Investors with a long-term perspective can buy shares of Somany Ceramics, the largest player in the organised market for tiles in India after H&R Johnson and Kajaria Ceramics. Capacity expansion, an increase in revenues from high value vitrified tiles and the recent acquisition of Sonec Sanitary Ware should help the company.

The stock is trading at 18 times its expected earnings for 2015-16 (Kajaria Ceramics trades at 20 times). In the last five years, the Somany stock’s price-to-earnings band has been in the range of 3-11 times.

It has seen a re-rating this calendar year, thanks to equity infusion by a private equity firm and the company’s sound growth prospects.

The company’s earnings have grown at a compounded annual rate of 27 per cent in the last five years. The current year and the next may see much higher growth, given the company’s new acquisitions and its growing reach.

Its capacity will increase by about 8 million square metres (msm) this year to 42.5 msm following expansion of manufacturing facilities at its own plants and joint venture units.

In the last five years, the Indian tile industry has grown at around 12-14 per cent annually.

It should continue to grow at higher double-digit levels, given the low per capita tiles consumption in the country and improving prosperity of the country’s middle class. Also, if the real estate sector sees a revival in the coming year, the tiles industry should be a major beneficiary. New satellite towns proposed to be set up by the government should also give a boost to tiles demand. Indian tile makers have been helped by the reduced attraction of Chinese tiles in the domestic market in the last one year on account of rupee depreciation adding to import costs.

In 2013-14, Somany’s revenue increased 19 per cent on the back of a 13 per cent rise in volumes.

Revenue set to grow The company’s revenue has grown at a compounded annual rate of 23 per cent over the last five years, thanks to additions to its list of dealers every year, a slew of acquisitions in both the ceramics and vitrified tiles space, and an increase in traded goods (that Somany purchases from players in the unorganised market and sells under its brand). Now, with a network of over 1,200 dealers and a large presence in tier II/III towns, Somany should continue doing better than its peers. With nearly an 8 msm increase in capacity planned, sales should receive a further boost. The company will also see higher revenue from sanitary ware products given its recent acquisition (26 per cent stake) of Sonec Sanitary Warewith a capacity of 3 lakh pieces a year.

Profitability to improve In 2013-14, Somany’s profits were down 11 per cent despite good sales growth. Operating margin was down 1.7 percentage points to 6.5 per cent over the previous year due to increased fuel costs and higher contribution of outsourced manufacture to revenue. Somany’s margin is significantly lower than Kajaria’s, mainly because traded goods make up about 50 per cent of the former’s revenues.

Traded goods accounted for about 51 per cent of revenues in 2013-14, up from 49 per cent in the previous year. Power and fuel costs as a percentage of sales increased from 12.5 per cent in 2012-13 to 13.15 per cent in 2013-14.

However, margins may improve hereon. This will be one of the outcomes of expansion in capacity, as a result of which the share of outsourced goods may reduce and margins may expand. What’s more, the company’s product mix is going to change, with Somany intending to make higher capacity additions of vitrified tiles, a high margin product, this year. In addition to the 3.06 msm expansion of vitrified tile capacity at an associate company, Somany is going to invest in a JV with a vitrified tile maker, increasing its vitrified tiles capacity by 5 msm .

Somany recently raised about ₹50 crore by allotting 43.4 lakh equity shares to Latinia Limited, a Mauritius-based private equity firm, following which the stock was re-rated.

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