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Strong demand boosts operational performance …

About the stock: Vardhman Textiles (VTL) (earlier known as Mahavir Spinning) is part of the Vardhman Group, a large textile conglomerate with a presence across the textile value chain.

* Vardhman is among few textile companies that have been able to maintain a debt equity ratio below one despite continuous capacity addition

* Healthy cash flows have enabled VTL to reduce debt by ~| 152 crore in FY21 (D/E: 0.3x in FY21). We expect D/E ratio to stay at ~0.3x in FY23E

Q2FY22 Results: Vardhman Textiles reported its highest quarterly revenues and net profit. EBITDA margin performance in Q2FY22 was strong amid enhanced demand in the yarn segment.

* Revenues grew 24% QoQ (up 47% YoY) to | 2385 crore

* Gross margin expanded even on a QoQ basis by 107 bps to 55.9%. Operating leverage led to EBITDA margin expansion of 1946 bps YoY (on low base) and 360 bps QoQ to 28.4%. EBITDA was higher by 3.7x YoY and 41% QoQ at | 676 crore

* Consequently, PAT grew by 7.6x YoY and 52% QoQ to | 481 crore

What should investors do? Despite being in the cyclical textile business, VTL’s stock price has appreciated at 12% CAGR in the last five years.

* We continue to remain structurally positive and maintain BUY rating

Target Price and Valuation: We value VTL at | 2400 i.e. 10x FY23E earnings.

Key triggers for future price performance:

* Global retailers are looking at de-risking their supply chains and VTL is expected to be a beneficiary in the yarn and fabric segment

* Strong demand coupled with supply constraint owing to closure of ~5-6% of capacities due to impact of pandemic is expected to result in stronger spreads in the yarn business

* The company’s current expansion of 1,00,000 spindles is on track. Owing to strong demand from customers the company is further expanding its yarn spindle capacity by installing 1,65,000 spindles

* We model revenue and earnings CAGR of 24% and 82%, respectively, in FY21-23E with RoCE of ~16 in FY23E%

Alternate Stock Idea: Apart from VTL, in our textile coverage we also like KPR Mill.

* KPR Mills is among select vertically integrated textile players in India that has displayed consistent operating margins with strong return ratios

* BUY with a target price of | 575

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