Revenue growth of Bata India (BIL) slowed to 17% in Q2CY12 compared to 30.6%/22.6% in Q1CY12/CY11, respectively, at Rs5,065mn, 4.1% lower than their estimate. It seems BIL was geared up for slower growth, which is visible from the fact that inventory day  reduced to 96 in Q2CY12 from 102/108 in Q2CY11/CY11, respectively. Following buoyant performance in CY11/Q1CY12, the stock price increased 42.9% over the past six months. Third quarter is generally a weak quarter for BIL due to the monsoon season. In such a scenario further re-rating seems difficult until BIL resumes its earlier growth trajectory. Following limited upside from current levels, Nirmal Bang downgrades the stock to Hold from Buy. They maintain their estimates and the TP of Rs1,008  based on 16x CY13 EV/EBITDA.

Slower pace of growth: BIL opened 108/145/61 stores in CY10/CY11/Q1CY12, which drove its revenue up by 22.6%/30.6% in CY11/Q1CY12, respectively. Compared to 68/145 new outlets in H1CY11/CY11, BIL has opened over 100 outlets in H1CY12. However, with high base and lower demand, tentatively due to the monsoon season as per the management, revenue growth moderated to 17% in Q2CY12. Inventory days increased to 108 in CY11 from 99 in CY10 on account of lower demand and aggressive expansion in Q4CY11. However, BIL appears to be prepared for lower growth which can be seen from the fact that inventory days reduced to 96 in Q2CY12 from 102/108 in Q2CY11/CY11, respectively. Nirmal Bang expects the valuation to be capped until BIL resumes its high-growth trajectory. BIL incurred a capex of Rs34mn in H1CY12, mainly to increase retail outlets.

Better gross margin drove operating margin: BIL witnessed a drop in gross margin from Q3CY11 to Q1CY12, and even after that it was able to report better operating margin due to lower employee costs. However, with a better product mix, BIL was able to improve its gross margin by 99bps to 51.5% in Q2CY12, which led to a 86bps increase in operating margin. Following aggressive expansion, lease rent as a percentage of sales increased by 213/186bps to 10.6%/9.1% in Q1CY12/H1CY12, respectively. It would be difficult for BIL to improve operating margin from the current levels if the pace of revenue growth moderates in H2CY12.

Valuation: Nirmal Bang expects the valuation of BIL, which trades at CY13E P/E of 23.5x and EV/EBITDA of 14.3x, to be capped until revenue growth resumes its earlier trajectory.