Rating Rationale
April 14, 2020 | Mumbai
KGK Gems Private Limited
Rating downgraded to 'CRISIL BBB-/Negative' , removed from 'Watch Negative'
 
Rating Action
Total Bank Loan Facilities Rated Rs.50 Crore
Long Term Rating CRISIL BBB-/Negative (Downgraded from 'CRISIL BBB'; Removed from 'Rating Watch with Negative Implications')
1 crore = 10 million
Refer to annexure for Details of Instruments & Bank Facilities
Detailed Rationale

CRISIL has removed its rating on the bank facilities of KGK Gems Private Limited (KGPL) (Part of KGK Diajewels Group) from 'Rating Watch with Negative Implications' and has downgraded the rating to 'CRISIL BBB-' from 'CRISIL BBB', and assigned a 'Negative' outlook.
 
CRISIL had placed its rating on the long term bank facilities of KGK Group on watch on March 17, 2020, following the financial stress caused to KDPL due to the imposition of moratorium on deposits and facilities with Yes Bank. This impacted company's ability to service debt in a timely manner despite having the cushion in liquidity and willingness to repay the debt. The company had working capital facilities with Yes Bank.

Subsequently, part of the debt obligations have been paid and the group has applied for extension in tenure for the rest of the facilities post the lifting of moratorium of Yes Bank.

The downgrade reflects deterioration in the business risk profile and accordingly, financial risk profile of the group. Overall sales in the first nine months of Fiscal 2020 were 10% lower than corresponding period of the previous fiscal due to low offtake from Hong Kong amidst ongoing political unrest therein corroborated with muted demand scenario across other key markets as well. Revenue is expected to see further deterioration in fiscal 2021, significantly higher than CRISIL's earlier expectations amidst disruptions in the overall economic activity in the key global diamond markets, owing to restrictions and lockdown both in India and in the key global diamond markets, to contain the spread of Novel Coronavirus (COVID-19). The group's operations are working capital intensive with sizeable receivables which could see elongation over the near term and sizeable inventory levels. This is expected to impact the financial risk profile especially debt protection metrics and inventory risk cover over the medium term.

Despite a 10% drop in revenue, the bank limit utilization for the group averaged around 97% for the six months trailing December 2019 as against 92% during the corresponding period last year. Further, while the group has recently been sanctioned an enhancement of Rs.120 crores in its export credit limit from the lenders, these limits have also been already utilized to the extent of 50%. The sudden depreciation of INR against USD also led to increase in the utilization levels. Going further, halted exports amidst COVID-19 lockdown would restrict ability to further utilise these limits and thus restrict the financial flexibility provided by this enhancement in funding limits.

CRISIL has taken into cognizance, extensions being granted by the bankers in the export credit facilities for a period between 2-3 months, as permitted by the Reserve Bank of India (RBI), which should contain the risk of default. A sustained long period of closures can result in significant deterioration in credit profile of the group. CRISIL believes although elongated, the group would see a steady inflow of receivables from its customers, over the medium term and would also be able to partially revive its export operations over the next two-three months.

CRISIL has also taken cognizance of the restrictions on economic activity, including closure of all non-essential manufacturing plants in India as well as lock down and disruptions in key global diamond markets, to contain the spread of Novel Coronavirus (COVID-19). Impact of Covid-19 related restrictions applicable post April 14th, 2020 will remain a key monitorable.

Nevertheless, a sustained long period of lockdown can result in significant deterioration in credit profile of the group. On the other hand a faster reversal to normalcy may contain the extent of deterioration likely in credit quality of the group. Also any further relief measures given by the lenders towards export credit facilities will also be a key monitorable.

The ratings continue to reflect the KGK Diajewels Group's well established market presence backed by experience of promoters, healthy operating efficiencies and diversified revenue profile. These rating strengths are partially offset by large working capital requirements, moderate financial risk profile along with susceptibility to volatile diamond prices amidst intense competition and sluggish global demand, leading to moderate operating profit margins.

Analytical Approach

* Consolidated
CRISIL has consolidated the business and financial risk profiles of KGK Diamonds (I) Private Limited (KDPL), KGK Creations (India) Private Limited (KCIPL), KGK Creations Private Limited (KCPL) and KGK Gems Private Limited (KGPL) together referred to as KGK Diajewels Group (KGK). This is because all these entities, have common promoters, and there are operational and financial linkages between these entities.
 
* Unsecured Loans
Unsecured loans to the tune of Rs. 71.69 crores as on March 31, 2019 have been treated as 75% Equity and 25% debt as the same have exhibited a track record of non-withdrawal, are interest free, subordinated to bank borrowings and expected to remain in business over the medium term.
 
* Preference Shares
Preference Shares to the tune of Rs. 0.52 crores as on March 31, 2019 have been treated as 75% Equity and 25% debt as the same have low coupon rate, non-cumulative with a call option, subordinated to bank borrowings and expected to remain in business over the medium term.

Please refer Annexure - List of entities consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description
Strengths:
* Established market presence backed by experience of promoters
Supported by extensive experience of the promoters, KGK has established its position in domestic and international cut and polished diamond markets for over a century. The business is closely held within the Kothari family; their four generations have managed the business and increased its scale of operations. The group operations are fully integrated across the gems and jewellery value chain. The promoters have maintained longstanding relations with customers while successfully navigating through several business cycles over the years. The group has a presence in 17 countries across the globe which includes Australia, Angola, Belgium, Botswana, China, Hong Kong, India, Indonesia, Japan, Namibia, Russia, Singapore, South Africa, Taiwan, Thailand, U.A.E and U.S.A
 
* Healthy operational efficiencies and diversified revenue profile
KGK Diajewels Group has association with major diamond mining companies which enables it to source and distribute diamonds consistently in volume and variety. The company is a sightholder of the De Beers group, Rio Tinto & Alrosa. Close proximity to the diamond producing market has enabled the company to receive its required supply of high quality rough diamonds during the times of supply disruptions leading to production efficiency. The group has a diversified revenue profile as seen by its diversified geographical and product profile over the years.
 
Weaknesses:
* Large working capital requirement
Operations have been working capital intensive, with gross cash accruals, inventory, and receivables around 238 days, 105 days and 127 days, respectively, as on March 31, 2019. Working capital intensity is expected to increase over the medium term.
 
* Moderate financial risk profile
KGK Diajewels Group has a moderate financial risk profile, despite its large net worth of Rs 628.13 crore as on March 31, 2019, owing to high total outside liabilities to tangible net worth ratio of 2.64 times and average interest coverage and net cash accrual to adjusted debt ratios at 1.40 times and 0.03 time, respectively, in fiscal 2019. Financial risk profile should deteriorate over the medium term.
 
* Susceptibility to volatile diamond prices amidst intense competition and sluggish global demand resulting in moderate operating profit margins
The diamond industry is highly fragmented because of low entry barriers on account of relatively low capital and technology requirements, attracting numerous un-organised players across the country. KGK Group is also exposed to risks related to volatility in diamond prices. The company maintains inventory of rough and polished diamonds of which rough diamonds are usually procured from the international market. This makes the company vulnerable to fluctuation in diamond prices and with relatively limited value addition operating profitability has been moderate at around 3.8% to 4.5% over the last three fiscals through 2019.
Liquidity Stretched

Group's liquidity position is getting stretched amidst sluggish demand across key global markets which has resulted in inventory glut and elongation in receivables. Accordingly, the bank limits were almost fully utilized. The recent enhancement in export credit limit of Rs. 120 crore has provided some cushion in limits.  The group has long term repayment obligation of around Rs.7.25 crore per annum. The liquidity is partially supported by, cash and cash equivalents of Rs.37.5 crore as on April 01, 2020 along with funding support in the form unsecured loans extended by the promoters to the tune of Rs. 71.69 crore as on March 31, 2019. This funding support is expected to continue over the medium term. The group has sufficient liquidity in the form of cash and cash equivalents to meet the fixed cost of approximately Rs. 9 crore per month, for next two months, amidst lockdown and disruptions due to COVID-19 outbreak.

Outlook: Negative

CRISIL believes KGK Group's business and financial risk profile especially debt protection metrics and inventory risk cover and in turn liquidity will be under pressure owing to lock down imposed in key export geographies to contain the outbreak of covid-19 and the recent shutdown announced by the Government of India along the similar lines.

Rating Sensitivity factors
Upward factors
* Improved profitability resulting in higher cash accruals and RoCE
* Improvement in debt protection metrics, with interest coverage sustaining above 2.00 times
* Significant improvement in capital structure through equity infusion or significant reduction in working capital requirements

Downward factors
* Weaker operating profitability resulting in lower than expected accruals
* Further deterioration in debt protection metrics or capital structure
* Significant decline in the scale of operations of the group, or a further stretch in the working capital cycle with receivables stretching beyond 200 days.
About the Group

KGK Diajewels Group, owned by the Kothari family, was set up in 1905 by the late Mr. Keshrimal Kothari. The group is engaged in cutting and polishing of diamonds, and manufactures diamond-studded jewellery. 
 
KDPL was originally set up as a partnership firm, KGK Enterprises, in 1981; the firm was reconstituted as a private limited company with the current name in 2009. The company is engaged in cutting and polishing of diamonds. KDIPL has been a De Beers sightholder since 1997, and has a long-term procurement contract with ALROSA since 2012. The company has also signed long term procurement contract with Rio Tinto in 2014. Hence, the company gets assured supply of rough diamonds from major mining companies. 
 
KCIPL, set up in 2003, manufactures diamond-studded jewellery; it caters mainly to the Indian market.
 
KCPL, set up in 1997, manufactures and exports diamond-studded jewellery; the company is an export-oriented unit.
 
KGPL, trades in smaller carat diamonds and majorly supplies to the group's jewellery divisions.  
 
The KGK Diajewels Group derives around 80 per cent of its revenue from its diamond business, and the balance 20 per cent from its jewellery business.  The chairman of the group is Mr. Navrattan Kothari.

Key Financial Indicators - (Consolidated for KDPL, KCIPL, KCPL & KGPL)
Particulars Unit 2019 2018
Revenue Rs crore 3107.06 2890.56
Profit After Tax (PAT) Rs crore 16.13 16.47
PAT Margin % 0.52 0.57
Adjusted debt/Adjusted networth Times 1.63 1.63
Interest coverage Times 1.41 1.49

Any other information: Not applicable

Note on complexity levels of the rated instrument:
CRISIL complexity levels are assigned to various types of financial instruments. The CRISIL complexity levels are available on www.crisil.com/complexity-levels. Users are advised to refer to the CRISIL complexity levels for instruments that they consider for investment. Users may also call the Customer Service Helpdesk with queries on specific instruments.
Annexure - Details of Instrument(s)
ISIN Name of instrument Date of Allotment Coupon
Rate (%)		 Maturity Date Issue Size
(Rs Cr)		 Rating Assigned
with Outlook
NA Post Shipment Credit@ NA NA NA 50 CRISIL BBB-/Negative
@Includes sub limit of Packing Credit of Rs. 12.50 crore & also includes sub limit of Packing Credit of Rs. 50.0 crore against DDA bills under collection
 
Annexure - List of entities consolidated
Names of Entities Consolidated Extent of Consolidation Rationale for Consolidation
KGK Diamonds (I) Private Limited 100 Common promoters, and there are operational and financial linkages between these entities
KGK Creations Private Limited 100
KGK Gems Private Limited 100
KGK Creations (India) Pvt Ltd 100
Annexure - Rating History for last 3 Years
  Current 2020 (History) 2019  2018  2017  Start of 2017
Instrument Type Outstanding Amount Rating Date Rating Date Rating Date Rating Date Rating Rating
Fund-based Bank Facilities  LT/ST  50.00  CRISIL BBB-/Negative  17-03-20  CRISIL BBB/Watch Negative  27-08-19  CRISIL BBB/Negative  07-06-18  CRISIL BBB/Stable      CRISIL BBB/Stable 
                08-01-18  CRISIL BBB/Stable       
All amounts are in Rs.Cr.
 
Annexure - Details of various bank facilities
Current facilities Previous facilities
Facility Amount (Rs.Crore) Rating Facility Amount (Rs.Crore) Rating
Post Shipment Credit@ 50 CRISIL BBB-/Negative Post Shipment Credit@ 50 CRISIL BBB/Watch Negative
Total 50 -- Total 50 --
@Includes sub limit of Packing Credit of Rs. 12.50 crore & also includes sub limit of Packing Credit of Rs. 50.0 crore against DDA bills under collection
Links to related criteria
CRISILs Approach to Financial Ratios
CRISILs Bank Loan Ratings - process, scale and default recognition
Criteria for rating trading companies
Rating Criteria for Retailing Industry
CRISILs Bank Loan Ratings
CRISILs Criteria for Consolidation
Criteria for rating entities belonging to homogenous groups
The Rating Process
Understanding CRISILs Ratings and Rating Scales

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