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K S Oils: Revised estimates - Views on News from Equitymaster
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K S Oils: Revised estimates
Jun 3, 2009

Recently, consumers preferred savings and investments as against consumption. Slowing economic growth and uncertain future prospects lowered the pace of consumerism story brewing in India. This impacted discretionary spending and players related to these sectors but not necessity goods manufacturers. One such sector is edible oil. Considering the valuations and sound fundamentals, we believed K S Oils, a leading edible oil manufacturer, as a good investment option. Hence, we had recommended a Buy on KS Oils in the month of March this year with a target price of Rs 62 from FY11 perspective. Since then the stock has run up by 44% and breached our target price recently. Also, the company has outlined investment plans and for the same has planned to infuse equity. The same is likely to dilute earnings per share going forward. This necessitated a review and the need to communicate to our subscribers our view on the stock.

Before we discuss our revised estimates, let’s take a look at how the company is funding its capital expenditure plans.

Capital raising: In a move to boost margins, the company is planning to integrate operations - backward and forward. As a part of backward integration, the company has acquired 20,000 hectares of palm plantation in Indonesia. To develop the plantations, expand and acquire agri-assets in South East Asia, the company has planned to raise Rs 4.5 bn by way of capital infusion. The same is likely to dilute equity base to the extent of 20%. New share capital would be 442.8 m shares.

  • The company has planned to issue 8.7 m warrants to CVC International (CVCGP II Client Rosehill Ltd, Mauritius) and Barings Private Equity, Asia each. The same would be convertible into one equity shares of rupee 1 at a premium of Rs 55.50 each. This will result in fund infusion to the extent of Rs 980 m.
  • Promoters would contribute Rs 1,570 m by subscribing to 28.8 m warrants convertible into one equity shares of rupee 1 at a premium of Rs 53.50 each.
  • The balance funds would be raised through GDR issue of Rs 600 m and by way of private equity. The PE investor New Silk Route Advisors will infuse Rs 1,350 m for approximately 7% stake in the company.

Outperforms our estimates: The company’s initiatives have paid dividends in the financial year gone by. The company has outperformed our growth estimate of 37% YoY in FY09 to report 54% YoY growth in topline. Increased focus to penetrate in the exiting and newer markets has helped it clock such a robust growth. To strengthen its market share and brands in the existing markets, the company is strengthening its distribution network. Without a strong dealer distributor network, it is difficult to expand reach and sustain it. The company’s strategic moves such as ramping up capacities, integrating operations to ensure smooth functioning and retail focus has aided growth. We had estimated earnings per share (EPS) of 4.1 for FY09, while the company has reported EPS of Rs 4.8 per share.

Revised estimates:

Topline: The company’s initiative to expand reach across regions and increase penetration in the existing markets is likely to boost volumes. Edible oil consumption is expected to continue to grow at the rate of 6% per annum. On the other hand, the branded oil market has been growing at the rate of over 25% per annum. With increased health consciousness and preference for low saturated fat cooking mediums, there is significant scope for growth in branded edible oils, especially mustard oil. The company is a dominant mustard oil manufacturer. Thus, we expect the topline of the company to report a compounded annual growth rate of nearly 26% during the period FY09 to FY12.

From our interaction with the management, we figured out that consumption of palm oil is increasing in India. The company is the largest crusher of rapeseeds / mustard seeds. However, it is able to cater to the switch in demand for edible oil owing to its and flexible manufacturing facilities. The units are well equipped to switch to processing of any crude edible oil. Depending upon the demand for the commodity or rather type of edible oil demanded (mustard, refined mustard and soyabean oil), the company alternates between processing of different edible oils. This helps the company to sustain volumes and in turn revenue growth.

Profitability: While the industry faces problems of poor pricing and adulteration, we do not foresee it as a major threat to the company’s well established brands. In fact, the company’s increased focus on branded and retail packaged sales is likely to offset cost pressures and support margins. Moreover, the company has acquired 20,000 hectares of palm plantation in Indonesia as a part of backward integration. The move will ensure a secured supply of raw materials and is expected to provide a shield against price fluctuations. The benefit of this move is likely to flow in starting FY12 onwards. On account of these initiatives we expect fully diluted earnings of the company to report CAGR of 32% during FY09 to FY12.

Our view:
Given the low per capita consumption of 12 kgs per annum as compared to the world average of 20 kgs per annum, growing organised market and increased health consciousness, we have factored in an optimistic scenario. We have estimated that realisations would remain stable.

At the current price of Rs 59, the stock is trading at a multiple of 6.7 times our estimated FY12 earnings, which will offer compounded annual returns of 12%. Despite considering a favourable scenario, we believe that there isn’t a significant upside left from the current levels. Hence, we advise investors’ to book profits at the current level and recommend a ‘Sell’ on the stock.

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