JAIN IRRIGATION: Stalled Fund Flow Takes a Heavy Toll

The stock has slumped on delayed subsidy payments, but looks attractive now as the company has moved to contain the fallout

Jain Irrigation's woes are not over yet as the sharp fall in its December 2011 quarter profits showed. However, its efforts to curb the rise in receivables are showing some results. Besides, initiatives such as a thrust on exports, setting up of an NBFC etc will enable it to get back on track in another couple of quarters. The worst seems to be over for the stock. 

BUSINESS India's biggest micro-irrigation systems (MIS) maker has been in trouble for the last couple of quarters as its receivables shot up on delays in government's subsidy payments. MIS, which make up nearly half of Jain Irrigation's revenues, are eligible for capital subsidy from the central government. However, with the government delaying payments, Jain Irrigation's working capital cycle has stretched to unmanageable levels.
Its outstanding debtors doubled between March 2010 and September 2011 increasing working capital investments by 60%. The company lost more than half its value on the bourses in 2011 for its inability to curb receivables.

GROWTH DRIVERS The December quarter results reveal that the company is going slow on sales of MIS to protect its balance sheet. Its MIS sales grew just 10.5% in the December quarter. This reduced its net working capital cycle by 12 days to 178 days in the December quarter. The company's PVC pipes business is doing quite well. It grew 36% y-o-y in the latest quarter thanks to healthy retail demand and exports to Africa. The company is also focusing on exports to drive its growth. It is targeting exports of $100 million in FY13 from just around $15 million in FY12. Next year it will also see its international subsidiaries contributing.
The company has approached RBI for a licence to operate a non-banking financial company (NBFC) - something that can address its working capital issue. The company hopes to obtain the licence within six months. 

FINANCIALS The company's profitability in the last two quarters was hit by mark-to-market losses on its $157-million outstanding loans. The losses stood at 59.3 crore in the September quarter and 71.1 crore in the December quarter. However, these mainly remain non-cash adjustments. The main source of pain was the interest cost, which at 250.6 crore for the nine months ended December 2011 was up 58% against the year-ago period. The net profit in the same period almost halved to 95.2 crore. 

VALUATIONS The company recently issued bonus shares with differential voting rights (DVR) in the ratio of 1:20. On an expanded equity base it is trading at a P/E of 21.3. However, sans the forex losses its profits in coming quarters will get a boost.

IPO: MULTI COMMODITY EXCHANGE OF INDIA

This IPO is a Must Have Commodity for Investors

The initial public offer of the Multi Commodity Exchange of India (MCX) offers retail investors an opportunity to become a part of India's growing commodity trading business at reasonable pricing. The company is the leader in its industry with a robust business model, a strong balance sheet and consistently high cash flows without any major capex in future. Investors are advised to subscribe to the IPO. 

IPO DETAILS Seven of the existing shareholders of the company, including the promoter Financial Technologies (FTIL), will be selling a total of 64.3 lakh shares. MCX won't be issuing any shares and hence no proceeds would accrue to the company. 

BUSINESS MCX is a de-mutualised commodity exchange, where ownership, management and membership are in different hands to ensure maximum transparency. It commenced operations in 2003 and has become the numero uno in India, attracting 87.3% of commodity futures value in the 9-month period ended December 2011. The company currently allows trading in 49 commodity futures across bullion, metals, energy and agriculture. It has the world's highest turnover in silver contracts, second largest in gold and the third largest in crude oil and copper.
Transaction fees paid by the members for execution of trades is the primary source of revenues for MCX and represented 81.5% of its total income in the 9-month period ended December 2011. Membership admission fees, annual subscription fees and terminal charges together represent 3.3% of total income while other income brought in 15.2%.
The company is entirely dependent on exchange-related support infrastructure and software sourced from its promoter FTIL.
MCX has a 15-member board of directors with one managing director, three representing promoters FTIL, four nominated by FMC and one nominee from NABARD and SBI each. 

GROWTH DRIVERS India's commodity trading market has expanded rapidly in the last few years with the advent of electronic exchanges. The average daily turnover of MCX jumped 3.5 times from Rs 14,900 crore in FY09 to Rs 51,400 crore in the 9-month period ended December 2011.
India currently doesn't allow trading in commodity options or indices. Similarly, FIIs, mutual funds and banks are not allowed to trade in India's commodity futures markets. Any regulatory changes in this regard would substantially boost traded volumes on MCX. 

FINANCIALS The company represents a high-cash generating, low-capex business and is debt free. Its net worth stood at around Rs 1,073.9 crore as on December 31, 2011. Out of this nearly Rs 700 crore is cash or investments. For the 9-month period ended December 2011, the company's operating profit margin was 64.8% and net profit margin 45.9%.
The company has maintained a continuous record of dividends since the first full year of operations. Since the company is not allowed to invest in non-related businesses and its own capex needs are limited, it will eventually become a high-dividend paying company. In the last four years, the company has distributed around 15% of its net profit and its current dividend yield would work out to around 0.6%. 

VALUATIONS MCX posted a net profit of Rs 218 crore in the nine months to December 2011. On an annualised basis, this translates into a price-to-earnings multiple (P/E) of 15.1 to 18.1 depending on the lower and upper IPO price bands. Similarly, the IPO band is 4.1 to 4.9 times the book value of MCX shares as on December 31, 2011. On both these valuation parameters, MCX fares favourably when compared with mature international exchanges like Nymex and ICE, more so due to India's potential for rapid growth in commodity trading.
    (Publisher's Disclosure — "Bennett,
    Coleman & Co Ltd and/or its subsidiaries hold 3.04% of the pre-offer
    share capital of MCX as on the date
    of filing of the DRHP with Sebi")

ONGC: Subsidy Burden, OVL are Near-term Concerns

Oil exploration firm ONGC’s December quarter net profit was just 5% lower against the year-ago period, although its subsidy burden jumped almost three-fold. This was made possible by the extra-ordinary income booked towards write-back of royalty paid towards the Rajasthan field. Apart from the government’s constantly shifting subsidy sharing formula, the company also has to worry about the civil unrest in Sudan and Syria, which contribute significantly to its subsidiary OVL’s production. The government changed its subsidy sharing formula for upstream companies once again for FY12. ONGC and Oil India’s contribution was calculated at $56 per barrel of oil sold by them during the first nine months of the fiscal. Since this was calculated at one-third of the industry’s under-recoveries in the first half of FY12, this change in method amounted to a big jump in subsidy burden.
ONGC parted with . 12,536 crore during the December ’11 quarter, which was almost thrice of . 4,222 crore of the subsidy burden in the December ’10 quarter and took the company’s total contribution in the first nine months to a massive . 30,296 crore.
The company’s net sales were down 11% to . 18,517 crore and the operating margins dropped by 1,180 basis points which resulted in a 18.3% fall in operating profits to . 11,050.5 crore. At pretax level, profits were down 29.2%, but the company accounted for . 3,142 crore towards recovery of royalty payments from Cairn, which enabled it to cut the fall at just 5% at the net profit level. ONGC’s physical performance continued to stagnate as crude oil production fell 4.1% to 6.74 million tonne during the quarter, while the gas production was up marginally. Meanwhile, OVL which handles all its overseas investments is facing challenging times. Production at its Imperial Energy assets in Russia continues to stagnate at around 16,000 barrels per day. Besides, its two assets in Syria, where civil unrest has attracted sanctions from the US and EU, and two assets in Sudan, where problems continue after the bifurcation of the country, are currently seeing a production fall. The production from all these assets represented nearly 40% of OVL’s total production in FY11. 

Robust Overseas Biz to Aid UPL

Better realisations from recent acquisitions and currency volatility helped United Phosphorus (UPL) post a strong result for the December 2011 quarter, when most of its peers stumbled. The company is well geared to meet its revenue guidance for FY12. UPL’s December quarter net profits grew 34.5% against the year-ago period to . 112 crore. This was made possible due to the UPL’s overseas exposure. UPL’s consolidated topline grew 57% YoY to . 1,872 crore due to a substantial growth outside India. North America and Europe grew 62% and 31%, respectively, while the rest of the world segment grew over 90% driven by . 300-crore contribution from Brazilian acquisitions of DVA Agro and RiceCo and contributes nearly half of its overall revenues. The domestic business, however, was sluggish wirh a revenue growth of 15% due to unfavourable weather conditions.
Still, the robust overseas growth and acquisitions driving the revenues of the first nine months 40.9% means that it will easily meet its 30-35% revenue growth guidance for FY12.
However, volatility in the raw material prices continues to be a concern for the agrochem major. During the quarter, UPL’s operating profit margin remained flat at 18.6% against the year-ago period due to high input costs, which rose 720 bps to 55% in relation with the net sales.
High input costs, a higher tax outgo and . 12- crore loss in its Brazilian JV Sipcam, maintained pressure on UPL’s bottomline. Net profit grew only 34% YoY to . 112 crore. At . 147, the stock trades at 11 times its earnings for the trailing twelve months, which is lower compared with rivals such as Rallis India and Bayer Crop-Science that trade at P/E above 20 levels.

Lead Story: Redemption Time

It may be too early to decide whether the bulls have enough wind to outrun the bears. But there are signs that recovery could be just round the corner. That may require the government to do something it has appeared incapable of doing — move on with its policies. With coalition partners playing the regional card, policy paralysis became the buzzword for all that was wrong in government decision-making. Industry has been vocal in demanding government action, and it may finally get that. The ET Intelligence Group homes in on policy changes that could kickstart recovery

fter a gloomy 2011, the year 2012 has begun with much optimism. Whether the recent rally in the stock market is a mere technical pullback or the beginning of a new bull run is a still debatable. But what is beyond debate is that the government’s policy decisions from here on will have a long-lasting impact on the economy as well as equity markets. The ET Intelligence Group tries to highlight the policy changes under government’s active consideration which will shape the future of Indian industry. The year 2011 was painful for investors. Equity markets slumped 25%, the rupee lost nearly 20% of its value and the spectre of macroeconomic challenges materialised — slowdown in economic growth and widening budget deficit. The most common factor that was blamed for the pain was “policy paralysis”. The government couldn’t come up with a resolute policy response in the face of tough global conditions, even as RBI continued monetary tightening in a bid to contain inflation. Despite all this 2012 opened with a bang. In the first month itself the benchmark BSE Sensex has gained 12%. Unfortunately, the underperformance of 2011 and the resultant attractive valuations by themselves don’t assure us that 2012 will be a year of outperformance. The reason being the uncertainties and critical problems some of the most important sectors such as banking, infrastructure, power and telecom are facing due to policy inaction. Leading power equipment maker BHEL’s results make a good example — the company revealed a fall in its order book in the December quarter as lack of fuel availability forced its customers to cancel power projects. However, in the last one month or so things appear to be changing. The government was finally able to obtain in-principle approval from all state governments on implementation of Goods and Services Tax (GST) — a long-pending reform that will not only reduce business costs, but also improve government revenues. Similarly, the government is seen making headway in allowing foreign direct investment (FDI) in industries such as airlines and multi-brand retail. RBI’s recent move to cut the cash reserve ratio (CRR) by 50 basis points is also seen as the beginning of a reversal of its hawkish stance in the fight against inflation. A lot more is at stake. In industries from oil & gas to pharmaceuticals a number of key policy matters are awaiting decisions at various levels of the government machinery. Not all will have a positive impact on industry though. It is anybody’s guess when those matters will be decided, particularly with the ongoing elections across five states. However, with the Parliament’s Budget session expected to begin mid-March there is growing expectation that a number of important decisions would see the light of the day sooner rather than later. Given below are a few key decisions and the impact they could have on industry.

 WWW ANALYSIS: What Went Wrong in 2011 
The year 2011 was what can be termed as a ‘wasted’ year. There were concerns in the global markets — European debt crisis, civil unrest in the Middle East and North Africa region, fledgling economic growth in the US — that resulted in risk aversion. However, the impact on India was more severe due to the country’s own problems. Through the year, the government was saddled with a number of scams including CWG and 2G spectrum. It was seen unable to pass legislations owing to opposition from rival political parties and even coalition members. At the same time, RBI continuously raised interest rates to contain inflation. This hurt investor sentiment as economic growth was seen to be slowing, budget deficit was expected to widen and infrastructure projects got delayed. With the subsidy bill exceeding budget estimates by over 1 lakh crore, India is going to miss the 4.6% budget deficit target by a wide margin. This has necessitated the government to also exceed its borrowing target for FY12 by 92,000 crore over the budget estimate of 4.2 lakh crore. By the last quarter of 2011, new project announcements had dropped a massive 41% yearon-year to 1,88,100 crore, the lowest figure since June 1995. The industries hit particularly hard are power, roads, construction, cement and steel. Similarly, the value of projects facing delays or deferrals nearly doubled to 5,74,800 crore in the December 2011 quarter according to CMIE data. The growth in India’s eight core industries with 37.9% weightage in the Index of Industrial Production (IIP) was 4.4% in the April-December 2011 period, down from 5.7% in the year ago period. The weakened sentiment was also reflected in the stock market performance. Foreign fund inflows, a major driver of Indian stocks, dried up in 2011 with net outflows in excess of $450 million. This compares with record inflows of more than $29 billion in 2010. LP: Loss to Profit; PL: Profit to Loss; *Operating profit margins of trailing 12 months; CAGR calculations based on trailing 12 month figures 

Airlines POLICY CHANGE: A high-level group of ministers that included the finance, civil aviation and petroleum ministers decided to allow 49% FDI in domestic airlines companies. The matter now awaits Cabinet approval.
IMPACT: This will effectively open up the aviation sector to foreign airlines. However, considering the industry’s adverse economics in India not many foreign players are likely to be interested. As such, it is feared that the policy decision may only have a NEUTRAL impact in the immediate future. INDUSTRY OVERVIEW: Indian aviation industry remains a lucrative market for foreign airlines due to its vast growth potential. However, there are heavy taxes on aviation fuel and airport charges are high, while infrastructure is constrained and demand is extremely price-sensitive. This is the reason that most Indian carriers have low operational revenues and are running high debt levels. Only low cost carriers such as SpiceJet and Indigo Airlines are virtually debt free. The functional woes of the domestic aviation industry are unlikely to go away in a hurry. Hence, it is feared the aviation sector may not appear lucrative to foreign airlines even after the opening up.

Pharmaceuticals POLICY CHANGE: The new national pharmaceuticals pricing policy 2011 aims to regulate prices of 348 essential drugs and their combinations, which will cover 60% of all drugs sold in India.
IMPACT: Although marginal, the pharma players will be impacted NEGATIVELY due to a lack of pricing flexibility.
INDUSTRY OVERVIEW: Currently 10% of the 68,000 crore domestic pharma retail market is under cost-based drug price control. At present, prices of 74 essential drugs are controlled. Half of the highest priced brands will be impacted by less than 5%. Only 32% of the highest priced brands will be impacted more than 20%, according to the impact analysis in the proposed policy. The maximum pain is likely to be felt by a handful of market leaders. AWACS, the industry market research body formed by the All Indian Origin Chemists & Distributors, has estimated that the three top players in the country’s pharma industry – Cipla, Ranbaxy and GSK Pharma are likely to suffer annual revenue loss of 80 crore, 115 crore and 137 crore, respectively. However, it could be a one-time hit as after the initial two years firms will be able to review prices every year and factor in inflation.

Retail POLICY CHANGE: The Cabinet has proposed 51% FDI in multi-brand retailing.
IMPACT: This would help retail companies to rope in globally successful retailers as equity partners. it will bring in much needed capital, apart from operational expertise, and will have a POSITIVE impact on Indian players.
INDUSTRY OVERVIEW: The organised retail industry has been facing a number of hurdles in India due to a surge in competition disproportionate to the industry’s growth. Most of the leading business houses – including the likes of Tatas, Birlas, Ambanis and Mahindras — have entered organised retail, but not many of them are profitable. In fact, the industry has already seen the first level of consolidation with a few smaller players like Subhiksha and Vishal Retail unable to stay in the race. Pantaloon Retail, which was one of the first to enter the industry and one of the most successful hitherto, is also staring at a stretched balance sheet. In this scenario, the capital and expertise that will come with the possible investments by global majors like Walmart, Carrefour and Tesco will be a huge relief. This will not only boost the abilities of the domestic players, but also their valuation on the bourses.

Fertilisers POLICY CHANGE: The Planning Commission, the government’s apex body to discuss economic affairs, is considering the fertiliser ministry’s proposal on international price-parity for domestic urea manufacturers
IMPACT: This would allow urea players to set the maximum retail price for their output encouraging fresh investments in the sector. The POSITIVE impact of the policy will reduce the subsidy pressure on the government.
INDUSTRY OVERVIEW: Urea, which accounts for almost half of the country’s total fertiliser consumption, continues to remain regulated. Its retail price has increased just 10% in the last 18 months as compared to a doubling of price for non-urea fertilisers, which were brought under nutrient-based subsidy (NBS) in April 2010. On the other hand, rising raw material costs, higher import volumes and rupee depreciation have pushed up the government’s fertiliser subsidy burden to 90,000 crore for FY12 against the initial estimate of 40,000 crore. Urea manufacturers such as National Fertilisers, Rashtriya Chemicals and Fertilisers (RCF) and Chambal Fertilisers stand to benefit from the policy.

Ports POLICY CHANGE: The draft Regulatory Authority Bill 2011 intends to regulate tariffs of all ports in the country.
IMPACT: Private ports, which had the freedom to fix tariffs, are likely to be NEGATIVELY impacted.
INDUSTRY OVERVIEW: Under the present rule, major ports are regulated by the Tariff Authority for Major Ports whereas minor and private ports are regulated by the respective state governments. State governments, with attractive policies, were encouraging private investments in ports. These policies allowed flexibility in fixing tariffs. However, as per the draft Regulatory Authority Bill 2011, all ports operating in the country will come under the purview of a single regulatory body. The body would lay down performance norms and standards of quality to be provided by port operators. It would also formulate guidelines prescribing the methodology for setting rates for different facilities and services by port authorities. This would negatively impact private port operators who have so far had the freedom to fix tariffs. But the extent of the impact will only be known once the bill is enacted and tariff guidelines are known.

Sugar POLICY CHANGE: A committee headed by Economic Advisory Council chairman C Rangarajan has been constituted to look into issues of partial decontrol of the sugar sector. This involves dismantling the quota system and formulating a price-fixing formula for ethanol
IMPACT: There will be a POSITIVE impact on margins of sugar companies
INDUSTRY OVERVIEW: The sugar industry is one of the most highly-controlled industries in India. It is looking at a dismal sugar season ahead due to excess production. At present, sugar mills have to sell 10% of their output at pre-determined prices for the public distribution system. Also, the quantity that a mill can sell in the open market is fixed by the government. Even export of sugar is regulated by the government. Additionally, there are restrictions on pricing and movement of ethanol, a byproduct of sugar production. Any partial decontrol of the sector would revive the earnings of sugar companies in future. Bajaj Hindusthan, Shree Renuka Sugar, Balrampur Chini and Dhampur Sugar Mills are the major players in the sector which stand to benefit in case of a deregulation decision.

Oil & Gas POLICY CHANGE: The petroleum ministry has asked the Petroleum & Natural Gas Regulatory Board (PNGRB) to review the marketing marging charged by gas marketers and regulate them.
IMPACT: This would take away the freedom of these players to decide marketing margins and NEGATIVELY impact overall earnings
INDUSTRY OVERVIEW: India has been a natural gas deficient country with availability consistently staying below its demand. At present, India produces 145 million cubic meters per day (MMSCMD) of natural gas and imports 40 MMSCMD. Being a scarce commodity, its pricing has been regulated. The PNGRB was constituted to regulate the transportation tariffs. But companies are free to set their marketing margins. The key natural gas consumer sectors — fertilisers and power — that have to sell their output at regulated prices need to keep their costs low and hence have been demanding lower marketing margins. Natural gas transporters such as Gail, GSPL, Gujarat Gas and Indraprastha Gas could take a hit. Since Petronet LNG deals in gas, which is market-linked, its margins are not likely to be regulated

Power POLICY CHANGE: The Shunglu Committee has proposed various measures to reduce losses of state electricity boards (SEBs) — the major buyers of the power in the country. These include important measures such as ability to hike tariffs, operational and accounting restructuring and ways to deal with defaulting parties
IMPACT: This would help the SEBs to cut down their continuously growing losses, and POSITIVELY impact their financiers.
INDUSTRY OVERVIEW: Even as India remains a grossly power deficit country, the domestic power industry is grappling with the two major problems — fuel unavailability and low demand from financially weak SEBs. Higher fuel prices have forced the power utilities to sell power at higher prices, which the SEBs are unable to buy, given their poor financial health. Due to this, the power generators are operating at lower capacity utilisation. This in turn is affecting their earnings and return on investments. Also, loss-making state electricity boards are unable to pay back their loans, which in turn impacts the balance sheet of the power financing companies such as PFC (Power Finance Corporation) and REC (Rural Electrification Corporation).

Telecom POLICY CHANGE: The telecom ministry has proposed the New Telecom Policy (NTP) which seeks to establish free roaming across telecom circles. Separately, the Telecom Regulatory Authority of India (TRAI) had suggested a gradual reduction in unified licence fees to 6%. TRAI has also proposed norms on spectrum sharing for operators with higher spectrum and increase in spectrum holding in case of mergers.
IMPACT: The NTP will prevent operators from claiming roaming charges and lower the PBDIT by 2-5% for operators. The TRAI proposals are likely to have a positive impact by easing congestion problems and reducing license fees. The net impact is expected to be POSITIVE.
INDUSTRY OVERVIEW: GSM operators such as Bharti Airtel, Vodafone and Idea Cellular have been facing steep competition for the last two years from new players as well as CDMA players who obtained GSM licenses. While revenues have increased by 30-35% during the period, revenue per user has crashed by 40-45%. This has put pressure on operating profitability. The rising debt burden due to 3G licence fees and acquisitions is further eroding net margins due to higher interest outgo and depreciation. The recent tariff hikes and gradual adoption of value-added services based on 3G technology have given new hope to the sector. But a faster rollout of these services will be crucial.