2023-11-19 07:02:13 ET
Summary
- GIL has left its operating margin outlook for FY 2023 unchanged, even though it expects its actual full-year revenue to fall at the lower end of its prior guidance.
- Looking forward, the market consensus sees Gildan's operating margin improving by +190 basis points in FY 2024, which is achievable considering the ramp-up in operations at its new Bangladesh plant.
- My rating for GIL remains as a Buy, as I expect that Gildan can command a higher valuation multiple in the future as its operating margin expands.
Elevator Pitch
I have a Buy investment rating for Gildan Activewear Inc. ( GIL ) ( GIL:CA ) shares.
Earlier, I outlined multiple reasons to be bullish on GIL as a potential investment candidate in my previous June 27, 2023 article . Notably, Gildan Activewear's stock price rose by +16.4% (source: Seeking Alpha price data) following the publication of my late-June update, as compared to a +4.1% gain for the S&P 500 in the same time frame.
My focus is on Gildan Activewear's operating profitability in this latest write-up. In the near term, GIL has retained its existing fiscal 2023 operating margin guidance. For the medium term, Gildan Activewear's operating margin has the potential to expand further on the back of drivers like the new Bangladesh plant, positive operating leverage, and share gains. A Buy rating for GIL is justified on expectations of improving operating profit margin for the company.
Operating Profitability Guidance Stays Intact Despite Changes To Top Line Growth Outlook
In early November, Gildan Activewear offered an update on the company's full-year outlook after it released its Q3 2023 financial results.
It was slightly disappointing that GIL shared in its third quarter earnings press release that the company is expected to achieve the "lower end of" its FY 2023 "flat to down low single digits" top line guidance.
Gildan Activewear attributed the negative update for its sales guidance to "some softness in certain markets stemming from the macro environment" at the company's Q3 2023 result briefing . GIL derived 8.4% of its most recent fiscal 2022 revenue from international markets, and it is this geographical segment that has been a drag on Gildan Activewear's top line. The company's sales generated from international markets fell by -23.3% YoY in Q3 2023, while GIL's revenue earned from the US increased by +6.1% YoY for the most recent quarter.
On the positive side of things, Gildan Activewear could have already witnessed the bottom for its business operations in international markets in 2023. GIL stressed at its most recent quarterly results call that "pricing is staying relatively stable as we finish up the year and as we move into 2024." Expectations of pricing stability going forward is a positive indicator, as "price pressures across all international markets" were a major headwind for GIL's international markets segment in the third quarter as per the company's management commentary at the Q3 call.
On the other hand, it was encouraging to know that Gildan Activewear kept the company's "slightly below the low end of our current 18% to 20% annual target range" operating profit margin guidance for FY 2023 (source: Q3 results release) unchanged. It is also worthy of note that GIL didn't disagree with a sell-side analyst's assertion at the recent quarterly briefing that the company's management comments imply an increase in top line and operating margin expansion for FY 2024.
Previously, I indicated in my prior June 27 update that "I am confident in Gildan Activewear's ability to continue delivering high operating profit margins" in view of "favorable factors like production efficiencies, lower cotton prices" At its recent Q3 earnings call, GIL also cited normalized cotton costs and the better operating efficiency of its plants as reasons for the company's expectations of robust operating profitability for the foreseeable future. My positive opinion regarding the sustainability of GIL's strong operating profitability has been validated by Gildan Activewear's decision to stick with its existing FY 2023 operating margin outlook.
Room For Further Margin Improvement With Bangladesh Plant And Positive Operating Leverage
As per consensus financial forecasts taken from S&P Capital IQ , sell-side analysts see GIL's operating profit margin improving from 17.3% for FY 2023 to 19.2% and 19.6% for FY 2024 and FY 2025, respectively. I take the view that the current consensus operating profitability projections for the company are achievable with the new Bangladesh plan and the positive effects of operating leverage.
Gildan Activewear revealed that it is coming close to the "completion of phase 1 of our new manufacturing complex in Bangladesh, with the first facility currently ramping up its operations as planned" in its Q3 2023 results press release.
GIL has set up new production facilities in Bangladesh as part of its plans to optimize its manufacturing footprint to deliver lower operating expenses and higher operating efficiency. The company's goal is to have the Bangladesh plant operating at 25% and 75% of its capacity by end-2023 and end-2024, respectively. Therefore, it is no surprise that the market expects Gildan Activewear's operating margin to expand by +1.9 percentage points next year, when the Bangladesh plant ramps up operations and reaches higher operating levels in 2024.
Separately, positive revenue growth will have a favorable impact on Gildan Activewear's profitability going forward, as the company's top line expands on a substantial fixed cost base. The current consensus sell side financial estimates (source: S&P Capital IQ ) point to GIL registering positive top line growth rates of +3.4% and +3.8% for FY 2024 and FY 2025, respectively.
In the preceding section, I highlighted the weakness associated with GIL's international markets business, but this is expected to be offset by share gains for Gildan Activewear. GIL specifically mentioned at its Q3 2023 earnings briefing that it is "competing with competitors that have very high-cost structures" and "widening the gap on our cost position."
In other words, there is a virtuous cycle at play here. Gildan Activewear's margins improve as a result of new low-cost production plants, and the low cost advantage allows GIL to gain market share at the expense of rivals. Market share gains eventually translate into higher revenue and positive operating leverage, which in turn boost Gildan Activewear's future margins.
Closing Thoughts
Gildan Activewear's valuations are still undemanding, even though its shares outperformed on an absolute and a relative basis in the past four and half months (since my earlier article's publication on June 27). GIL trades at 9.4 times consensus forward next twelve months' EV/EBITDA (source: S&P Capital IQ ), which is lower than its 10-year average EV/EBITDA multiple of 12.0 times. I believe that margin improvement can be the catalyst to drive positive valuation re-rating, so I still award a Buy rating to GIL.
For further details see:
Gildan Activewear: It's All About Margins