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Friday, June 17, 2016

The Microcap Multibaggers(Extension of previous post)

"The quintessential 8 para to know everything about your desired microcap". Let's run:

1)Quote:This is not a fresh stock idea but an extension of the previous post. The intention is to have a detailed coverage of those 5 companies. The desi cloud player one was already long done. Today's note pertains to the 3rd company of the previous post. Indebted to dearest brother Bhaumik for his assistance and scuttlebutt.Its been on a good ride since few days for reasons not known to me. Its an expensively valued stock for sure at present levels( been an expensive stock always yet a 5 bagger in last few quarters).Oh yah, Damn! Trying the SEBI compliant way of penning again.

2)Story: 1200 cr Group based out of Kochi – their flagship company is E.Condiments (into spices and curry) with 900 cr. revenue – held 74% by promoters and 26% by Mccormick (US based Fortune 1000 company that manufactures spices, herbs, flavourings). Other group companies are ET(tyre retreading), E.Mattress (beddings with Sunidhra brand) Eastea (into teas), King Richards (garments). There are no cross holdings among group companies. ET is the only listed company and it’s likely to remain such. No plans of listing E.Condiments. 

3) ETs revenue mix – 70% open market, 26% SRTC (state road transport companies) and 4% exports. Gross margin are 26%, 35%, 38% respectively. Debtor days are 40-60 days, 90 days and 90 days with L/C respectively. CVs constitute 96% of revenue and 4% comes from PVs.Retreading is gaining traction led by improving awareness, brand creation by players like ET, Indag etc. and cost consciousness for fleet owners. A new truck tyre costs 20k, while retreaded tyre costs 5k and has 80% life of new tyre. Value chain – fleet owners give tyres to dealers/retreaders, who in turn procure retreading material from players like ET and do the retreading and give it back to fleet owners.Most retreaders in the market are non-exclusive i.e. they work for all players.Pre-cured retreading is used for CVs, PVs, etc. while hot retreading is used for OTRs, mining vehicles etc. which run on hard surfaces and required more strenuous working.Globally too hot and pre cured retreading technologies are used. There hasn’t been any material change in technology over many years.

4)50% of replacement demand is met by retreaded tyres in India. Globally that is much higher – in US it is 80% retreaded tyres. Gradually India will move higher towards retreaded tyres as awareness of its benefits increases and also these are environmentally more efficient. So over time share of retreaded tyres will go up.Retreading industry in India is a 3200 cr. industry – 50% organized – organized growing at 10% volume growth. This growth is likely to sustain with some gradually shift from unorganised segment. GST can provide a fillip to this shift. ETs volume growth in FY16 was 10%.Apollo,MRF etc are looking to enter retreading space – but they don’t see this as a threat. One these guys have a conflict as they also sell tyres and secondly it’s too small an industry for them. However, globally there is a big retreading market but it’s also a very matured. India will take years for tyre OEMs to look at this industry meaningfully.

5)They are in the process of changing their distribution network from only distributors to a mix of distributors and exclusive franchisees. In FY16, 10% of revenue came through franchisees in FY16 (6% in FY15) and they expect it to go up to 40% in FY17. They currently have 46 franchisees and will keep adding these. The advantage is they can charge higher prices by 15-20% through exclusive franchisees and also save on channel margin. This results in 5% higher gross margin. For instance, earlier Midas was selling at 140/kg and ET at ET is able to sell at 170/kg. Elgi Rubber currently follows this model of exclusive franchisees. While Indag was following this model but moved to distributor model as they found it difficult to scale it up. In franchisee model the other benefits are there is good brand loyalty and they can control the entire ecosystem and ensure better sales and servicing. However, scalability is an issue which ET is trying to address through ensuring focus on each franchisee and incentivising franchisees by ensuring minimum business etc.

6)They also have 2 retreading centres in Chennai and Bangalore which showcase retreading process and also act as brand centres. They also have Infinity Zones which are for brand visibility and are premium outlets. These outlets also provide marketing support to retreaders. They also organize fleet owners campaigns in each regions wherein they call 100-150 fleet owners and they educate them about the benefits of retreaded tyres and other services and also hear their feedback. This way they are able to get closer to fleet owners. This has helped them target fleet owners directly in some regions rather than depending on retreaders. ET is looking to position itself as a one stop solution for retreading – supply of quality retread material, accessories (gum, cement etc.), maintenance of machinery, skilled labour availability, marketing and awareness of retreading. They have started outsourcing machinery mfg and they supply these machines to retreaders – this ensure consistent good quality material and retreaded tyres. It will not involve any major capex. They also have a training institute where they train labour.

 7)Management focus has increased considerably in the last few years and they have also inducted professionals which has led to the above changes. Also earlier the Meeran family was only focused on E. Condiments. But now Mccormick as partner and also that company having stabilized, it will help increase their focus on ET. Raw material price movement is a pass through 1 month lag – so price risk is limited to 1 month. Typically gross margin will improve in times of falling rubber prices and vice versa because of numerator denominator effect. In case of retreaders, falling rubber prices is helpful as they typically don’t pass on that benefit while they take up the prices in times of rising rubber prices.Rubber prices have shot up ~40% in Mar-Apr’16 – they have taken a price hike of 11% in May’16 – this will largely cover the raw material price hike,they expect rubber prices to correct going forward and eventually not impact gross margin over time.

8)Long term vision is to achieve no. 2 position.Their target is to maintain RM/sales ratio of 65% (66.5% in FY15-16).  Over time they can do gross margin of 37-38%.Current capacity of 12000 MT and utilisation of 45%. They can reach 60% utilisation in FY17. They can do 200 cr. revenue with current capacity and 5 cr. capex. Capex of 7-8 cr. over 2 years – 5 cr. on capacity and 2-3 cr. on automation at plants. Maintenance capex of 50 lacs.Exports is 4% of revenue and they are targeting to grow it big. This year they are participating in 5 major exhibitions in Germany, Hannover, Kuala Lumpur Delhi etc. They are targeting 50% p.a. growth in exports. No salary is paid to directors as all are family members and most of them own shares in the company. Also they are not actively involved in the running of the business.Discounting trend is up as market is slow. Discount is accounted for as part of other expenses.OPM declined 230bps QoQ in Q4FY16 owing to higher promotion expenses on franchisee ramp up and higher staff costs (bonus).While Chinese tyre imports is a threat, their retreadability is bad. Also quality of tyres is bad and is considered unsafe and these tyres breakdown also a lot.They don’t have any plans of entering any other segment. Indag Rubber has not increased prices post expiry of excise exemption – they will be bearing the costs.No plans of fund raising or increasing promoter stake.KSIDC which holds 11.75% stake is looking to exit and any day expect a big fat bulk deal to happen.No dividend distribution policy in place.
 Btw: As it can be seen it takes huge efforts to dig into small unheard companies which can be the bluechips of tomorrow. No Reliance or boring Hind Unilever can provide you the kind of money which can help you retire rich early. About to launch some "SEBI compliant" small and midcap services only meant for long term patient disciplined investors. Do fill the form if that interests you. Happy investing folks.
Note: For issues or assistance kindly contact Dipendu at 9007652301.

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