Satish Ramanathan

In my experience as a fund manager, I have found that the highest-valued stocks are high-growth companies with a high return on equity. Companies such as Hero Motors, Sun Pharmaceuticals, Infosys, TCS, ITC and Nestlé have been darlings of the market and have discovered the holy grail of self-sustaining growth. These stocks are well discovered, so the focus now is on finding tomorrow’s cash fountains at today’s price. Some winners in that trend are Jubilant Foodworks, Titan Industries, Page Industries and United Spirits. PVR has also been a recent darling of the stock market and has appreciated over four times in two years. I believe that Inox has similar ingredients to become a cash cow in the near term. Although dividends may not be exciting on account of the high investments required to fund growth, cash flows will steadily increase.

Inox is in the organised movie exhibition business and is a play on Indian demographics, the shift to a premium movie-going experience and increased consumerism. It is at the cusp of several large trends in India, and is well positioned to exploit these trends. The ₹83,000-crore Indian media and entertainment industry is on a high growth trajectory, of which the movie entertainment business is estimated to be ₹11,200 crore. The industry is expected to grow at a 15-18% CAGR over the next five years across several platforms, including digital, print, radio and movies.

The key to success in this industry is location with a good catchment area. Thanks to a boom in real estate activity, large areas are now available for multiplex chains, with payback in under three years. With India churning out over 1,000 movies a year, there is ample software that has enabled the multiplex format. And while one might have expected that access to a number of television satellite channels and internet would diminish the role of theatres, they have come back with a bang and are thriving. So, the large cinema format seems set to stay for some more time.

India is an under-served market with just eight screens per million people compared with 117 in the US. The surge in multiplexes has only now commenced and accounts for just 15% of total screens but has a disproportionate share of revenues. Revenues of organised movies chains have expanded at 30% CAGR and show no signs of slowing down. Competition has reduced significantly and there are clearly two leading chains in the business who account for almost 70% of the organised industry revenues. We also expect the food and beverage segment of the industry to grow along with ticket sales. Further, these companies have the potential to diversify into other lifestyle entertainment categories such as bowling alleys, cafeterias and pubs to increase their share of wallet.

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Inox Leisure is part of the Inox group of companies whose flagship company is Gujarat Fluorochemicals. Inox Leisure had been built both organically and inorganically in a matter of 10 years, from two properties in 2003 to the current 74 properties. The company has expanded from 28 screen to 288 now, implying 10 times increase in a decade. It is present in 40 cities and has nearly 79,000 seats with over 43 million footfalls. PVR is the other large player in this industry with over 350 screens and 64 million footfalls. Inox and PVR have been consolidators in the industry and can further increase their reach and number of screens.

Inox has three sources of income: advertising, ticket sales and food and beverages. All these sources have been expanding rapidly. In H1FY14, the company clocked revenue of ₹408 crore, of which ₹271 crore was from box office collections, ₹90 crore from food and beverages and ₹19 crore from advertising. It also posted a profit of ₹24.4 crore in this period and it is reasonable to assume the company can repeat this performance in the second half as the movie pipeline looks good. Operating margins at 20% can potentially increase as percentage of turnover from advertisements and food, increases. Gross margins in the food business are close to 70% and growth in this vertical will lead to increased margins.

The company’s earnings can continue to grow at 20% for the next few years as it expands its reach. Having a large retail space and a defined catchment of 45 million spending consumers gives Inox the opportunity to cross-sell other leisure goods and services. The induction of Future Group’s Kishore Biyani as independent director is a pointer towards the opportunities that exist in the space. Healthy cash flow generation and steady expansion of margins would imply that the need to dilute has diminished considerably. Inox is expected to touch ₹1,000 crore turnover in FY15. Currently, the stock trades at around 20X current year earnings.

There are risks, however; chief among them is a drought in good movies, which can push down occupancy rates. Large international chains such as Cinepolis have also entered the Indian market and they may increase the competitive pressure. The other risk is that media access is becoming very individualistic, with tablets and smartphones increasing consumption but reducing the need for cinema theatres. Yet another risk could be if the company decides to enter into unrelated expansions or make a large acquisition. For now, these factors do not appear significant. There could be some saturation in growth levels as Inox moves increasingly to smaller towns with lower consumption levels and hence slower growth, but I remain confident that the group can deliver good growth.

The writer has a position in the stock