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Grasim: Together they deliver - Views on News from Equitymaster
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Grasim: Together they deliver
Oct 27, 2007

Performance summary
  • While the company’s topline grew by 25% YoY during the quarter, bottomline reported healthy a 50%YoY growth, led by growth across all its major divisions.
  • EBITDA margins of the company have expanded by 3.4% and 2.9% during 2QFY08 and 1HFY08 respectively, largely on account of cost reductions and continuous restructuring of business processes apart from higher realisations in the cement and VSF segments.

  • Net profit clocks 50% YoY growth in 2QFY08, aided by the strong performance at the operating level and higher other income.

  • In 1HFY08, topline and bottomline grows by 26% and 52% YoY respectively. PAT growth outpaces topline growth on account of operating margin expansion.

  • On a standalone basis, the topline and the bottomline has witnessed a 25% YoY and 48% YoY growth respectively in 2QFY08 and in 1HFY08, the same have grown by 27% and 56% YoY respectively.

  • Subsidiaries have shown a mixed performance during 2QFY08. While Ultratech reported strong numbers, Shree Digvijay Cement has fared poorly on account of heavy rains and operational break down at its plant.

Consolidated financial performance snapshot
(Rs m) 2QFY07 2QFY08 Change 1HFY07 1HFY08 Change
Net sales 31,855 39,726 24.7% 64,001 80,372 25.6%
Expenditure 23,437 27,892 19.0% 46,349 55,862 20.5%
Operating profit (EBITDA) 8,418 11,833 40.6% 17,652 24,511 38.9%
EBITDA margin 26.4% 29.8% 27.6% 30.5%
Other income 534 839 57.0% 1,026 1,853 80.6%
Interest 555 541 -2.5% 1,084 1,101 1.6%
Depreciation 1,484 1,631 9.9% 2,902 3,218 10.9%
Profit before tax/(loss) 6,913 10,500 51.9% 14,693 22,046 50.0%
Tax 2,109 3,445 63.4% 4,530 7,002 54.6%
Profit after tax/(loss) 4,805 7,055 46.8% 10,162 15,043 48.0%
Minority share (661) (845) (1,666) (2,141)
Share in profit / (loss) of associates - (9) - (5)
Net profit 4,144 6,200 49.6% 8,497 12,897 51.8%
Net margin 15.1% 17.8% 15.9% 18.7%
No of shares (m) 92 92
Diluted EPS (Rs)* 132.3
P/E (times) 28.5
*trailing twelve month earnings

What is the company's business?
Grasim, an Aditya Birla Group company, has presence in various businesses. It has presence in viscose staple fiber, cement, sponge iron, chemicals and textiles. While the company is a world leader in VSF with a 23% market share, it is also the eleventh largest producer of cement in the world with a total consolidated capacity of 31 MT (nearly 20% of the country's capacity).

What has driven performance in 2QFY08?
Cement and VSF continue to drive topline growth: The excellent performance of the company has been driven by its two pillars cement and VSF and its subsidiary companies, notably Ultratech Cement.

The cement business, which contributes almost 60% to 70% to the company’s topline has reported robust numbers during 2QFY08. On account of higher capacity utilisation, which stood at 110%, the company reported 9% YoY growth in production and the buoyant demand for the commodity led to 6% YoY growth in despatches. On account of robust demand and firm prices, realisation for the cement business were higher by 12% YoY. RMC business volumes were up by 22%, aided by capacity utilisations and realizations were up 13% YoY. Though in India, the markets for RMC (ready mix concrete) business are not as mature as compared to developed markets, the demand is increasing with rising infrastructural activity and with the awareness of the use of the product. Cement manufacturers too, prefer this method of cement transportation, as it results in lower packaging costs. Also, the damages during transit are lower. Even after reporting robust volume growth and fetching high realisations, the EBITDA margin of the division witnessed merely 1.3% expansion owing to cost pressures. Rising cost of operation has set off higher realisation benefits. Higher freight and wage costs and rising fuel prices have taken a toll on operating margins of the division.

Going forward, the company expects demand for cement to continue to grow at the rate of 10% annually. However, in line with our expectations, even the company expects current high prices to come under pressure if the planned capacities of 90MT, expected to come on stream by the end of FY10, materialise as per schedule.

The VSF business, touted as the company’s cash cow has also performed well during 2QFY08. Upsurge in global VSF demand for comfort fabrics and higher demand for knitted fabrics led to 11% YoY growth in sales volumes. Further, healthy demand has also led to firm prices, which has resulted into 24% YoY growth in realisations. The appreciation of rupee and built up of captive pulp capacity has helped offset the steep increase in global pulp prices. The company was also able to pass on the costs to customers, which has further aided margin expansion. All these factors combined have resulted in the division achieving a 9.1% expansion in EBITDA margins and reporting historically high operating profits, which grew by 81% YoY during 2QFY08.

With the demand remaining robust for the commodity, the company plans to add incremental capacity of 88,000 TPA via a greenfiled project, being pursued at Vilayat, Gujarat. Commodities are cyclical by nature and VSF being a commodity is not immune to the same. In medium term, margins may come under pressure on account of cost pressure on value chain and rising costs of operation.

Chemical and sponge iron, not quite the weak links:
Sponge iron: Since the fate of this division is linked to the cyclicality of the steel sector, it has reaped the benefits of the massive recovery witnessed in the steel industry and has reported a whopping five fold growth in operating profits on the back of growth in volumes (production and sales grew by 28% YoY and 29% YoY) and improved realisations (up 17% YoY), despite increase in cost due to use of certain expensive alternate fuels and high iron ore prices. The increase in scrap prices and freight rate has also led to shift in demand in favour of sponge iron. While these factors seem to be a positive currently, the same may not be the scenario going forward. Moreover, uncertainty in gas (a key input) pricing still remains a concern.

Chemicals division: The performance of the chemical business was constrained in the corresponding quarter due to breakdown of a captive power plant. However, during 4QFY07, normalcy in operations was resorted on account of completion of captive power plant maintenance. On account of normalised operations, production went up by 69% YoY during 2QFY08. Improved physical performance owing to higher volumes and improved power efficiency has led to four fold growth in operating profits translating into 24.9% expansion in EBITDA margins. Realisations were lower due to reduction in caustic and allied product prices and in the short term, the same expected to remain under pressure on account of new capacity additions.

Subsidiaries– mixed show:
Ultratech Cement: The 51% subsidiary of Grasim has reported a17% YoY growth in topline, led more by improved physical performance (domestic sales volume grew by almost 13% YoY) as opposed to realisations. Further, the ability to curtail costs and bring about a better product mix, has seen the operating profits grow by 30% YoY during the quarter. The bottomline on the other hand, has witnessed a 46% YoY growth, owing to expansion in operating profits, higher other income and lower finance charges.

Shree Digvijay cement: This subsidiary of Grasim has reported a subdued performance during the quarter on account of lower production and sales volume. Heavy rains and break down of DG sets that supplies power to plants led to the poor performance on the volumes front. Realisations though, were the saving grace and came in higher by 7% YoY. However, as volumes suffered, operating profits declined by 26% YoY and which in turn impacted net profits that fell by almost 81% YoY.

What to expect?
The stock currently trades at Rs 3,812, implying a price to earnings (P/E) multiple of 21 times our FY10E consolidated earnings. Though from a medium term perspective, we are positive on the company’s performance and growth prospects of the two pillars, cement and VSF, we believe that at the current juncture much of it is priced into the stock. Considering the current stretched valuations, we believe risk reward ratio is skewed in favour of the former.

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