Paints, Textiles & Second Chances 🙏

Issue #006 features Shalimar Paints & GHCL Textiles - two companies that're starting a new innings for themselves. We examine their investing thesis & the opportunity they present

Story 1 of 2   (Reading time: 3 mins)

🎨 Mera Pyaar Shalimar

Shalimar Paints Limited is a has-been in the paints business

I mean, look at these numbers:

• Market share < 1%

• 7 continuous years of losses (FY2017 to FY2023)

• 10Y sales growth = 0%

• Micro cap w/ ₹1,680 crores market cap

• Old inefficient plants (higher production cost vs competitors)

Sad, isn’t it? Who in their right mind would want to invest in a business like this?

Enter Hella Infra Market Limited – a technology-enabled marketplace platform that provides construction materials & products to contractors, builders and real estate developers

You might have even heard of it. It goes by the name Infra.Market (website) and generated ₹11,846 crores in revenues at a net profit of ₹155 crores in FY23

In January of 2022, Hella Infra invested ₹270 crores in Shalimar Paints through a combination of equity and debentures (news)

It again invested in April 2022 (announcement)

In September 2023, Hella Infra made an open offer to acquire a 26% stake at ₹167/share - a price which has since been revised twice (news)

But why? Isn’t Shalimar Paints a faded business? (no pun intended)

👉 Here are some triggers worth considering:

1. Shalimar Paints is doubling production capacity from 78 million litres to 180 million litres by modernising existing facilities. The capex earmarked for FY24 is ₹190 crores

2. The company is targeting a growth rate that’s twice the industry growth rate. Infact, Shalimar Paints grew it’s topline by 35.5% last year while the industry grew at 18% – so 2x growth!

3. Shalimar Paints is aggressively investing in growth enablers:

• New R&D facility in Nashik to support new product launches like wood coatings & waterproofing

• More hiring in functions like sales, R&D and operations to support expansion

• Increase marketing spends; 5% of annual sales (from < 2%)

• Added 2,000 dealers in the last 5 quarters contributing 15% of sales

👉 What’s the guidance offered by the management?

a) Shalimar Paints hopes to cross ₹1,000 crores in sales by FY27 (₹486 crores in FY23). This calculates to a sales growth rate of 25% (news)

b) It wants to target 5-8% EBITDA margin in the short term (next 2 years). This is lower than the industry standard of 12%-16% which gives us a lot of headroom. However it should be noted that the company’s operational losses might be higher for another 3-4 quarters due to higher expenses on R&D, hiring, dealer expansion etc.

My Viewpoint

Shalimar Paints has been offered a second chance and it’ll come down to how well the plans are executed

On a relative basis, Indigo Paints is currently where Shalimar Paints wants to be by FY28 (sales = ₹1,250 crores, EBITDA margin = 17%)

If I play it conservatively and assume an EBITDA margin of 12%, a back-of-the-envelope calculation extrapolates to a market cap of ₹4,500 crores by FY28 – a potential annualized stock price return of 28.6%

The X factor is ofcourse Infra.Market and as it’s biggest shareholder, Hella might push Shalimar Paints to expand aggressively across construction-related products

It’s happened before & case in point is RDC Concrete which Infra.Market acquired for ~₹650 crores in 2021 when it operated 49 ready-mix concrete plants. Currently, RDC is at 100 plants and is readying a ₹4,000 crores IPO (news)

If Infra.Market replicates RDC Concrete’s success with Shalimar Paints, then we are looking at a multi-bagger here

I also won’t rule out a merger between Infra.Market (when it gets listed) and Shalimar Paints — but that might be a few years away

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Story 2 of 2   (Reading time: 2.5 mins)

🧶 SPIN it to WIN it — ft. GHCL Textile Limited

GHCL Limited got into the textiles business in 2002

Over time, it became a leading manufacturer & exporter of premium quality yarn with 2 manufacturing plants, a 2.25 lakh ring spindles capacity, sales of over ₹1,000 crores & in FY23, it was operating at a 7.8% EBITDA

Then effective 1st April 2023, GHCL Limited demerged it’s spinning business into GHCL Textiles Limited with the objective of unlocking & maximizing shareholder value (news)

For more details on the business, clients, products etc., do read this investor presentation (here) or watch this corporate video (here)

👉 Here are some areas that caught my attention & can be applied to an investment thesis:

1. Profitability - The first 9 months of FY24 resulted in an EBITDA of ₹60 crores. At 7.8%, the margin is on the lower side because of a) higher cost of cotton, b) lower realization on yarn, c) inventory loss of ₹36 crore and d) higher backlog in export market

Since textiles is a commodity business, these fluctuations are normal but with long-term margins in the 15-18% range, the EBITDA is likely to double over the coming quarters pushing down the PE ratio from 55 (currently) to ~13, making valuations attractive

2. Growth - Over the years, GHCL Textiles has expanded its operations to include open-end yarns, ring-spun yarns, blended yarns and fabrics. Further, the company is moving fast into knitted and woven finished fabrics which yields superior margins

Further, the contribution of exports has risen from 6% in FY21 to 14% now. This exposes the company to foreign currency rate fluctuation which isn’t new as GHCL Textiles imports 35-40% of its raw material requirement (cotton)

In January of 2024, the company signed a MoU with the Govt. of Tamil Nadu pitching an investment of upto ₹535 crores over a 4 year period

Infact in the first 9 months of FY24, GHCL Textiles spent ₹66 crores in capex showcasing its commitment to business growth

3. Industry Tailwinds - The Govt. of India has lately introduced many policy initiatives incl. PLI schemes, technical textile support, PM MITRA textile parks and international collaborations via FTAs & MoUs (industry article) 

Plus, “Bharat Tex 2024” - one of the biggest textile events globally - is being organized in New Delhi from February 26-29, 2024. Over 1,000 exhibitors & 30,000+ visitors from 40 countries are expected to attend it

4. Financially Strong - GHCL Textiles has a net debt of just ₹2 crores, high interest coverage ratio and is expected to generate healthy cash accruals of ₹100-150 crores annually (FY24-26) which should be adequate for its capex funding requirements

But the clincher is the company’s price-to-book ratio which, at 0.59 times – is the lowest amongst all listed spinning companies in India!

My Viewpoint

👉 As I write this note, GHCL Textiles is down 11.6% today :)

In my view, there are a few things going for GHCL Textiles Limited

• 2x upside on EBITDA margin — from 7.8% to stated long-term goal of 17-20%

• Vertical integration with knitted & woven finished fabrics to yield superior margins

• Visible hunger for growth with a) product basket expansion, b) export thrust and c) increase spinning capacity by ~1.5x over the years

• Government support to the textile sector

• Valuation-wise, GHCL Textiles’ currently has the lowest PB ratio within the sector and my FY25 prediction puts the EV/EBITDA at 5.8 (low!)

So – we seem to have an undervalued business with a big sales & margin upside – which is not something I come across everyday, making GHCL Textiles worthy of our consideration

This story has been written in collaboration with Beat the Street

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I’m certain these will not only improve your stock-picking decisions but also give you a better appreciation of any sectoral stocks in your portfolio

Wishing you a pleasant week ahead,

Shankar