In the midst of the volatility in the stock market, both in India and globally, Campus Activewear’s initial public offering (IPO) opens today and closes on Thursday. This footwear maker’s IPO of up to Rs 1,400 crore is purely an offer for sale by the promoter group and other selling shareholders, including Havells India promoter entity QRG Enterprises, and private equity firm TPG, among others. The company raised  Rs 418.3 crore from anchor investors on Monday.

Campus Activewear's IPO’s price band is Rs 278-292, which values the company at nearly 78 times its annualised FY22 earnings (FY22 financials in the prospectus are only for 9MFY22). This is lower than its closest listed peer Relaxo Footwears at a TTM PE (trailing twelve-month price-to-earnings) ratio of nearly 101. Bata India is trading at a TTM PE of around 353, while Khadim India trades at a TTM PE of around 27. Post listing, the company’s market capitalisation would be up to Rs 8,900 crore.

The company had a market share of around 17% at the end of FY21, up from 15% a year ago and operates in 28 states in India, which includes 664 cities. Campus Activewear has five manufacturing facilities with a capacity to make 28.8 million pairs of footwear in 9MFY22.

Revenues come mainly from north and eastern India, and Campus Activewear is looking to expand its presence in the west and south. This is a small-town business: more than 70% of the company’s revenues come from tier 2 and tier 3 cities for 9MFY22, which is reflected in its average selling price of Rs 615 for the period.

Does Campus Activewear have a moat that investors can count on? Or is the company asking a too-hefty price?

Pandemic hurt Campus, but it expanded direct-to-consumer operations

Like most businesses, Campus Activewear was hit by the pandemic at the beginning of Q1FY21. Lockdowns hurt its operations which had to be shut down for a few months. This probably pushed the company towards selling direct to consumers. Although the company still earns most of its revenues from its trade distribution channel, the contribution of the direct-to-consumer channel, both online and offline together, rose considerably over the past two years.

The company’s 9MFY22 revenues are already higher than its FY20 and FY19 revenues, which shows that the move to sell directly to customers has paid off. Although they aren’t strictly comparable due to the impact of the pandemic, the company’s net profit also rose considerably in 9MFY22 compared to 9MFY21.

Cash flows turn negative

However, it doesn’t appear that this rapid growth in revenue and profit is getting translated into cash flows. The company had to resort to offering cash discounts to distributors to bring down its debtors outstanding days to 41 in 9MFY22 from 110 at the end of FY19. This should ideally have led to an increase in operating cash flows, but that was not the case.

There is nearly Rs 320 crore inventory (raw material and finished goods) on its books and around Rs 122 crore in trade receivables. This probably led to its cash flow from operations turning negative for 9MFY22, apart from the cash discounts it had to offer to bring down its receivable days.

The company is trying to increase its average selling price to move into more premium products, but the competition in this space is intense from local and global players. This did seem to pay off a bit as the company’s margins improved considerably in 9MFY22.

The company’s strategy of never going out of stock for its core products in its portfolio is also probably leading to cash being used to fund its working capital needs.

The average selling price at the end of 9MFY22 was Rs 615, up from Rs 533 for 9MFY21. The company sells footwear across entry-level (up to Rs 1,049), semi-premium (Rs 1,050-1,500), and premium (above Rs 1,500). The company earned 40.6% of its revenue from premium products in 9MFY22, up from 31.3% in FY19. It earned a little over 83% of its revenues from products for men.

The company is planning to expand its distribution network considerably in the states that it currently operates in and deepen its presence in western and southern India. Whether this will lead to higher cash generation from its operations will have to be seen.

Investors will have to take a call on whether they see any value in buying a company that is struggling to generate cash flows despite rising revenues and profit. There could be mitigating circumstances for this situation, and the company is valued a little lower than close peer Relaxo might be a sweetener.