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What’s the deal?

PC Jewelers recently announced that it would demerge its Export Division and merge with its wholly owned subsidiary - PCJ Gems & Jewellery Limited. Company currently has 2 core business verticals viz. Domestic Division and Export Division. The swap ratio is 1:1 and the company plans to list the newly amalgamated company on BSE and NSE.

** As of 31 March, 2018

Rationale for this action:

As per PCJ management opinion, the commercial activities of the two verticals are distinct and diverse from each other and have grown to their maximum potential. The management would need to provide focused attention to ensure growth, profitability & market share, and unlock shareholder’s value through this demerger.

Do the financials support the deal?

In the above table, it is clearly visible that there is no linear growth in PAT margins in the domestic or exports business on quarterly basis. The reason being that in the exports segment, there was an absolute increase in the quantum of finance costs which include the lease charges as well as hedging costs, impacting their PAT margins.

 It is fascinating to note what company mentioned in their Q2FY19 management presentation.

“The export business is a credit-based business and the company wants to rationalize their exports business as the credit availability is getting squeezed. Exports contributed only 5% of overall sales. The Company was able to bring down exports by 89% in Q2FY19. The company is therefore targeting to limit the export sales to Rs. 2000 cr in FY19 (as against Rs. 2690 cr in FY18) and a decline in the Q2 export sales is a result of the same.”

If company really wants to restructure their business and expand their export business by creating a new company, then why limit the sales of exports. In contrary, company could have opted to either sell its exports business or keep running the same business model. In its defense, the Board has stated that the proposed segregation will enhance value for shareholders as there would be absolute clarity to the investors on the business profile of PCJL and the resulting company. This raises a big red flag.

What is more interesting is to look at past four quarters export’s segment assets and liabilities: -

One more red flag, company is reducing assets to pay of its liabilities.

Looking at the consolidated balance sheet of PC Jeweler, company’s debt is booming backed with increasing financing cost.

Comparing it with company’s EBIT and calculate Interest Coverage ratio, it depicts company efficiency to pay back its liabilities.

The margin of safety for company’s creditor is very poor and raises more questions on consistent reliability on debt for expansion.

This also validates why every major credit rating agency downgraded PC Jeweler -

24^th July,2018- Care downgraded its rating on company’s medium-term instruments to CARE BBB- from CARE A-.

25^th July,2018- India Ratings and Research (Ind-Ra) downgraded PCJ to ‘IND A1' and withdrawn the rating on company’s commercial paper (CP).

1^st August, 2018- CRISIL downgraded its ratings on the bank facilities to 'CRISIL BBB+/Negative/CRISIL A2' from 'CRISIL A/Negative/CRISIL A1'.

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