niche set of customers— millennials. We believe it is not a bad idea, especially considering that the company is competing with 800 startups, including the likes of Myntra-Jabong, Flipkart, etc. In the 10 months since launch, Abof has doubled gross merchandise value (value of goods sold) to INR2bn with about 0.25mn daily visitors. Of course, GMV of Abofis not clubbed with revenue of ABFRL, but sales of Madura and / or Pantaloons products on Abof portal will yield incremental sales.

D. Focus on building brand than on disrupting them; consolidation inevitable Online competition continues to disrupt the retail space. Having realised this, ABFRL is not competing head on with other online players. The pain will only persist in the short term as online players cannot afford to burn cash continuously. Disruption will moderate, but not disappear completely. Also, though the online platform has helped other companies gain scale, they are operating at very low margins. Hence, consolidation is inevitable in the industry (recently Jabong was acquired by Flipkart’s Myntra). Therefore, instead of burning money by discounting brands and diluting brand value, ABFRL is focusing on building brands by investing in them and not discounting them.

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Aditya Birla Fashion and Retail GST & other potent levers in kitty Currently, the apparel industry enjoys a benevolent indirect tax on excise front and pays VAT / sales tax at rates prescribed by different states, which hover between 5% and 7%. Our back-of-the envelope calculations indicate that GST implementation will lead to the industry’s tax outgo catapulting 11–13%, 2x the current rate. However, revenue neutral rate for ABFRL is ~13.5-14.0% and hence the hit will not be as huge as anticipated. Further, management is confident of passing on incremental cost to consumers by increasing rates 4–5%. ABFRL has also spruced up its back-end supply chain & technology, rolled out SAP at all its stores & warehouses, sorted issues pertaining to inventory management, vendor management, store layout and design, etc. A.

GST: Apprehension high, but low actual impact and will be for all players Lack of clarity on GST rates has led to a lot of speculation among industry players. However, even after considering the much talked about tax neutral rate of 18%, the actual negative impact on the retail sector does not seem to be as huge as it is made out to be. Currently, the apparel industry enjoys a benevolent indirect tax on excise front and pays VAT / sales tax at rates prescribed in different states, which hover between 5% and 7%. Our back-of-the-envelope calculations indicate that implementation of GST will immediately lead to increase in tax outgo to the extent of 11–13%, i.e., double the current rate. However, we believe the revenue neutral rate for ABFRL is ~13.5-14.0% and hence the hit will not be as hard as anticipated. Further, management is confident of passing on the incremental cost to consumers by increasing rates by 4–5%. This apart, we are yet not capturing the intangible benefit that organised apparel segment will derive from shift from unorganised to organised sector. At this point, the benefit is not quantifiable, but it is bound to be humungous. We are not factoring any potential benefit from the shift in our financial model.

B.

Other levers ABFRL has also spruced up its back-end supply chain and technology. The company has rolled out SAP at all its stores and warehouses. Further, leveraging on its strong presence in the women’s wear segment, it will be entering women’s footwear & handbags categories. Thus, post acquisition, the company has been sorting out all issues pertaining to inventory management, vendor management, store layout and design and has put a new management team in place as well. Post completion of operation clean up, ABFRL is now focusing on ramping up its growth trajectory.

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Retail

Valuations Anchored by strong growth visibility, gradual SSG pick up coupled with margin improvement in Madura, turnaround in Pantaloons and entry inadjacent high-growth segments, we assign target multiple of 20xFY19E EBITDA and arrive at a target price of INR202. The stock is trading at 20.7xFY17E and 15.3x FY18E EBITDA.We initiate coverage with ‘BUY’. ABFRL is the No.1 player in the men’s wear market on account of Madura and No. 1 in the women’s wear market on account of Pantaloons. The company will be key beneficiary of recovery in discretionary spending and is better placed to gain from it compared to other branded apparel players owing to its sheer scale and widespread network. Madura’s growth and margin, which were impacted by heightened competition from ecommerce players, higher ad spends and lower operating leverage,havelikely bottomed out.We envisage gradual recovery riding renewed focus on new &fast-growing segments to aid growth and improve throughput per outlet. Entry in the online segment and focus on becoming the largest brand therein is also bound to boost growth over the long term. Pantaloons is a turnaround story and is expected to sustain its robust run and gradual margin improvement. We expect the company to record double-digit SSG led by new business model with focus on right pricing and fashion. It is looking at sharp addition in stores and hence topline growth will be strong. The company’sinitiatives like increasing private labels, enhancing inventory turns and reducing sale season period are bound to lead to sustained margin improvement. Primed for growth; initiate coverage with ‘BUY RoCE and RoE of the consolidated entity may optically look depressed at 8.4% and 5.1% in FY17E, respectively. However, Madura is inherently a high return ratio business—clocked RoCE of ~72% and RoE of ~43% in FY15, which may though dipbut will still be healthy at ~32% and 27%, respectively, in FY17E (Page Industries clocked RoCE and RoE of 60% and 46%, respectively in FY16). We estimate Madura’s RoCE to improve from 32% in FY17 to ~42% in FY19 led by pick up in LTL growth and margin. Also, the free cash flow generated by the company will help fundgrowth and expansion of the Pantaloons business (Pantaloons’ margin is estimated to improve from 3.1% in FY16 to 5.7% in FY19E). We estimate Madura to clock free cash flow of ~INR2.1bn during FY17 and INR4.4bn in FY19. Ergo, ABFRL’sRoCE and RoE will improve from 8.4% and 5.1% in FY17E to 17.5% and 24.1%, respectively, in FY19E (an improvement of ~1900bps in RoE). Anchored by robust growth potential, margin improvement and immense opportunity in India for branded players, we assign a target of 20x FY19E EBITDA to arrive at a target price of INR202. We remain positive on the stock from long-term perspective as we believe that though disruption from online players will continue, it is largely factored in the stock price. The risk-reward is thus favourable. We initiate coverage with ‘BUY/SO’. The stock is currently trading at 20.7xFY18E and 15.3xFY19E EV/EBITDA. Our target EV/EBITDA multiple may appear higher on standalone basis. But, when seen on relative basis, i.e., compared to other stocks such as Page Industries, ABFRL with strong brandsseems cheap. Further, Inditex (owner of Zara) in the developed geography and with lower EPS CAGR also trades at ~20x. This further reaffirms our belief in ABFRL’s potential to trade at 20x FY19E EV/EBITDA. 44

Edelweiss Securities Limited

Aditya Birla Fashion and Retail Table 8: Comparable Indian players Name of the Company

CMP

Arvind (consol.) Raymond (consol.) KKCL Indian Terrain PAGE Industries Trent Shoppers Stop ABFRL

356 567 1,877 154 15,571 222 369 145

Mcap EBITDA margins (INRbn) (%) - FY16 92.1 12.6 35.2 9.7 23.8 24.5 5.7 14.2 177.0 21.9 73.7 5.8 30.9 4.2 111.9 6.5

EV/EBITDA EPS CAGR FY18E (x) FY16-18E (%) 9.5 22.9 8.2 50.4 15.2 20.5 8.9 6.3 31.1 26.0 21.8 88.3 12.7 259.1 19.6 153.2

P/E - FY18 (x) 16.8 17.0 23.8 14.5 48.3 33.1 116.7 35.8

(INRbn) RoE - FY18 (%) 15.4 11.0 23.9 18.4 52.2 13.4 NM 24.0

*CMP and Mcap is as on Oct 4, 2016

Table 9: Comparable global players Name of the Company Inditex H&M Mr Price TJX Companies Fast Retailing

Currency Euro SEK ZAR USD YEN

CMP 33 243 15,684 74 33,490

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Mcap (bn) 102 402 42 49 3,552

Enterprise Value (bn) 98 397 41 47 3,211

EBITDA EV/EBITDA - EPS CAGR P/E RoE margins (%) FY17 (x) FY16-18 (%) FY17 (x) FY17 (%) 22.5 18.7 12.7 32 26.4 16.3 10.9 3.8 19 34.2 19.9 11.0 4.6 1,583 41.7 14.0 10.8 7.0 21 53.0 9.2 14.6 51.8 32 14.5 *Data for H&M and Fast retailing is for CY ** CMP and Mcap is as on Oct 4, 2016 Source: Bloomberg, Edelweiss research

Edelweiss Securities Limited

Retail

Key Risks Slow GDP revival leading to lower traction in discretionary spending Currently, target customers of ABFRL are in Tier I&II geographies. Clothing and footwear spending is discretionary and is correlated with increase in consumer confidence index, GDP revival, etc. Any delay in revival of GDP, slowdown in these geographies can impact the company’s growth. ABFRL is proposing to incrementally mark its presence in Tier III & IV geographies too. Sales in these geographies are linked to pick up in rural growth, which is again positively impacted during periods of GDP revival, better monsoon, etc. Thus, lack of support from any of the mentioned factors may hamper ABFRL’s revenue growth. Heightened competition Many foreign brands are enhancing presence in India to cash in on the humongous growth opportunity. While foreign brands such as Zara, Tommy Hilfiger, etc., have already established themselves, other brands such as H&M, GAP, among others, are venturing inthe Indian market. Entry of these foreign brands will keep the competitive intensity high. Implementation of GST The anticipated tax neutral rate of 18%could lead to higher tax outgo of 5-7% for branded apparel players. However, retailers are confident of passing it on to customers, which should only be sentimentally negative and may not dent margins of retail companies. Turnaround of Pantaloons ABFRL has chalked out a plan to integrate Pantaloons and turn around its operations, which is envisaged to take about 2-3 years. Failure of these measuresto achievethe desired result could further drag ABFRL’s earnings. Threat from e-commerce channel FY15 and FY16 have been marked by aggressive discounting and sale seasons by ecommerce companies,leading to shift in customers’ loyalty. However, with discounts now waning, retailers who are less averse to discounting model should benefit. But, any action taken by e-commerce companies to revert to the discounting model may hamper SSG of ABFRL and hence its growth. Increase in lease rentals While ABFRLboasts of the largest store presence, it does result in huge lease rentals. Any spike in rental cost may dampen margin. However, since incremental shops are being added in malls and where size is also rationalised, lease rentals may not materially pinch the company’s financials. Integration of other group entities Any consolidation of textile / food retail business of group entities such as Century Textile, More, etc, with ABFRL is likely to be non-synergistic and dilutive and hence may compromise ABFRL’s return ratios.

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Aditya Birla Fashion and Retail

Company Description In May 2015, ABFRL came into being following consolidation of ABNL's branded apparel business of Madura and Pantaloons. Post consolidation, Pantaloons was renamed Aditya Birla Fashion and Retail (ABFRL). ABFRL brings with it learnings and businesses of 2 renowned Indian fashion icons/brands, PFRL and MF&L. This amalgamation has helped ABFRL emerge as India’s No. 1 fashion lifestyle entity. Madura Fashion & Lifestyle Madura Fashion & Lifestyle (Madura), a division of ABFRL, was the first player operating on national scale dedicated to the core business of fashion retail in India. Originally known as Madura Garments, it was formed in 1988 amidst unshackling of the Indian economy. The company has a vast retail network comprising exclusive outlets, premium multi-brand and department stores – total presence of,1877 stores. Four of its brands are among India's top fashion names, with MRP sales in excess of INR10bn each. Brands Louis Philippe led the aspiration of fashion excellence, and provides its customers access to the finest in global fashion. Van Heusen is focused on empowering fashion ambitious professionals by partnering their career ambitions with power dressing. Allen Solly is for those looking for a smart fashion alternative. The brand pioneered the concept of Friday Dressing. Peter England, with its promise of honest-to-goodness prices, has emerged the favourite for a large mass of first time jobbers. Brand extensions to new categories, including sportwear, footwear, bags and accessories, has been at the core of Madura’s leadership position in its segments. Madura’s brands have also established strong roots in womenswear, and are getting popular in kidswear too. Recently, Madura brands ventured into innerwear segment with the launch of Van Huesen range of innerwear. The company also houses a range of other fashion formats – Planet Fashion, The Collective, Hackett London, Simon Charter and TrendIN. The company also has websites for each brand providing online shopping destination for the style conscious. It has been the company’s endeavour to proactively partner with the ever-evolving Indian fashion consumers. Portfolio of differnet brands/categories in kitty

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PEOPLE: It was launched in 2008 as a fashion brand offering international and fusion styles. Originally, a part of Peter England, PEOPLE was separated to develop its own distinct identity in 2009. It has 110 stores across 60 cities.



The Collective: One of its kind store, TheCollective is a super-premium retail concept known for its breadth of exclusive fashion. With over 100 of the world’s best fashion brands under one roof, it covers all wardrobe needs from formal to semi formals, to casuals and denim to active from iconic brands like Armani Jeans, Armani Collezioni, Versace Collection, Versace Jeans, Hugo Boss, True Religion, Vivienne Westwood, Lagerfeld to McQ Alexander McQueen and more. The extensive collection of accessories includes fashion watches, cufflinks, shoes, ties, belts, leather products, jewellery and sunglasses. The accessory brands repertoire includes marquee names such as Love Moschino, Tateossian, Michael Kors,Lulu Guinness,among others. Edelweiss Securities Limited

Retail •

Hackett, London: Hackett is a luxury British men’swear and accessories brand. Itis now represented in over 50 countries via a mix of own retail stores and concessions, franchise stores and top-end wholesale accounts, and represents the best of British men’s style worldwide. It ventured into India market via a joint venture with MF&L.



Simon Carter, London: Simon Cater is a London men’s wear brand known for apparel and accessories such as watches, cuff links, jewellery and luggage. ABFRL has enterd into a long-term licensing arrangement with the rights to design & manufacture.

Table10: Presence across segments Brand Segment People Fast Fashion Forever 21 Mid value to sub premium segment Peter England High sub premium to lower premium Allen Solly Lower to mid premium Van Heusen Mid Premium Louis Philippe High premium to lower super premium The Collective Lower super premium Hackett Lower super premium Simon Carter Super premium

Price range (INR) 199-1299 299-1599 560-1899 750-3499 999-4999 999-5900 NM NM NM

Source: Company, Edelweiss research

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Edelweiss Securities Limited

Aditya Birla Fashion and Retail What went wrong with Madura? Madura (the apparel business) was demerged from Aditya Birla Nuvo (AB Nuvo) into the company’s retail arm, PFRL (the retail business) to create a complete branded and retail play called ABFRL, which is an opportune bet on pure branded retail. Pre-merger, Madura registered impressive double-digit margin of ~12%. However, margin slumped 500bps YoY in Q3FY16 when the company declared consolidated quarterly numbers for the first time – owing to integration pangs, higher ad spends and slower revenue growth. Growth too slowed down to mere 7% YoY in FY16, slipping from the decent 23% YoY CAGR logged over FY05-15 primarily owing to overall slowdown in discretionary spends and heavy discounting by e-commerce companies. Likewise, SSG was also impacted moderately.

Chart 40: Margin dived impacted by high ad costs and sluggish sales 20.0 15.0 16.0

12.0

12.0

(%)

(%)

9.0 8.0

6.0 4.0

3.0 Q1FY17

Q4FY16

Q3FY16

Q2FY16

Q1FY16

Q4FY15

Q3FY15

Q2FY15

Q1FY15

0.0

0.0 FY11

Madura margins (%)

FY12

FY13

FY14

FY15

FY16

Madura margins (%) Source: Company, Edelweiss research

Chart 41: LTL sales growth fell significantly Madura LTL growth 35.0

Madura LTL growth

6.0 3.2

21.0

0.4

(%)

(%)

28.0

(2.4)

14.0

Q1FY17

Q4FY16

Q3FY16

FY16

FY15

FY14

FY13

FY12

FY11

Q2FY16

(8.0)

0.0

Q1FY16

(5.2)

7.0

Source: Company, Edelweiss research

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Edelweiss Securities Limited

Retail Apart from the general slowdown in discretionary spends, some of the key reasons which could have led to sharp dip in Madura’s growth and margins were as follows: A.

Sharp rise in discounting by online players Competitive intensity from online players has been rising significantly, especially in past 2 years. Discounts not only in apparels but in other segments too like mobile phones, consumer durables, etc., impact wallet share - the share of wallet that the consumer would have spent on apparel got spent on other discounted items. This phenomenon is called snacking where shift of wallet share happens. This impacted LTL growth of Madura. Besides, e-commerce has lifted the barrier of distribution and consumers have many options at click of a mouse and at discounted prices. During a tough discretionary environment, it is also possible that consumers would have down traded from a high priced branded player to a lower priced brand. Since Madura has decided to refrain from discounting and rather invest in brands, the company’s margins have come under pressure which has not been matched by commensurate increase in SSG.

B.

Slowdown in men’s formals market Madura has largest presence in men’s formal market with its 4 brands, viz., Louis Philippe, Van Heusen, Peter England and Allen Solly. These are strong brands in the men’s market and that too in the formal segment. However, ABFRL has reduced its reliance on the mainstream formal segment – down from 72% of total sales of Madura in FY10 to 55% in FY15. Growth in overall men’s formal market is one of the slowest when compared with other segments in apparel industry. As per company data, men’s formal market is expected to grow in the 10-15% range over next 10 years versus growth rates of 15% or 20% in other segments such as men’s casual, women’s western and ethic, kids and innerwear.

Table11: Men’s formals, slowest growing segment in apparel (%) 2014 2020E 2025E Mens formals 3.6 5 9 Mens casuals 1.4 5 12.5 Womens western 0.7 2.5 7.5 Womens ethnic 1.7 2.7 5.2 Kids 2.7 4.7 7 Innerwear 1.6 4.1 8.3

CAGR 2014-25E 10-15 20 20 15 15 15 Source: Industry

C.

Clutter in EBOs Another factor that could have resulted in softer LTL growth is the sharp expansion and huge network of EBOs. EBOs are important from a branding perspective and could be beneficial for the company once recovery kicks in. EBOs still have lot of penetration left in Tier II and III cities where there are fewer malls. However, in the metros and Tier 1 cities footfalls are present more in the MBOs and departmental stores compared to EBOs. Madura shut down 76 stores in Q1FY17, which acted as sub-brands. Total write off accounted on store closures was INR5-7mn. The company expects to close 40-50 stores over next 2-3 quarters. Going forward, growth of stores will also be calibrated (will add about 100 stores).

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Aditya Birla Fashion and Retail Chart 42: Madura hampered by >1,850 EBOs under operation

Madura EBOs

2,000

(Nos.)

1,600 1,200 800 400 0 FY10

FY11

FY12

FY13

FY14

FY15

FY16

Source: Company, Edelweiss research

D. Rising competition Competition is not only being offered by the online players, but entry of several international brands is also queering the pitch for ABFRL, along with increased aggression by some of the brands already present in India. Foreign brands like Zara, H&M, United Colors of Benetton, Tommy Hilfiger, U.S. Polo, etc., have also increased their presence in India and the pricing differential with Madura brands is also not too large – H&M, UCB, etc., are either at discount or only at a small premium to Louis Philippe. Other brands like Arrow, Raymond (Park Avenue, Color Plus) and Indian Terrain have also turned aggressive with pricing almost similar to or lower to Madura’s pricing. Thus, competition is rife arising from both online as well as offline channels. Pantaloons Post acquisition by Aditya Birla Nuvo in 2013, Pantaloons is today the fastest growing large format fast fashion retailer in India. The company’s rate of new store openings has increased from 1 every 2 months to 1 every 2 weeks. The brand is now present in 78 plus Indian cities/towns through 146 stores. The company offers a wide range of brands across apparel and non-apparel categories and price points. It operates across categories of casual wear, ethnic wear, formal wear, party wear and active wear for men, women and kids. Womenswear is the lead category contributing to approximately half of total apparel sales. Non-apparel products include footwear, handbags, cosmetics, perfumes, fashion jewellery and watches. Brands Pantaloons today retails over 200 licensed and international brands, including 24 exclusive brands. The Pantaloons exclusive brands bouquet includes Ajile, Akkriti, AltoModa, Annabelle, Bare Denim, Byford, Candie’s New York, Chalk, Chirpie Pie, Honey, Izabel London, Poppers, Rangmanch, Richard Parker SF Jeans, Trishaa and Urban Eagle. It also features brands licensed on long- term basis, namely, Bare, Rig, SF Jeans, Byford, JM Sports, Lombard and Candie’s New York.

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Retail It also hosts MF&L's brands such as Louis Philippe, Van Heusen, Allen Solly, Peter England and People in menswear; Van Heusen and Allen Solly in womenswear, and Allen Solly Junior. It retails partner brands such as John Miller, Celio, Spykar, Levis and Lee Cooper in menswear; Jealous 21, 109*F, AND, Chemistry and KRAUS in women's western wear; BIBA, Global Desi and W in women's ethnic wear; Barbie and Ginny & Jony in kidswear. Pantaloons also retails via TrendIN.com, the official online store launched by MF&L. The company’s products are also available on all other leading e-commerce portals. Pantaloons enjoys a loyal customer base of over 5mn (as of end-March 2016). Forever 21 Forever 21 Inc., headquartered in Los Angeles, California, is a fashion retailer of women’s, men’s and kids clothing and accessories and is known for offering the hottest, most current fashion trends at great value to consumers. Forever 21 is ranked as the 5th largest speciality retailer in the US. In India, ABFRL has entered into an MoU with Diana Retail to acquire exclusive online and offline rights to the global brand, Forever 21, for the Indian market and its existing store network in India from the current franchisee. The proposed acquisition is in line with ABFRL’s strategic intent to become the largest integrated branded fashion player in the country. With the acquisition of Forever 21’s India business, the company aims to have strong foothold in womenswear business in the western wear segment. The proposed acquisition will further strengthen ABFRL’s leadership position in branded fashion space.

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Management Overview Mr. PranabBarua, Managing Director: Mr.Barua, a 40 plus years veteran in the consumer and retail industry, is the Managing Director of ABFRL. Prior to taking over as MD, he was CEO of Trinethra Super Retail which was acquired by the AB Group in 2007. Previously, he worked in senior positions with Brooke Bond India, as Foods Director on the Hindustan Unilever Board, as Chairman and Managing Director of Reckitt Benckiser and as Regional Director, Reckitt Benckiser for South Asia. Mr.Barua holds a graduate degree in B.A. (English Honours) from St. Stephens College, New Delhi. Mr. Ashish Dikshit, Business Head, Apparel business: Mr. Dikshit has been elevated as head of the apparel business from the earlier role as head of the Madura business. Now having joined Madura, he has been with Aditya Birla Group for over 15 years. Prior to Madura, MrDikshit was employed with Asian Paints. He has worked across several functions in the business and headed its supply chain, marketing and sourcing functions over this period. He also worked as Principal Executive Assistant to the Chairman of the AB group for >3 years. He is an Electronics and Electrical Engineer from IIT-Madras and holds a Postgraduate Diploma in Management from IIM, Bangalore. Mr. Vishak Kumar, Business Head, Madura: Mr. Kumar was recently appointed as Head of Madura business. Earlier to this, Mr. Kumar was the CEO for Aditya Birla Retail and was responsible for spearheading supermarkets and hypermarkets. He has also held office as the COO of Louis Philippe at MF&L. He steered the brand towards becoming undisputed market leader in the premium men’s apparel segment, a position that he continues to enjoy. Mr. Kumar is an IIM, Bangalore alumnus and a computer engineer from BIT, Ranchi. Mr. Shital Mehta, Chief Executive Officer, Pantaloons: Mr. Mehta has been with the AB group since past 15 years. Earlier, he served as Chief Operating Officer of International Brands and Retail, MF&L and before that was brand manager for Godrej Foods. Mr Mehta is an MBA in marketing from SP Jain Institute of Management and Research and has attended advanced management programs at Wharton Business School. Mr. S. Visvanathan, Chief Financial Officer: Mr. Visvanathan joined the AB group in 2007 and since then has been with the Textile and Apparel business. He is also a member of the Management Committee of the Textile and Apparel business of the Aditya Birla Group. He has 26 years of experience across industries spanning white goods, capital equipment, electrical equipment and auto components. Prior to joining the AB group, he worked with the Tata Group in various capacities in the auto components business, Voltas and Allwyn (CFO). He is a commerce graduate from Chennai University and a qualified Chartered Accountant and Cost Accountant.

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Financial Outlook We estimate ABFRL to clock revenue CAGR of ~16.4% YoY over FY16-19 riding strong growth in Pantaloons (following sharp increase in store additions), recovery in Madura (aided by entry in fast-growing segments like men’s casuals, women’s casual, etc) and integration of Forever 21. EBITDA is expected to post ~29.2% CAGR over FY16-19E aided by recovery in margin of Madura and turnaround of Pantaloons. Consequently, ABFRL’s return ratios are expected to perk up—we estimate RoE to jump from 5.1% in FY16 to 24.1% in FY19. Robust revenue trajectory We forecast revenue to post 16% CAGR over FY16-19. Growth triggers include: 1) Pantaloons sound business (sturdy SSG, sharp store additions with plans to open 40-50 stores p.a.); 2) growth revival at Madura; 3) scale up of online business; 4) entry in segments beyond men’s formals like inner wear, men’s casuals, women’s casuals and accessories; and 5) integration of Forever 21.

Chart 43: Revenue and revenue growth for ABFRL 100,000 80,000

16.8

60,000

12.6

40,000

8.4

20,000

4.2

0

– Mr. Pranab Barua, MD, ABFRL

21.0

(%)

(INR mn)

“We are looking at improving profitability and reducing debt in the next three-four years. The debt will reduce by increasing profit and managing cash flows. We are looking at how to manage our cash better and use franchises for expansion instead of own capex and other things like managing our inventory, stock and capital better”

FY16

FY17E

Revenues

FY18E

FY19E

0.0

Revenue growth Source: Company, Edelweiss research

EBITDA and margin on gradual uptrend We estimate strong EBITDA CAGR of ~29% over FY16-19 driven by robust margin across segments. We estimate Madura’s margin to improve to 11.8% in FY19 from 9.1% in FY16. Spurt in ad spends and lower operating leverage had adversely impacted Madura’s margin earlier. We forecast Pantaloons’ margin to improve to 5.3% in FY19from 3.1% in FY16 led by operating leverage, better throughput and lower discounts by online compeition.

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Aditya Birla Fashion and Retail

9,000

10.0

7,200

8.0

5,400

6.0

3,600

4.0

1,800

2.0

(%)

(INR mn)

Chart 44: Robust EBITDA growth and improving EBITDA margins trajectory

0

FY16

FY17E EBITDA

FY18E

0.0

FY19E

EBITDA margins

Chart 45: Dissecting segment wise margins 15.0 12.0

(%)

9.0 6.0 3.0 0.0

FY16

FY17E

Pantaloons margins

FY18E

FY19E

Madura's margins Source: Company, Edelweiss research

Return ratios set to improve ABFRL, being a retail play, has high operating leverage. Steps to improve margin, throughput per outlet, augment franchise stores, among others, will lend impetus to return ratios and improve cash flows. Focus on increasing inventory turns by improving the value proposition and higher number of fashion seasons will help improve the working capital cycle. Hence, we forecast consolidated RoCE to catapult to 17.5% in FY19from 3.2% in FY16.

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Retail Chart 46: Consolidated RoCE to improve from 3.2% in FY16 to 17.5% by FY19E 29.0 19.2

(%)

9.4 (0.4) (10.2) (20.0)

FY16

FY17E RoCE

FY18E

FY19E RoE Source: Edelweiss research

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Annexure I SWOT Analysis Strengths



ABFRL enjoys leadership in the Indian apparel market with a portfolio of established brands and large format fashion retail presence. The company caters to consumers across all segments, from luxury to value, straddling men, women and kids in the formal and casual space.



It is on track to achieve omni channel presence through rapid ramp up on e-commerce platform.



Developed strong product portfolio based on high quality, constant innovation, strong internal design setup, large deep distribution network and an agile & robust supply chain system.



State-of-art manufacturing facilities ensure highest standards of product quality.



ABFRL has a strong system that nurtures talent ably supported by robust people development processes, mentoring and employee engagement programmes.

Weaknesses



Relatively low presence in western women’s wear, casual wear, denims and kids-wear segments.

Opportunities



Rising incomes, favourable demographics, increasing disposition towards fashion, greater access and awareness about brands will enable a shift towards branded fashion across the country.



Immense growth opportunties in Tier 2/3 cities which remain under-penetrated with respect to. brands and organised retailers. Gauging such humungous opportunity, ABFRL is strategically focussing on expanding in these geographies.



The emerging e-commerce channel also opens up opportunities for the branded apparel business to reach out to a large base of consumers.



Rising opportunities in super-premium segment as more affluent consumers seek international brands and global experiences.

Threats

57



Retail space in India is limited to key markets and few successful malls.



Share of online business is growing rapidly and traditional channels of distribution are reeling under pressure.



There’s a threat to its talent pool from competition and increasingly from new international players and e-commerce companies in the industry.

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Annexure II Brand creation: Not a cake walk Brand creation is an important factor in the success of any B2C company. As per Nielsen, >99.9% of the brands that are launched in India fail. For instance, 16,914 products across 80 FMCG categories including food, personal care, household care, over-the counter products and soft drinks have been launched in the FMCG category since 2012 and only 0.14% or 2223 launches were successful. Findings of this data related to the consumer goods segment can also be extrapolated to other segments like retail, apparel, consumer durables, etc.

Table12: Successfulbrands Brand Kurkure Puffcorn Fab! Godrej Expert Rich Crm Skore Tresemme Superia Silk Lifebuoy Clini Care Juzt Jelly All Out Ultra Pepsodent Triple Clean Colgate Super Shine Spicy 1 2 Choco Eclairs Londonberry Benadryl Congestion Relief) Parachute Deep Nourish Cerelac Shishu Aahar Panasonic Special Streax Sensodyne Pepsodent Expert Protection Rin Ala Fabric Whitener

Mother Brand Kurkure Parle Hide & Seek Godrej Expert Rich Crm Skore Tresemme Superia Lifebuoy Alpenliebe All Out Pepsodent Colgate Alpenliebe Alpenliebe Parle Benadryl Parachute Cerelac Panasonic Streax Sensodyne Pepsodent Rin

Company Frito Lay India Parle Godrej Consumer Goods TTK- PDL HUL ITC HUL Perfetti Van Melle SC Johnson HUL Colgate Perfetti Van Melle Perfetti Van Melle Parle Prod Johnson & Johnson Marico Inds. Nestle India Panasonic Battery Ind. Hygienic Research Institute Glaxo SmithKline HUL HUL

Category Salty Snacks Biscuits Hair Dyes Condoms Shampoos Toilet Soap Toilet Soaps Toffee Mosquito Repellant Toothbrush Toothbrush Toffee Eclairs Toffee Cough Syrup Skin Creams Baby Foods Batteries Fragrance Tooth Brush Tooth Pastes Blues Source: Nielsen

Thus, not only is the success of a brand important it is also crucial that it achieves some scale. In the list of successful big brands drawn up by us from different sectors of consumer goods and consumer durables, there is no brand that has become significantly big in the past 5 years.

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Aditya Birla Fashion and Retail Table13: Some big brands in FMCG sector Brands Brooke Bond (INR20bn+) Dabur Amla (INR10bn+) Parle G (INR50bn+) Fair & Lovely (INR20bn+) Maggi (INR20bn+) Good Knight (INR15bn+) GoodDay (INR 20bn+) Bajaj Almond Drop Parachute (INR20bn+) Dabur Vatika (INR10bn+) Real (INR10bn+) Godrej No. 1 (INR10bn+) and Cinthol (INR5bn+) Lifebuoy (INR20bn+), Lux (INR10bn+), Dove (INR10bn+), Clinic Plus (INR10bn+) and Pears (INR5bn+)

Surf Excel (INR20bn+), Active Wheel (INR20bn+) and Rin (INR20bn+) Aashirvaad (INR20bn+) Sunfeast (INR20bn+) Classmate (INR10bn+) Patanjali (INR40bn+) Bingo (INR10bn+)

Year founded 1903 1940 1974 1975 1982 1984 1987 1989 1990 1995 1996 Cinthol 1952 No1 1922 Pears 1902 Lux 1905 Lifebuoy 1865 Dove 2004 Clinic 1971 Rin 1969 Surf Excel 1959 2002 2003 2003 2006 2007

Company HUL Dabur Parle HUL Nestle GCPL Britannia Bajaj Corp Marico Dabur Dabur GCPL

Category Tea Heavy amla hair oil Biscuits Fairness cream Instant Noodles Household Insecticide Biscuits Light hair oil Branded Coconut Oil Hair care Fruit Juice Soaps, facewash, deodorant

Market position Market leader in the tea category Market leader in heavy amla hair oil with 55-60% market share Market leader in the glucose segment Market leader in the fairness cream category Market leader in instant noodle category Market leader in household insecticides category Market leader in the cookies segment Market leader in light hair oil market with 60% market share Market leader with ~57% market share (alongwith Nihar) Presence in hair oil, shampoos, conditioner, creams, gels Market leader in fruit juice and nector category with 60% market share No.2 player in personal wash category after HUL

HUL

Soaps and shampoos

Market leader in the soaps and shampoos category

HUL

Detergents

Market leader in the detergent category

ITC ITC ITC Patanjali ITC

Wheat flour Biscuits Organised notebook Various categories Package snacks

Market leader in branded atta segment with ~75% share No 3 player in biscuits (leader in the creams category) Market leader in organised note book market with ~20% market share Became 5th largest consumer goods company in India in a short span No 2 player in package snack market with 15-16% market share

Source: Companies, Edelweiss research

Table 14: Some big brands in consumer durable sector Brands Year founded Company Category Crompton 1878 Crompton Manufacturing, and marketing of Greaves Greaves products related to power generation, transmission, and distribution Blue Star 1943 Blue star Various businesses ranging from engineering, electronic to infotech Voltas 1954 Voltas Home appliances and engineering Prestige 1955 TTK Prestige Kitchenware Havell's 1958 Havells India Electrical equipment Hawkins

1959

Bajaj

1960

Symphony

1988

Hawkins cookers Bajaj Electricals Symphony

Kitchenware Electrical equipments Residential and industrial coolers

Market position Amongst the top consumer electrical goods brand in India Among the Top companies in AC and refrigeration No 1 player in air conditioning Top kitchen ware brand Amongst the top consumer electrical goods brand in India Top kitchen ware brand Amongst the top consumer electrical goods brand in India No 1 air cooler brand in India Source: Companies, Edelweiss research

From the above data, it is evident that brand evolution takes time. Only few brands in the recent past have become significantly big. Some of them include Patanjali (started in 2006), Bingo (from ITC, started in 2007), etc.However, if we look at e-commerce and startups space there are a few brands that have gained significant scale in a short time. However, brand creation gained immense support from substantial funding from the PE players, whose funds were spent in disproportionate manner towards brand building and client acquisition. This amply supports our thesis that gaining size and scale is not a cake walk. But ABFRL’s Madura has through its prudent branding and branch presence achieved the same, the benefit of which it is yet to be leveraged fully.

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Annexure III Table 15: Financial snapshot of branded apparel companies FY10 FY11 Power brands of Arvind Revenues (INR mn) 2,970.0 4,770.0 EBITDA (INR mn) 220.0 460.0 EBITDA margins (%) 7.4 9.6 Indian Terrain Revenues (INR mn) NA 1,211.1 EBITDA (INR mn) NA 124.1 EBITDA margins (%) NA 10.2 Kewal Kiran Revenues (INR mn) 1,863.1 2,449.6 EBITDA (INR mn) 569.2 686.9 EBITDA margins (%) 30.6 28.0 Zodiac Standalone business Revenues (INR mn) 2,659.0 2,808.8 EBITDA (INR mn) 191.9 316.9 EBITDA margins (%) 7.2 11.3 Madura business Revenues (INR mn) 12,510.0 18,110.0 EBITDA (INR mn) (40.0) 1,360.0 EBITDA margins (%) (0.3) 7.5

FY12

FY13

FY14

FY15

FY16

7,590.0 720.0 9.5

9,190.0 960.0 10.4

11,850.0 1,370.0 11.6

13,340.0 1,520.0 11.4

16,040.0 2085.2 13.0

1,415.6 130.5 9.2

1,567.8 157.7 10.1

2,320.6 244.6 10.5

2,904.1 343.0 11.8

3,251.0 462.3 14.2

3,136.8

3,151.6

3,665.7

4,083.2

4,573.5

733.6 23.4

736.6 23.4

934.1 25.5

965.1 23.6

1,040.8 22.8

3,080.8 124.1 4.0

3,076.3 173.8 5.6

3,485.1 258.9 7.4

3,250.1 221.0 6.8

22,430.0 1,960.0 8.7

25,230.0 2,450.0 9.7

32,260.0 3,880.0 12.0

37,350.0 4,630.0 12.4

3,027.6 69.3 2.3 39,964.1 3,650.3 9.1

Source: Companies, Edelweiss research

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Aditya Birla Fashion and Retail

Annexure IV Online disruption to wane gradually The government has taken note of the disruption that PE backed online players are creating in the retail market. It recently issued new rules pertaining to FDI in the market place model, which restricts discounting from the money given to online players by PE players. Some other key points in the new guidelines on e-commerce (which allowed 100% FDI in ecommerce (B2C) category) include: •

No group company or seller in a marketplace can contribute >25% of the sales generated.



Marketplaces cannot influence product prices of sellers listed on their portal.



Sellers listed on the platform of marketplace will now have to take responsibility of quality of goods and after sales support.



Name of seller needs to be mentioned online on the marketplace on their portals.

Restricting e-commerce companies from directly or indirectly influencing sales prices of goods on online marketplaces would mean no heavy discounting. This restriction will prompt e-commerce platforms to broad base their seller base in real sense too. On-line retailers are also now talking about profitability as they are facing cash crunch since new infusion from PE players will happen only once these retailers start to show / focus on bottom lines and returns on their investments. There have been various developments in the e-commerce space, which shows discounting, valuations, employees count, etc., are correcting in e-commerce companies, which justifies online discounts falling and rationalising. •

Fashion retailers like Myntra and Jabong have already started cutting discounts. As per Myntra’s CEO, the company initially reduced its discount offerings by 6% in Q3FY16 and going forward it plans to further cut it by 3-4%.



Myntra plans to enter the USD60bn online apparel and accessories market in the US and has set up a subsidiary, MyntraInc, US to increase its presence.



According to Foodpanda CEO, the company will be profitable by FY18-19.



Morgan Stanley Fund, an investor in Flipkart, reduced Flipkart’s valuation from USD15.2bn to USD11bn, marking down per share price from USD142.24 to USD103.97. Similarly, Fidelity Strategic Advisors Growth and Valic Co, which also own Flipkart shares, have marked down their holdings in the company by 27% and 13%, respectively. To maintain its top market share in India versus the US based Amazon and domestic rival, Snapdeal, it needs to shore up more capital. But, with such reduction in valuations it will be difficult for the company to justify its high valuations.

Thus, it is evident that discipline in online platform is imperative. Now, with omni channel presence and increasing focus on online space, ABFRL is poised to benefit from that channel too.

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Financial Statements Key assumptions Year to March FY16 GDP(Y-o-Y %) 7.4 Inflation (Avg) 4.8 Repo rate (exit rate) 6.8 USD/INR (Avg) 65.0 Company Assumptions Revenue growth (Y-o-Y %) Revenue growth Pantaloon 17.0 Revenue growth Madura 7.0 SSSG growth - Pantaloon (%) 5.9 SSSG growth EBOs - Madura (%) Net Store addition - Pantaloon 28.0 Net Store addition - Madura 142.0 Forever 21 (revenue growth %) 23.0 EBITDA margin assumptions Pantaloons - COGS as % of sales 55.9 Madura - COGS as % of sales 39.4 Pantaloons - EBITDA as % of sales 3.1 Madura - EBITDA as % of sales 9.1 Financial assumptions Tax rate (%) Debtor days 25 Inventory days 165 Payable days 86 Cash conv. cycle (days) 104 Depreciation as % of gross block 20.1 Capex (INR mn) 11,078

FY17E 7.9 5.0 6.0 67.5

FY18E 8.3 5.2 6.0 67.0

FY19E 8.5 5.5 6.0 67.0

22.3 2.7 12.0 (2.0) 38.0 80.0 22.1

25.3 8.3 15.0 3.5 43.0 120.0 37.5

22.8 9.6 15.0 5.0 43.0 100.0 37.7

55.0 38.5 4.3 9.1

54.9 38.3 4.8 10.7

54.5 37.8 5.7 12.2

20.0 22 171 85 108 14.1 4,316

20.0 21 167 84 104 13.2 3,123

20.0 19 164 83 99 12.6 3,173

Income statement Year to March Total operating income Cost of materials Gross profit Employee costs Rental costs Other expenses EBITDA Depreciation EBIT Add: Other income EBIT incl. other income Less: Interest Expense Profit before tax Reported Profit Adjusted Profit No. of Shares outstanding (mn) Adjusted Basic EPS No. of Dil. shares outstand. (mn) Adjusted Diluted EPS Adjusted Cash EPS Tax rate Common size metrics (%) Year to March Cost of materials Employee costs Rental costs Other expenses Depreciation Net interest expenditure EBITDA margins EBIT margin Net profit margin Growth metrics (%) Year to March Revenues EBITDA PBT Adjusted Profit EPS

62

FY16 60,601 27,549 33,051 5,969 6,479 16,635 3,968 3,380 588 120 707 1,749 (1,041) (1,041) (1,041) 769 (1.4) 769 (1.4) 3.0 -

FY17E 70,720 32,000 38,720 6,704 8,055 19,047 4,913 2,490 2,423 43 2,466 1,844 621 497 497 769 0.6 769 0.6 3.9 20.0

FY18E 82,046 37,452 44,594 7,728 9,293 21,111 6,462 2,820 3,642 20 3,662 1,790 1,872 1,498 1,498 769 1.9 769 1.9 5.6 20.0

(INR mn) FY19E 95,552 43,755 51,797 8,715 10,638 23,893 8,551 3,097 5,454 15 5,469 1,551 3,918 3,134 3,134 769 4.1 769 4.1 8.1 20.0

FY16 45.5 9.8 10.7 27.5 5.6 2.9 6.5 1.0 (1.7)

FY17E 45.2 9.5 11.4 26.9 3.5 2.6 6.9 3.4 0.7

FY18E 45.6 9.4 11.3 25.7 3.4 2.2 7.9 4.4 1.8

FY19E 45.8 9.1 11.1 25.0 3.2 1.6 8.9 5.7 3.3

FY16 227.4 445.8 NM NM NM

FY17E 16.7 23.8 NM NM NM

FY18E 16.0 31.5 201.3 201.3 201.3

FY19E 16.5 32.3 109.3 109.3 109.3

Edelweiss Securities Limited

Aditya Birla Fashion and Retail Balance sheet As on 31st March Share capital Reserves & surplus Shareholders funds Long term borrowings Short term borrowings Total Borrowings Long term liabilities & prov. Sources of funds Gross Block Net Block Capital work in progress Intangible Assets Total Fixed Assets Cash and cash equivalents Inventories Sundry debtors Loans & advances Other Current Assets Total Current Assets (ex cash) Trade payable Other Current Liab. & ST Prov. Total Current Liabilities & Prov. Net current assets (ex cash) Uses of funds Book value per share

FY16 7,731 1,706 9,437 6,766 11,727 18,493 82 28,012 15,550 4,822 254 18,395 23,471 203 13,881 3,909 4,464 257 22,511 14,367 3,805 18,172 4,339 28,012 12.3

Free cash flow As on 31st March Reported Profit Add: Depreciation Interest (Net of Tax) Others Less:Changes in WC Operating cash flow Less: Capex Free cash flow

FY16 (1,041) 3,380 1,749 (94) 3,482 511 11,078 (10,566)

FY17E 7,728 2,203 9,931 8,500 12,060 20,560 82 30,573 19,866 6,647 254 18,395 25,296 12 16,068 4,592 4,481 259 25,400 16,331 3,805 20,136 5,264 30,573 12.9

FY18E 7,728 3,700 11,428 8,250 11,500 19,750 82 31,261 22,989 6,950 254 18,395 25,598 191 18,246 4,820 4,499 262 27,827 18,551 3,805 22,356 5,471 31,261 14.9

(INR mn) FY19E 7,728 6,835 14,563 7,000 9,935 16,935 82 31,580 26,161 7,026 254 18,395 25,674 6 20,978 5,121 4,517 264 30,880 21,175 3,805 24,980 5,900 31,580 18.9

FY17E 497 2,490 1,475 326 926 3,863 4,316 (453)

FY18E 1,498 2,820 1,432 338 207 5,881 3,123 2,759

FY19E 3,134 3,097 1,241 296 429 7,339 3,173 4,166

Cash flow metrics As on 31st March Operating cash flow Financing cash flow Investing cash flow Change in cash Capex

FY16 511 10,422 (10,991) (57) 11,078

FY17E 3,863 219 (4,273) (191) 4,316

FY18E 5,881 (2,600) (3,102) 179 3,123

FY19E 7,339 (4,366) (3,158) (185) 3,173

Ratios As on 31st March ROAE (%) ROCE (%) Debtor days Inventory days Payable days Cash conversion cycle (days) Current ratio Gross Debt/EBITDA Gross Debt/Equity Adjusted debt/equity Net Debt/Equity Interest coverage (x)

FY16 (16.2) 3.2 25 165 86 104 1.2 4.7 2.0 2.0 1.9 0.3

FY17E 5.1 8.4 22 171 85 108 1.3 4.2 2.1 2.1 2.1 1.3

FY18E 14.0 11.9 21 167 84 104 1.3 3.1 1.7 1.7 1.7 2.0

FY19E 24.1 17.5 19 164 83 99 1.2 2.0 1.2 1.2 1.2 3.5

Operating ratios As on 31st March Total asset turnover Fixed asset turnover Equity turnover

FY16 2.7 3.1 9.4

FY17E 2.4 2.9 7.3

FY18E 2.7 3.3 7.7

FY19E 3.0 3.8 7.4

FY16 (1.4) NM 3.0 (109.5) 12.1 2.2 33.3

FY17E 0.6 (147.7) 3.9 229.4 11.5 1.9 27.4

FY18E 1.9 201.3 5.6 76.1 10.0 1.6 20.7

FY19E 4.1 109.3 8.1 36.4 7.8 1.4 15.3

Valuation parameters As on 31st March Adjusted Diluted EPS (INR) Y-o-Y growth (%) Adjusted Cash EPS (INR) Diluted P/E (x) Price to Book Ratio (P/B) (x) Enterprise Value / Sales (x) Enterprise Value / EBITDA (x)

Peer comparison valuation Market cap Name

EV / EBITDA (X)

EV / Sales (X)

ROAE (%)

(USD mn)

FY17E

FY18E

FY17E

FY18E

FY17E

1,678

27.4

20.7

1.9

1.6

5.1

14.0

462

16.2

12.7

0.8

0.7

(5.3)

(2.1)

Jubilant Foodworks

1,072

24.0

18.2

2.6

2.2

13.9

16.5

Titan Company

5,172

26.6

21.3

2.8

2.4

23.8

25.7

343

19.7

15.2

7.9

6.8

14.3

15.4

Aditya Birla Fashion and Retail Shoppers Stop

Wonderla Holidays

FY18E

Median

-

21.9

16.7

2.7

2.3

14.1

16.0

AVERAGE

-

21.6

16.8

3.5

3.0

11.7

13.9

Source: Edelweiss research

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Additional Data Directors Data Mr. PranabBarua Mr. Sushil Agarwal Ms. SukanyaKripalu

Managing Director Non-Executive Director Non Executive - Independent Director

Mr. ArunThiagarajan Mr. Bharat Patel

Non Executive - Independent Director Non Executive - Independent Director

Auditors - M/s SRBC & Co LLP *as per last annual report

Top 10 holdings Perc. Holding Life Insurance Corp Of India

Perc. Holding

4.11

Templeton Asset Mgmt

3.53

Reliance Capital Trustee Co Ltd

1.16

Franklin Resources

0.80

India Opportunities Growth

1.57

Tata Asset Management Ltd

1.34

Hsbc Holdings Plc

1.23

Dimensional Fund Advisors Lp

1.06

Bnp Paribas

0.68

Camden Industries Ltd

0.42

*as per last available data

Bulk Deals Data

Acquired / Seller

B/S

Qty Traded

Price

No Data Available

*in last one year

Insider Trades Reporting Data

Acquired / Seller

B/S

Qty Traded

No Data Available

*in last one year

64

Edelweiss Securities Limited

RATING & INTERPRETATION

Company

Absolute

Relative

Relative

reco

reco

risk

HOLD

SU

H

Jubilant Foodworks

Shoppers Stop

BUY

SP

L

Titan Company

Wonderla Holidays

BUY

SO

M

Future Retail

Company

Absolute

Relative

Relative

reco

reco

Risk

HOLD

SP

M

BUY

SP

L

ABSOLUTE RATING Ratings

Expected absolute returns over 12 months

Buy

More than 15%

Hold

Between 15% and - 5%

Reduce

Less than -5%

RELATIVE RETURNS RATING Ratings

Criteria

Sector Outperformer (SO)

Stock return > 1.25 x Sector return

Sector Performer (SP)

Stock return > 0.75 x Sector return Stock return < 1.25 x Sector return

Sector Underperformer (SU)

Stock return < 0.75 x Sector return

Sector return is market cap weighted average return for the coverage universe within the sector

RELATIVE RISK RATING Ratings

Criteria

Low (L)

Bottom 1/3rd percentile in the sector

Medium (M)

Middle 1/3rd percentile in the sector

High (H)

Top 1/3rd percentile in the sector

Risk ratings are based on Edelweiss risk model

SECTOR RATING Ratings

Criteria

Overweight (OW)

Sector return > 1.25 x Nifty return

Equalweight (EW)

Sector return > 0.75 x Nifty return

Underweight (UW)

Sector return < 0.75 x Nifty return

Sector return < 1.25 x Nifty return

65

Edelweiss Securities Limited

Retail Edelweiss Securities Limited, Edelweiss House, off C.S.T. Road, Kalina, Mumbai – 400 098. Board: (91-22) 4009 4400, Email: [email protected] Manoj Bahety Deputy Head Research [email protected]

Coverage group(s) of stocks by primary analyst(s):Retail Future Retail, Jubilant Foodworks, Shoppers Stop, Titan Company, Wonderla Holidays

Recent Research Date

Company

Title

Price (INR)

06-Aug-16

Retail

Q3CY16: Lip smacking for Yum; Sector Update

03-Oct-16

Retail

Launch Pad: Awaiting innovation elixi; Sector Update

30-May-16

Jubilant Foodworks

Inline show amidst static growth trajectory; Result Update

1,023

Recos

Hold

Distribution of Ratings / Market Cap Rating Interpretation

Edelweiss Research Coverage Universe

Rating Distribution* * -stocks under review

Buy

Hold

158

59

> 50bn

Rating

Total

12

229

Between 10bn and 50 bn

< 10bn

156

62

11

Expected to

Buy

appreciate more than 15% over a 12-month period

Hold

appreciate up to 15% over a 12-month period

Reduce

depreciate more than 5% over a 12-month period

One year price chart

175 160 145 130 115

Oct 16

Oct 16

Sep 16

Sep 16

Aug 16

Aug 16

Jul 16

Jul 16

Jun 16

Jun 16

May 16

100

May 16

(INR)

Market Cap (INR)

Reduce

Aditya Birla Fashion & Retail

66

Edelweiss Securities Limited

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