In Part I of this series, we highlighted the changing scenario of the Rs. One Trillion plus jewellery retailing industry in India. This sector is following the megatrend of moving from an unorganized to a branded organized one which represented approximately 10 percent in 2010.
Demand for branded jewellery is expected to increase. A major reason is the growing Indian economy, resulting in a larger middle class with discretionary income; and which will be exposed to significant brand building and advertising messages. Also, recognition of gold and jewellery as an investment asset class, and increasing exports has benefitted the Jewellery Industry.
Branded players will benefit from this rising demand. However, while revenues will increase, competition from the existing "family jeweller", as well as other branded jewellers, will exert pressure on their profit margins.
Is this changing Gems and Jewellery Market throwing up opportunities to invest in? What should we consider when making this decision?
Investing in Branded Jewellery companies - Assessment Factors
In addition to reviewing the usual financial aspects of sales growth, profit margins and relevant financial ratios, there are other factors to consider.
First, branded jewellery retailers require huge investments in inventory. They have to stock a minimum product range, and immediately saleable inventory to cater to customer requirements. Jewellery being a high value item, results in working capital intensive companies. Evaluating the working capital cycle will help us understand how well the company is able to meet its short term funding requirements.
Second, since jewellery showrooms are usually located in malls or other accessible locations, the lease rentals are high. As a result, the revenue generated per square foot is an important parameter to assess.
Third, we need to understand if these retailers are too dependent on a few raw material inputs, and one or two sources of revenue. Many retailers follow the practice of quoting making charges as a percentage of the raw material cost. So they benefit most when the prices of inputs, such as gold, are high. Of course, this cuts both ways, and a fall in the price of these high value inputs will adversely impact the company's profits. To hedge against this profit risk of being invested in companies with high value inputs; it may be better to see which of these pure play jewellery firms have a well diversified jewellery portfolio.
Some jewellery retailers are diversified with jewellery being just one business in their overall portfolio. For example, if you invest in Titan Industries (Tanishq belongs to Titan), they are also into other businesses (including Watches and Eyewear). So, we need to know what percent of revenues and profits come from which of the company's businesses.
We have observed this strategy of "pure play" branded jewellers diversifying into other businesses. Gitanjali Gems has got into the lifestyle business which includes apparel; and Joyalukkas is exploring a totally un-related air charter service business too.
To evaluate the success of a diversification strategy, it is critical to look at size of company's funds being moved to the new venture. These investments will impact cash-flow, and can hurt profit margins. The short and long term viability and contribution of all businesses should be analysed separately. And then the company can be judged as a whole for its potential as an investment opportunity.
The benefits for investing in branded jewellery companies
The outlook for Gems and Jewellery Industry in India is promising, and is expected to grow at a CAGR of 10-12 percent through 2015 (from CARE Research). The industry accounts for a substantial 15 percent of India's overall exports, and so receives export incentives from the government. This overall optimistic view of the industry will obviously benefit the branded players too.
Branded jewellers are borrowing from FMCG marketing approaches, and are creating specific products and programs for different consumer segments - the youth, teenagers, working women. Brands also develop images that consumers can connect with.
For example, brands provide hallmarked jewellery and certification of gold jewellery. This connotes trust and reliability which consumers now expect. The brand image is at stake. Another example is the introduction of low cost diamonds starting at Rs. 499 by Titan's Tanishq. Brands also aim at the image orientation of consumers, whether it be fashion, lifestyle or functional for investment.
Also, lately, jewellers, to boost profits, have realised the importance of selling high margin stone studded jewellery rather than simple gold jewellery. This could be because making charges are currently pegged to material prices, and jewellers can generate good margins on making the jewellery. Another reason could be that since consumers look at gold prices when buying jewellery; jewellers may be leveraging this phenomenon with the long term growth trend of gold.
All the above thoughts make branded jewellers attractive companies to explore for investment.
So, given the growth in the Gems and Jewellery, and the contribution it makes to the economy, we expect branded jewellery companies to emerge. The very idea of branding brings with it organisation and an expansion of the customer base. Where earlier, jewellery was a special purchase, it now is be positioned for all occasions, and for all consumer segments. Clearly there is an opportunity to invest in branded jewellery companies. However, it is also important to understand the downsides of such investments. Further, what are the key criteria for selection of the right branded jewellery companies to invest in?
We will discuss this in our future articles.