Vivo Mobile FY19 EBITDA loss swells to Rs 160 cr due to heavy ad expenditure

MUMBAI: Mobile handset brand Vivo Mobile India has reported an EBITDA loss of Rs 160 crore for the fiscal ended 31st March 2019 due to continued heavy advertisement and sales promotion expenditure. In the previous fiscal, the company had reported an EBITDA loss of Rs 120 crore.

As per the company’s FY19 provisional financials, the company has narrowed its net loss for the fiscal ended 30th March to Rs 50 crore compared to Rs 120 crore in the previous fiscal.

The company’s revenue grew 55% YoY to Rs 17,200 crore in FY19, due to higher demand and increased capacity. In the previous fiscal, the company’s revenue stood at Rs 11008 crore.

The company’s operating margins did improve slightly to negative 0.9% (FY18: negative 1.1%) due to rationalisation of channel margins and less profitable distribution channels.

The company hopes to turn profitable in FY22 by increasing sales through product launches at more competitive price-points, developing innovative products (under-display fingerprint scanner) and strengthening its offline presence. The management, however, has indicated that it would continue to spend sizeable amounts (7%-10% of revenue) on sales promotions to maintain its current market share.

According to India Ratings and Research (Ind-Ra), the company’s working capital cycle is completely funded through trade creditors. The EBITDA losses due to continued heavy advertisement and sales promotion expenditure pose a refinancing risk for FY20.

Ind-Ra has placed Vivo Mobile India’s Long-Term Issuer Rating of ‘IND BB’ on Rating Watch Negative (RWN). The Outlook on the earlier rating was Stable.

The RWN reflects lack of visibility over repayment of the upcoming NCDs maturing in December 2019 as Vivo’s internal accruals and available liquidity is insufficient to repay the NCDs. The management has clarified to Ind-Ra that the company is likely to refinance the NCDs with external commercial borrowing (ECB), which may be fully subscribed by Vivo’s parent.

Ind-Ra derives comfort from historic trend, wherein Vivo’s parent has supported the company by fully subscribing to the NCD (Rs 690 crore) and the ECBs on the books (Rs 1390 crore). However, Ind-Ra would await a concrete, action plan from the company in regards to its refinancing initiative.

Ind-Ra expects Vivo to continue to incur EBITDA losses till FY21 on account of thin gross margins and high advertisement expenses, thus remaining vulnerable to refinancing risk. While the company has been able to meet its interest payments via its cash balances (FY19: Rs 125 crore, FY18: Rs 40 crore), the quantum of repayment in FY20 requires the company to find alternate methods of financing.

Vivo incurred capex of Rs 410 crore in FY19, of which 50% was for acquisition of a 169-acre plot of land in Uttar Pradesh for constructing a technology park housing an upgraded manufacturing facility and granting easier access to its suppliers. The balance capex was for the installation of surface-mount technology (SMT) lines and increasing the assembling capacity.

Cash flow from operations turned negative to Rs 1190 crore in FY19 from Rs 230 crore in FY18, majorly on account of increased inventory, leading to net working capital increasing to negative 12 days (FY18: negative 27 days; FY17: negative 17 days). This led to a working capital outflow of roughly Rs 1180 crore. The agency expects the inventory level to moderate in FY20 (FY19: Rs 1450 crore, FY18: Rs 380 crore), as the company tends to hoard large quantities of raw materials six months prior to the launch of new products.

Vivo’s shipment market share significantly increased year-on-year in 2Q19, due to the combined effect of its aggressive marketing strategy and a shift in the company’s own strategy by reducing the margins offered to retailers and rationalisation of its distribution, now only being available at fewer counters which have strong visibility and sales. As of July 2019, the company’s market share stood at 12% (1Q18: 6%).

The company should improve its margins in the medium term, and enable it to make focused investments in tier two and tier three cities. Management expects to achieve major revenue growth in FY20 on account of new product launches and improved focus on online and offline sales. However, gaining market share on a sustained basis would be challenging, given changing customer preferences and low brand loyalty.

Assembling capacity of the company increased to 21.9 million units in FY19 (FY18: 16.2 million units; FY17: 12 million units). The company has already added 2 SMT lines in FY20, increasing capacity by 6 million units, to meet the increased demand from consumers.

At FYE19, the company’s SMT lines were running at a capacity utilisation level of 80%, selling roughly 17.5 billion units. Vivo intends to increase its capacity by creating an enhanced technology centre in Uttar Pradesh, which should boost overall capacity and decrease transit costs from the manufacturing plant to key dealers.

The company imports over 95% of its material requirements, which exposes it to foreign exchange fluctuation risk. Also, intense competition leaves less flexibility to pass on price increases to customers. However, the company is increasing local manufacturing of printed circuit boards, which make up around 50% of the smartphone’s making cost, which would reduce the impact of rupee depreciation.

The rating factors in industry risks such as rapid technological changes, changing consumer preferences and competitive pricing pressures. Other risks include forex volatility resulting from imports; this is partially mitigated by increasing the mix of indigenous sourcing/manufacturing.

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