We upgrade Titan Industries shares to Buy (from Hold) and have increased our target price to Rs 295, driven by (i) earnings revision and (ii) ascribing a higher P/E (price-to earnings ratio) of 30x (reverting to the same multiple at which we were valuing earlier before ‘gold on lease’ was banned) one-year forward versus 26x earlier.
Titan Industries reported strong Q1 results–volumes +67% in jewellery, partially benefited by the strong sales in April due to a correction in gold price. We agree that regulatory risks exist (similar to Pakistan recently banning gold imports for a month); however, we also draw comfort from Titan’s commentary that the organised jewellery industry is finding support from government institutions regarding business continuity.
Our long-standing thesis of rationality in regulation holds well: We had always believed in the rationality of regulation (that the government’s intention is to control the speculative demand in gold and not to hurt the organised jewellery industry). With the Reserve Bank’s recent clarifications about allowing gold on lease, it appears that indeed the intent is not to impact legitimate jewellery businesses.
Market conditions favour likely acceleration in market share: We continue to believe that organised players like Titan could get preference over unorganised players to get access to the imported gold for domestic sale due to their better relations with the nominated agencies. This is a favourable environment for Titan to gain market shares from the unorganised industry.
Strong expansion plans: Titan has a floor space addition plan of 100,000 sq. ft (+20% y-o-y) for FY14e, which, in our view is achievable (it has already added 37,000 sq ft in Q1FY14). Moreover, it could benefit from the ramp up in new stores opened in FY13 (it had added 145,000 sq. ft in FY13). We note that the typical ramp up of a new store is an index 30/60/100 over 12/24/36 months.
Resilient business model: Our confidence on Titan’s business model is reinforced after the Q1FY14e performance. It has successfully demonstrated the ability to keep the operating model insulated from an uncertain and complex regulatory environment (for example, utilising the domestic market for ‘gold on lease’—borrowing from the State Bank’s reserves of gold deposit scheme, from gold ETFs etc).
Valuation and risks: We have upgraded our FY14 and FY15 earnings estimates by 4-6% as we model higher volumes, faster space expansion and