Has Welspun Unraveled All It Can?

The textile major has lost 50% of its market cap. Is it time to bottom-fish?

Theoretically, the stock price of Welspun India should not have fallen below Rs.94 because at that price the stock had already seen its market-cap erode enough to account for the loss in sale from Target. Before the Target controversy broke, Welspun was trading at a market cap of Rs.10,350 crore, being valued at 2x sales. Sales from Target according to the company was $90 million, which means, the floor for the stock should have been Rs.94 had the market continued to value the company at 2x sales. That’s clearly not the case. The stock is currently trading at Rs.49 a share, which is a 52% discount to its pre-crisis price. Is it then a screaming buy?

Warren Buffett famously says, "In the world of business, bad news often surfaces serially. You see a cockroach in your kitchen; as the days go by, you meet his relatives." The market clearly seems to fear a lot more than loss of business just from Target. Explains Mrinalini Chetty, who tracks the stock at Centrum Broking, "Today, there are too many risks. We do not know the outcome of independent audit undertaken by E&Y and its financial impact. Other clients will also do their own audit of products supplied to them. All its big clients Target, Walmart, Bed Bath & Beyond and JC Penney are US-based clients and if any wrong-doing is proved, it will result in a further loss of business. On top of that, the impact of claims and suits that clients might impose is not known yet.”

Given these imponderables, bottom-fishers should be cautious. It does not help that the company has a book value of merely Rs.20 per share as against its market price of Rs 49 per share. Even if one does a sum total of its fixed assets (net), inventory and debtors, what is left after paying debt is not more than Rs.2,200 crore as against its current market capitalisation of Rs.4,900 crore.

Besides, in FY17 and FY18 the company was expected to make a free cash flow of Rs.300 crore and Rs.700 crore respectively. If we apply a 30% discount to free cash flows (to account for the potential loss of business), the free cash flow yield on the current market cap is a mere 5% based on FY17 estimates and 10% for FY18. Thus, the residual value at the current price itself is questionable.

Trust issues apart, the unattractive financials make the case for Welspun India weak. It might be a long wait before the stock turns for those fishing for value at this level.