Tag: VP Portfolio

Kitex Garments Management Q&A : Aug, 2014

1. INDUSTRY/INDUSTRY STRUCTURE

We just finished a tour of the Garmenting and the Knitting-Bleaching-Fabric-Processing factories. Its nothing like we have seen before. You have set up a high-quality infrastructure on par with the best in the world with state-of-the-art advanced machinery. Who were the early influencers? How did you benchmark Kitex to be where it is shaping up to be today – a preferred choice of the largest global retailers? [Kitex Production- Infrastructure Video]

Well I guess the credit for it goes to my dad and the early training he put me through. He was a strict disciplinarian and he ensured I learnt to respect every aspect of the work ongoing in our factory. As a 13 year old, I was started out from cleaning the lavatories, to the shop-floor, to becoming a machinist, technician, bleaching and processing to garmenting operator.

I grew up with the ethos and the confidence of trying to do something different from the run-of-the-mill. We were not afraid to take risks. We were always prepared to order and try out the latest advances in machinery that wasn’t being used in the country. Somehow from the initial days we focused on infant wear. Certainly I have traveled and seen many factories worldwide. But we haven’t copied blindly. We have adopted creative solutions that we found could add to quality, efficiency or productivity.

We make it a point to publish results immediately after the year-end – even that is a creative first!

The working & living conditions for the workers that we witnessed was the most striking – certainly a few notches above comparable factories in India/Asia. What would you attribute that to?

My early training ensured the need to provide good working and living conditions for our workers was internalised early on. As we grew, we therefore had no hesitation in investing in people, infrastructure and processes that complied with all social and environmental norms right from the start.

Kitex has established itself as a large manufacturer of infant wear globally and made rapid progress in the last few years. Kindly share with us more on the global market size, growth areas for next few years, and Kitex’s own unique positioning and current market share.

Kitex specializes in infant wear (0-24 months) market.  Trust and Quality play a big role in consumer buying choice. Quality Standards on fabric and dye stuffs, colours and printing methods are much stricter to ensure products are infant-friendly and harmless. Chemical dyes cannot be used in the fabric (child saliva often comes in contact with fabric), for example. Parents lay great emphasis on Trusted Brands like Carter, Babies-R-Us, Gerber, The Children’s Place, Mothercare and a few others – brands that have endured over several decades.

Infant wear has continued to enjoy a relatively protected niche. Unlike most textiles/garment segments, infant wear market is not commoditised. It is also the only textiles/garments segment to have proven to be relatively recession-proof.

These large brands sell in huge volumes in US, Europe and rest of the world. Globally there are 12 companies of some scale that manufacture volumes large enough to meet the needs of these large brands. Winlu (China) is the No. 1 player with 7.5L pieces per day today. Gyn (Singapore) with 6.5L pieces per day is the second largest. They have manufacturing facilities spread across various countries. At 5.5 L pieces per day, Kitex has now emerged as the 3rd largest manufacturer.

(US $20 Bn market, Canada, Japan & China – $25 Bn, as per Carter AR). Kindly give us a sense of how big is the runway.

US is a huge market yes, but volumes in US market are stagnant.

But Asia is growing very fast. India, China and Middle East growing very fast. Korea there are lots of stores. China there are lots of stores opening. Most International brands are today present in India – the aspirations of the new generation are different. In the next 2-3 years I see every brand will be here in India – and not just the big cities.

Infant market is growing rapidly in India. Earlier a family had 5-6 children. Now its 1 or 2 children at most. [reels of many employee names with single child, speaking to AGM Finance]. Parents are ready to spend more. There are so many shops today targeting infants & toddlers. Even a small place like Cochin has 7-8 toy shops. There are small cars prices at 25000, 30000, 40000 and people are buying. I went back to one shop f3 days later for a Jeep for my son – the piece was gone – it was for Rs 32000! Nothing comes cheap in these shops. Small cute chappals for the kids cost Rs 700-800. Parents are willing to splurge.

Some brands like Carter may be selling upwards of $500 Million in India 3-5 years down the line and there will be fast ramp-ups. Look at US Population – 300 Million; India’s 4x that and couple that with twice the birth-rate; that’s 8x the US market potential in India only.

Infant wear for 0-2 years has an added advantage. 2-month and 3-month old toddlers grow very fast till 2 years, adding 40 gm or so every day or about 1.2 kg every month.

But the price-structure may be very different?

Actually it is worth noticing that the US market sells products at half the price of the Indian market. A Tommy Hilfiger shirt sells for Rs 3500 in India. In the US it comes for $35-40. Buying at a sale you can get it for $25, so at a discount you can get it for Rs 1500. I am a fan of Tommy Hilfiger, I buy all my shirts in the US!

In US the Sale structure is very interesting. The Initial Sales are placed at a Value that gives them 80% margin. They make all the profits there. Then they start selling at 60% margin, and next at 40% margin and then finally at 20% margin to liquidate stocks and be ready for the next spring/fall season.

When the market really opens up in India in next 3-5 years, it will be good for players like us. We will be able to save something like 20% straight on the duties and logistics costs. Gerber sells a body suit for $2 in the US market or Rs 120. It sells 1 million pieces a month at Walmart at $1.78. A comparable kids garment in India sells for Rs 350-400.

But what about product quality? Jockey International and Jockey India products are very different and at different price-points.

Yes you are right if you take the example of Jockey International products and those that are offered in India. There is a reason for that – Jockey products are offered by a company in India under a License from Jockey. As a Licensee you have the freedom to design and manufacture as per Indian market conditions. However Franchisee operations are different – where the same global quality & standards & products are offered.

Mothercare hasn’t taken the licensing route and has established many stores in India under company owned and Franchisee operations. We expect similar initiatives from the others when they establish their presence in India.

Is it right to say that the Industry structure is favourable for large manufacturers like KItex – Large Retailers have to come to Large Manufacturers?

Look there are only 3 or 4 major players from India. All others are at $1Mn (or sub) kind of volumes. Gerber has only 3-4 vendors. Carter has 2 approved vendors and is trying for 1 more.

Who are these large vendors?

Best Corporation, Jay Jay Mills and First-step are some of the larger established vendors.

But we have heard Mothercare sources from 15 and more vendors for infant wear
?

Mothercare came to India much earlier and has established more vendor sources.

As companies scale up direct sourcing, are large scale global sourcing firms like Hong Kong based Li & Fung getting limited. Carter scaled up direct sourcing from 5% to 30% in 2013 and has aims of taking it up to 50% in next 2-3 years? Earlier the same sourcing agent was handling 70% of inventory purchases. How widespread is this trend? What does it mean for a manufacturer like KItex – in working capital management & margins?

Not true. Direct Sourcing is being pursued aggressively by players but with little results to show. Just where are the manufacturers with scale? And sourcing from a large number of vendors directly, is proving complex.

Three years back a leading player’s annual direct sourcing target was $80 Mn but they could get only $22 Mn. Last year they planned for $500 Mn direct sourcing in 3 years but are making slow progress. The same player wanted Kitex to supply $150 Mn in 3 years. We are not ready to supply more than $50 Mn to a single player. It is much safer to spread the same volume between 3-4 leading players.

Once you have a trusted supplier relationship going with a global retailer, kindly give us an idea of the level of penetration possible? $150 Mn is just 5% of Carter’s annual sales today.

We have very good relationship with all our Customers. Over the years of association, in many cases it becomes like personal family relationship. Some of them call me at any time of the night, on business. Some of them I have to call every weekend, wherever I am.

We enjoy preferred supplier status today. We can keep growing the relationship with all of them steadily. As mentioned before, though we have offers to scale up very significantly on one or the other relationship, we prefer to go about it in a balanced way – not expose ourselves to undue risks/pressures.

Does any scale-relationship with any one retailer, restrict or impose any limitation on sourcing by other Brands or direct competitors?

Not at all. US way of business is different – they are very fair. Just like they want us to be fair in all our practices as well like not forcing our Labour force and meet all social compliance norms – hygiene, work timings, fair wages, working conditions, etc.

They don’t/won’t interfere in our business at all, there is complete freedom. Gerber or say The Children’s Place don’t ask us about the level of business that we do with others.

2. GLOBAL CUSTOMERS

Can you explain the difference between European brands like Mothercare and US brands like Carter?

Mothercare is UK based and sells at a premium. Their styling is simpler – more white-based. More family oriented. ” I love you Mummy” or “My Daddy” – with prints or embroidery.

US is more design oriented with lots of colours and various styling. Gerber and Carter sell in huge volumes in the US market. As mentioned before US market is the cheapest in the world. Quality and standards  are enforced. Customers don’t like a product they can return it. They have some health problems – they can make a claim.

It is interesting to note that KItex made its entry with Gerber Childrenswear (mass-market player) 14 years back and only in last few years getting into sourcing agreements with Carter premium segment player). Kindly comment.

As mentioned before we do not have a preference for any of the bigger players. We would like to be in a steady relationship with all of them and continue to grow the business. There is enough scope with all the leading players.

But some of them like Carter are more profitable and growing, whereas someone like Gerber has changed hands 4-5 times, and Babies R Us is a subsidiary of the loss-making Toys R US? So isn’t it fair to assume there would be a preference for the growing more profitable customer?

Actually, Gerber is the most profitable customer for us. They source in huge volumes and some of their designs run unchanged for 6 months or a year sometimes. The efficiencies and productivity we derive from there is much higher.

Apart from Carter and probably Babies R Us, most of the global retailers are finding it tough to compete and have been having financial difficulties and/or downsizing home operations to concentrate on International operations like Mothercare? Kindly comment and educate us on on the risks from this front?

in Europe, population is coming down, birth rate is coming down. Most families have maximum 1 child. Its like a cycle you know. The US has also gone through that stage of 1 child. Now everyone there wants 2-3 children. They are coming back. My feeling is Europe will also come back a few years down the line.

But Middle East is selling very well. In 2 years India and China will be selling very well. Take Mothercare, earlier they used to sell 80% in UK and 20% Internationally. This is now getting reversed.

But in this process of major market shifts, profitability is at risk? As per Mothercare AR their top priority is to replace profitability, and per casual enquiries by us their sourcing people have very stringent profitability targets?

Yes, they are aggressive on pricing. They compromise maybe a bit on design and styling. It is certainly not affecting the manufacturers like us.

Most Brands are however concentrating more on E-Commerce? Their e-commerce sales are doubling every year? What does that trend mean for manufacturers like you?

Yes E-commerce is shaping up very strongly. In US, in next five years e-commerce may occupy more than 80% market share. No one has time to travel. Standards are very tight and customers are assured that they will not be cheated. Customers have right to return the purchase if they are not satisfied in any way.

But E-Commerce has also meant margins are thinner? Brands like The Children’s Place have increased sourcing from places like Bangladesh drastically, to meet profitability? Kindly comment.

In Bangladesh wages are 2000-3000 per month compared to 8000-10000 in India. Kitex wages are among the highest in textile sector in India. Bangladesh superiority comes where products involve lots of manual labour and less machinery. But in infant wear, machine productivity and process is equally important and Kitex can compete with Bangladesh lower labour cost with its higher efficiency and productivity.

Kindly give us a sense of the Revenue mix from your top customers. What level of penetration have you been able to achieve over the years?

First 2 years they watch our performance and execution – quality and on-time delivery, etc. Just like we watch them and the relationship. Beyond that stage, all our buyers are in the $13-15 Mn range or $28-30 Mn range.

To give you an example, a new relationship is at $14-15 Mn for us currently – this can double – they are also watching. They are currently sourcing 60% from India and 40% from China. They are looking to increase this to 80-85% from India, 15% to China in next season. They don’t mind paying 2% higher here – value is much more.

In the past you have tried to risk-diversify across smaller retailers in US & Europe. Apparently that did not work out and you have reverted back to focusing on the large customers. Kindly educate us on the reasons for the same?

Yes, we did experiment with that. In our own calculations we had reason to believe that would be more profitable. But it didn’t turn out like that. Volumes were smaller, designs changed faster, our utilisation, efficiency and hence productivity was much lower. Order flow was sometimes volatile, scaling up was proving difficult. We had to move away from that model.

Kindly educat
e us on the Jockey Relationship and its potential for next few years?

We forayed outside of infant-wear market on specific request from an existing Customer. Gerber had taken the children’s inner-wear license from Jockey and wanted to manufacture it out of China. They got it developed there but Jockey rejected on quality front. Subsequently they jointly came to us for a new concept OUTLAST^® technology for inner wear, which regulates skin temperature and helps you feel cooler in everyday situations. We are the only manufacturer for that product.  We make 2x the Sales for the same production time as infant wear as value-addition is much higher because of special chemicals and raw materials. Sales have been flat for last 3 years, as this is a niche segment. The project was taken up to showcase our ability to make such a product with complex technical requirements. It is more of an aberration. Even Arvind Ltd. had tried but failed to deliver on this product.

So it will not be incorrect to say you will continue to focus on infant wear 0-2 years segment only? You do not even need to get into the Toddlers segment 2-4 years. You see enough opportunities for you to harness and scale up in infant wear itself for the next few years?

That is right.

3. TECHNOLOGY/QUALITY/DIFFERENTIATORS

Kitex today has established a world-class state-of the-art manufacturing plant with the latest advanced technologies. It has shown the vision and the self-confidence to do things differently than most others in the sector. Reportedly it has been a lead-user of latest advances in technology/automation. Kindly take us through this evolution. How were the early days? How long did it really take to start getting noticed?

From 1995-2000 we struggled. Buyers took us for a ride and exploited us. Gradually we understood the game and started investing in the Safety-Security- Social and Environmental compliance norms. We took big risks and invested in the latest advanced machinery. To maintain quality we standardised on our yarn suppliers – both in North and South India – and nurtured them. Today we have 4-5 major suppliers. We have agreements with them for guaranteed off-takes. Today we are known for the best quality at competitive prices.

What have been the critical milestones in differentiating Kitex as a serious player – able to rise upto and match/exceed the stringent demands of global customers?

1. In-house use of critical Technology and sophisticated state-of-the-art machinery for complete control over Fabric Quality (70m Open width Continuous Bleaching, Auto Dye Dispensing System, Continuous Cold Pad Batch Dyeing, Continuous Washing, Screen Engraving, Rotary Printing, etc) [Kitex Production- Infrastructure Video]

2. The right raw materials – Kitex specified high-quality yarn – based on Okeo Tex Class I – normally not available in the market  3. Superior process chemistry used for bleaching and fabric processing 4. Use of Organic Dyes 5. Lastly our Labour strength – which we can proudly say is much better, more efficient than elsewhere – they are better trained, disciplined and punctual. Our labour utilisation/efficiency levels are close to 50-60% whereas most would struggle at 40-45% in the industry. We pay them the highest.

Well it depends on individual capacity I guess. It is in the Execution. It is in the Creative Ideas. You have to design new things – you have to think!

Kindly explain to us the manufacturing process value-chain and how Kitex has been able to add value and where – Yarn—->Fabric—->Dying/Bleaching—–>Knitting—–>Cutting—->Sewing.

Yarn: Kitex specified superior quality yarn based on Okeo Tex Class I vs normal yarn used by other vendors

Knitting: Advanced machinery from Italy.

Bleaching/Processing: Technically superior Open Width Continuous Bleaching process vs Soft Flow process used by others; completely controlled by advanced Robotics machine – installed recently, again a first-in-the country. Only one person required to operate the 70m long bleaching line

Dyeing/Finish: Only organic dyes are used; Recently we have used Avocado based dyes with excellent results; started recommending these to Buyers

Cutting: Advanced fully automated machines increasing efficiency and low wastage

Sewing: Advanced high-speed more efficient Japanese machines with lower power consumption

You continue to mention Quality as your biggest differentiator. Yet, isn’t it true that the Buyers specify the product they want? They specify the base fabric, the colours and the dyes, even the printing method, etc. They inspect and test as per specifications before dispatches are allowed. So where is the quality differentiator, really?

While dye stuffs, processing and finishing play their part, the difference comes mainly from the Yarn specifications. The feel of the fabric changes drastically depending on the yarn used. As mentioned before we only use Kitex specified superior grade yarn based on Okeo Tex Class I yarn. We have contracted suppliers with guaranteed off-takes of 100T/200T a month from them – on strict yarn specifications provided by us.

You will see that we are the only vendor in the country that specifies upfront the yarn that goes into our fabric. Interestingly the buyers do not specify what type of yarn is to be used. When they specify base fabric – they will mention either Interlock fabric, Single Jersey or Rib Fabric and along with that 150 gsm or 180 gsm which is a only a measure of the density. They do not insist on a specific yarn quality. The usual standard is 18% Combing on 100 Kg whereas 15% combing or 10% combing, even 1% combing are possible for different levels of value addition.

The fabric feel ultimately depends on the quality of the yarn used. What kind of cotton is used in the yarn – longer 8 mm staple or shorter 6mm or less staple. The longer staple gives more strength. In normal Okeo Tex Class I atleast 20% long staple cotton is to be used. There is a variety in Gujarat which is the most suited. We specify all that in our yarn specifications to our suppliers. Because of that we can ensure CPSI of 2700 (a measure of yarn strength/breakage) versus 2000 for normal yearn. Defects are nil or of the order of 1/3rd to 1/4th that from normal yarn. There are some 10-15 different parameters where Kitex specified yarn is significantly better quality than normal yarn – this is what we try to showcase and explain to our buyers.

Well usually there is a reason for such omissions by both vendors & buyers. It must be taking up your costs. So how do you compete, then?

Certainly, it is a competitive world, and we have to be competitive. What we offer by way of higher input cost raw materials and investments in superior technology machines and processes, we make up in volumes and constantly improving on efficiency and productivity levels. Today we are at 60% utilisation levels and we will take it up to 70% with more recent investments in advanced machinery and robotics. Beyond that it’s not possible in Knitting industry.

Let’s examine the impact of Sourcing by large buyers? Don’t they have stiff sourcing & profitability targets where they are continually focused on shaving of that 2-3% and exploring manufacturing from low-cost regions that can give them some incremental advantage?

“Sourcing” – as we have known/experienced has changed over the years, especially for the Infant Wear segment. Earlier the accent of sourcing teams was only on pricing. Teams would travel to Asia, visit lots of vendors, decide what to buy at what quantities at a price. Earlier the Bu
yers (Sourcing folks) were mostly blind to issues other than pricing. Now they are getting a better holistic understanding of the larger issues involved – price-competitiveness is important, but so is on-time delivery and quality as they have realised from sourcing in other regions in Asia (especially for infant wear).

The 0-24 months segment is the most brand-quality-conscious. Colours, quality and design play a big role; there is a lot of Trust in the Product. The Customer’s Product Department decides the Product design, the Planning department distributes according to Sales Plan drawn out. And then the Buyers, Planners, and Sourcing Team gets into action.

Earlier only the Sourcing Team used to come and visit us. Today at major Buyers whole teams drawn from Product Design, Planning, Logistics, Sourcing get involved. Recently when I visited a large Buyer in the US, a 22 person cross-functional team sat down to understand from us and appreciate the myriad of issues involved.

We share with them the impact of using normal yarn vs Kitex specified Okeo Tex Class I yarn. We also share the outlook on Yarn costs, Trims & Accessory costs, Labour costs, and the $-Rupee equation. We provide them advance information if costs seem to be going up – that there may be a 1% cost escalation next year.

Yet, the reality is its a very competitive difficult market. Apart from Carter and maybe Babies R Us, no one is really profitable. They will be trying to find that extra 3-5% savings if they are to scale up a relationship?

Yes, we try to make them understand the impact of compromising on input costs on the quality. They do ask us if we can make cheaper by 3-5%.  We say No, we can’t as we will not compromise on quality.

Instead we ask give us a full product line, you will see a 4-5% higher Sales. Retailers and wholesalers have found out that the customer can also easily discern better quality by just the feel of the fabric. The same brand/design (Kitex-sourced) sells out much faster. For example, earlier we had the last row in Babies-R-Us stores, now Kitex-sourced products are placed in first 10 rows. Every season Kitex-sourced garments sold out faster – which led to the upfront placement.

Buyers have started to appreciate that. You see everyone has to survive. No manufacturer can can continuously cut-down on costs. In 2008 in the face of recession, large buyers started squeezing. Every season they would ask for a 2%, 2% reduction. Now no Buyer does that. Why? They know after some time, it is bound to break. They all understand the cost structures today. They tried sourcing from China cheaper. They couldn’t supply. They didn’t get the goods on time, leading to loss of Sales because they had already booked space at places like Walmart and others.

Besides there are lots of sales “tricks” that Retailers resort to. The same product that sells for $2 in Walmart can be sold at $6 somewhere else with some more work (frills & accessories) and better packaging. They know how to sell it. Its like Fashion – not high fashion though. There are buyers who don’t buy at Walmart. There’s a 25% audience segment that does not look at prices. For them most important is the Brand – design & quality.

How critical a role have Technology Consultants/Employees like Christian Strahm (Santex and Strahm Texile Machinery) played in improving quality and matching up to global quality standards required? Have they also played a role in improving assembly line efficiencies and/or de-bottle-necking. Kindly give us a sense of the significance of these contributions.

Kindly educate us on the Jockey Outlast manufacturing line? Are there major process differences? Where? Are the issues the same in scaling up these lines, or are there differences?

Not really. As mentioned before we can make twice the Sales from the same lines as value-addition is higher – raw materials and chemicals used.

4. ORGANISATIONAL READINESS/STRATEGIC

While Kitex has positioned itself strongly today as one of the preferred choices for Global retailers, how ready is it organisationally to harness and execute on the opportunities before it? Kindly share with us the organisation structure and key operating responsibilities and the key people behind them? Their experience base and their journey within Kitex.

We are organised entirely along the lines of our Buyers. Business Managers are assigned to a specific Buyer depending on the volume of the business. For Jockey, we have 1 Business Manager with 500 people reporting to him. For Carter we have 2 Business Managers managing 1000 people under them.

Each Business manager has several functional heads reporting into him. The Production Head, the Sourcing Head, Inventory Head, the Merchandising Head and the Operations Head for Jockey report into the Jockey Business Manager. So each Buyer has dedicated functional heads and dedicated Teams (across Production, Sourcing, Merchandising, Garmenting operations) for delivering on our commitments to that Buyer.

Its not about manufacturing/selling garments/products to the Buyer. It is about selling a factory to a Buyer. We like to sell by Blocks. You buy a Full Block’s capacity and you get a full dedicated group of workers to deliver that for you – the group includes your own sourcing, merchandising, production and operation teams including tailors and sweepers!

That’s why you might have seen that we are organised by Blocks. Each Production Block has its twin but separate  Block (in adjacent Tower joined by pathways) for accommodation and dining and other space for the Workers in the Opposite Block.

Wow! That’s a pretty interesting and original way of organising your business around Buyers. But what about the 2nd and 3rd level of Leadership in the organisation?

The 2nd rung of leadership is built around 8 Core Managers – managing operations at the company level – each handling a specific function – Finance, Administration, Production, Sourcing, Inventory Management, Merchandising – and have their own Centralised Sourcing Team, or Centralised Inventory Management Team, for example.

3rd Level of Leadership are the individual Business Managers. And 4th level are the Buyer specific functional heads.

So for each functional head, there is a direct reporting at the Business Manager level and also a lateral reporting at the Core Manager level?

That’s correct.

Also how are the responsibilities divided, what does the Centralised Sourcing Team do and what does a Buyer Sourcing Head decide on?

The Centralised Sourcing Team is responsible for policy setting, vendor identification, selection and nurturing, etc. and managing the individual Sourcing Heads at the company level while the Sourcing Head at the Buyer level can decide which of the 4-5 company specified sources he/she wants to work with. The rest is all about execution and adherence to laid-out standard procedures.

Let’s move on to some group issues. Kindly share the genesis or the requirement for a separate entity like KCL (100% owned by you) in addition to the listed entity KGL?

This was a situation that was forced on us around 2006. We had plenty of orders to fulfill in KGL but also a stretched out balanced sheet. Bankers were unwilling to lend us the 30 Cr we needed for fulfilling orders on hand. I had no option but to create a separate entity like KCL. I took very high risks. Had to pledge everything I had, all my personal holdings and savings. Even then, no single bank was willing to fund us. we
finally managed to rope in 3 different banks to fund us 10 Cr each.

This is how it happened. For me there is no difference between the two – it’s like my left arm and right arm!

We understand group capacity is at 5.5 L pieces/day today. While KGL (440 Cr) has higher Sales than KCL (250 Cr) it also sells Fabric. Kindly share the garmenting capacities at KGL and KCL specifically. (ICRA Reports on KCL and KGL cite this at 90 Mn and 65 Mn pieces annually).

TBD

You have talked about doubling the group capacities from 5.5 L pieces/day to 1.1 Mn pieces/day in next 2-3 years. How will this be achieved and what kind of investments will we be needing.

We completed ~70 Cr investments in the Robotics assisted Fabric Processing plant last financial year towards enhancing capacities. The fabric capacity now at 48 MT is sufficient to see us through the targeted garmenting capacity of 1.1 Mn pieces/day in 2-3 years.

Now some more investments will be required towards cutting and sewing machinery. We have already ordered Advanced fully-automated Cutting machinery that will be here soon. Also we have ordered more advanced Sewing machines that are more efficient and will consume less power. Totally some 30-40 Cr additionally for the group. For KGL it will be about 15 Cr.

So, how do you see KCL and KGL growing individually in the next 2-3 years?

Both will double the capacities. Both should keep growing at 20-25% annually.

What about the Employee Base? ~4000 are direct employees at KGL. What is the total KGL+KCL direct employee strength? How many are contracted?

Total employee strength is ~8000. There are no contract labourers.

While capacities are being enhanced what about the Labour situation? will that also need to be doubled ~16000 employees in 2-3 years? And, if you continue to double volume capacities every 2-3 years – realistically, where do we see Labour counts growing to in the next 3-6-9 years?

Actually we will need only incremental 10% more additional Labour to reach 1.1Mn/pieces per day.

That’s something difficult to grasp and will take some doing. Kindly share how will this be achieved?

Firstly productivity improvements through use of advanced technology, backed up by productivity improvements through increasing efficiencies. Thirdly automation is being brought in new areas. For example we are installing a shaving machine that will bring in 4:1 savings in manpower. That itself will free up 300 people. We are bringing in lot of automation in Kitchen that will free up another 100 people. Automatic Roti-Maker (just need to put the Maida) producing 60 Chapaties every minute. Automatic Idly-Maker producing 2000 idlies per hour. 30 kg onions will get peeled in 1 hour. 2000 plates will be cleaned every hour. All imported fully automatic machines being introduced. Imported German machines for Vaccuum Cleaning that will bring in 75% labour saving.

It’s not one single thing that will do the trick, but a whole host of new initiatives in every area that we can identify where we can improve productivity and/or increase efficiency. Together we are confident these will deliver double the capacity at low incremental labour addition.

Okay. But even managing a 8,000-10,000 kind of Labour Force with high attrition is a tough job. How are you handling things today? How do you manage attrition/training/motivation and sourcing Labour?

Earlier we were using local people. But since last 2-3 years that supply wasn’t enough and we had to source labour from other states like Jharkhand, Orissa and other locations. Fortunately we have found a very competent partner who is able to provide us on a regular basis.

However, the Training part is the most challenging. When you went around the factory, you must have observed how disciplined the workforce is – they continue to do their job efficiently, silently. Most people wont even look up while you are passing by except if you are directly at their table.

But getting them to be like this is a big big challenge. When they come they are uneducated, unhygienic, raw folks. There is also the phase of adjustment to Climate and adjustment to Culture, living and eating and even basic hygiene training. Its tough, but today we have the processes to manage this transformation. Don’t see a problem for next 5 years at the least.

So how big a acclimatization-training team do you have today?

There must be constant outflux too. Normal attrition. plus since its mostly women once they reach marriageable age, etc. When they go on annual leave after a year, many may not come back? How big a challenge is it really as the Labour force scales up?

Yes it is our biggest challenge, but something that is manageable. We are probably doing a better job of it than most places in India. We have an excellent outsourced partner in Don Bosco. DB Tech or Don Bosco Tech mobilises these youngsters and sends for training in sewing to Kitex. Don Bosco has been managing the mobilisation extremely well for us.

The Kitex team takes over and is able to make them productive within 1 months and fully productive within 3 months as mentioned before. Actually when someone goes on leave for a month, they usually return with 5-6 of their own -sisters, cousins, neighbours, relatives – their transformation is there for all to see! [Kitex Training-Corporate Video]

Kindly educate us on the US Wholesale Operations set-up? What are the aims and what is the investment size?

There are 3 ways of entering the US market

A. X or Y Brand manufactured by Kitex (manufactured by Kitex is imprinted on the garment)

B. Kitex made private label for someone like Walmart (where Kitex branding is non-existent)

C. License some established brand – that is not present in infant wear – take advantage of the mother brand while providing best quality manufacturing by Kitex (again Kitex manufacturing brand is enhanced). In US market Quality comes first (probably even before Brand) hence huge Branding exercise may not be required. Since customers can return products even after few days of use, quality is critical, and we can leverage Kitex quality while piggy-riding on the mother brand.

Is it right to conclude that these are probably longer -term initiatives and that initially the most significant impact will be on timely deliveries and logistics cost savings? What impact is this likely to see on the margins front? and by when?

We have hired some office space in US. We will import Kitex garments in bulk ourselves, pay the landed duty price (LDP) and offer our products directly to retailers. This activity should get started in next 2 months and will help shave off 0.5% of current logistic costs.

In time we may be able to replace distributors in between and supply directly to Retail ourselves. Distributors today are marking up as much as 30-50% off us while selling to retail.

There looks to be a conflict of interest here. Why wouldn’t this strain your relationships with existing customers (like Carter) who also procure in volumes for themselves (their retail presence) as well as supply to Walmart and other big retailers.

No, we do not think so. US is a very competitive but business-like place. If you can get additional business from Retailers, good for you.

Why can’t a US manufacturer do a g
ood job with more of the automated machines and efficiency drivers like you have spoken of before?

$12/hour is the minimum cost of Labour. For 8 hours this would cost $96, say $100 or Rs 6000 per day. Rs 6000/- per month is the Labour cost in India. Even if someone were to manufacture in US efficiently, who is going to consume products that will need to priced that much higher?

5. PRODUCT MIX

Kindly explain the major product mix components. Baby/Layette, Sleepwear, Play clothes and so on.

Body Suits : 40%; Sleep Suits : 20%; 20% Playware; Caps/Booties:2% ; Others: Blankets, Mittens, Pvt Label

Which are the low-value items and the high-value ones? Are there major avenues for value-addition by moving up the quality-chain?

Caps/booties are low-ticket items while Body Suits are higher-ticket items

What are the major sources of growth and profitability?

Body Suits with high volumes and higher realisation at $1.25/piece

Any plans of producing more than infant wear? What about Toddlers 2-4 or say 2-7 years and service the full range of a major retailer like Carter?

Only of there is a (unintelligible hand-notes :-().This 2-7 years segment is much more commoditised market.

6. OPERATIONAL OUTLOOK

6.1 CUSTOMER CONTRACTS

In the past there have been instances where customer‟s product failure (2012-13) or delayed orders from clients (2010/11) has led to order volatility impacting the group‟s revenue growth.

As explained before we experimented with relatively smaller buyers, but that didn’t work out and we have resorted back to the large buyer relationships where visibility is strong and scale and volumes are maintainable.

You had problems with TESCO?

TESCO and another buyer. That was in 2010-2011 time frames

We haven’t incurred even 1 hour production loss in the last 3 years. Our business model now is more stable.

Today how are we safeguarded against problems of similar nature? Do contracts have stringent clauses for guaranteed off-takes/penalties for non-adherence to schedules?

Large buyers have contracted wall space with Walmart – much in advance of the season. Wall spaces like 3 feet, or 6 feet, 9 feet or 12 feet, Wal-Mart is in the business of selling walls to brands. Supposing you are booking space for Mar 1st to July 31st. In addition to the Rent for space, you have to provide a minimum sale guarantee. You have to fill the space in time. If you sell less than minimum guaranteed – you need to pay penalties.

This is not India – where if you have contracted something for Mar 1st, and you can call up and request can I shift to Mar 7th, my suppliers are unable to supply! 7 days of unutilised wall space at any retail outlet in US will carry huge penalties.

How are Order books/Capacities negotiated? How often are these negotiated – 6-monthly or annual process? Are prices fixed or is there some pass through for cost escalation, say with a lag effect?

Usually Orders are negotiated for the Season or 2 Seasons. Spring/Summer and Winter/Fall. No, once a order is negotiated the Price is fixed. Normally while negotiating for the upcoming season, the RM is available at fixed pre-negotiated points for us, and cost is known. Once the order is negotiated, currency hit/gain onus is on us completely as is fluctuations in yarn/other RM.

However in case of any abnormal gains/losses (more than 10%) there can be some passing of benefits from either side in coming season(s). Cotton prices can go up one year and come down the next. There has to be give and take. Both sides have to survive. Only then both can win.

What is the relationship between annual order scale-up and the inevitable margin pressures? How often do you face this?

What are the debtor days norms with major customers? Have there been any instances of debtors going bad with any of the major customers? In last 10 years Debtor days have usually been at ~58-60 days, FY 2014 has seen it at 45 days? Is this a result of any re-negotiations?

Standard Debtor terms are 60 days. For delays we charge additional 0.5% to 1% for 60-90 days. In some cases/new deals we open LCs

Inventory days record has been more uneven. ~60 days in earlier years to 100-110 days post 2010 (RM used to include Processing charges till 2010, why excluded now?) is down to 17 days in FY14 (11 cr vs 45-50 Cr in immediately preceding years. Kindly comment. Is this a one-off aberration this year, or?

6.2 SUPPLIER CONTRACTS

What are your major Raw Materials – Yarn, Fabric? Who are your major suppliers? How many suppliers do you deal with? What is the duration of such relationships?

As explained before, Yarn is the mainstay of fabric quality. We manufacture garments only with superior quality Kitex specified yarn based on Okeo Tex Class I specifications. Yarn is the main RM (50-60% of total RM). Major suppliers are GTM and PBM. Kitex specified superior quality yarn is not available in the general market.

What kind of contracts do you sign with major suppliers? Are they spot-basis, yearly negotiated or long-term contracts with cost-escalation pass-throughs? What is the nature of cost- escalation pass throughs – only currency related?

We have been nurturing 4-5 suppliers (both in North India and South India) for over 5 Years. We offer guaranteed payment for guaranteed volumes. For some of them we have been sourcing 100T/200T per month.

Who are your major technology suppliers? Do you enjoy any supplier credits with them?

We enjoy very advantageous pricing deals – we get all machinery at Cost Price. They are willing to give up their profits as Kitex buying some machinery from them is something of an endorsement for them.

Why exactly are you in that happy situation today?

We are known for our willingness & ability to take risks on using advanced machinery using latest technology. Our technology suppliers take credit in showcasing Kitex factory as a buyer for their latest advanced machinery. They bring customers from all over Asia and even European countries like Turkey to our factory. Every month there is someone or other visiting.

Creditor days have been constantly improving over last 5 years, dropping to 20 days in FY14 (Sundry Creditors have stood at ~24-26 Cr over last 5 years despite the impressive Sales pick up). Kindly explain – why have you been obliging suppliers with such benign credit terms?

Our interest charges work out to be 7.5% whereas our Supplier have to work at 12-14%. We are availing less credit from RM suppliers and negotiating better prices for us.

6.3 CAPACITY

The augmented Fabric Processing Capacity at 48 MT is sufficient for catering to what Garment capacity? 11 L/pieces per day? When will we need the next big augmentation of Fabric Processing capacity – at what Garmenting capacity?

The Knitting and Fabric processing capacity currently should see us through the nex
t 2-3 years i.e. suffice till targeted Garmenting capacity of 1.1 Mn/pieces per day.

Kindly educate on how 90 Mn Annual capacity (KGL) and 65 Mn Annual capacity (KGL) translate to the 5.5 L/pieces per day. How many working days/month or year

72 Lakhs capex was completed in FY14. This was mainly for the Fabric Processing part. Is it correct to say all Capex in FY15 and FY16 will now mainly be for augmenting Cutting and Sewing machines? How much for Cutting machines? How much for Sewing machines?

Yes further capital expenditure will be on Automatic Cutting machines (already ordered) and more advanced Sewing machines as explained earlier (already ordered)

What has been the spend so far in FY15 and what will be the spend till Mar 31st?

About 15-20 Cr

Will we see some augmented capacity in place by 1HFY15? And what will be the likely enhancement by FY15 end?

Gradual ramp-up throughout the year.

What happens to the older machines? For sewing machines that get replaced say, are you able to get a good price or they are more like scrap?

Our accounting depreciation rate taken is ~8%. But Heavy machinery have a practical life of 20 years. Even Sewing machines – we are not using any Chinese machines. We have been using robust Japanese machines, where initial investment is very high, but these have a practical life again of 19-20 years.

We are able to get a decent price. a) A new sewing machine say today costs $800, roughly the same it used to cost when we originally purchased on $basis. b) while purchasing our $-Re equation would have been at Rs 35!

How often do you need to replace machinery?

In our experience, we have seen it is better to replace every 5 years. One, it straightaway leads to a 10% increase in efficiency. That allows us to get more productivity out of the labour-force – something that we are quite focused on.

Net-net, what would you say is your Return time frame for investment in machinery?

Processing machines returns – Maximum 3 years; Sewing machines – 2 years

6.4 SALES

FY14 Q1 Sales came in flat at ~100 Cr. Was this more due to the ongoing technology/ automation initiatives pursued by the company that required extensive trial runs as also the stabilisation of the enhanced Fabric processing capacity?

Mainly attributable to seasonality in Sales

Kindly explain the seasonality experienced in Sales during the quarters? Why?

For US and Europe, Spring/Summer and Winter/Fall seasons- that’s how the Buyers procure. Fall/Winter sees heavy buying while Spring/Summer is slower. Spring you get only about 1 month of Sale, while in Summer you get 2 months of Sales (holiday season). So barring some exceptions, you will see that Q1 is always slow, Q2 is better, Q3 is heavy, and Q4 super heavy sales.

Kindly share the contribution from government subsidies, duty drawbacks and other export incentives?

TUF   – 5% subsidy on interest rates; 10% subvention on Capital Expenditure

Packing Credit – 3%

What is your average cost of Capital (Debt Funds)?

Term Loans – 12.5% currently. But we are expecting will come down by atleast 0.4% to 12.1% or so as our credit ratings have been revised 2 notches up by ICRA from A- to A+. We may be the rarest of the rare Textile company to be rated A+ – most Textile companies are at A- levels or lower (about 750 Textile companies are rated today). And better still our Bankers – State Bank of India have upgraded us to SB2 from SB4 (SB1 is the highest rating).

7. RISKS/CHALLENGES

Would it be correct to say that the Marketing challenge is over? It is now mainly an Execution challenge in stepping to service demands from global customers?

You can say that.

What are the major challenges before the organisation?

Today Labour training/controlling is the only real constant challenge. We are in a comfortable situation on most other fronts.

What is the take on lack of geographical diversion – both on customer front and manufacturing front?

While US is still the largest market, all major customers have a growing international presence. As explained before, Middle East and Asia are growing very fast. In the next 2-3 years we will see more business from every buyer from these regions.

Manufacturing wise, we have no foreseeable plans to locate another plant elsewhere.

Why is the Political Risk not real or negligible in your eyes? Everyone says Kerala is a very difficult place to do business in.

That is mostly perception (misplaced). Those days of business-unfriendly political and labour environment are long gone. Today Media is very strong, development oriented public opinion is strong, people are much more educated.

Every year we contribute 700 Cr of valuable foreign exchange to the state. We are already the largest employer in Kerala. This would not have counted for much in bigger states, but Kerala is a very small state. The political establishment – all mainstream parties – value our contribution to the state.

Yet you yourself have faced protest and delays in clearing expansion plans in the past. While coming to your factory we saw hoardings of Panchayat and SDPI – citing some details against Kitex?

We have not done anything wrong. We have never violated any laws of the land. We pride ourselves in adhering and bettering every environmental or social compliance norms/laws. There are no issues with mainstream political establishment. This was a small outfit called SDPI who are always trying to create trouble, in order to extract something. But we have handled that in our own way.

Why are you confident this cannot/will not repeat again – there will not be any production stoppages or some charges slapped unfairly on other grounds of say – women workforce exploitation – the bogey that SDPI raised?

For that you will need to understand the genesis of the problem, our determination in weeding out the problem, and our process behind the same.

This all started in 2012 in June by a local outfit called SDPI – (Wikipedia Link) – they controlled the local Panchayat at that time. Our environmental license was up for renewal and they started making hugely exorbitant demands. Naturally we refused.

They first raised the environment pollution bogey and ran a mis-information campaign against us. They enlisted  local villagers support (we had minimal local contact then). Their attacks got more and more personal and made me to be seen as a villain and a criminal, vilified me in every manner possible.

One way is to acquiesce and pay what they want. Keep on paying bribe/sleaze money and work without any problems. But I have been seeing these things – seen my dad suffer from the time when I was in 1st standard.

But now we had the resources to mount a serious challenge at the very roots of the problem. For a normal fee of x, if someone puts up an extortion demand of 10x, we can spend 100x to quash the problem once and for all.

The problem was our lack of contact and strong support base within the local village community then. I started local contact myself. I went direct to the people and explained how my father brought me up, inculcated the discipline in me, so we could create something like Kitex in your village. I explained my vision for the village, how every child can be taught t
he value of discipline, and aspire to achieving the best in life. Fortunately people listened to me, staying on in rain for hours, and urging me to speak on every time I wanted to stop. They wanted to hear me. Meeting went on for 3 hours non-stop, people came out in large numbers to hear. Opposition also conducted meetings – attendance started to become thin -if they had 50 people gathered, our meetings would have 5000! [lots of footage shown to us].

Soon, we conducted a signature campaign. In one day we collected 16000 signatures!!

We started conducting cultural programs on Onam festival for the region – with 25000 people in attendance. We went to schools in the region and sponsored their football teams. Today we support 40 football teams of schoolchildren – soon we will have our world-cup [laughs]. We have conducted all types of awareness programs, invested in projects for drinking water supply, and the like.

We want to make this village a model village – example of the best, anywhere in India. This is the third year of engagement. we have the complete support of people in this village and nearby villages.

Today if I stand for elections, I will win easily. Opposition will lose their deposit.

Some might question if this is not bordering on over-confidence? And, you are so passionately involved now, it will be fair to question whether your priorities might change – after all you are the key man for Kitex?

[Smiles] This work/passion is properly scheduled. Sundays and after 5 Pm. Also on holidays. Kitex is always remain the first priority – that is business.

All this must have been very frustrating for you, also depleting lot of your energy?

With every opposition, I have only grown. What is Life without challenges?

8. FOREX/HEDGING

There is no stated Forex/Hedging policy outlined. We are watching the situation very closely and have taken adequate measures. We hope to show some decent gains

9. DIVIDEND POLICY

What is your stated dividend policy?

Again no stated dividend policy. But we will show steady, stable growth in dividends. We must ensure there are no dips.

As companies get comfortable on the debt front and there are stable cash flows, mature companies have a fixed/target Dividend Payout in line with the Earnings growth. What is your thinking on that front?

We are not yet a mature company. We have taken very aggressive bets to reach here.

Our first target was to become debt free. You can say we have reached zero debt level only now, if you account for the Cash. Whatever Surplus we generate, we need to ensure enough to save us on a rainy day. What if there is a crisis next year, what do you do?

There are external pressures (from shareholders), but I think we are right in resisting those pressures till we reach a situation where we can be called a mature company.

10. Kitex Garments Ltd and Kitex Childrenwear Ltd

Minority shareholders like us are however concerned with the listed entity KGL. In the current scheme of things, concerns on Management discretion and Corporate Governance will always remain. Why not merge the two?

Yes Merger should happen at the appropriate time.

One needs to appreciate that we are in this situation, because of historical reasons, as explained in detail earlier. You must also appreciate that there is lot of value creation still to be done at KCL level. I have staked everything I had on this entity (taken on very aggressive bets) and merging the two at their current stage will be really short-changing myself and my children. When KCL business and Clientele grows to a certain level, merger is surely on the cards.

What kind of value creation are you looking at?

First, the business in KCL has to grow to a certain level. It has to independently demonstrate the track record of sustained growth on the back of sustained customer relationships. Once that level is reached, it will be easier to envisage for anyone whether KCL can go the next level or not. That will be the right time to merge the entities.

You already have significant holding in the listed entity KGL. Purely from a financial gains standpoint (notwithstanding the value creation) – Investing community likes to point out Merger of the 2 entities looks unlikely because with Promoter shareholding is capped at 75%, you lose more.

Yes, we appreciate that.

So, you are saying you don’t mind that minority shareholders getting benefited more?

Yes. It should be a win-win situation. Shareholders in the company should also benefit

But Actually minority shareholders (of KGL) are walking away with a good chunk of the value creation in KCL for free, while you stand to lose that chunk of value creation, in the merged situation. There would be other gainful options for you, surely?

There will be value unlocking in both the companies after the merger, the combined entity valuation will benefit everyone, so even if I give away some to minority shareholders I too stand to gain.

An objective assessment of this situation would point to the above inequity and suggest that KCL acquiring KGL is the more likely outcome – after the Value Creation.

Not going to happen!

Taking that argument line, one can say I can do anything with KCL – I am the only owner. But KGL is a listed entity – there are other significant shareholders, one cannot just walkover them. Any decision taken can only be arrived at after due process. Only proposals that can carry everyone and convinces everyone, can be taken for KGL.

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Disclosure(s):

Management Q&A:

1. Ayush Mittal : Tracking & buying > 1 year, added more recently; Holdings > 5% of Portfolio

2. Tirumal Rao: Tracking & buying > 1 year, added more recently; Holdings > 5% of the portfolio

3. Pratyush Mittal:Tracking & buying > 1 year, added more recently; Holdings > 5% of Portfolio

4. Anil Kumar: Recent entry; Holdings > 5% of Portfolio

5. Vinod MS: Recent entry; Holdings > 5% of Portfolio

6. Donald Francis: Recent entry; Holdings > 5% of Portfolio

Special Contributors:

1. Kiran D: Recent entry; Holdings > 5% of Portfolio

2. Omprakash Davuluri: Recent entry; Holdings > 5% of Portfolio

————————————————-  End of Disclosure(s)———————————————-