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Investing in profitability

Vardhman’s (VTEX IN) Q3 revenue was largely as estimated, while EBITDA missed our estimates by 12.8% and PAT by 18.6%, due to negative operating leverage and lower-thanestimated other income. Indian cotton continues to remain expensive than international cotton, impacting the profitability of spinners such as VTEX. However, cost optimization and capex to enhance productivity, to be incurred by VTEX, should likely aid margin expansion. We pare our FY25E earnings estimates by 7.7% on continued near-term pressure in margin, FY26E estimates by 6.4% and FY27E by 5.7%, led by negative operating leverage. So, we lower our TP to INR 482 (from INR 509), valuing the stock at 7.8x FY27E EV/EBITDA (maintained). Given limited upside, we downgrade VTEX to Reduce from Accumulate.

Revenue up led by higher volume; margins improve on favourable base: Revenue grew 5.8% YoY to INR 24,653mn, led by a 5.0% YoY growth in textiles and 32.1% YoY in Acrylic Fiber. Yarn volume grew 8.2% YoY, led by growth in the textiles segment. VTEX is almost hitting full utilization, at 91.9% for yarn and 98.3% for processed fabric segment. However, higher raw material costs continue to impact the profitability of spinners. EBITDA margin improved 220bps YoY on a favorable base. We expect margins to maintain in FY27, led by support from cost optimization driven capex.

Aggressive capex to keep ROCE subdued: In Q3, VTEX announced a capex of INR 3,300mn, to modernize various machines in a spinning unit (to enable cost optimization). It plans to further increase the capex investment in fabric division (to add machines) and towards additional boiler (INR 1,550mn cost). VTEX plans to incur INR 38bn capex, of which INR 34bn is likely to be completed in CY25.

There is a delay in capex worth INR 4bn on account of government approval. The majority of capex is for cost optimization and productivity improvement, which should spike margin by 200-300bps. We opine that aggressive capex is likely to keep post-tax ROCE subdued at 8.5% for FY26E and 9.1% for FY27E.

Revise to Reduce; TP pared to INR 482: We expect earnings CAGR at 21.9% from FY24- FY27E, led by margin improvement on cost optimization-led capex. However, post-tax ROCE may remain subdued at 8.5% for FY26E and 9.1% for FY27E due to aggressive capex. Based on our revised estimates, we arrive at a pared TP of INR 482 (from INR 509 earlier), valuing the stock at 7.8 FY27E EV/EBITDA (maintained). We revise VTEX to Reduce from Accumulate given limited potential upside. Key triggers are demand improvement, favorable cotton price scenario and improvement in cotton yarn spreads.

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