The June quarter results of Grasim surprised the analyst community. For one, its so called no growth business, VSF, saw an upturn, the much touted growth engine of the company, cement, has seen revenues fall by nearly 3%. Poor cement performance was largely expected but the VSF business was a welcome surprise.
The VSF business recorded a significant 35% growth in net turnover largely led by an 87% growth in exports. Domestic sales of VSF also witnessed 37% growth YoY during the quarter. The company also saw a significant improvement in operating margins of VSF business (up from 22% in 1QFY02 to 32% in 1QFY03) mainly on account of lower pulp and caustic soda prices, as well as reduced consumption of water in the production process.
On the other hand, Grasim's cement sales (value terms) dropped by 3% on a YoY basis. A 15% fall in realisations was reponsible for this, even as cement sales (volume terms) were up 9% YoY. Consequently, operating profits dropped by 35% in 1QFY03.
As a result of this, cement contribution to turnover declined from 49% in 1QFY02 to 47% in 1QFY03. On the other hand, VSF hiked its contribution from 27% last year to 36% in 1QFY03. Also, operating profits from the VSF division now constitute nearly 57% of Grasim's EBITDA, compared to 28% in the same period in FY02.
Grasim finished 1QFY03 with a marginal 2% topline as well as bottomline growth. VSF and chemical divisions turned out to be the face savers of the company, even as cement faltered. However, June quarter results are by no means an indication of things to come. For one, though the company's export focus on VSF is a welcome sign, the business is unlikely to sustain the high margins it witnessed in 1QFY03. Paper pulp prices are on the rise. Also, despite the fact that water consumption in the production process has been reduced considerably, drought conditions prevailing across various regions of the country are likely to have an adverse impact on production volumes. Having said that, the company may just be able to post a growth in net VSF revenues for FY03 compared to a degrowth in FY02.
On the cement side, prices in the country are likely to remain depressed in the current year due to supply overhang in the market. Revenues therefore, are likely to remain under pressure. Having said that, potential investors must keep in mind that Grasim's cement capacity is the third largest in the country and has an extensive reach across most of the country. Huge capacities and a large reach are likely to benefit the company when the realisations improve, hence the cement story must be viewed with a long term perspective. Considering that there are no new large capacities being added by major players, cement prices are likely to correct FY04 onwards, which is most likely to benefit Grasim in the long term. Further consolidation in the cement industry will definitely trigger a strengthening of prices, further benefitting Grasim.
Bottomline, Grasim will continue to be driven by fortunes of its cement business. This is because Grasim's capital employed in VSF is only around Rs 8 bn, with no new investments in sight. All new capex is being done for expansion of the cement business. As on june 30, 2002, Grasim's capital employed in cement stood at Rs 20 bn. Further, the company is eyeing consolidation of its stake in L&T. Since cement should be viewed with a long term perspective, Grasim's story becomes long term. At Rs 315 the stock trades at 10x 1QFY03 annualised earnings. Short term concerns include lack of clarity on the L&T investment returns, as well as losses expected to be incurred on the sale of stake in MRPL.
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