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Paper Products: Decent quarter

Aug 23, 2006

Introduction to results
India’s leading manufacturer of primary consumer packaging and labelling materials, Paper Products Limited (PPL), announced decent results for the second quarter ended June 2006 (January to December fiscal). The topline rose by 12% YoY for the quarter, driven by strong sales in the FMCG sector, PPL’s industry of dependence. Margins, however, fell, due to higher labour and other expenses. However, despite the lower margins, the bottomline growth outperformed the topline growth due to considerably higher other income and lower interest expenses.

Rs (m) 2QCY05 2QCY06 Change 1HCY05 1HCY06 Change
Net Sales 1,125 1,256 11.6% 2,136 2,417 13.1%
Expenditure 983 1,117 13.6% 1,880 2,143 14.0%
Operating Profit (EBDIT) 142 139 -2.5% 256 274 6.9%
Operating Profit Margin (%) 12.6% 11.0%   12.0% 11.3%  
Other Income 11 27 139.5% 44 63 42.6%
Interest 1 1 -35.7% 2 2 -20.8%
Depreciation 63 56 -11.5% 126 114 -9.7%
Profit before Tax 89 109 22.8% 172 221 28.8%
Tax 26 27 5.4% 46 59 29.2%
Profit after Tax 63 82 29.9% 126 162 28.6%
Net profit margin (%) 5.6% 6.5%   5.9% 6.7%  
No. of Shares (m) 13 13   13 13  
Diluted earnings per share* (x)         24.9  
P/E ratio (x)         13.5  
(*trailing 12 months)            

What is the company’s business?
Paper Products Limited (PPL) is India’s leading manufacturer of primary consumer packaging and labelling materials. The company has a history of over seven decades in the packaging field and its product folio includes flexible packaging, labelling technologies and specialised cartons. It has three fully integrated manufacturing units at Thane, Silvassa and Hyderabad. The company’s client list includes HLL, Nestle, Cadbury, Britannia, Glaxo SmithKline, Coca Cola, Perfetti, Dabur, Marico and P&G. Exports constitute around 14% of total revenues and the company’s international division services large multinationals like Nestle, Unilever, Cadbury and Colgate Palmolive across four continents. In 1999, PPL became a subsidiary of Huhtamaki, a global leader in consumer packaging, which holds a 59% stake in the company. Huhtamaki is headquartered in Finland and is one of the top 10 consumer packaging companies in the world.

What has driven performance in 2QCY06?
Strong FMCG sales power the topline: PPL recorded a 12% YoY growth in its topline for 2QCY06. This was mainly due to the buoyant performance of the FMCG sector. It is the largest organised player, with a market share of 45% of the consumer-packaging segment. Along with creating an appeal among consumers, packaging plays an important role in retaining the quality of the products. Also, a continued focus on the company's innovation program NASP "New Applications Structures and Products & Processes" has helped PPL to achieve better sales. Going forward, given the buoyant demand expected in the FMCG industry, PPL, being a major service provider (packaging) to this sector, is expected to benefit.

Labour costs pressurise margins: During 2CY06, PPL’s operating margins saw a 160 basis points fall. In fact, operating profits on an absolute basis were down by nearly 3% YoY. This was primarily due to higher labour and other costs as a percentage of sales. The company’s raw materials are derived from downstream petrochemical products, which are in turn dependent on crude prices. It should also be noted that a part of the lower raw material cost was due to opening stock benefit. Going forward, the management expects higher input costs, which could pressurise margins further.

Cost break-up
As a % of net sales 2QCY05 2QCY06 1HCY05 1HCY06
Total Cost of goods 69.8% 68.9% 70.3% 68.7%
Staff Cost 7.3% 7.9% 7.3% 7.6%
Other Expenditure 10.3% 11.7% 10.4% 12.1%

Higher other income aids the bottomline: PPL saw a decent 30% YoY growth in its net profits in 2CY06. Despite the lower margins, the higher other income (up by 140% YoY) aided by lower interest and depreciation charges has helped the bottomline grow at this rate.

What to expect?
At the current price of Rs 337, the stock is trading at a price to earnings multiple of 13.5 times its trailing 12-month earnings. The commercial production of the first phase of the company’s new production facility in North India (at a cost of Rs 650 m) is expected to start by the end of this year. This will improve its packaging portfolio. We had assigned a ‘BUY’ on the stock in January 2006 with a target of Rs 460 with a 2 to 3-year perspective. We maintain our view.

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