ODEL seeking for incessant market expansion in Apparels, growing 26% YOY in 3Q in 2010

Background

Odel which was established as a private limited company in 1990 by Otara Guawardene has today evolved as a foremost group of companies in Sri Lanka. It recently obtained the listing on Colombo Stock exchange, whilst being the first fashion retailer to go public in Sri Lanka.

The IPO was successfully oversubscribed by 63.8 times.

Company’s success is underpinned by its correct strategic view on market expansion and diversification. The group is seeking for incessant market expansion especially in concern to the apparel sector where company has expanded up to possessing 13 outlets with 136 square feet of high quality shopping.

The flagship store at the Alexandra Place is witnessed as an enthralling tourist destination.

Today Odel is highlighted amongst the leading apparel giants in Sri Lanka.

Financial Highlights for the 3Q ended 31st December 2010

The top line of Odel Group grew by 15% QoQ while YoY growth amounted to 26%.

Group seems to have imposed control over the cost structure to improve the gross profit margin to 39%.

Other income has declined by 72% to Rs.24 million YoY while QoQ there’s a marginal decline of 9%.

Distribution expenses saw an YoY decline of 18% while administration expenses saw only a marginal increase of 1%, thus operating profit margin improved from 12% to 14.6%.

During the 3Q Bottom line of ODEL reached SLRs.76mn up by 35% YoY, and 19% QoQ.

The remarkable QoQ top and bottom line growth rates posted during the 3Q of the current

financial year are backed by the increased demand and sales that occurred during the Christmas and New Year festive season and the increase in tourist arrivals.

Glance at first 9 months FY 10/11 results of the group

During the period top line grew by a staggering 42% YoY to reach 2.5bn.

Gross profit grew by 53% YoY to SLRs.967mn, with gross profit margin improving to 39%.

Group as a whole expressed a gratifying performance as the profitability of the group shows a strong upward movement with profit before tax increasing by 61% YoY to reach 287mn. Profit After tax for the same period amounted to SLRs.176mn up by 43% YoY however net profit margin remained at 7%.

Future Outlook

With the milestones of success that Odel has marked in its expedition, the group could shunt ahead exposing a significant competition to the existing market players and creating a strapping barrier to the new entrants whilst enhancing and strengthening its brand image impressively. The

key success of the Odel group lies on the apparel sector as Odel outlets are leading as sought after destinations amongst other shopping outlets of the country, reasoning being that its flagship store is becoming comparable to international department stores in any fashion capital.

As the next walk in their massive expansion stratagem, Odel which is acknowledged as the country’s definitive and life style brand, has announced its plan to expand to Kiribathgoda and Wattala regions which are situated in the highest populated Gampaha District, whilst increasing its retail space further by 22,000 square feet and number of outlets to 15. However important consideration is raised on the other hand that such aggressive expansion strategies would lead to the dilution of their “Exclusive” brand value.

During the year Odel alsohas built up several important strategic links with corporate giants. A noteworthy one is the ODEL‐HNB co branded credit card which is a gold card that comes under VISA international brand that offers attractive benefits for the customers shop at Odel. This would strengthen the group’s sales to a greater extent.

Further the sophisticated and award winning Odel website also put in a remarkable contribution for heightening up sales, offering a comprehensive shopping experience through enhanced e‐commerce facilities.

Odel so far has carried out firm differentiation strategy offering a wider product change in their shopping outlets.

It’s products range from ladies ware, gents ware, kids ware, home ware, Sri Lankan souvenirs, food, backstage, embark collection, R&R whilst differentiating its outlets to that of other fashion retailers that Odel is hardly imitable.

An optimistic panorama is put forward specifically for Odel which is a leader in the market, by the augment in the tourism industry which is expected to grow by 40% to 850,000 in 2011 and reach 2.5million tourist arrivals by 2016 as per the Sri Lanka’s tourism authority in which case, Odel shopping outlets would play a key role in providing exceptional quality shopping facilities for the foreigners. This would grant a extraordinary backup for the boost of future demand for Odel apparel.

On 19th of November it was announced that the Odel acquired a prime land 250.4 perches in Thalangama for Rs.257.9 milion through its fully owned subsidiary Odel Lanka (Pvt) Limited witch is incorporated to plan the preliminary activities required to construct a high rise shopping mall complex. This provides an insight of a large scale strategic investment that the Odel is expecting to initiate with its hands on experience and victorious voyage whilst enjoying economies of scale and economies of scope advantages. Ability of the group as a whole for tapping superior profitability in a very healthy context in the upcoming years is thus evident.

The budget proposed on 22nd on November for year 2011 has projected many concessions favorable concessions. It proposed to reduce custom duties on selected goods and raw materials and also with the aim of promoting Sri Lanka as an attractive destination for international shopping for branded items, internationally branded items were exempted from VAT and import duty. Further the economic service charges on BOI enterprises were revised down to 0.1%. These policies would definitely have a positive impact on the Odel group creating a promising future to enhance the business.

Recommendation

Looking at the current performance together with the future outlook of the group the counter looks attractive in the medium to long term. Thus we recommend a BUY.

Courtesy-Capital Trust Research

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Odel PLC (ODEL): Net Profit has surged two folds in 1QFY11..

Odel PLC (ODEL), one of the nation's largest fashion, apparel and cosmetics retailers has exhibited strong performance in 1QFY11, upon being listed in the Colombo bourse during the same quarter. ODEL stores offer a broad selection of merchandise and feature products from both local and exclusive international brand sources. The Company operates 12 stores where the flagship store being located in the heart of Colombo and the rest spanning within the three districts of the Western Province and plans to open three more stores during the year 2010 (possibly in Wattala, Battaramulla and Kandy).

ODEL's revenue has grown by an impressive 62% YoY to LKR691.9 mn in 1QFY11. The expansion of branch net work, increase in tourist arrivals and better macro economic situation have served as the catalysts in driving up the revenue. However the Revenue per Sq. Ft has reduced by circa 5% to LKR5.4 K per Sq.Ft on the back of incremental revenue per Sq.Ft has been relatively lower at LKR5 K per Sq.Ft.

The overall COS per Sq.Ft has reduced 10% YoY to LKR3.4 K in 1QFY11 owing to the lower COS per Sq. Ft in new outlets which stands at LKR2.8 K per Sq.Ft. Subsequently the Gross profit has surged 77% YoY to LKR264.1 mn in 1QFY11 on the back of the faster dip in COS Sq. Ft vs. the Revenue per Sq.Ft. Further the gross profit margin has improved from 35% in 1QFY10 to 38% in 1QFY11.

Subsequent to the 77%YoY increase in Gross Profit the EBITDA has increased by 85% YoY in 1QFY11 due to the relatively slower increase in operating costs, which has recorded an increase of circa 61% YoY in 1QFY11. The increases in operating costs are attributable to the expansion of the branch network and increase in operations. With the expansion move the employee and rental costs have increased by circa 15% YoY and the Sales commissions and advertising costs have increased by circa 10% YoY.

Following the impressive 95% YoY increase in EBIT and the 17% YoY dip in finance costs the Profit before tax has soared 272% YoY to LKR60.2 mn in 1QFY11. However the fivefold YoY increase in the tax bill has diluted the profits of the company resulting in a 199% YoY increase in Net profit of LKR37 mn.

The increased tourist influx following the three decade old war would have a positive impact on ODEL as the company is renowned as favourite Shopping Mall of tourists in Sri Lanka”. Recovery in the economy brought about higher consumer sentiment driven by confidence in the market along with the reduction in unemployment. Thus with the disposable income on the rise local consumers tend to have a higher demand towards premium quality products.

ODEL’s market positioning as a premium department store is a competitive advantage with a lower substitutability and a few number of competitors. With the expansions which are currently carried out, ODEL expands its reach and would have access to a bigger market without dilution. The company’s own brand which yields a higher margin is mainly sold via the outlets in the Colombo suburbs. With the store expansion taking place the contribution from the own brands (at present the contribution is circa 20-30% of the top line) is expected to increase.

Against the backdrop and the 1QFY11 results being in line with our forecasts we maintain our FY11E earnings at LKR189.6 mn (UP 34% YoY) and FY12E earnings at LKR235.5 mn(up 24% YoY).

In terms of earnings based valuations the share is fairly valued on 21.4X forecast FY11E net profit and 17.2X forecast FY12E earnings. The share saw +100% increase in the share price on the first day of trading itself and currently trades at circa 85% premium to the issue price. Going forward we expect the counter to perform on par with the broad market and the downside risk is fairly limited, thus we rate ODEL a HOLD

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Odel Unlimited (ODEL) Initial Public Offering

Odel Unlimited (ODEL), one of the nation's largest fashion, apparel and cosmetics retailers announced its IPO of 16.7 mn shares at LKR15.00 per share, expecting to raise LKR250.5 mn in total. The proceeds of the issue is planned to be partly utilized to support the expansion of branch net work (LKR150.5 mn) of the company and the rest (LKR100 mn) would be employed to settle part of outstanding loans.

The Company focuses on delivering maximum fashion and value to its shoppers by offering compelling selections. Odel stores offer a broad selection of merchandise and feature products from both local and exclusive international brand sources. The Company operates 12 stores spanning within the three districts of the Western Province and plans to open three more stores during the year 2010 (possibly in Wattala, Battaramulla and Kandy).

Odel's flagship store boasts of an average footfall of plus 1,500 per day (3,000 per day in the weekend) and a conversion rate of +90% whilst other branch stores also demonstrate above average footfalls and conversion rates though relatively lower than that of the flagship store.

Nonetheless Odel's cautious branch expansion efforts have made them to break even at the first month of operations itself. Given the uptrend in revenue stream and the company's emphasis on retiring debt capital we project net profit to grow by a three year CAGR of circa 27% during 2011E- 2014E.

In terms of earnings based valuations the share is attractive valued on 11.5X forecast FY11 net profit (based on the issue price of LKR15.00 per share) which is at a plus 20% discount to the forward market earnings multiple.

Further on a free cash flow to the firm (FCFF) valuation, intrinsic value per share is circa LKR18.00 (given a cost of capital rate of 18%) and remains attractive at the issue price of LKR15.00.

Based on both valuations the share generates good value at the issue price of LKR15.00. Further Odel IPO would be an opportune window for adventurers to capitalize on short term gains and to benefit in the medium term with the aggressive expansion driven organic growth of the company. Therefore strong upside for the share could be expected with steady income streams and Odel’s brand image coupled with strong investor appetite for IPOs, thus we recommend SUBSCRIBE

Industry Overview and Future Outlook
As a department store, Odel offers a wide range of product categories and operates across major segments of the Sri Lankan premium non-food retail industry. Except for the flagship outlet, the other stores generally focus on the premium clothing and footwear retail industry.

The country’s clothing and footwear industry is highly competitive as Sri Lanka being a major garment manufacturing nation. Low and middle level markets are spearheaded by clothing store chains such as “No Limit”, “House of Fashion” and “Fashion Bug” with stores Island wide. A high number of counter freight clothing items of premium brands are also visible in the country at a low price.

Odel has demonstrated strong performance where its top line grew at a four year CAGR of circa 11%. ODEL has reported a revenue of LKR2,416.8 mn in FY10, up circa 24% YoY. The growth in revenue is attributable to the aggressive expansion programme, improvement in per capita consumption and the increase in influx of tourists with the end of the three decade old war.

Revenue Trend
Subsequent to the strong spurt of growth in revenue the Operating profit has grown by circa 34% YoY to LKR208.2 mn in FY10. Further the EBITDA has been growing at an impressive four year CAGR of circa 26% with overheads being kept intact over the last five years.

In particular in FY10 EBITDA has surged by 68% YoY to LKR336.9 mn. Further the EBITDA margin has improved to 14% in FY10 from 10% in FY09 on the back of the capital gain of circa LKR75.6 mn made in FY10.

EBITDA vs EBITDA Margin Revenue: Cost Structure NPAT has grown by a tremendous three folds in FY10 on the back of the improvement in EBITDA and the reduction in finance costs. Even if the capital gain is removed the NPAT has marked a growth of 100% YoY in FY10.

Comparatively the Sri Lankan premium clothing and footwear industry is dominated by few players in the market of which Odel enjoys a sizable market share. Dilly’s Distinct and Cotton Collection cater to the same market segment as Odel although the product spread is rather limited as they focus mainly on premium clothing retail.

As a multi category retailer Odel contends with a broad range of competitors, not only limiting to the premium clothing retailers. Sri Lankan malls such as Crescat, menswear outlets such as Hameedias and sports outlets such as Reebok and Nike too competes with Odel in the respective fields.

The increased tourist influx following the three decade old war would have a positive impact on Odel as the company is renowned as “the tourist shopping destination in Sri Lanka”. Recovery in the economy brought about higher consumer sentiment driven by confidence in the market along with the reduction in unemployment. Thus with the disposable income on the rise local consumers tend to have a higher demand towards premium quality products.

Odel’s market positioning as a premium department store is a competitive advantage with a lower substitutability and a few number of competitors. With the expansions which are currently carried out, Odel expands its reach and would have access to a bigger market without dilusion.

The company’s own brand which yields a higher margin is mainly sold via the outlets in the Colombo suburbs. With the store expansion taking place the contribution from the own brands (at present the contribution is circa 20-30% of the top line) is expected to increase.

Valuations
Revenue is expected to increase at three year CAGR of circa 13% from FY11E to FY14E mainly on the back of improvement in consumption, growth in tourist arrivals to the country and better market reach via expansion of the branch network.

We expect the operating costs would grow at a three year CAGR of circa 13% from FY11E to FY14E slightly above the historical growth momentum. However we expect the OPEX to income ratio to reduce to circa 90% over the next four years from its current +95% levels due to revenue growth outpacing the OPEX growth.

As at 31st March 2010 the company has a debt of approximately LKR550 mn (Short and Long Term borrowings) with an interest cost of plus LKR70 mn. Odel is planning to retire part of its debt during FY11E using part of the funds (circa LKR100 mn) raised by the IPO. This would give rise to savings on interest costs from FY11 onwards without disturbing the cash position of the company. However we believe the company would resort to working capital loans and overdrafts to fund the short term funding requirements. Further it should be noted that the company would make its gearing position healthier by reducing the debt to equity ratio to less than 5% from its current 47%.

Given the uptrend in revenue stream and the company’s emphasis on retiring debt capital we project net profit to grow by a 3 year CAGR of 20% during 2011E – 2014E.

In terms of earnings based valuations the share is attractive valued on 11.5X forecast FY11 net profit (based on the issue price of LKR15.00 per share) which is at a plus 20% discount to the forward market earnings multiple.

Further on a free cash flow to the firm (FCFF) valuation, intrinsic value per share is circa LKR18.00 (given a cost of capital rate of 18%) and remains attractive at the issue price of LKR15.00. Based on both valuations the share generates good value at the issue price of LKR15.00. Further Odel IPO would be an opportune window for adventurers to capitalize on short term gains and to benefit in the medium term with the aggressive expansion driven organic growth of the company. Therefore strong upside for the share could be expected with steady income streams and Odel’s brand image coupled with strong investor appetite for IPOs thus we recommend SUBSCRIBE.

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