Titan Industries: Fine print ::CLSA

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Fine print
Titan’s FY11 annual report highlights a strong year with sales growing
40%, PAT 72% and FCF 249%. Volumes in the watches business
remained healthy while jewellery saw grammage growth recover after
stagnation in FY09-10. Margin performance was driven by gross margin
expansion. Cash generation was boosted by a 142% increase in sundry
creditors to Rs17.5bn (OCF of Rs10.6bn). Whilst Titan continues to focus
on profitable growth, the outlook in jewellery is clouded by high diamond
prices, excise duty on branded jewellery and competitive pressure on
GoldPlus. We continue to see the valuation as stretched. Retain SELL.
Strong top and bottom line performance in FY11
Titan saw volume growth of 23% in watches and 9% in jewellery pieces.
Whilst realisations in watches were up 1%, jewellery saw a 27% increase,
helped by a 50%+ increase in studded jewellery and rising gold prices.
Grammage in jewellery increased 14% after two stagnant years in FY09-10.
Rising gross margins helped Ebitda margins expand 51bps despite rising costs
while high other income and falling interest costs boosted PAT growth to 72%.
Strong cash generation, boosted by jump in creditors
Cash flow from operations grew 245% to Rs10.6bn, boosted by Rs6bn of
inflow from working capital. Whilst inventory days saw a modest uptick, this
was more than offset by a 1200+bps increase in current liabilities/sales as
sundry creditors jumped 142% to Rs17.5bn. Capex remained modest at
Rs0.7bn and FCF was Rs9.9bn. Looking ahead, we do not the pace of
expansion in creditors to persist and forecast more modest cashflows in FY12.
Focus on growth continues but jewellery prospects clouded
Titan continues to focus on profitable growth through retail expansion across
segments, new collections and products as a continuing focus on studded
jewellery. However, the annual report highlights challenges in the jewellery
segment: diamond prices have risen 90% between Dec-10 to April-11 and
Titan is sacrificing gross margins to support sales; the 1% excise duty on
branded jewellery is not being levied on even large local jewellery; GoldPlus is
facing competitive pressures from local jewellers becoming aggressive.
Valuations stretched, retain SELL
While we remain fans of Titan’s strong franchise and capital discipline, we
believe that the sharp rerating the stock has seen over the past year is
unlikely to sustain as revenue growth moderates, earnings upgrades come to
an end and risks of earnings cuts come to the fore. Retain SELL with a price
target of Rs183.5 (24x FY13 PE), 19% downside. While strong festive
jewellery sales may help 1Q growth, margin pressures should be visible