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Tata Chem: Against the tide

Aug 27, 2004

Performance summary
Tata Chemical, one of the leading manufacturers of fertilisers and the market leader in the organised branded salt market, first quarter performance in FY05 was impressive at the topline level. However, higher growth at the topline level failed to reflect in net profits owing to higher raw material cost, which has affected margins.

(Rs m) 1QFY04 1QFY05 Change
Net sales 4,146 5,204 25.5%
Other income 84 32 -62.6%
Expenditure 2,976 4,091 37.5%
Operating profit (EBDITA) 1,170 1,114 -4.8%
Operating profit margin (%) 28.2% 21.4%  
Interest 162 72 -55.7%
Depreciation 359 344 -4.2%
Profit before tax 733 729 -0.5%
Extraordinary items (14) (5) -64.7%
Tax 231 268 15.9%
Profit after tax/(loss) 488 456 -6.5%
Net profit margin (%) 11.8% 8.8%  
No. of shares (m) 180.7 215.2  
Diluted earnings per share (Rs)* 9.1 8.5  
P/E ratio (x)   15.1  
(* annualised)      

Background
Tata Chemicals is the market leader in soda ash with an estimated market share of 32%. It is also one of the most cost efficient producers of fertilisers in the country. Besides fertilisers, the company has presence in foods additive segment (basically branded salt) with a 42% share. The fertiliser segment of the company also includes phosphates (apart from urea). The Indian fertiliser sector is highly regulated in terms of prices, distribution and subsidies.

What has driven performance in 1QFY05?
Fertilisers boost topline: Fertiliser sales, including urea and phosphates, increased by 57% during the quarter, partly led by increased demand for urea in light of normal monsoons in the initial phase of rainfall. Besides, the inventory level with the dealers was also lower resulting in marginal improvement in urea prices in 1QFY05, which has benefited Tata Chemicals. Phosphatic volumes also rose by 18% YoY during the quarter. Though this year's monsoon has been mixed, we expect demand for urea to grow by around 4% to 5% in FY05. Considering the fact that demand is likely to outstrip supply, cost efficient producers like Tata Chemicals are in a position to benefit from relaxation in the current capacity utilisation norms (the ceiling is 100%). We expect the government to relax this norm in FY05.

Margins affected by higher coke prices: As is evident from the segmental performance, PBIT margins of the inorganic chemical business has fallen significantly in 1QFY05. One of the key factor is the sharp rise in coke and coal prices on a YoY basis. To put things in perspective, as per the company, coke prices ruled at US$ 350 per ton in 1QFY05 as compared to around US$ 130 per tonne in the same period last year. Similarly, coal prices have also increased by more than two times in the last one year. The company however, expects to maintain margins for FY05 at the same level in FY04.

Segmental break-upů
(Rs m) 1QFY04 1QFY05 Change
Inorganic chemicals 2,501 2,547 1.8%
PBIT margin 29.3% 22.5%  
Fertilisers 1,693 2,657 57.0%
PBIT margin 11.3% 12.0%  
Total PBIT 923 892 -3.3%
Total PBIT margins 22.3% 17.1%  

Lower interest cost provides cushion: The company has reduced total debt by 38% in 1QFY05. This combined with a fall in average interest on debt has translated into lower interest charge during the quarter (interest cost stood at 6% in 1QFY05 as compared 8% in the same period last year).

What to expect?
The stock currently trades at Rs 127 implying a price to earnings multiple of 15.1 times annualised 1QFY05 earnings. While the long-term growth prospects of the urea and the branded salt business are encouraging, in the near-term, significant cost escalations on the raw material side is a cause of concern. Besides, there could be further pressure on margins arising from possible hike in natural gas prices (one of the key feedstock's for urea manufacturing). Having said that, cost efficient producers like Tata Chemicals are in a much better to position to withstand cost-side pressures and at the same time, benefit from higher consumption for fertilisers in the long-term.

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