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Grasim: Tumbling margins take toll
Oct 23, 2008

Performance summary
  • On a standalone basis, revenues grow by 8.4% YoY in 2QFY09. Except for VSF, all the segments contribute to growth.

  • EBITDA margins contract by 10% YoY in 2QFY09 as costs grow at a much faster pace than the topline.

  • While higher other income and lower tax outgo provide some cushion to the bottomline, which nevertheless declines by 16% YoY.

  • Consolidated topline grows by 13% YoY in 2QFY09, while net profit declines by 22% YoY.

  • The companyís subsidiary - Ultratech reports nearly 20% YoY growth in topline. Net profit drops by nearly 12% YoY.



Financial performance snapshot
(Rs m) 2QFY08 2QFY09 Change 1HFY08 1HFY09 Change
Net sales 24,776 26,853 8.4% 48,952 52,635 7.5%
Expenditure 16,928 21,061 24.4% 33,362 39,464 18.3%
Operating profit (EBITDA) 7,848 5,792 -26.2% 15,590 13,170 -15.5%
EBITDA margin 31.7% 21.6% 31.8% 25.0%
Other income 783 997 27.3% 1,640 1,960 19.6%
Interest 280 288 3.1% 564 593 5.1%
Depreciation 875 1,069 22.1% 1,725 2,119 22.8%
Profit before tax/(loss) 7,476 5,431 -27.3% 14,940 12,419 -16.9%
Tax 2,478 1,236 -50.1% 4,825 3,082 -36.1%
Net profit 4,998 4,195 -16.1% 10,114 9,337 -7.7%
Net margin 20.2% 15.6% 20.7% 17.7%
No of shares (m) 92 92
Diluted EPS (Rs)* 235.0
P/E (times) 4.7
*trailing twelve month earnings

What has driven performance in 2QFY09?
  • On a standalone basis, Grasimís topline grew by 8.4% YoY. The growth has been driven by decent performance of all the segments, except VSF.

  • The VSF business that contributes over 20% to the topline continued to hamper the overall growth of the company. In 2QFY09, the segment reported nearly 13% YoY decline in revenues on account of lower offtake in volumes and marginally lower realisations (down 1% YoY). The sales volumes declined by 11% YoY in 2QFY09 on account of global economic slowdown and liquidation of inventory in the value chain. The company was unable to pass on the increase in the cost of raw materials such as cost of sulphur, caustic and pulp. Lower growth in revenues, higher cost of operations and weakening rupee pressurised profitability of the segment. The segmental PBIT margins contracted by 20% YoY in 2QFY09. However, from a long-term perspective, the outlook for the segment remains positive given the growing preference for comfort fabrics due to global warming.

  • Cement business grew by 17% YoY aided by the ready mix concrete (RMC) business that reported 45% YoY growth in sales volumes and higher realisations (up 4% YoY). Network expansion aided the growth of the RMC business. On the other hand, the cement sales volumes reported tepid growth of 3% YoY, while realisations improved by 9% YoY. Cement segment contributes nearly 60% to the total revenues and earnings before interest and taxes (PBIT). The segmental earnings before interest and taxes were impacted by rising costs of operation and significant increase in non-linkage coal prices. Apart from the more than two-fold growth in imported coal prices, packaging and freight costs also increased. All this resulted in lower profits. In the near to medium term, cement demand is likely to get impacted on account of moderation in economic growth. However, from the long-term standpoint, growth prospects of the sector remain positive. Having said that, as announced capacities start coming on stream and rising operational costs show no signs of cooling off, margins are likely to remain subdued going forward.

  • The chemical segment, which was considered as a weak link, reported nearly 28% YoY growth in revenues in 2QFY09. The higher demand from the end user industries resulted in 7% YoY growth in sales offtake. The 18% YoY growth in realisations further aided the segmental revenue growth. Despite increase in raw material costs, the company was able to sustain margins. Going forward, the demand is likely to take a hit on account of global economic slowdown. Moreover, increasing cost pressures are likely to restrict the growth in profitability.

  • The sponge iron business is being hived off by way of slump sales for a purchase consideration of Rs 10.3 bn into a special purpose vehicle (SPV) to be formed as a subsidiary of Grasim Industries during FY09. The process of sale of the sponge iron undertaking is expected to be completed by December 2008. During 2QFY09, the segment grew by 45% YoY backed by 75% YoY growth in realisations. The sales volumes declined by 17% YoY on account of the planned shut down for modification of reactors. The earnings before interest and taxes grew by 12% YoY during 2QFY09 as improved realisations did offset increased cost of operation.

What to expect?
Considering the fact that the company is the only player in the VSF business domestically and the outlook of VSF and the cement sector from a long-term point of view remains positive, we believe that these two divisions will continue to be the growth drivers of the company. However, in the near to medium term, softening of prices of both the commodities would arrest the overall growth of the company.

The stock currently trades at Rs 1,100, implying a price to earnings (P/E) multiple of 7 times our FY11 estimated standalone earnings. The companyís performance has been better compared to our full year estimates. However, we would like to wait for one more quarter before we take a relook at our estimates.

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