Welspun India’s (WLSI’s) Q3FY18 revenue, at Rs 14.0 bn (4% above estimate), fell 7% y-o-y impacted by customer destocking and reduced incentives post GST. While lower cotton prices supported gross margins, Ebitda margin improved a mere 40bps q-o-q to 18.1% (est: 20.5%) impacted by operating deleverage. Management mentioned, over long term Ebitda margin of 20% is sustainable. As we introduce FY20e, we build in 6/10% improvement in revenue/PAT and believe all concerns about growth and margins are factored in our expectations. Rolling forward, we maintain our target EV/Ebitda multiple of 7.0x, giving us a TP of Rs 84 (Rs 83 earlier). Maintain Buy.
Sector headwinds continue to impact; outlook improving
Revenue, at Rs 14.0 bn, fell 7% y-o-y (10% dip in Q2FY18). Half the decline was on account of volume drop due to customer destocking, with the balance impacted by the change in rates on duty drawback and ROSL post GST. Management stated that industry scenario remains challenging, but things would start improving from Q1FY19 as they believe current share of online in home textiles in the US has peaked. Also, WLSI’S product category remains relatively insulated from this shift. Ergo, they remain confident of double digit revenue growth in FY19. We are building in 8% volume growth for FY19, on a lower base, and expect this to moderate to 6% in FY20. The traction in the domestic business continues as it reported strong growth this quarter also.
Margin improvement below expectation
As expected, gross margins improved by ~400bps q-o-q to 51%. However, falling revenue led to operating deleverage due to which Ebitda margin improved only 40bps q-o-q to 18.1%. Mgmt mentioned over long term business could sustain 20% Ebitda margins. We also build in 21% Ebitda margins for FY19 and FY20.
Outlook and valuations: negatives factored in; retain ‘BUY’
Factoring in the miss in the quarter and the revised Ebitda margin expectation, we revise our FY18/19e EPS by 15/11%. As we introduce FY20e, we build in 6/10% improvement in revenue/PAT and believe all concerns related to growth and margins are factored in our expectations. Rolling forward, we maintain our target multiple of 7.0x EV/Ebitda, giving us a target price of Rs 84.
Raw material risk: Raw material costs, primarily cotton yarn, account for 50% of the overall expenses and are a prime driver of profitability. Volatility in cotton prices can impact profitability.
Currency fluctuations: Welspun exports more than 90% of its production. With a network spanning 50 countries, the company is exposed to currency fluctuations which can significantly impact profitability.
Egyptian cotton issue: Egyptian cotton products manufactured by WLSI came under the scanner when Target cut ties with the company. Any further customer issues will be a negative for the company.