Titan Company on Saturday announced the acquisition of 27.18 per cent stake in the omnichannel jewellery retailer CaratLane by buying the entire 91,90,327 equity shares held by the founder. Consequently, Titan’s holding in the company will go up to 98 per cent from the previous 71 per cent.

According to deal pricing, the valuation of CaratLane stood at ₹17,000 crore. This accounts for about six per cent of Titan’s current market cap of ₹2.7 lakh crore.

The stock of Titan ended with a gain of 0.9 per cent at ₹3,078 on NSE on Monday against Friday’s close of ₹3,050. The neutral reaction to the acquisition may be due to two factors.

One, given Titan’s prior 71 per cent stake in the company, investors would have factored in rerating in investment value and business synergies over the years.

Two, the incremental rerating and synergy from this deal is offset by the EPS dilutive nature of the acquisition for Titan. Based on FY23 numbers, Titan is ac­ quiring CaratLane at PE of 166 times (implies a very low earnings yield of 0.6 per cent). Given prevailing much higher interest rates, whether Titan funds this via debt or with cash/internal ac­ cruals, the transaction is likely to be EPS dilutive.

Valuation premium

Post acquisition, CaratLane has been valued at 7.8 times FY23 sales which is higher than that of Titan at 7 times. This is despite the lower margins–FY23 EBITDA and PAT margin of Titan stood at 13 per cent and 8.6 per cent, respectively whereas for CaratLane, it stood at nearly 10 and 5 per cent, respectively.

Higher valuation could be due to the expectation that CaratLane, which became profitable in FY21, is now in the high growth phase. The revenue more than tripled between FY20 and FY23 and the margins have also been improving. EBITDA margin, which was nearly zero in FY20 has increased to nearly 10 per cent in the last fiscal. Net profit shot up from ₹1.6 crore in FY21 to ₹102 crore in FY23.

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Titan is also a beneficiary of higher valuation as the company had initially acquired 62 per cent stake in CaratLane in 2016 for ₹357 crore, valuing CaratLane at ₹576 crore at that time. While opinions might differ on what is the value of CaratLane, based on the recent deal that valued the company at ₹17,000 crore, the value accretion for Titan is quite significant over its original investment.

There can be some temporary drag in the profitability of Titan because the acquisition is likely to be EPS dilutive and is also expected to be done by raising debt—while the value of acquisition is ₹4,621 crore, the cash and bank balance of Titan, as on March 31,2023, stood at ₹1,343 crore.

However, the financials of Titan are strong. For instance, FY23 consolidated profit stood at ₹3,274 crore. As a result, the debt raised for the acquisition can very well be paid in two or three years. On the other hand, if CaratLane can grow at this pace, there is much to gain from it.

While the business prospects look good for Titan given the long run way of growth in the Indian consumption theme, its valuation appears quite expensive trading at a trailing PE of 85 times.

The offsetting factors discussed above must have led to market’s muted reaction to the deal announcement.