Stockwatch: Pantaloon’s desperate act

The stand-off between the pro- and anti-retail FDI (Foreign Direct Investment) camps has claimed its first casualty — Pantaloon Retail.

The company, which was eagerly waiting for FDI to pull itself out of a debt trap, has sold off a substantial stake in its profitable ‘flagship’ Pantaloon format of stores.

It’s clear that the sell-off is purely out of desperation. The retailer tried selling off its stake in its joint venture as well as its financial arm Future Capital after it became clear that FDI is unlikely to be cleared anytime soon. However, the fund-raising through such sale came unstuck as valuation sought by it did not match that of investors.

Pantaloon’s debt load is rising fast and its debt servicing capacity is in decline. Interest paid as a percentage of operating profit is ticking up too, signaling there would be lesser funds available for growth and distribution of profit through dividend.

The company, which is currently in a growth phase by adding retail outlets, needed funds to complete and commission them. The alternative then was to sell whatever possible. The only division that could attract buyers was its Pantaloon format stores division, which was raking it in. This division earned operating margin in excess of 12% while the company on the whole was operating on just about making 8%.

This division accounts for nearly Rs2,000 crore of sales compared to around Rs12,800 crore expected this year. In percentage terms, though Pantaloon format stores contributed nearly 15% of the sales, their share of the operating profit stood at nearly 21%.

The big benefit of this sale is a reduction in the company’s debt by Rs1,600 crore, which were appropriated to the division. Aditya Birla Nuvo, the company that bought the format stores, will be pumping in Rs800 crore through convertible debentures, which will be converted into equity after the demerger.

The remaining Rs800 crore will be transferred with the division.
Reduction of debt will result in interest outgo coming down by nearly Rs192 crore — assuming a 12% interest rate. Thus, the transaction will be marginally negative from the company’s profit point of view as the saving in interest rate is less than the loss of operating profit which the company will have to forgo.

There is, however, an indirect windfall for Pantaloon in the form of inventories, a large part of which was being blocked by the format stores division. With the unit away, this will make the balance sheet much stronger and give the company legroom to grow.

The company has also announced issue of preferential shares to the tune of Rs200 crore at Rs245 per share compared to the market price of around Rs180.

With one of the most profitable divisions going out of the balance sheet, the company’s operating margin is expected to fall further to less than 8%.

Shoppers Stop is also facing some rough weather after it announced that Hyper City outlets are likely to continue to bleed for the next few years.

Taking cues from Shoppers Stop’s results, Pantaloon Retail will have a tough time to post solid results as new stores expansion will be adding to the company’s topline. Furthermore, with low margin business remaining in its fold and equity capital remaining unchanged, servicing of its equity will add to the existing problem of servicing the debt.

The stock has not been able to cross the Rs200 mark. Given the current scenario, it will face difficulty in crossing it. A short trade, especially since all the positive development has been factored in, can be a better risk-reward preposition.