Sunday, May 27, 2007

Gandhi Special Tubes

Market Value: 7.34 million shares outstanding*130= 954 million
Industry: Steel – Tubes/ Pipes
Performance: Underperformed sensex by 25% for last 5 yrs
Dividend yield: 4/129 = 3% (moderate)
Institutional Ownership: Virtually No MF Holding
p/e ratio: 129/21=6.1 (cheap)
Market/Book value: 129/66=1.95 (moderate)
The stock is cheap, obscure and cheap
Enterprise Value=954 million+11.35 million=965 million


Net Asset Value = 490.87 million
Net asset value per share = 66.7

Ratio Analysis

As on
PBIT/Cap. Employed (%)
PAT/Networth (%)

WACC= 10% the company is generating value by showing roic of about 41 %

Total Cash= 28mn+90mn=118mn
Total liabilities= 92 mn
Net current assets= 26mn
Net current assets per share=3.53

EPS+ Net Current assets per share=21.9+3.53=25.43

Real p/e ratio = 129/25.43= 5.07 (earnings yield = 20% pretty good)

4 yr avg growth in PAT= 48.5%
4 yr avg growth in Invested Capital= 20.2%

Showing good growth rate without much addition in invested capital
Return on tangible assets=76%

with real good growth rates and high roic the company surely looks very attractive. the stock is pretty cheap compared to the assets. It shows good returns on capital without much addition to the total invested capital

Operating Margins

2006 2005 2004 2003 2002
OPBDIT/Sales 32% 33% 30% 31% 29%

Very Stable and High Margins

Earnings Power
The value of a debt free company has to be substantially more than the amount of debt it can comfortably service. It's a principle which was first laid out by Ben Graham in Security Analysis.

OPBDIT=210 million


5-yr average fixed assets/sales= 274million/630million=0.43

5-yr average growth in sales= 100 million

5-yr average growth capex= 100 million*0.43= 43 million

5-yr average actual capex= 55 million

5-yr average maintainance capex= 55-43= 12 million

5-yr average depreciation = 34 million

excess depreciation= 22 million

add excess depreciation back to OPBDIT we get OPBDIT= 232 million
using a 5-yr average tax rate of about 28 %
we get PAT=167 million

Weighted Average Cost of Capital = 10%

Amount of debt the company can finance without gaining any growth in earnings in the future = 167 million/0.10= 1.67 billion rupess

Debt-capacity =1.67 billion
Net asset value= 490 million

The earnings power of the company is far greater than the asset value of the company but without any barriers to entry or sources of competitive advantages the company might lose its current earnings power. dont know whether any competitive advantages such as economies of scale do exist. The earnings power might equal the asset value in the next five to eight yrs if doesnt have any competitive advantages like economies of scale which is very less likely to exist in this siutuation so would buy the stock for less than the earnings power of the company.The company shows high return on Invested capital so it might suggest some franchise value. without giving much consideration to the growth in the the earnings of the firm. According to my calcualtion the company is atleast worth 1.67 billion rupees which is 227 rs. Presently the stock is highly mispriced relative to its intrinsic value and provides margin of safety of about 43% relative to the earnings power of the company. without using any high earnings projection rate i calculated the intrinsic value of the company for the next 5 yrs to be around 227 rs.
Using a discounted cash flow the intrinsic value of the stock might be much higher but i would be comfortable holding the stock for the next five yrs without considering any growth factor . but by looking at its previous five yr financial records it seems that the company might continue to show great growth rates without much addition in the invested capital

Sunday, March 18, 2007

Cherokee Inc.

Company Overview

CHEROKEE is an innovator in global consumer brand management and
pioneer of the “Retail Direct Licensing” concept:
• Markets, licenses and manages brands in multiple consumer product
• categories (i.e. apparel, home and entertainment)
• Unique business model with no inventory exposure or manufacturing risks
• Consistently profitable with increasing free cash flow and no debt
• Lean corporate structure –18 employees on $42+ million revenues (FY 2006)
• CHEROKEE owned Brands’ retail sales exceed $2.5 Billion
• CHEROKEE represented Brands’ retail sales exceed $1.5 Billion

Cherokee has an interesting and unique business model. The company, once a manufacturer of Cherokee brand apparel, has found a niche as a licensor of this brand and others to large retailers. No longer do they design, manufacture, market, and sell apparel, but instead they simply license an array of brands and let retailers and wholesalers do the leg work. This way, the retailers utilize their economies of scale
to produce the branded apparel cheaply, and CHKE enjoys high margins and eliminates inventory risk.

They license a portfolio of their brands to strong and growing retailers such as Target stores and TJX Companies in the U.S., Tesco and Carrefour in Europe, and Bolderway in China, who work in conjuction with the Cherokee group to develop merchandise for their stores. In addition to acquiring and licensing their brands they also assist other companies,wholesalers and retailers in identifying licensees or licensors for their brands or stores for which they charge a certain percentage of the net royalties generated by the brands.

Royalties paid under the licensing agreement are generally based on a percentage of the licensee’s net sales of licensed products. Cherokee and Sideout brand which are manufactured and sold by both domestic and international wholesailers and retail licenses are subject to extensive competition by numerous domestic and foreign companies. Such competitors with respect to the Cherokee brand include Levi Strauss & Co, The Gap, Old navy, Liz Claiborne and private labels such as Faded Glory, Arizona and Route 66 developed by retailers. Competitors with respect to Sideout Brand include QuickSilver, Mossimo, Nike and other active wear companies. Factors which shape the competitive environment include quality of garment construction and design, brand name,style and colour selection,price and manufacturer’s ability to respond quickly to the retailer.

In FY 1999 76% of royalty revenues of the Cherokee group was generated from a single source, Target stores, a division of Target Corp. but in FY 2006 57% of royalty revenues were from target stores. If Target Stores elects to terminate the agreement, effective after January 31, 2006 or at any other time, it would have a material adverse effect on the business, financial condition and results of operations. There can be no guarantee that they would be able to replace the Target Stores royalty payments from other sources. But I feel the chances of terminating the agreement is less because the sale of Cherokee brand accounts for 3% of total sales of Target Stores.

The success of the business is largely dependent on the continued services of Robert Margolis, the Chairman and Chief Executive Officer, who is the primary person responsible for conceiving and implementing the overall business and marketing strategy. Mr. Margolis is the beneficial owner of approximately 16.8% of outstanding common stock.


1. The Cherokee group has a low-cost infrastructure as it doesn’t manufacture the brand apparel.
2. Retailers leverage their economies of scale to source products and reduce picing by eliminating conventional wholesale margins.


Balance Sheet

all numbers in thousands
PERIOD ENDING 28-Jan-06 29-Jan-05 31-Jan-04

Current Assets
Cash And Cash Equivalents 11,896 10,960 8,477
Short Term Investments - - -
Net Receivables 10,558 8,571 13,946
Inventory - - -
Other Current Assets 1,445 1,081 747

Total Current Assets 23,899 20,612 23,170
Long Term Investments - - -
Property Plant and Equipment 305 149 108
Goodwill - - -
Intangible Assets 8,116 9,077 9,726
Accumulated Amortization - - -
Other Assets 15 35 34
Deferred Long Term Asset Charges 1,131 1,320 1,589

Total Assets 33,466 31,193 34,627

Current Liabilities
Accounts Payable 10,479 9,170 4,844
Short/Current Long Term Debt - - 2,625
Other Current Liabilities - - -

Total Current Liabilities 10,479 9,170 7,469
Long Term Debt - - -
Other Liabilities - - -
Deferred Long Term Liability Charges - - -
Minority Interest - - -
Negative Goodwill - - -

Total Liabilities 10,479 9,170 7,469

Stockholders' Equity
Misc Stocks Options Warrants - - -
Redeemable Preferred Stock - - -
Preferred Stock - - -
Common Stock 175 173 171
Retained Earnings 12,997 14,447 20,780
Treasury Stock - - -
Capital Surplus 9,815 7,403 6,207
Other Stockholder Equity - - -

Total Stockholder Equity 22,987 22,023 27,158

Net Tangible Assets $14,871 $12,946 $17,432


All numbers in thousands
PERIOD ENDING 28-Jan-06 29-Jan-05 31-Jan-04
Total Revenue 42,732 38,928 36,312
Cost of Revenue - - -

Gross Profit 42,732 38,928 36,312

Operating Expenses
Research Development - - -
Selling General and Administrative 11,709 10,735 11,118
Non Recurring - - -
Others 1,125 1,025 991

Total Operating Expenses - - -

Operating Income or Loss 29,898 27,168 24,203

Income from Continuing Operations
Total Other Income/Expenses Net 474 774 491
Earnings Before Interest And Taxes 30,372 27,942 24,694
Interest Expense 22 22 693
Income Before Tax 30,350 27,920 24,001
Income Tax Expense 12,073 10,754 9,840
Minority Interest - - -

Net Income From Continuing Ops 18,277 17,166 14,161

Non-recurring Events
Discontinued Operations - - -
Extraordinary Items - - -
Effect Of Accounting Changes - - -
Other Items - - -

Net Income 18,277 17,166 14,161
Preferred Stock And Other Adjustments - - -

Net Income Applicable To Common Shares $18,277 $17,166 $14,161

The business has a profit margin of about 41% and ROIC of about 83%. Now that’s a terrific performance.
The net asset value comes to around 24Million and the intrinsic value according to my valuation is 203Million which is much greater than the asset value which shows that business is able to utilize its assets to generate a high earnings power.
The Enterprise value is 362 million which is far much greater than the intrinsic value and doesn’t provide any margin of safety.
The asset required for entering this industry is very low and it supports the point that the business doesn’t have any barriers to entry.

Thursday, March 1, 2007

Understanding Business Strategy

"Strategy" is the most overused word in the vocabulary of business which is just another way of saying "this is important".The reality is there are a very few effective strategies. According to Professsor Michael Porter there are five forces which affect the industry outcome.They are the porters five forces which shape the basic strategy framework.
1)Bargaining power of suppliers
2)Bargaining power of customers
3)Threat of new entrants
4)Threat of substitutes
5)Competition among firms
But one of them is clearly much more important than others and one needs to focus only on it.that force is "barriers to entry" which prevents threat of new entrants.If there are barriers to entry then it is difficult for new firms to enter the market. Essentially there are two possibilities either the existing firm within the market is protected by barriers to entry or it is not. No other feature of the competitive landscape has as much influence on a company's success as where it stands in regard to these barriers.
With a universe of companies seeking profitable opportunities for investment, the returns in an unprotected industry will be driven down to levels where there is no economic profit that is no returns above the cost of invested capital. If demand conditions enable any single firm to earn unusually high returns, other firms will notice the same opportunity and flood in. Both theory and history support this proposition. As more firms enter,demand is fragmented among them. Costs per unit rise as fixed costs over fewer units sold, prices fall, and the high profits that attracted the new entrants disappear.
The erosion of profitability due to increased competition from new entrants isn't confined to commodity markets as one might expect . It occurs as well in markets for differentiated products, so long as all actual and potential competitors have equal access to customers,technology and resources. Consider the luxury car market in the United States. When Cadillac and Lincoln were the only significant competitors, their brands commanded higher prices, relative to costs leading to higher returns on invested resources. These returns attracted other competitors to the market: First the Europeans (Jaguar, Mercedes & BMW) and then the Japanese (Acura,Lexus & Infiniti) started to sell cars in America as there were no barriers to entry for the europeans and japanese car manufacturers.
The arrival of these competing products did not lower prices as it might have for a commodity like copper. Differentiation protected against that possibility. But profitability still suffered. Cadillac and Lincoln lost sales to the newcomers. As sales volume fell, fixed cost per car sold - such as advertising, product development, special service support,market intelligence and planning-inevitably increased, since these costs had to be covered by the revenue from the smaller number of units sold. Margins fell- same old prices, higher unit costs- so profits took the double hit of lower margins and reduced sales. If there were very low barriers to entry, entrants attracted by the reduced but still above average return on investment would have continued to arrive until all the excess profits were eliminated.
Barriers to entry are easier to maintain in sharply circumscribed markets. The conduct of strategy requires the competitive arena to be "local" either in the geographic sense or in the sense of being limited to one or handful no of products. The two most powerful competitive advantages, customer capitivity and economies of scale- which pack an even bigger punch when combined and are more achievable and sustainable in markets restricted in these ways.Indeed its perilous to chase growth across borders. Because a global market's dimensions are wider and less defined than a nation's or a region's firms face a higher risk of frittering away the advantages they have secured on small playing fields. If a company wants to grow and still mantain superior returns, the appropriate strategy is to assemble and dominate a series of discrete but preferably smaller markets and then expand at edges.