This article provides in-depth fundamental analysis of Zenith Fibres Ltd, an Indian manufacturer of polypropylene fibres & yarn.
Zenith Fibres Ltd Research Report by Reader
Q: Dear Dr. Vijay, can you please review Zenith Fibres Ltd? It is a pure player of polypropylene fibres,
- trading at PE < 10,
- price to sales < 1
- and peg<1.
- zero debt company,
- pays full tax,
- 10y CAGR of sales,profit, eps are 9,11 and 15 respectively.
- NPM over the years is between 6-8%,
- cCFO is 80% of cPAT,
- consistent dividend payer at 20% payout.
- 10y ROE is 15% and
- 10y ROCE is around 20%.
- Mgmt seems decent – no scandals, pay is nominal, mgmt seems bullish on prospects from 2014 annual report
- no govt restrictions as far as i could see
Dr Vijay Malik’s Response
Thanks for writing to me! Let us first analyse the financial performance of Zenith Fibres Ltd over last 10 years.
Financial Analysis of Zenith Fibres Ltd:
Zenith Fibres Ltd has been growing its sales consistently at a moderate pace of about 10-15% year on year since last 10 years (FY2006-15). However, the profitability margins of Zenith Fibres Ltd have been fluctuating over the years. Operating profit margins (OPM) have been varying from 8-13% and net profit margins (NPM) have been fluctuating from 5-9% over the years. Profitability margins have been displaying a typical cyclical pattern.
Such fluctuating margins are characteristic of companies, which have low bargaining power with their customers. In such businesses, companies find it difficult to pass on the increase in raw material costs to their customers quickly and thus take a hit on their profitability margins.
As mentioned by the management in FY2014 annual report, the company’s product, polypropylene (PP) is facing competition from polyester fibres:
“Polypropylene fibre industry was not growing at the same rate as Polyester fibre because many sectors where PP should be used is replaced by Polyester because of lower prices”
However, the company seems to be positive about prospects of Polypropylene as it feels that polypropylene is irreplaceable in certain sector. The management states in FY2015 annual report:
“Certain novel uses have been found in some sectors where use of PP fibre cannot be replaced and this augurs well for PP fibre industry and it should definitely reflect in the growth in the future”
Zenith Fibres Ltd has been paying taxes at 34-36% rate, which is equal to the standard corporate tax rate in India. This is a good sign.
Operating Efficiency Analysis of Zenith Fibres Ltd:
Over the years, Zenith Fibres Ltd has been reflecting improved utilization of fixed assets. Net fixed assets turnover (NFAT) has been improving from 4.48 in FY2007 to 11.77 in FY2015.
Inventory turnover ratio as well as receivables days have been showing cyclical pattern in their movement over last 10 years.
Inventory turnover has varied from 16.2 in FY2007 to 10.9 in FY2010, then increasing to 16.2 in FY2012, again falling to 11.7 in FY2014 and then improving to 13.5 in FY2015. Similarly, receivables days have also been showing cyclical movement between 23 days to 37 days over the years.
Such kind of cyclical movement in working capital is noticed when the company as well as its customers are both impacted by similar low bargaining power with their respective clients in the entire supply chain. Customers delay payments to suppliers at times of low margins characterized by high commodity prices and receivables days increase whereas in times of low commodity prices, the working capital situation improves over the entire supply chain.
If we notice the financial performance of Zenith Fibres Ltd over the years, then we would notice that it has not been able to covert its profits into cash flow from operations over the years. Zenith Fibres Ltd has PAT for last 10 years (FY2006-15) of INR 32 cr. whereas the CFO over the similar period is INR 25 cr.
However, the fact of money getting stuck in working capital has not had any deteriorating impact on the balance sheet of Zenith Fibres Ltd as the company has not been done any capacity expansion in last 10 years. All the capex that has been done by Zenith Fibres Ltd seems to be maintenance capex to run the existing plant at Vadodara, Gujarat smoothly.
Margin of Safety in the Business of Zenith Fibres Ltd:
i) Free Cash Flow Analysis:
During FY2006-15, Zenith Fibres Ltd realized total CFO of INR 25 cr. and out of it Zenith Fibres Ltd had to spend INR 6 cr. into capital expenditure, thereby releasing free cash flow (FCF) of INR 19 cr. as surplus for shareholders out of which it distributed INR 7 cr. as dividend to shareholders (including dividend distribution tax). The balance surplus cash flow of about INR 12 cr. can be witnessed as part of cash & investments of Zenith Fibres Ltd, which stand at about INR 20 cr. at the end of FY2015.
This ability to generate free cash flow (FCF) after meeting the Ltd capex has ensured that Zenith Fibres Ltd is a debt free company. The same finding gets reiterated when we analyse the Self-Sustainable Growth Rate (SSGR) for Zenith Fibres Ltd.
ii) Self-Sustainable Growth Rate (SSGR) of Zenith Fibres Ltd:
Self-Sustainable Growth Rate (SSGR) of Zenith Fibres Ltd is about 30-40%. As mentioned in the article on Self-Sustainable Growth Rate, SSGR does not factor in working capital changes. However, we can estimate whether funds are being tied up in working capital by comparing cPAT with cCFO.
Analysis of SSGR indicates that if Zenith Fibres Ltd can manage its working capital management and operating efficiency properly, then it can grow continuously at about 30-40% growth rate without creating additional debt burden on the balance sheet. As Zenith Fibres Ltd has been growing at a rate of 10-15%, it has been able to manage its grow story without leveraging its balance sheet.
Zenith Fibres Ltd has been paying regular dividend to its shareholders. Company has been increasing its dividend payout with increasing profits. It amounts to sharing the fruits of growth with shareholders. These are signs of a shareholders’ friendly management.
Zenith Fibres Ltd seems a professionally run company, as the founder Rungta family does not hold executive position in the company. Entire senior management seems to consist of professionals.
- Shri S.S. Iyer CEO, Shri K.D Sharma CFO, Shri Shailesh Pandey COO and Shri Praveen Bukyalkar CMO seem unrelated to promoters Rungta family.
- Mr. Amitabha Ghosh, a retired Governor of Reserve Bank of India, is part of the board of directors.
- Zenith Fibres Ltd is the first company that I have analysed where the percentage increase in salaries of employees: 11.20% is higher than that of key management people (KMP): 5.62%
Zenith Fibres Ltd faced the loss of a key resource in FY2015, when the founder chairman of the company Mr. Ajay Kumar Rungta died in February 2015. However, the presence of his sons Mr. Rajeev Rungta (Age 54 years) Mr. Sanjeev Rungta (current Chairman) on the board of Zenith Fibres Ltd indicates continued promoter guidance for the company.
The management of Zenith Fibres Ltd seems conservative as it did not go for rampant capex in the past and has generated free cash flow, which it shared with shareholders as dividend. As a result the company has seen tepid growth but with a strong balance sheet with nil debt.
The market capitalization of Zenith Fibres Ltd has increased by INR 33 cr. against retained earnings of INR 24 cr. over last 10 years (FY2006-15). Management has created a value of INR 1.38 for the shareholders from every INR 1 of earnings retained & not distributed to shareholders.
Margin of Safety in the market price of Zenith Fibres Ltd:
Zenith Fibres Ltd is currently available at a P/E ratio of about 7.2, which offers a margin of safety as described by Benjamin Graham in his book The Intelligent Investor.
P/E ratio of 7.2 is low, however considering no expansion in last 10 years, the visibility of Zenith Fibres Ltd growing at a fast pace of 20-25% & above are Ltd, unless the company comes up with aggressive capex plans. Looking at current state of moderate growth with low capex, the market’s apprehension in assigning higher P/E ratio to Zenith Fibres Ltd seems justified.
However, we recommend that an investor may read the following articles to assess the PE ratio to be paid for any stock, takes into account the strength of the business model of the company as well. The strength in the business model of any company is measured by way of its self-sustainable growth rate and the free cash flow generating the ability of the company.
In the absence of any strength in the business model of the company, a low PE ratio of the company’s stock may be signs of a value trap where instead of being a bargain; the low valuation of the stock price may represent the poor business dynamics of the company.
- 3 Principles to Decide the Ideal P/E Ratio of a Stock for Value Investors
- How to Earn High Returns at Low Risk – Invest in Low P/E Stocks
- Hidden Risk of Investing in High P/E Stocks
Overall, Zenith Fibres Ltd appears to be a company growing at a moderate pace, with fluctuating profitability margins & operating efficiency. It is run by a conservative management which has not done rampant capacity expansion over last 10 years and have met its capex requirements from its cash flow from operations and able to generate free cash flows. Zenith Fibres Ltd has a very healthy SSGR, which can ensure that it can grow at current moderate rate without needing debt to fund its growth, if it can manage its working capital efficiently.
However, in order to generate higher growth rates of 20-25% & above and to generate significant wealth for shareholders, Zenith Fibres Ltd needs to expand capacity of its operations. An investor should keep a track of the company to follow up on any capacity expansion plans it may have in future.
These are my views about Zenith Fibres Ltd. However, you should do your own analysis before taking any investment related decision about Zenith Fibres Ltd.
You may use the following steps to analyse the company: “How to do Detailed Analysis of a Company“
Additionally, the investor should keep track of the future performance of the company for signs of improvement or worsening as part of their monitoring exercise. She may use the steps explained in the following article for monitoring stocks in her portfolio.
Hope it helps!
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