Grasim: Hit hard on the margin front

Grasim Industries announced its 2QFY11 results. The company has reported marginal decline in consolidated sales and nearly 37% YoY fall in net profits for the quarter. Here is our analysis of the results.

Performance summary

• Consolidated revenues fall by 5% YoY during 2QFY11 led by a 9% decline in the topline of its subsidiary UltraTech Cement. On the other hand, the VSF segment posts an 8.5% growth in net sales.
• Operating margins decline by 51% YoY due to lower realizations and high input costs in the cement and chemical businesses.
• Despite higher realisations in the VSF segment, poor performance of the cement and chemicals segment combined with higher interest and depreciation charges drag the bottomline down by 58.6% YoY.

Consolidated Financial Performance

(Rs m)	2QFY10	2QFY11	Change	1HFY10	1HFY11	Change
Net sales	46,744	44,390	-5.0%	97,576	94,942	-2.7%
Expenditure	31,937	37,179	16.4%	66,993	74,692	11.5%
Operating profit (EBITDA)	14,807	7,211	-51.3%	30,583	20,250	-33.8%
EBITDA margin	31.7%	16.2%		31.3%	21.3%
Other income	1,497	1,625	8.6%	2,527	3,222	27.5%
Interest	831	974	17.2%	1,654	1,886	14.0%
Depreciation	2,424	2,727	12.5%	4,822	5,399	12.0%
Profit before tax/(loss)	13,050	5,134	-60.7%	26,634	16,187	-39.2%
Extraordinary Item	-	-		3,360	-
Tax	4,231	1,508	-64.4%	8,639	4,705	-45.5%
Share in profit of associates	107	75		273	187
Minority Share	1,117	468		3,019	2,683
Profit after tax/(loss)**	7,808	3,234	-58.6%	15,249	8,986	-41.1%
Net margin	16.7%	7.3%		15.6%	9.5%
No of shares (m)					91.7
Diluted EPS (Rs)*					247.4
P/E (times)					9.6

*trailing twelve month earnings excluding extraordinary/ exceptional items

**Samruddhi Cement Limited (SCL), a subsidiary of the Company, into which the erstwhile Cement Business of the Company was demerged w.e.f. 1st October, 2009 has been amalgamated with UltraTech Cement Ltd. (UltraTech), another subsidiary of the Company, w.e.f. 1st July, 2010. Accordingly, the shareholders of SCL have been issued shares by UltraTech in lieu of shares of SCL. As a result, the shareholders of the Company have direct participation in UltraTech and also shareholding of the Company in UltraTech stand increased to 60.34%. The Net Profit (after Minority Share) for the quarter and half year ended 30th September, 2010 is therefore not strictly comparable with that of the corresponding periods of the previous year. Grasim's shareholders hold 19.1% share in UltraTech. As a result, the pro-rata profit belonging to them has been reduced as minority share. If added back for better comparison, the net profit for the quarter works out to Rs 3460 million.

What has driven performance in 2QFY11?

• Grasim's subsidiary UltraTech Cement reported 9.1% YoY decline in net sales for the quarter ended September 2010 despite a 5% increase in combined cement and clinker sales volume (Cement sales were up by 8% while clinker sales fell by 46%). The fall in realisations (18%) was due to subdued demand on account of monsoons and excess supply due to significant capacity additions. Along with poor realisations, a substantial increase in cost impaired the company's performance. The prices of imported coal rose from US$ 76/Mt to US$ 110/Mt drastically escalating the company's energy cost. During this quarter, power & fuel costs (26%) and freight & handling costs (20%) together comprised about 46% of the company's net sales.These factors put the company's margins under pressure. Segment-wise performance

  Segment	2QFY10	2QFY11	Change
  Cement
  Revenues	36140	32850	-9.1%
  % of total	77%	74%
  Realsation (Rs / ton)	3675	3021	-17.8%
  VSF
  Revenues	8509	8555	0.5%
  % of total	18%	19%
  Realsation	105217	116465	10.7%
  Chemicals
  Revenues	1313	1200	-8.6%
  % of total	3%	3%
  Realsation (Rs / ton)	19057	19403	1.8%

  
  
• Grasim's VSF segment reported a marginal 0.5% increase in net sales on the back of a 9% decline in sales volume and an 11% YoY increase in realisations. The lower volume was due to a shutdown at the Nagda plant for most of July '10 due to water shortage. Strong growth in realisations arose due to improved demand for VSF coupled with global cotton shortage which led to improved sentiments for VSF.

• In the chemical business, net sales were down 9% YoY led by a 13% YoY drop in sales volume. The sales volume was affected by a production glut due to prolonged plant shutdown. There was a marginal 2% YoY improvement in realisations led by increase in chlorine and HCL prices.

• The company's consolidated operating profits declined by 51.3 % YoY due to high operating expenses across all segments, though the cement segment was the biggest spolier. On the non-operating front, increase in interest and depreciation expenses dragged the bottomline down by 58.6% YoY.

What to expect?

The September quarter was a very challenging time for the entire cement industry due to excess supply during a low construction activity season. However, the worst seems to have been over as cement prices and dispatches have seen an improvement after the monsoon. Grasim expects cement demand to rise 10% annually in the next five years. It expects margins to regain normalcy some time in FY'13. Work on brownfield expansions aggregating 9.2 MTPA at Chhattisgarh and Karnataka to start by Q4FY11 at an approximate cost of Rs 5,600 cr.

The company expects VSF demand to continue to grow in the long term as textile consumption in India increases with growth in population and income levels. The Company plans to set up an 120,000 TPA VSF plant at Vilayat (Gujarat) at a cost of Rs 1,690 cr. The product mix will be in line with the market needs. The Company's capacity at Harihar (Karnataka) will be enhanced by 36,500 TPA through a brownfield expansion at a cost of Rs 449 crores. Both the projects are slated for commissioning by FY13.

The stock is currently trading at 9.6 times trailing 12 month earnings. We retain our view on the stock.