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Modest growth recovery offset by lower gross margin

*  Bata India (BATA) delivered a modest growth recovery with 2% YoY revenue growth. The 10% miss on EBITDA was primarily driven by lower gross margin (-140bp YoY) on account of a shift in the channel mix (higher franchisee and e-commerce) and inventory clearance. Adj. PAT declined 19% YoY.

* Management indicated improvement in the demand environment in 2Q and expects further improvement in 2H with the onset of the festive season. However, the persistent softness, particularly in the mass segment (<INR1,000 ASP), remains a drag. 

* BATA’s focus on premiumization (Hush Puppies, Power), steady network rollout, and a product revamp (including apparel and sneakers) could drive growth recovery and offset weak demand trends in the value category.

* We estimate a CAGR of 6%/8%/13% in revenue/EBITDA/Adj. PAT over FY24- 27. We reiterate our Neutral rating with a TP of INR1,240 (based on 40x Dec’26E EPS).

EBITDA declined 4% YoY (10% miss) on lower gross margin

* Revenue at INR8.4b (in line) grew at a modest ~2% YoY (vs. 1% YoY decline in 1Q) as 10% YoY store additions were likely offset by a decline in SSS.

* BATA added 39 net stores during 2Q, taking the total store count to 1,955 (+10% YoY). Further, it renovated 48 stores in 1H.

* Gross profit remained flat YoY at INR4.7b (2% miss).

* Gross margin contracted 140bp YoY to 56.6% (though up 175bp QoQ) and was ~120bp below our estimate due to a change in the channel mix (higher contribution from franchise and e-commerce) and inventory clearance.

* EBITDA declined 4% YoY to INR 1.7b (10% miss) on account of higher employee cost (+8% YoY) and weaker gross margin.

* EBITDA margin contracted 130bp YoY and stood at 20.9%.

* Adjusted PAT declined 19% YoY to INR520m (25% miss) due to weaker EBITDA, higher D&A (+10% YoY), and finance cost (+12% YoY).

* Net working capital days improved to 117 (from 137 YoY) on account of lower inventory days.

* 1HFY25 FCF (post leases) improved to 1.8b (from 0.6b YoY) on account of a favorable change in the working capital.

* For 1HFY25, BATA’s revenue was flat YoY, while EBITDA/Adj. PAT declined ~15%/20%. The implied revenue/EBITDA growth for 2H is 9%/17%.

Key takeaways from the management interaction

* Demand: The management highlighted that demand improved modestly in Q2 (vs. Q1) with demand in Sep’24 much better than that in July’24. Tier 2 and below towns witnessed better traction, which was partially offset by premium products performing better than mid and mass products (<1k products contribution declined to ~30% from ~40% YoY).

* Gross margin: GM was impacted due to a shift in the channel mix, with increased contribution from franchisee (11-12%) and e-commerce, which command a lower margin. Further, there was an impact on inventory clearance. Management remains confident on gross margin expansion in the medium term.

* Zero Base Merchandizing (ZBM): With the ZBM initiative, BATA has been able to uplift the consumer experience and increase efficiency. ZBM has been piloted in 8 stores so far, with plans to expand to 100 stores by Dec’24 and 250 by endFY25. ZBM led to a 20% increase in Sales/sq ft and a 60% reduction in lines.

* Power: Power brand saw volume (+9% YoY)-backed growth. BATA now operates 4 Power EBOs, with a plan to increase it to 10 by Dec’24. The Apparel segment also continues to experience strong traction (90% YoY). Overall, Power contributes in mid-teens to BATA’s turnover.

Valuation and view

* BATA’s robust balance sheet, marked by a net cash position, healthy FCF generation, and impressive returns profile, along with substantial growth potential within the industry, is expected to drive its growth initiatives.

* Over the last couple of years, following the change in management, a renewed focus on growth has been evident, characterized by a brand refresh, introduction of new product lines (such as Sneakers), and enhancements in the backend supply chain infrastructure.

* BATA’s focus on premiumization (Hush Puppies, Power), steady network rollout, and a product revamp (including apparel and sneakers) could aid growth and offset the weak demand trends in the value category.

* We trim our revenue estimates by 1-3% and lower margins, which drives a 12%/21% cut in FY25/FY26 PAT estimates. We estimate a CAGR of 6%/8%/13% in revenue/EBITDA/Adj. PAT over FY24-27. We reiterate our Neutral rating with a TP of INR1,240 (based on 40x Dec’26E EPS).

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