CORPORATE FINANCE PROJECT

QUALITATIVE, RATIO &

COST OF CAPITAL

ANALYSIS

OF

ARVIND MILLS LTD.

Submitted to – Submitted by -

Prof . T. Vishwanathan Antriksh Khandelwal (12)

Anup Agarwal (13)

Date – 31st Dec 2010 Anup Kumar (14)

Arushi Goswami (18)

Kriti Wadhwa (42)

QUALITATIVE

ANALYSIS

INTRODUCTION

Arvind Mills is India's largest and the world's third largest denim manufacturer. Arvind mills

Ltd.(AML),the flagship company of the US$ 500 million Lalbhai Group, was incorporated in

1931.It aimed at manufacturing high-end superfine fabrics with imported state-of- the-art

machinery. With 52,560 ring spindles,2552 doubling spindles and 1122 looms, it was one of the

few companies in the early period of India’s

industrialisation to have spinning and weaving facilities along with full-fledged facilities for

dyeing, bleaching, finishing and mercerising. In the mid 1980s the Indian textile industry was faced

with a crisis on account of the power loom sector churning out vast quantities of inexpensive fabric

which led to many large composite mills losing their markets. While the company was operating at

its highest level of profitability during

this period, it took a proactive measure to increase its focus on the international markets to counter

the threat from the power loom sector. In 1988, the company entered the export market for two

segments, denim for leisure & fashion wear and high quality fabric for cotton shirting and trousers.

By 1991, the company had become the third largest producer of denim in the world.

The company has carved out an aggressive strategy to further expand its current operations by

setting up world-class garment manufacturing facilities and offering a one-stop shop, offering

complete garment packages to its international and domestic customers. Apart from this, the

company with a host of international and domestic brands like Lee, Wrangler, Arrow, Flying

Machine, Newport, Ruff& Tuff etc in its portfolio is focusing on becoming the largest branded

apparel company in India. The Indian promoters hold 37.0 per cent of the total equity in the

company. Foreign institutional investors, on-resident Indians and overseas corporate bodies hold 24.4

per cent stake in the company while the Indian public holds 20.03 percent stake. Mutual funds, banks,

financial institutions, insurance companies and private corporate bodies hold the remaining stake in

the company

Arvind Mills has been one of the leading textile producers in India. The company is present in both

the fabrics and garments segments of the textiles industry value chain. In fabrics, the items of

manufacture include denim, shirting, khakis, knitwear and voiles. Denim contributes more than 60

percent to the company’s turnover. In the

garments segment, it is present in both the domestic and international markets for formal and casual

clothing.

The company is one of the leading players in the domestic ready-to-wear garments segment. It has

successfully launched and established multiple brands - own as well as international ones (under

license from the respective companies).Its own brands are managed by its subsidiary Arvind

Brands Limited and are marketed in India and some neighbouring countries. Own brands include

Flying Machine, Newport and Ruff & Tuff in jeans and Excalibur in shirts. Licensed brands

include Arrow (formals and casuals),Lee (jeans),Wrangler (jeans) and Tommy Hilfiger (fashion).

Sector Synopsis

With a total market size (2004-05) of US$ 38 billion, the textiles domestic market comprises US$

25 billion and exports US$ 13 billion.

The Indian textiles sector has a strong contribution to the Economy

•14 per cent contribution to industrial production

•4 per cent contribution to GDP

•16 per cent contribution to export earnings

•Direct employment to more than 35 million people

The textile industry functions in the form of clusters (roughly 70 in number) across

India, producing 80 per cent of the country’s total textile

It is diverse, with the hand-spun and hand woven sector at one end of the spectrum,

And the capital intensive, sophisticated mill sector at the other.

Products and brands

Arvind Mills has been one of the leading textile producers in India. The company is present in both

the fabrics and garments segments of the textiles industry value chain. In fabrics, the items of

manufacture include denim, shirting, khakis, knitwear and voiles. Denim contributes more than 60

per cent to the company’s turnover. In the garments segment, it is present in both the domestic and

international markets for formal and casual clothing. The company is one of the leading players in

the domestic ready-to-wear garments segment. It has successfully launched and established

multiple brands - own as well as international ones (under license from the respective companies).

Its own brands are managed by its subsidiary Arvind Brands Limited and are marketed in India and

some neighboring countries. Own brands include Flying Machine, Newport and Ruff & Tuff in

jeans and Excalibur in shirts. Licensed brands include Arrow (formals and casuals), Lee (jeans),

Wrangler (jeans) and Tommy Hilfiger (fashion).

Arvind Mills’ contribution in making ‘Made in India’ global

Arvind Mills has over the years become a force to reckon with in the entire textile value chain. The

yarn manufactured by one of its subsidiaries, Arvind Cotspin, is ranked amongst the best in the

world. The company has a strong foothold in the international markets for denim fabric. Many

varieties of the shirting fabric manufactured by the company sell at a premium in international

markets. Its khakis are also becoming popular in the export markets. Its Knits division serves some

of the best brands in the world and the company is in the process of ramping up the capacities to

cater to the increasing demand. Arvind Mills' major change in market focus came about in 1987

when the company established its Denim division to market denim fabric in international markets.

Since then, it has become world’s third largest manufacturer of denim with a capacity of 110

million meters per year. Its vertically integrated denim plant ranks amongst the most modern in the

world. In 2005, the company sold denim worth about US$ 234 million, majority of which was sold

in more than 70 countries in Europe, US, West Asia, the Far East and Asia Pacific. The company

has a major presence in the international premium shirting market and has a modern shirting plant

to manufacture high value cotton shirting. The plant has a capacity of 33.5 million yards per year

and the company is one of the largest exporters of premium shirting fabric from India. The plant

has an integrated manufacturing facility from yarn to finished fabrics under one roof to produce

world-class quality. The shirting division has an in-house design studio with a team of qualified

professional designers, including designers based in Italy and UK. The company has a state-of-the-

art garment manufacturing plant at Bangalore (Karnataka) to manufacture shirts and tops primarily

for the international markets. The plant has an annual capacity of 4.5 million pieces. This factory

has been put up in technical collaboration with an Italian apparel consultancy firm, CF ITALIA,

which specializes in apparel manufacturing and technical consultancy. Most of the output from this

factory is being exported to USA and European markets. Apart from the above, the company has a

major presence in the international knitwear and khakis markets also. The knitwear division is a

part of the ‘multi-product textile facility’ set up at Gandhinagar (Gujarat) with an investment of

US$ 50 million in technical collaboration with Alamac Knits Inc. of USA.The company offers one

of the world’s most comprehensive range of knitwear products for renowned garment brands and

retailers of the world. The khakis division of the company is the only one in South East Asia to

launch two collections annually. The in-house product development team co-ordinates with

European designers to prepare the new collections on regular basis.

Globalization at a glance

• World class manufacturing facilities catering to the best brands in the world

• World’s third largest denim manufacturer

• Presence in more than 70 countries

• Independent design teams working with international designers for latest designs

• Technical collaborations for high quality products

Operating efficiency

Within the shirting fabric business, volumes are yet to increase since it operates around 80 per cent

of our capacity utilisation. Though realisations are stable in this segment, they are not expected to

grow further. Hence, it is positioning garmenting as a key driver for growth and are also planning

an increase its garment capacity. The company has a major presence in the international premium

shirting market and has a modern shirting plant to manufacture high value cotton shirting. The plant

has a capacity of 33.5 million yards per year and the company is one of the largest exporters of

premium shirting fabric from India. The plant has an integrated manufacturing facility from yarn to

finished fabrics under one roof to produce world-class quality. The shirting division has an in-

house design studio with team of qualified professional designers, including designers based in

Italy and UK. The company has a state-of-the-art garment manufacturing plant at Bangalore

(Karnataka) to manufacture shirts and tops primarily for the international markets. The plant has an

annual capacity of 4.5 million pieces. This factory has been put up in technical collaboration with

an Italian apparel consultancy firm, CF ITALIA, which specialises in apparel manufacturing and

technical consultancy. Most of the output from this factory is being exported to USA and European

markets. Apart from the above, the company has a major presence in the international knitwear and

khakis markets also. The knitwear division is a part of the ‘multi-product textile facility’ set up at

Gandhinagar Gujarat) with an investment of US$ 50 million in technical collaboration with Alamac

Knits Inc.of USA.The company offers one of the world’s most comprehensive range of knitwear

products for renowned garment brands and retailers of the world. The khakis division of the

company is the only one in South East Asia to launch two collections annually. The in-house

product development team co-ordinates with European designers to prepare the new collections on

regular basis.

In addition to this, Arvind Mills will further its strategy of supplying to key brands and offering

differentiated and unique products. 

Cost Structure

Arvind Mills is a composite mill. It has adopted world class, state-of-the-art technology for

production, which gives us a significant advantage. Value engineering at each possible level of

manufacturing helps to reduce costs. Lower labour cost and a cost-structure at par with

international manufacturers at the production level with international manufacturers, give us a cost

advantage.

Financial Analysis

Arvind Mills has witnessed a growth in gross sales during the period 1999 to 2005 at CAGR of

10.6 percent, with gross sales reaching US$ 389 million in 2005. Exports have grown at a CAGR of

8.6 per cent to reach US$ 177 million in 2005. Profit after tax has grown at a much higher CAGR

of 43 per cent in the same time period owing to improved market conditions, better price

realizations and lower financial expenses especially in the last three years. The company’s top line

and bottom line have been highly volatile in the past, particularly between 1999 and 2002, when it

faced rising interest costs because of high level of borrowings, volatility in cotton and other raw

material prices as well as depressed denim prices in the international markets. The company

managed to turnaround from 2002 onwards by undergoing financial restructuring which helped in

substantial reduction of interest cost. Apart from this, the company also followed a disciplined

strategy of improved product and customer mix, increased capacity utilization and control on

sourcing of cotton and other raw materials to reduce procurement costs. These changes have been

largely responsible for the upswing in the company’s profitability in the last 3 years. The company

achieved a higher capital efficiency, which is evident from its return on capital employed (ROCE)

of 9.1 per cent in 2005, which was better than the textiles industry’s ROCE of 7.3 per cent.

Future plans

The ATC ceased to exist from 1st January 2005 and with that the quota system between member

states of the WTO also came to an end. This has opened up all the big garment markets in the world

including the European Union and USA,which are the major importers of all types of garments.

India is expected to be one of the biggest beneficiaries of this development as additional garment

production moves to countries like India. Arvind Mills is already in the process of increasing its

capacities for various products and also tying up for outsourcing opportunities to take advantage of

the changing market dynamics. The company is focusing on optimising the product mix for all its

divisions to further improve the performance of each division, which is being done by emphasising

on the high value added products. As denim already accounts for about 60 per cent of the

company’s gross sales, it is trying to spread the product risks by reducing dependence on only one

product. As part of this, shirting, knits and khakis are being focused on to achieve a more balanced

product mix. The company also plans to have increased focus on high value added garments in both

existing and new geographies. Branded apparel consuming class in India is expanding at a CAGR

of 11 per cent and this is turning out to be a major force impacting the domestic apparel sector.

Arvind Mills has been making efforts to capitalise on this opportunity for some time now by using

one of its subsidiary companies 'Arvind Brands Limited' as a platform. The company plans to

renew its focus on the domestic branding and retailing of its own apparel brands as well as

developing closer relationships with the global retailers by increasing value added products in its

portfolio

RATIO

ANALYSIS

\

Liquidity And Solvency Ratio

1. Current Ratio

Current Ratio = Current Assets / Current Liabilities

Interpretation :The current ratio of 3.26:1 for company signifies that current assets are more than three-fold its obligations. Generally a current ratio of 2:1 is considered satisfactory. So there is sufficient cushion in the firm and even with two-thirds shrinkage in the value of its assets, it will be able to meet its obligations in full.

2. Quick Ratio

Quick Ratio = Quick Assets / Current Liabilities

Interpretation :The ideal ratio for quick ratio is 1:1.The quick ratio for the company decreased in 2009 and then increased in 2010. although the ratio is more than the ideal ratio indicating its ability to pay current liabilities, still, higher ratio indicates that its assets are not being utilized to its full capacity.

3. Debt-Equity Ratio

D/E Ratio = Long-Term Debt / Shareholders' Equity

Interpretation :If the ratio is more than 2:1, then it is danger signal for long term lenders. As here it is less than 2:1, it shows it provide sufficient protection to long term lenders.

4. Long Term Debt Equity Ratio

Long-Term Debt Equity Ratio = Long-Term Debt / Permanent Capital

Interpretation:This ratio indicates the ability to pay back the long term borrowings, so the lower the ratio, the better it is. As we see that the debt equity ratio is increasing from 2008-09, this indicates that the company does not have sufficient funds to pay back its debts. The ratio should be ideally less than 1, but then as the ratio has slightly decreased from 2009 to 2010, this indicates that the company’s position has improved to some extent. But still the company is facing crisis in terms of paying back the long term borrowings.

Turnover Ratio

Mar ‘08

Mar ‘09

Mar ‘10

0.87 2.62 3.26

2.27 1.66 2.31

1.37 1.77 1.32

0.9 1.77 1.3

5. Inventory Turnover Ratio

Inventory Turnover Ratio = Cost Of Goods Sold / Average Inventory

Interpretation:A high inventory turnover ratio is good from the viewpoint of liquidity. It signifies how inventory sells fast. Here increasing ratio indicates good performance of the company in terms of inventory selling.

6. Debtors Turnover Ratio

Debtors Turnover Ratio = Net Credit Sales / Average Debtors

Interpretation:The ratio measures how rapidly receivables are collected. Here decreasing ratio indicates that the ability to quickly collect debts is reducing and that debts are not being collected rapidly.

7. Total Assets Turnover Ratio

Total Assets Turnover Ratio = Cost Of Goods Sold / Average Total Assets

Interpretation:The main objectives of the total assets turnover ratio are to measure how efficiency assets are employed. If the total assets turnover ratio is high it implies that there is high degree of efficiency in assets utilization and vice-versa. Here, the ratio has decreased but quite insignificantly, so this suggests that the company is still in a good shape.

8. Fixed Assets Turnover Ratio

Fixed Assets Turnover Ratio = Cost Of Goods Sold / Average Fixed Assets

Interpretation :As the ratio decreases from the last year ratio, it shows that there is no better utilization of fixed assets.

4.13 4.03 5.37

9.49 7.66 5.98

0.74 0.73 0.7

0.85 1.15 0.77

Coverage Ratio

9. Interest Coverage Ratio

Interest Coverage Ratio = Earnings before Interest and Taxes (EBIT) / Interest

Interpretation:This low interest coverage ratio is a danger signal that the firm is using excessive debt and does not have the ability to offer assured payment of interest to the lenders.

Profitability Ratios

10. Gross Profit Margin (%)

Gross Profit Margin (%) = Gross Profit * 100 / Sales

Interpretation:This ratio measures the margin of profit available on sales. As gross profit margin is good and it has increased from last year which shows that the profitability has increased. This shows that the sale of company had increase or the cost had decrease but the price of the product remained same.

11. Net Profit Margin (%)

Net Profit Margin (%) = Earnings after Interest and Taxes (EAT) * 100 / Net Sales

Interpretation:As we compare to last year ratio, this year the net profit ratio has increased this shows that the profitability has increase which is good for company. There should increase year by year or it should mention the same percentage as last year.

12. Operating Profit Margin (%)

Operating Profit Margin (%) = Earnings before Interest and Taxes (EBIT) * 100 / Net Sales

Interpretation:Operating profit margin ratio analysis measures a company’s operating efficiency and pricing efficiency with its successful cost controlling. The higher the ratio, the better a company is. So, here as the ratio is increasing every year, it shows the company to be in a good state and also that the company has a good cost control.

0.65 0.79 1.33

4.17 5.26 8.44

1.22 -1.99 2.23

10.34 10.46 13.35

Probability Ratio Related to Investments

13. Return on Assets (%)

Return on Assets (%) = Net Profit after Taxes * 100 / Average Total Assets

Interpretation:Return on assets (ROA) measures how effectively the firm's assets are used to generate profits net of expenses. The higher the ratio, higher the return on assets ratio, the more efficiently the company is using its asset base to generate sales.As is seen here, the ratio first declined from 63.11 in 2008 to 52.18 in 2009, but then further increased to 60.93. This indicates that after the downfall of the ratio, the company managed to utilize its assets in the most efficient way, but it still needs improvement as the ratio is less than that of year 2008.

14. Return on Capital Employed (%)

Return on Capital Employed (%) = EBIT * 100 / Average Total Capital Employed

Interpretation:If the Return on Capital Employed increases then its good for company as more investor are willing to invest in the company and here the trend is increasing which is good for the company.

15. Return on Net Worth (%)

Return on Net Worth (%) = Earnings after Taxes * 100 / Net Worth

Interpretation:This ratio is one of the most important ratios used for measuring the overall efficiency of a firm. . As the ratio reveals how well the resources of the firm are being used, higher the ratio, better are the results.

16. Return on Equity (%)

Return on Equity (%) = Earnings after Taxes * 100 / Equity Shareholders' Funds

Interpretation:This ratio indicates how efficiently shareholder assets are managed in the company. Here the ratio increases which attract the shareholder to invest more in the company.

17. Earnings Per Share (EPS)

63.11 52.18 60.93

3.46 5.44 6.3

1.8 -4.33 3.62

12.49 - -

EPS = Net Profit Available to Equity-holders / Number of Ordinary Shares Issued

Interpretation:Earnings per share is generally considered to be the single most important variable in determining a share's price The more the earnings per share ratio, more would be the profitability of the company that means that the chances of getting high return on investment is maximum, if you invest in the stocks of a company having a high earnings per share ratio. So here, the people would invest more in 2010 than in 2009 or 2008, because the ratio of 2010 is greater than that of other 2 yrs.

18. Book Value Per Share

Book Value Per Share = Net Worth / Number Of Equity Shares Issued

Interpretation:The higher the ratio is, the better the financial position of the company. If, we assume the no. of equity shares issued is not changing then the ratio is changing only because of the change in net worth of the company. The book value per share decreased from 2008 – 09 and the increased from 2009-10 indicating that the net worth of the company decreased and then increased in 2009-10.

19. Dividend Payout (D/P)Ratio (Cash Profit)

D/P Ratio = Dividend per ordinary share (DPS) * 100/ Earnings per Share (EPS)

Interpretation:The lower the payout ratio, the higher will be the amount of earnings ploughed back in the business and vice versa. A lower payout ratio means a stronger financial position of the company. So, here as the payout ratio is decreasing we interpret that more amount of profit is being ploughed back for the retained earnings. Thus, suggesting that the financial position of the company is strong.

1.14 -2.26 2.21

63.55 52.64 60.93

0.26 0.4 0.07

COST OF CAPITAL

Cost of Capital

1. Equity Shares

No. Of Shares

Rs./Share Total Amount

Equity Shares

254400000 10 254.4 Cr

β = 1.2662 (from Capitaline)

rf = 7.4896 % (from RBI site)

Stock Values

(from Capitaline)

29/12/2010 65.5

29/11/2010 52.6

29/10/2010 57.7

29/09/2010 44.55

29/08/2010 40.95

29/07/2010 23.95

Market Return

From 29/11/2010 to 29/12/2010 25%

From 29/10/2010 to 29/11/2010 -9%

From 29/09/2010 to 29/10/2010 30%

From 29/08/2010 to 29/09/2010 9%

From 29/07/2010 to 29/08/2010 21%

Average Market Return, Km = 15.2%

Ke = rf + β (Km - rf) = 7.4896 + 1.2662 (15.2 – 7.4896)

= 17.25 %

2. Preference Shares

No. of Shares Rs./Share Total Amount

Preference Shares

6950000 100 69.5 Cr

Dividend = 6% (from Arvind Mills Annual report 2010)

Floatation Cost, f = 5% Assumedn = 20 years

Kp = d + (RV – SV)/n (RV + SV)/2

= 6 + (100 - 95)/20 (100 + 95)/2

= 6.41%

3. Loan and Debt

Total Amount

Interest rate

Loan & Debt 1873.63 Cr11% (given

in notes)

Tax Paid = 8.77 Cr From P/L accountProfit before tax = 52 Cr

Tax% = Tax Paid

Profit before tax∗100 = 16.86%

Ki = 0.11

Kd = Ki (1 - tax) = 0.11 (1 – 0.1686)

= 9.14%

4. Retained Earnings = 1117.34 Cr

Ke = 17.25%

Type Amount (Cr)Specific Cost

(%)Total Cost (Cr)

Equity Shares 254.4 17.25% 43.884

Preference Shares

69.5 6.41% 4.455

Loan & Debt 1873.63 9.14% 171.25

Reatined Earnings

1117.34 17.25% 192.74

Total (y) = 3314.87

Total (x) = 412.33

Overall Cost of Capital = x/y = 12.4%