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Buy TCNS Clothing Ltd For Target Rs.1,050 

Sails through Covid peak efficiently; healthy recovery trends in Q3

* Our channel checks suggest the recovery in physical channels likely improved to ~90% in Q3 vs. ~65% in H2FY21/Q2FY22. The recovery is aided by marketing investments in ‘Alia for Aurelia’/Plus-size campaigns, traction in footwear and the launch of new styles.

* Unlike its peers, TCNS did not see any operating cash loss in the last 18 months with lower participation in discounting during EoSS. Due to its focus on profitability and slower ethnic recovery, TCNS has lagged behind peers in terms of recovery by 10-15% (Exhibits 1-2).

* Increase in the addressable market through introduction of accessories/plus-sizes should help deliver relatively better SSG/earnings when normalcy returns. After successful launch in ~100 W stores (~10% contribution), TCNS has also launched footwear in Aurelia stores.

* As TCNS delivers on our earnings expectations (~40% CAGR over FY20-24E), it should narrow down the 30-75% valuation discount vs. peers. Given the robust supply chain, penetration potential and strong online presence, we retain Buy with a TP of Rs1,050.

Healthy recovery trends: As per our channel checks, recovery in physical channels is likely to have improved significantly to ~90% in Q3 vs. ~65% in H2FY21/Q2FY22. The recovery is aided by marketing investments in ‘Alia for Aurelia’/Plus-size campaigns, traction in footwear (~10% sales contribution in ~100 W stores) and the launch of new styles. Continued traction in the online channel (~10% CAGR over pre-Covid levels) should lead to an overall recovery of ~95% in Q3, in our view. In terms of recovery, TCNS is lagging behind most western peers by 10-15%, due to 1) a slower pick-up in the ethnic category amid restricted gatherings in weddings/occasions, and 2) its focus on profitability with lower discounting during EoSS. However, the increase in the addressable market through footwear/plus-sizes should lead to a relatively better SSG/earnings performance upon the return of complete normalcy, in our view. Store additions should also pick up in H2 after muted additions in H1.

Focus remains on profitable growth: With relatively lower discounting during EoSS and cost savings, TCNS did not see any operating cash loss (vs. significant losses for peers) in the last 18 months (FY21-H1FY22). While this has led to a slower recovery for TCNS (vs. western peers), it helped the company maintain a healthy balance sheet, unlike peers, which have raised significant capital during the pandemic.

Long growth runway; valuations remain comforting: We expect TCNS to deliver a healthy earnings CAGR of ~40% over FY20-24E, led by a ~12% revenue CAGR and the rest through a full margin recovery. Importantly, the scope for penetration improvement, a robust supply chain and strong online presence should help TCNS maintain earnings growth in the midteens beyond FY24. With consistent delivery, TCNS should gradually narrow down the 30- 75% valuation discount vs. peers. Reiterate Buy with a TP of Rs1,050 (42x Dec’23E EPS).

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