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Despite strong revenue and profit growth and rising margins, textile player Sudar Garments' business carries risks that render its Initial Public offer unattractive. At the upper end of its price band of Rs 72-77, the offer is valued at 17.6 times the annualised FY-11 earnings on a post-issue equity, a premium to larger peers such as Bang Overseas and Mandhana Industries. The challenges are in the form of execution risks to its retail ambitions, client concentration, increased credit sales and small scale of operations.
Background
Sudar makes garments for men, women and children for the export and domestic markets. Products are sold to the wholesale market, while a portion is routed through its own brand via multi-brand outlets. The company has a manufacturing unit with an annual capacity of 20 lakh garments. About Rs 26.3 crore from the issue proceeds of Rs 70 crore (upper end of price band) will fund the addition of a second plant .
Sudar relies heavily on a small group of customers — over 95 per cent of revenues in the past two years came from six clients. Slippage in demand from any of these clients could dent revenues. Further, debt receivables increased to Rs 30.1 crore at end-September 2010 from the Rs 3.14 crore at end-March 2008, and their conversion into cash shot up to 222 days from 132 days . Such a lengthening of credit period squeezed the cash flows even as the company improved inventory churn. The company has had negative operating cash flows in three of the past five years.
Retail risks
About Rs 5.9 crore of the issue proceeds are earmarked for building its in-house brand — ‘Glory to Glory' — in the domestic market, launching two ‘St Paul' and ‘Majestic', and expanding its retail store network. The company plans to open 25 stores, of which 15 will be on a franchise basis. The remaining ten will be company-owned, all in Chennai city. Such a concentration triggers risks of cannibalisation, apart from restricting market reach. Locations for the franchise stores are yet to be fixed.
The existing brand does not evoke much recall. Targeted as the new brands are at the young menswear market, they compete with the clutter of far more established brands Rs 27.3 crore of the issue proceeds will fund working capital.
Revenues grew at a three-year compounded annual rate of 88 per cent to Rs 52.8 crore in FY-2010, while net profits grew from Rs 11 lakh to Rs 4.1 crore. Operating margins improved from 6 to 17 per cent on controls in manufacturing costs, even as raw material costs increased. Net margins moved from 1 to 8 per cent in the same period. High cotton prices that are ruling now may pressure margins, since the company is entirely reliant on external suppliers of fabric and does not hold much pricing power.
The issue is open from February 21 to 24.
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