Thangamayil Jewellery IPO Analysis

Investors can refrain from subscribing to the initial public offer of Thangamayil Jewellery (TJL), a retail jewellery chain in Tamil Nadu, as the risks appear to outweigh the potential rewards. In the price band of Rs 70-75, the valuations are at about 6.3 times the estimated FY-10 per share earnings on a post-issue equity.

Though valuations are reasonable and at a discount to the closest comparable Gitanjali Gems, the business carries a number of challenges and is not a preferred exposure for investors.

Limited geographical reach, reliance on a brand that is yet to be established, focus on gold jewellery which is susceptible to price volatility and slim margins open to cost-pressures are the key risks.

Proceeds utilisation

TJL has a chain of four outlets in as many cities in Tamil Nadu. A well- established player in the Madurai jewellery market, TJL penetrated the Karaikudi, Rajapalayam and Ramanathapuram markets in 2008-09. Despite the store additions, the company's overall sales have only gone up 10 per cent to Rs 246.8 crore in FY-09.

Proceeds of the issue will part-finance additions of a store each in seven new cities during 2010-11, with a total investment of Rs 22 crore (including equipment).

For two of these cities, store locations are temporary, shifting to new premises when they come up, requiring higher capex. Location is yet to be decided in the third city. Though it may help topline, scaling up may not contribute significantly to profits in FY-11.

Regional markets no doubt hold substantial purchasing power and may be good for wedding jewellery with national players unlikely to step in.

Still, given that such markets are likely to have established local players, it may take time for a new entrant to make a mark. TJL is well-recognised in Madurai alone; investments in brand-building in new regions may be high in the initial period.

TJL is also susceptible to competition from established regional brands, should they choose to make an entry.

The gold jewellery business inherently has low margins, subject to high working-capital requirements and price volatility. Working capital — purchase of raw material (gold, silver and diamond) — will also be partly funded from this issue.

The company's inventory turnover, though, has dropped from 6.3 times sales in FY-08 to 3.8 times in FY-09, further to 2.7 times in the first half of FY-10, lower than most industry peers.

Margin pressure

Sales and net profits registered a 71 per cent and 72 per cent three-year CAGR. Gross margins were at 5 per cent for FY-09 with net margins down to 3 per cent, though these figures are on a par with industry peers. Sales for the first half of FY-10 stood at Rs 209 crore, while net profits were at Rs 7.9 crore, leading to an improvement in gross and net margins rising to 6 per cent and 4 per cent respectively.

This was, however, due to fall in selling expenditure, now set to rise as TJL begins the brand-building exercise. With a larger store network, hike in depreciation is also likely. TJL's practice of trading some of its gold inventory could expose the company to losses on the price front, when there is little cushion to handle price risks.

About 15 per cent of sales come from recycled jewellery on which margins are typically lower by about 2 percentage points. Any increase in this segment could pressure margins.

A degree of risk stems from TJL's dependence on gold jewellery at a time when diamond-studded jewellery is starting to eat into the market for pure gold jewellery. Gold accounted for 97 per cent of TJL's sales in FY-09 (99 per cent in FY-08) with barely 2 per cent contributed by silver and negligible contributions by diamond.

via BL