The worst may be over for chemicals and textiles company Grasim

Analysts' target prices indicate an upside of about 20 per cent from current levels

Chemicals and textiles major Grasim had a disappointing October-December quarter for the 2022-23 financial year (Q3FY23) due to higher costs and lower demand for products. However, the management guidance suggests that the worst is over, and the stock may have an upside, going by what the analysts have to say at present.

Grasim reported a standalone Ebitda (earnings before interest, tax, depreciation and amortisation) of Rs 480 crore (down by 48 per cent year-on-year or YoY and down 50 per cent quarter-on-quarter or QoQ). The reported PAT (profit after tax) was Rs 257 crore, down 47 per cent YoY and 76 per cent QoQ.

Segment-wise, the VSF (Viscose Staple Fibre) volumes declined by 3 per cent on the YoY basis. Inflationary pressures kept demand in check, and cheap imports from Indonesia hurt realisations. The VSF segment had negative Ebitda, offset by better returns on yarn. Guidance is that margins have bottomed out but a near-term uptick may not be there.

In chemicals, caustic soda sales volumes grew 2 per cent YoY and capacity utilisation fell, leading to QoQ decline in margins. Overall, the chemicals revenues and Ebitda moderated -- both YoY and QoQ. In speciality chemicals, margins may be normalising after hitting peak levels last year.

In paints and business to business (B2B) e-commerce, management reiterated its plans to launch by Q4FY24 and Q2FY24, respectively. The committed total capex is Rs 10,000 crore for paints (including working capital) and Rs 2,000 crore for B2B e-commerce. All paint capacities will be operational by FY25-end.

The capex budget for FY23 was previously targeted at Rs 7,100 crore, including Rs 3,500 crore for paints. The company has already invested Rs 2,600 crore, including Rs 1,200 crore for paints. This means a large capex pipeline. The management also said that some capex will spill over into FY24. The net debt position was Rs 490 crore versus net cash of Rs 230 crore in Q2FY23. There are some signs of pressure.

Grasim is India’s largest VSF producer with a total capacity of 824,000 tonnes per annum and a market share of about 90 per cent. The management expects a compound annual growth rate of 8-10 per cent in VSF demand over the next 10 years. The company is also the largest producer of Viscose filament yarn (VFY) in India with Raysil being the most popular VFY brand, alongside VSF brand Liva.

The company is using VSF in sarees with the ‘Navyasa’ brand and guidance is that there’s room for high growth. It is developing technology for usage of used cotton garments in place of wood pulp for VSF production and aims to replace 25-30 per cent of pulp usage. The company also generates 10 megawatt power from process waste steam in pulp manufacturing, which means savings of 1,00,000 tonnes of coal, annually.

VSF imports account for 10-12 per cent of consumption. Imports from Indonesia and Taiwan are duty free due to FTAs (free trade agreements). In August 2021, the government revoked anti-dumping duty on VSF. Meanwhile, pulp imports attract customs duty.

In the chemicals business, Grasim has 27-30 per cent market share in caustic soda; it has the largest chlorine integration capacity of about 60 per cent, which will rise to 72 per cent post-commissioning of ongoing capex; it has over 50 per cent market share in epoxy.

The average Ebitda margin of the chemicals segment in the last five years was 19-22 per cent and this segment contributes annual free cash flow of Rs 600-700 crore. Targeted capex in the segment is Rs 5,100 crore, to double epoxy capacity to service rising demand from renewables (wind turbine blades).

Taking Grasim’s standalone business, plus its holdings in subsidiaries, two analysts offer SOTP valuations of Rs 1,900 per share. Another has valuations of Rs 1,960, and a fourth of Rs 2,000. There’s room for moderate returns, assuming we are at the bottom of the cycle.