There is an initial public offering almost every week nowadays. That is what a bull market can do. This time it’s a women’s clothing company—Go Fashion (India). This is a little different from the new-age companies that went public over the past few weeks like fintech companies like Paytm and Policybazaar.

The company specialises in women’s bottom wear and has products in all categories like churidars, leggings, dhotis, harems, patiala, palazzo, culottes, pants, trousers and jeggings across multiple categories including ethnic wear, fusion wear, western wear, lounge wear, athleisure, Go Plus and girl’s wear. The company had a market share of 8% in the Indian branded women’s bottom wear market. It sells its products under the Go Colors brand.

The company is planning to raise a little over Rs 1,000 crore, consisting of a fresh issue of up to Rs 125 crore and an offer for sale by investing shareholder and promoter group entities worth up to Rs 889 crore. Out of the fresh issue, the company plans to use Rs 33.73 crore to open 120 new exclusive brand outlets, Rs 61.40 crore for working capital needs, and the balance for general corporate purposes.

`The promoter group entities are selling around 2.8% stake the proceeds of which would be used to pay off loans for which the promoters gave guarantees. Post the IPO, the promoters will hold 52.8% stake in the company. The investor shareholders—venture capital firm Sequoia and ICICI Ventures—who are selling their shares will part with half their stake to take their post-IPO stake to 13.9% (Sequoia) and 6.1% (ICICI Ventures), respectively.

The promoters had pledged 16.56% of the outstanding shares of the company (total pre-IPO promoter holding is 57.5%) to avail a loan from lenders. The 2.8% stake two promoter entities PKS Family Trust and VKS Family Trust are selling together will help cover the cost of prepayment of the loan by the promoter.

The price band of the issue is Rs 655-690. At the upper end, the company is valued at 1.37 times its trailing twelve-month revenues till the end of June 2021. Its listed peer TCNS Clothing Co, which also specialises in women’s wear, is valued at 3.75 times its trailing twelve-month revenues.

The company’s business case seems to be sound, but is it worth the investor's while to bid for this company’s shares?

Pandemic-hit Go Fashion is looking to expand

Businesses in the retail space were the worst hit due to the pandemic and Go Fashion is no different. The first wave eviscerated the revenues and profits of the company, and the second wave added to the misery. This meant the company posted a loss in FY21 and its Q1FY22 revenues and profits were also not a pretty sight.

Before the pandemic hit, the company was generating decent cash flows. Even though it reported losses in FY21, the company did generate decent operating cash flows in FY21. However, the company’s free cash flows turned negative in the year. The pandemic-ridden Q1 of both FY21 and FY22 saw the company’s cash flows turn negative. This situation might have improved after the economy unlocked over the last few months but its peer TCNS Clothing Co is still struggling to post a quarterly net profit since Q1FY21.

This means that things will get worse before they get better. Another factor to keep in mind is that many of the company’s customers' choice of clothing might have changed due to the work-from-home environment over the past 18 months or so. Hence, the company’s prospects might not see a V-shaped recovery.

Exclusive outlets are main source of revenues

Go Fashion’s business is built around its exclusive brand outlets. The company uses a hub and spoke model to build these outlets, and also sells products through other large retail format stores, multi-brand stores, and e-commerce channels. This meant that when lockdowns were imposed in many states in Q1FY22, the company’s revenues were severely hit. Only online sales grew in FY21 (around 6% YoY to Rs 22 crore) while revenues from other channels fell.

As the economy started to unlock, the company’s revenue mix started changing, according to data from Technopak accompanying its red herring prospectus. The revenue mix of large format stores reverted to what it was in FY20, around a quarter of its total revenues.

This indicates that business might be looking up but only when the Q2FY22 results are out can one make an informed decision about it.

Predictably, the company’s margins took a hit because it could not sell its products and was saddled with unsold inventory. Margins fell nearly 14 percentage points in FY21, and turned negative in Q1FY22. Considering the hit the company’s business has taken, it’s not clear how quickly it will be able to swing back into positive operating margins.

For investors eyeing this IPO, it’s a punt on whether Go Fashion can turn its business around over the next few years and keep up with changes in customers’ preferences for clothing, especially considering its bottom-wear-only focus. Unless it’s clear that the pandemic is over, retail companies will struggle to get back to pre-pandemic levels. This is especially true for products like clothing. Till then, the company will be burning through cash at the operating level.