We upgrade Titan to buy from neutral with a revised target price of R360 a share, valuing the stock at 30x FY16E EPS.
Our cautious stance on Titan was predicated on the harsh regulatory regime, combined with subdued discretionary demand. With the removal of ban on gold on lease, modest sequential recovery in same-store performance and no change in expansion plans (guidance of 90,000sqft space addition in Jewellery), we believe major concerns are behind.
While we await greater clarity from the management on the operational aspects, we upgrade the stock. The RBI, in a circular, has offered relief to domestic jewellers for metal gold loans (gold on lease). As per the circular, it has been decided to permit the nominated banks to give gold metal loans (GML) to domestic jewellery manufacturers out of the eligible domestic import quota of 80% to the extent of GML outstanding in their books as on March 31, 2013.
We interacted with the managements of Titan, TBZ and PC Jewellers. Essentially, it means the return of gold-on-lease scheme.
We note that RBI had banned this low-cost inventory funding with natural hedge mechanism in August 2013, along with several other measures to curtail gold imports. Hence, Titan and other jewellery retailers had to buy gold with up front payment without any provision for credit. This resulted in a strain on balance sheet and Titans net cash in FY13 balance sheet turned net debt as on March 31, 2014.
Also, it introduced complexity in the form of separate hedging mechanism with associated costs. Titan had recently procured approval for international hedging as domestic contracts were not sufficiently liquid.
Post approval, its P&L had reverted to gold-on-lease regime as regards costs , but it still had to pay up front for procurement of gold.
We note that the 80:20 scheme of gold imports still remains. While the 80:20 scheme and regulatory uncertainty around customer advances schemes persist, we believe the ban on gold on lease was the harshest step from Titans perspective. Thus, we believe lifting the ban is a major positive.