Kotak Securities: Pantaloon Retail (India)

Pantaloon believes size and scale will be the important differentiators for success. We believe the aggressive expansion provides Pantaloon with a strong first-mover advantage. There is a clear visibility on store additions (due to retail space lock-in) as well as most of the

technology backbone is in place. Post FY2011E, with around 20 mn sq. ft of retail space and around US$4 bn of potential annual revenues, PRIL would be ideally placed to take on any competition, including those from foreign firms. It helps PRIL to lock in future realty at

concessional rates. It also helps PRIL in becoming the retailer of choice for foreign companies wanting to make an entry into the Indian market. This will help the company explore economies of scale as its sheer size would help in its procurement.

This ramp-up positions Pantaloon as a retailer of choice for customers and locks in customers. PRIL, like most retailers, banks on loyal customers for a large part of its sales (see Exhibit 7). PRIL will be ideally positioned to pass on any potential benefits of economies of scale and also leverage its operations to add more value to its customers.

Potential unlocking of value with HSRIL Over the past few years, Pantaloon has been aggressive in terms of unlocking value from some of its subsidiaries, either through private placements or through equity listings. While this route has helped the company raise much-needed capital for expansion, it has alsoenhanced shareholder value by unlocking value in some of the subsidiaries (e.g. Future Capital Holdings and Future Ventures). We believe HSRIL could also see some potential value unlocking, as the subsidiary begins to generate positive returns. Assuming a normalized PAT margin of 5%, the total value of Pantaloon could increase 5% (see Exhibit 8) as against our current valuation of HSRIL stake at Rs71 based on 10X FY2010E EV/EBITDA.

We expect HSRIL to report positive PAT in FY2009E aided by rollout of higher marginformats like Home Town. HSRIL’s PAT losses in FY2007 were around Rs400 mn (almost 50% of total subsidiaries losses) as the operations were impacted by a disproportionate rollout of lower margin formats, especially in the electronics category (typical gross margins of around 8-9%). We expect higher-margin formats like Home Town and Furniture Bazaar to contribute significantly to overall retail space and sales (see Exhibits 9 and 10). EBITDA losses for HSRIL have reduced 250bps in 9MFY08 (EBITDA losses were Rs403mn in 9MFY08 versus Rs324 mn in FY2007) and we expect this to turn positive from 1QFY09E.

Potential softening of rentals to have marginal impact on short-term expansionsRentals form a significant part of overall costs for any retail company. Pantaloon too has been impacted by the sharp escalation of realty costs (see Exhibit 11). However, since Pantaloon is the anchor tenant in most of its operations (especially large-scale formats), we estimate it typically gets rentals which are at least 40-50% lower than normal market rates.

Our realty analyst, Puneet Jain, expects commercial and retail rentals to remain flat over the next two years, as against a 20-25% p.a. increase in realty prices over the past 2-3 years. We note this potential softening of realty rentals would possibly only have a marginal impact on PRIL’s short-term expansion strategy as the company has already locked in most of its

FY2011E estimated retail space requirement (at around Rs45 per sq. ft) as a hedging strategy. However, we believe PRIL will likely take advantage of any potential softening of realty rates to build up inventory for post-FY2011 scenarios. We also note that any actual softening of rates could have a positive impact on our overall working capital assumptions for PRIL, especially on rental deposits (where we have assumed rates to remain flat).

Some seeded initiatives could have significant upsides Pantaloon, in its attempt to capture all points of the consumption space, has seeded various opportunities. These could be interesting opportunities in the near future but are not in our current estimates, pending more visibility. In particular, we highlight the operations of Future Bazaar (e-retailing), Future Media (providing visual space for brands inside shops), Future Logistics (PRIL’s logistics arm, including warehousing) and KB’s Fair Price (small-format stores catering to the economy segment). While most such initiatives (excluding KB’s Fair Price) are currently for internal needs, the company has aggressive rollout plans for the near future which could turn out to be important business drivers. We also highlight initiatives like Future Bazaar and Future Media have significantly better operating leverage once they reach a critical size and hence could ultimately shore up the overall margins of the company.

Profile: Pantaloon Retail India LtdPantaloon is a part of the Future Group promoted by Mr Kishore Biyani, a first-generation entrepreneur. Starting with one store in 1997, the company has grown to around 400 stores in over 40 cities as of end-FY2007, covering around 5.5mn sq ft of retail space. Exhibit 14 below shows the key verticals in Pantaloon, including subsidiaries.

Some key subsidiariesFuture Capital Holdings (FCH). FCH is the financial services arm of the Future Group in which Pantaloon has a 55% stake. FCH is engaged in two main businesses—asset management/investment advisory and consumer finance. FCH manages alternative assets of about US$1.5 bn, which will likely increase to US$3 bn by FY2009E. FCH’s advisory follows a unique model of active mentoring, helping (with strategy and execution) the companies in which its funds are invested. This will likely enable the company to earn higher research and advisory fees. So far, the funds managed/advised have been invested in real estate, hotels and consumer companies. Fresh areas of interest are logistics and natural resources—fast- growing segments with significant investment potential.

Future Money, the retail division of FCH, aims to create a strong brand name and distribution reach, with the eventual goal of being a financial powerhouse. The company has exclusive rights to distribute financial products across the outlets of the group. Initially, FM will sell high-yield personal loans, consumer durable loans and home equity loans and cross- sell credit cards, forex, mutual funds, and insurance—a segment with high interest yields which can deliver high profitability if managed effectively.

Future Ventures (FV). FV proposes to invest in and promote business across ‘consumption- led’ sectors (play on the purchasing power of Indian consumers and their spending habits) without restricting its focus on a single segment/line of business. With limited leverage, FV will mainly utilize its net worth to fund these investments akin to a fund. Currently,

Pantaloon Future Ventures Ltd. (a company promoted by PRIL) holds 8.64% in FV and various individuals and corporate bodies hold 90%. FCH will be FV’s consultant for managing investments. FV has already bought 70% in Aadhar (a Godrej group company focused on rural retail) and bought PRIL’s stake in Convergem and Footmart Retail.

  • e-retail

    Thanks for info