We re-initiate coverage on Nishat Mills Limited (NML) with a “Marketweight” stance. Our SOTP-based TP of PKR171/share offers an 8% upside along with 3% dividend yield.
NML is currently in the process of carrying out BMR and expansion in several segments such as spinning, weaving & home textiles. NML’s focus on niche products like technical fabric/work wear will allow it to withstand cost pressures, in our view.
Further diversification initiatives into the automobile industry (Hyundai Nishat Motors) would provide the company with an additional source of dividends/profits in the future.
We eye 5-yr earnings CAGR of 5% through FY21E driven by the home textile and garments segments and steadily rising dividend income from investment portfolio.
NML is trading at a FY18F P/E of 10.9x as compared to 9.6x for the market. This premium is justified in our opinion given that NML is trading at a 25% discount to its portfolio value.
Re-initiate with ‘Marketweight’ stance:
We re-initiate coverage of Nishat Mills Limited (NML) with a SOTP based TP of PKR171/share, where we have valued NML’s investment portfolio using DDM methodology and textile business with DCF. Our TP on the scrip offers an 8% upside from last closing along with a 3% dividend yield. NML’s net earnings are expected to grow at a 5-yr CAGR of 5%, whereas our EPS estimates for FY17/18/19E stand at PKR11.6/14.5/15.7, respectively. In addition to its textile operations, NML possesses a diverse investment portfolio worth PKR197/share (PKR69bn) with the scrip trading at a 25% discount to market value of its portfolio. In addition to NML’s investments in textile business, it is also venturing into assembly of Hyundai brand passenger cars and light commercial vehicles. This new venture would be eligible for incentives under ADP-2016-2021 for new entrants. Despite our thesis of decent earnings growth driven by multiple positive developments, we have a ‘Marketweight’ stance on the scrip given the run-up in price in the recent past (up 14% in six months).
Textile industry facing tough times..
The textile industry of Pakistan has been passing through tough times since the past three years as evident by cumulative 9% drop in textile exports from a high of USD13.8bn achieved in FY14 which reduced to USD12.5bn in FY16. One of the reasons for this is relative strength of PKR against major currencies as evident by appreciation of PKR against EUR & CNY by 3% & 17%, respectively, and depreciation of a mere 1% against USD between FY14-FY16. During the same period, other textile exporting countries, such as India, Bangladesh and Vietnam, saw their currencies depreciating by 8%, 1% and 6%, respectively, against the USD. Furthermore, demand for cotton yarn from China also contracted significantly during the period as its domestic spinning industry regained competitiveness post reversal in China's cotton procurement policy in IHFY14. Other reasons for downtrend in textile exports include soaring minimum wages and persistence of high electricity tariff despite drop in international energy prices.
However Govt. is eager to revive exports:
To counter the above mentioned factors and restore competitiveness of textile industry, govt. introduced PM's Trade Enhancement Initiative in Jan'17 under which export rebates would be paid to exporters on FOB value of exports in the range of 4%-7%. These measures have paid off somewhat as 3QFY17 textile exports clocked in at USD3.12bn, up 1%YoY compared to USD3.11bn in 3QFY16. Going forward, policy support from the govt. to textile sector is likely to continue as textile exports (comprising 60% of total country exports), are key to contain the trade deficit. Furthermore, we also flag the possibility of continuation of government's policy of paying out rebates on entire FOB value rather than just incremental exports beyond Jun'17. BMR and expansion to drive 5-yr earnings CAGR of 5%:
Over the next five years, profits of NML would grow at an annualized rate of 5% to reach PKR18.3/share in FY18. This improvement in profitability would be made possible by (i) 4% annualized growth in operating profits, (ii) rising dividends from portfolio (5-yr CAGR 4%) and (iii) 17% decline in finance costs over FY17-FY21 as company continues deleveraging. Increase in operating profits would be driven by (i) 20% expansion in capacity of Home Textile division (addition of 2 new printing machines and a new washing facility), (ii) rising capacity utilization of new denim jeans factory, (iii) BMR in weaving segment (replacement of narrow width looms with wider width looms), and (iv) increasing proportion of low cost fuels such as coal in energy mix.
#1 Spinning segment:
NML is shifting its spinning unit located at Nishatabad to the newly built SEZ at M-3 Faisalabad Industrial Estate (FIEDMC). In addition to relocation of existing spindles (22,176), NML would also add another 27,360 spindles at the new site in FIEDMC. These spindles are expected be relocated/installed by Aug' 17. NML's new factory in FIEDMC would enjoy tax and duty exemptions and would have access to purpose built infrastructure for SEZ members.
#2 Weaving segment:
targeting a niche: NML is planning on replacing 56 narrow width looms with wider width looms in order to cater to demand from the home textile industry. This replacement is expected to be completed by Jun' 17. Furthermore, company is increasing focus on producing technical, abrasive and work wear fabric, demand for which is more stable as compared to the more volatile fashion fabric business. In addition to being more stable, these products are difficult to replicate for competitors.
#3 Value Added segment - China is the new frontier:
Historically, the bulk of home textile exports have landed in western countries situated in Europe and North America. However, this is beginning to gradually change as large retail chains in China have commenced procurement from NML. New markets such as these will allow the company to grow sales outside of fiercely contested markets of the west and diversify its customer base. To cater to this rising demand growth, NML has installed two printing machines in IHFY17 and installed a washing plant in 3QFY17 which has increased capacity of home textile division by 20%. Increased capacities would allow for 6% sales CAGR over the next five years.
Venturing into auto sector- next leg of growth:
NML is one of the most diversified conglomerates of the country, which is now planning to venture into the country's fast growing Automobile sector. For that purpose, the company has set up a wholly owned subsidiary by the name of Hyundai Nishat Motors (Pvt.) Ltd that would assemble and market Hyundai passenger cars and 1 ton range commercial vehicles in Pakistan. NML has signed a share subscription and shareholders agreement with Sojitz Corporation of Japan to sell it 40% stake in its subsidiary. Being in the infancy stage, we have not incorporated this project in our estimates. Hyundai Nishat Motors would be eligible for incentives for 'category A' (Greenfield investment) investors under the Auto Development PO icy 2016-2021 such as reduced duties on import of CKD & parts and duty free import of plant & machinery. We would like to highlight that efforts by NML to tap into the growing automobile sector would likely be viewed favorably by investors as this would (i) facilitate next leg of earnings growth, and (ii) provide tangible diversification benefits via reduction in magnitude of forex risk as textile business loses competitiveness when PKR strengthens against other currencies while automobile industry, being an importer of parts & components, benefits from PKR strength.
9MFY17 earnings marred by rising energy and raw material costs:
During 9MFY17, NML's EPS was recorded at PKR8.78, down 13%YoY. Downturn in net earnings is mainly the result of (i) 25% hike in cotton prices, (ii) 35%/52%YoY jump in furnace oil/coal prices, (iii) 7% increment in minimum wages to PKR14,OOO, and (4) 12% rise in distribution costs due to rising fuel prices. Effect of these was partially offset by (i) 17% growth in other income, mainly due to higher dividend from DGKC and (ii) 17% drop in finance costs.
The Board of Directors of Nishat Mills Limited (NML) has declared the financial result of the company for FY17, recording a NPAT of PKR 4,262mn (EPS: PKR 12.12), portraying a decline of 13% YoY. On a sequential basis, earnings in 4QFY17 clocked-in at PKR 1,174mn (EPS: PKR 3.34), down by 13% YoY and massively up by 2.18x QoQ. Along with the result, the company announced a dividend of PKR 5.00/share (payout of 41%.)
Sales for the period clocked-in at PKR 49,248mn, up by 3% YoY, owed to incorporation of drawback on local taxes and levies which approximately amounts to PKR 755mn along with higher selling price of the products.
COGS settled at PKR 43,868mn (up by 5% YoY), led by average cotton prices displaying a growth of 15% YoY. Gross margins plunged by 207bps YoY. During 4QFY17, Gross margins decline by 145bps YoY / 188 bps QoQ.
Other income for FY17 depicted a meager growth of 4% YoY to PKR 4,260mn, attributable to higher dividend income.
Finance cost was set at PKR 915mn, down by 13% YoY, amid lower reliance on borrowings and low interest rate scenario.
Effective taxation was recorded at 15% in FY17 compared to 14% in SPLY.
Currently, we have ‘BUY’ call on the stock with a Dec’17 target price of 185.6/share.
Result Previews NML: 1QFY18E PATincreased by 21% YoY
Nishat Mills Limited (NML) board is scheduled to announce its 1QFY18 result on 26th Oct’17. We expect the company to post profit after tax (PAT) of PKR 776mn (EPS: PKR 2.21), up by 21% YoY. Topline of the company is expected to grow by 15% YoY amid rise in prices of final products compared to last year coupled with demand picking up from Europe and United States. While gross margins are expected to remain flat to 12.5% during 1QFY18. Finance cost is expected to clock in at PKR 242mn, up by 19% YoY given higher reliance on borrowing which jumped 40% in 1QFY18 vis-à-vis 1QFY17. In addition, we expect other income to record a growth of 42% YoY mainly on account of dividends from MCB, LPL and PKGP. On a sequential basis, we believe gross margins are expected to surge by 257bps owing to 9% QoQ decline in cotton prices. Moreover, other income of the company is expected to record a decline of 49% QoQ due to reversal of workers welfare fund of PKR 347mn in 4QFY17 and less dividend received during the period under review.
Nishat Mills Limited
Weakness In Core Margins Affecting Profitability
Downward Revision in EPS and Target Price
We revise downwards our Dec’18 SOTP-based target price of Nishat Mills Limited (NML) to PKR 153/share. Based on our calculations, portfolio value arrives at PKR 104.0/share while core value is set at PKR 48.6/share. Our revision is premised on i) significant decline in portfolio value with the KSE-100 index plunging by 18% in CYTD, ii) downwards revision in dividend income assumption of NPL (subsidiary) from PKR 7.00/share to PKR 5.5/share per annum in FY18E (dividend assumption of FY19 set at PKR 6.0/share compared to previous projection of PKR 7.0/share), and iii) pricing assumption for cotton tweaked upwards. With that said, the stock is trading at a FY18E / FY19F multiple of 10.9x / 9.7x, we recommend ‘HOLD’.
Keeping Track of Portfolio Value
NML being one of the largest, well diversified conglomerates of Pakistan, has vast investments in group companies and other businesses. NML has investments in almost every sector such as Power, Cements, Banks, Construction, Textile, Insurance, Dairy, Healthcare and is now aiming to move into the auto industry. Total investments of the company stand at PKR 54bn (including long term and short term investments) which is ~50% of the total assets. Pertinently, this indicates greater reliance on dividend income as the company receives dividends from NPL (subsidiary company), MCB, DGKC, NCL, LPL and PKGP (associated companies). Albeit, pressure on market value of its listed concerns resulting in decline in portfolio value.