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Sugar: Sweetness left?

Oct 4, 2006

The sugar sector has been in the news in the last two months for all the wrong reasons. Expectations of bumper production have resulted in declining realisations. Sugar prices in the world market are depressed even in the absence of Indian exports. Further, there is also a ban on sugar exports. To add to this, there is the ethanol controversy. In this write-up, we take a look at the changed aspects of the sugar sector and their impact. Domestic demand-supply situation
Domestic production of sugar for the sugar season 2006-07 is expected to touch 23 million tonnes (MT), an increase of 3.5 MT over the previous year. We expect the sugar industry to start the coming season with an opening inventory of 4.2 MT. The supply of 23 MT during the year would thus result in total availability of 27.2 MT. Even after considering the consumption of 19.6 MT and fulfillment of re-export obligation to the tune of 2 MT, we would end the next season with a closing inventory of 5.6 MT.

Prices: A downward journey
Expectations of bumper production and a ban on sugar exports have resulted in declining realisations. The impact of a decline in sugar realisation by Re 1/kg is substantial, considering that almost 80% of the sugar companies' revenues are still contributed by the sugar segment. Sugar prices have fallen by as much as 18% from June 2006 to September 2006.

Operating margins
Lower realisations and a higher cost of production could lead to a fall in the operating margins of sugar players. The rising cost of cane is the main concern in this regard. In Uttar Pradesh, the state-advised price (SAP) for cane in 2005-06 was Rs 115/quintal, but companies ended up paying around Rs 130/quintal. Also, Uttar Pradesh is slated to go in for assembly polls in February 2007 and this could result in a hike in the SAP for the coming season. However, with cane supply expected to be in abundance in this state in the coming season, we do not foresee any major 'cane war' this time around like the last year.

Global perspective
According to the International Sugar Organisation (ISO), world sugar production will be higher than forecast this year, erasing a third straight annual deficit, as favorable weather in India bolsters harvests. Global output will be 150.6 MT in the 12 months through September 30, up from a May estimate of 149.2 MT and exceeding demand of 149.7 MT. International sugar prices have fallen sharply from more than US$ 440 per tonne to the current level of less than US$ 400 per tonne. The recent cool down in crude prices has also raised concerns that Brazil may not divert sugarcane towards ethanol, leading to higher sugar production.

By-products a cushion
By-products could provide a cushion to the cyclical impact of the sugar segment. However, uncertainty as regards to the pricing of ethanol would delay the implementation of the ethanol-blending program. Also, sugar mills get 80% to 85% of their revenues from sugar, and as a result, revenues from ethanol will continue to be small (relative to the total) in the near future.

What to expect?
The increased production implies that supply is likely to catch-up with demand comfortably after three consecutive years of shortfall. We expect the crushing season to go till June due to excess cane supply. Hence the recovery and volume will be the factors that will play important roles. Also if the export ban is lifted, it will provide a good opportunity for the sugar companies to export. Therfore efficient players like Bajaj Hindusthan and Balrampur Chini will not be affected in the long run.

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