Deepak Fertilisers: Greener Pastures Ahead

Deepak Fertilisers is generating healthy cash flows.This together with attractive dividend yield and better business prospects makes for a good long term investment

DEEPAKFertilisers and Petrochemicals (DFPCL) is a Pune-based company with an annual turnover of Rs 1,400 crore and a market capitalisation of Rs 475 crore. The company derives over 72% of its revenues from chemicals and 25% from fertilisers. The company is generating healthy cash flows and is likely to emerge a key beneficiary of increased availability of natural gas in India over next few months. The company is placed attractively with little downside risk, healthy dividend yield and with promising growth prospects over next 12 months.

BUSINESS:

DFPCL manufactures various basic chemicals occupying high market share in most of them in India. It enjoys nearly 45% market share in nitric acid, 35% market share in ammonium nitrate, 16% in methanol and is the only producer of isopropyl alcohol (IPA) in India. However, availability of natural gas remains an ongoing concern due to which the company is forced to operate its methanol and nitrophosphate fertilisers units at lower than full-capacity.
Also the company has diversified into real estate. It has built a shopping mall Ishanya with 5.5 lakh sq feet leasable area. With around 50 stores, a little over half of total area is operational. Last year DFPCL entered into a joint venture with Yara International, a Norwegian manufacturer, to sell its specialty fertilisers in India.

GROWTH DRIVERS:
The company recently increased the capacity of its nitric acid plant by onethird to 400,000 tonne per annum (TPA). It has built up ammonia storage tanks of 15,000 tonne capacity at JNPT. Once these become operational from April 2009 the company will be able to import ammonia and save natural gas, which can be diverted to increase production of other products.
The company is now firmly connected to the national natural gas grid and has access to natural gas produced anywhere in the country. With RIL commencing natural gas production, DFPCL’s chances to secure a long-term supply of natural gas at reasonable price appear bright.
The company is setting up a 140,000 TPA nitric acid plant by end of 2009 and 300,000 TPA ammonium nitrate plant near its existing plant in Taloja at a cost of Rs 650 crore in first half of FY 11.

FINANCIALS:
The net sales of DFPCL have grown at a CAGR of 21.7% over last five years while the net profits grew at 9.5%. Its debt-to-equity ratio stood at 48.6% for the year ended March 2008 with the return on capital at 17.2%.
The company posted 8.5% fall in profits during the quarter ended December 2008. However, the poor performance was due to crash in commodity prices and also due to 2-month closure of its nitric acid plant for expansion. Hence, if we look at the 12-month period ending December 2008, the company has expanded its profits by 45% to Rs 140 crore with 51% jump in net sales to Rs 1,396 crore. In the past the company has distributed almost one-third of its annual profits by way of dividends with Rs 3.5 per share in FY08.

VALUATIONS:
For FY09, we expect the company to report net profit of Rs 145 crore, which translates in a P/E of 3.2 on current market price of Rs 52.8. If the company maintains its divided payout ratio around 30% of its net profit, the dividend per share will go above Rs 4 this year. At current market price this translates in a dividend yield of 7.5%. The low P/E and attractive dividend yield limit the downside in the scrip with definite growth prospects over next 12 months

Petro cos put up a mixed show in December quarter

THE performance of India’s petroleum industry in the December 2008 quarter was a mixed bag, with some pleasant surprises and some disappointments. With the petroleum prices crashing and economic slowdown pushing demand lower, the industry ended putting up a grossly poor show. Most of the players reported historically high losses, while Reliance Industries (RIL) posted a fall in both sales and profits for the first time in six years.
The fall in crude oil impacted the prices of finished products and at the same time, forced companies to value their inventories significantly lower.
The main positive during the quarter was the hefty profits posted by Bharat Petroleum. The partial shutdown of the Kochi refinery reduced the company’s crude oil import requirements, thereby immunizing it from inventory losses. IndianOil also reported healthy profits at Rs 2,959 crore.
RIL surpassed market expectations by registering profits of Rs 3,500 crore in the December 2008 quarter against the majority estimates of Rs 2,300 crore-Rs 3,300 crore. The company not only reported gross refining margins of $10 a barrel — better-than-street expectations — but also improved the operating margins of its petrochemicals business over the first half of the year. Cairn India, which is planning to operationalise its Rajasthan fields by September, reported a substantially higher net profit of Rs 236 crore due to a jump in other income and write-back of previous tax provisions.
However, oil producer ONGC and gas transporter Gail disappointed the most during the December quarter. The subsidy burden borne by these navratna companies did not lighten in proportion to the fall in global crude prices. ONGC reported a net profit of Rs 2,475 crore, its lowest in at least 18 quarters, and GAIL’s net profit of Rs 253 crore was the lowest in almost 15 quarters.
Standalone refiners such as Mangalore Refinery (MRPL), Chennai Petroleum (CPCL) and Bongaigaon Refinery (BRPL) saw losses not seen in at least five years. Essar Oil, which commissioned commercial operations at its Vadinar refinery in May 2008, also reported hefty losses of Rs 1230 crore.
Besides the adverse global petroleum scenario, the steep depreciation in the rupee also hurt. IndianOil lost Rs 694 crore due to the weak rupee. Essar Oil wrote off Rs 679 crore as foreign exchange losses, MRPL took a Rs 79-crore hit, BPCL lost Rs 147 crore and CPCL, Rs 96 crore.
However, RIL continued to adjust the foreign currency exchange differences on the money borrowed for acquisition of fixed assets to carrying costs, in compliance with Schedule VI of the Companies Act.
The smaller natural gas transporters didn’t have anything to cheer about either. Indraprastha Gas wrote off Rs 17.5 crore towards over-withdrawal of natural gas and saw a 15% drop in profit at Rs 38 crore. Gujarat State Petronet’s volumes dropped as its customers switched to naphtha, which became cheaper during the quarter. The company posted 10% jump in net profit at Rs 28 crore. Gujarat Gas is yet to publish its results for the December 2008 quarter.
Crude oil prices have stabilised and refining margins have improved globally since January, making the operations of domestic oil marketing companies profitable. RIL’s KG basin gas fields are expected to start production from mid-February and this will gradually improve the volumes for domestic natural gas carriers. The scenario appears favourable for the petroleum industry, going forward.

Gujarat State Petronet : Holding On

THE DECEMBER 2008 quarter results of Gujarat State Petronet (GSPL) were dampened by a 25% fall in natural gas volumes as consumers replaced high cost spot LNG with cheaper naphtha. Still the company posted a 10% rise in net profit to Rs 28 crore, while net sales increased 6% to Rs 117 crore.
An increase in staff and maintenance costs put pressure on the operating margins during the quarter, which was eroded by 130 basis points to 86.4%. A 39% fall in other income and marginal increase in interest and depreciation charges pushed the pre-tax profits 5% below year ago levels. Thanks to a cut in tax provisions, the company posted 10% improvement in net profit.
The company's shareholders have approved a contribution up to Rs 64 crore for charitable purposes in FY2009 in response to Gujarat government's request to all state owned companies to contribute onethird of their pre-tax profits.
During the current quarter, the company successfully renegotiated most of its contracts under which the connectivity charges will now be borne by its customers. With naphtha prices moving up and Torrent Power's contract commencing, GSPL's gas volumes will improve substantially in the current quarter. Similarly, with the RIL's gas starting to flow from mid-February, GSPL will transport a greater volume of gas to Gujarat-based power and fertiliser plants. These factors will boost the company's topline as well as operating margins in coming quarters. However, in case of its contract with RIL to transport 11 million cubic metres per day (MCMD) of gas to its Jamnagar Refinery, the additional gas volumes are likely to begin only once RIL reaches production level of 60 MCMD at its KG basin gas field.

A RETURN TO GROUND ZERO?

A bad quarter has just passed. ETIG’s Ramkrishna Kashelkar & Priya Kansara Pandya study the impact of the global meltdown on the results of 1,925 companies

When we predicted further deterioration in India Inc’s performance while analysing numbers for Sep ’08 quarter, even we had not anticipated the sort of massive and all pervasive fall that corporate India reported during the Dec’08 quarter. We were surprised to find that the aggregate net profits of 1,925 companies in our sample nearly halved in the third quarter compared to December 2007 quarter — an unprecedented crash in atleast last 20 quarters. And the journey going forward may only be marginally better than the quarter gone by.
The factors impacting the results were numerous and very few companies could escape these. The global economic environment turned negative with the key global financial institutions going bust. The credit markets choked up and interest rates soared. The economic turmoil resulted in a substantial reduction in consumption leading to decrease in production and trade. A string of layoffs across industries worsened the scenario and the largest economies in the world fell into a recession. US, which is the world’s single largest economy is reeling under the 16-year high unemployment level and its economy is expected to contract by a 1.5% in 2009.
Although India has not been at the epicentre of this crisis, it did not remain insulated from the tremors. The global credit squeeze resulted in fall in India’s exports adding pressure to the export oriented industries such as textiles and gems and jewellery. During the last two months of 2008, India’s merchandise exports fell by over 10% against the year ago period notwithstanding the weaker rupee against the dollar. Industries, that are directly dependent on availability of consumer credit such as automobiles and real estate, also took a hit. Crash in the commodity prices and a resultant slowdown in demand meant that the companies in the commodity business such as metals or chemicals had a tough time. Most of the services industries such
as hospitality, shipping & logistics, etc, turned out to be the indirect victims. As a result, India’s economic growth is likely to fall below 7% in FY 2009, much below the 5-year average of over 8.5%.
As an outcome of these difficult times, the foreign institutions pulled money out of the Indian stock market, leaving rupee sharply weakened during the quarter. This forced a large number of Indian companies book hefty foreign exchange losses in line with the new accounting standards. It worsened the matters further; as most of these corporates had booked forex gains on a strong rupee in the December 2007 quarter.

UNPRECEDENTED FALL
With a number of leading companies posting historic low profits, if not losses, we had a feeling that the quarter would turn out to be really bad. We studied the results of 1,925 listed companies, excluding banks and non-banking financial companies (NBFCs) — as their revenue recognition differs from the rest of the companies — and four oil majors, which could distort the overall picture due to their sheer size and magnitude of losses. We were not surprised to find that just a few industries posted year-on-year profit growth in the Dec ’08 quarter. A vast majority of the sectors we analysed posted a marked fall in profits against the comparable period of the previous year.
Although the net sales for the quarter were 13.3% higher against the year ago period, the operating profit fell 26.4%. As costs continued to increase at a higher rate compared to the increase in net sales, the profit margins weakened to mere 11.6%, which is lowest in last 20 quarters at least. Those Who Braved The Avalanche
The staff cost of India Inc, which averaged at 6.9% of its net sales in last 20 quarters, stood at 8.5% during the December quarter. In a similar manner, the interest burden rose to 3.1% of net sales against a 20-quarter average of 2.2%. Depreciation cost scaled up to 3.8% of net sales — something witnessed only prior to 2005. The resultant pretax profits were 48.2% below the December 2007 level and the PAT was 48.7% lower.

A FEW IN THE BLACK
It was really a tough task to identify sectors, which posted a growth in profits in the December 2008 quarter. Even the sectors regarded as ‘value preservers’ in times of slowdown — the fast moving consumer goods and pharmaceuticals — did badly. The pharma industry reported a massive 81.8% fall in net profits during the quarter, while FMCG reported 29.5% fall. The Infotech industry, which gains when rupee depreciates, also posted a minor 0.9% fall in the aggregate PAT level during the quarter.
Sugar sector was among those precious few that bucked the overall gloom in the economy. The aggregate profit of 24 sugar companies stood at Rs 47.7 crore in the December 2008 quarter. These had reported losses in the corresponding quarter of the previous year. The sector being seasonal in nature had posted substantially higher profits in the September 2008 quarter.
India’s telecom services sector has been doing well over last few years . With Tata Communications and Bharati Airtel posting healthy results, the industry reported a 43.2% spurt in profits, which was best in last five quarters.
The power generation sector also posted its best results in the preceding five quarters with a 12.1% growth in net profits. Higher profits reported by NTPC, Jaiprakash Hydro and Torrent Power lifted the sector. Apart from these, the other sectors that did well were agro-inputs sectors such as pesticides and fertilisers.

WILL THERE BE A REPEAT?
Among these sectors, the telecom industry is likely to maintain the higher subscriber growth. Although the average per user revenue is on a downswing, the impending launch of 3G services should support it.
Power and fertiliser industries, besides the natural gas transporters such as Gail, are likely to benefit from the higher availability of natural gas once RIL’s KG basin gas fields commences operations from end of the current month. The sugar industry is also likely to perform well over next couple of quarters from higher prices due to the estimated sugar shortfall in the country. The aggressive interest rate cuts and stimulus packages declared by the government are likely to lift the domestic sentiments. The consumption confidence in India seems to be returning. The automobiles companies have reported healthy January month sales. The cement despatches reported by India’s largest cement producer ACC in the month of January ’09 have also improved.

GOING FORWARD
The quarter gone by was indeed very painful. Corporate India’s results in entire year 2009 are expected to remain under pressure. Whereas, a slowdown hits the smaller companies harder, the larger companies are better equipped to weather such turmoil. Hence, it will be a good strategy to invest in companies, which are financially strong.