Ballarpur Industries: Built to grow

PENNY WISE

The paper industry is less-talked about. However, the share price of Ballarpur Industries (Bilt), a name synonymous with the industry, has shot over 75.8 per cent over the past one year to the current levels of Rs 70.

Analysts say that the writing on the wall is loud and clear: the rally in Bilt shares is built on sound fundamentals and the company is set to see better times. The reasons are three-fold.

Firstly, the domestic paper industry is likely to see accelerated growth in the coming years with healthy growth in the overall economy. Bilt, being a leading player with 18 per cent market share in writing and printing paper, should also grow faster.

Secondly, given the fragmented nature of the industry analysts predict that consolidation should happen sooner than later and this will strengthen Bilt position in the industry.

Thirdly, domestic paper prices, which are largely driven by international prices, are likely to rise, driven by buoyant international demand.

Growth is key

Analysts and industry experts say the paper industry is slated for higher growth in the coming years since it is highly linked to the economy. With the GDP expected to grow 6-7 per cent, analysts expect the industry to imitate similar growth numbers.

Moreover, the current level of per capita paper consumption is very low at 4.5 kg compared to the world average of 53 kg. Bilt, being a leading player, will be able to cash in on the buoyant domestic demand for paper going forward.

For now, Bilt plans to expand capacity of Bilt Graphic Paper (BGPL), formerly known as Sinar Mas Pulp and Paper India, at its plant near Bhigwan, Pune, by 25,000 tonnes.

The plant capacity currently is 1.15 lakh tonnes of coated paper. The investment that would go into the expansion would be more than Rs 20 crore. This is expected to be completed within 18 months. Currently, Bilt's capacity, including BGPL, is 3.9 lakh tonnes.

Another factor that analysts are pitching is the consolidation in the industry. The Indian paper industry is broadly classified into writing and printing paper, industrial paper and newsprint.

In the writing and printing segment where Bilt is the leading player with almost 8 per cent market share, the bulk of production is concentrated in the hands of a few large players. However, other segments are dominated by a large number of small players.

Analysts expect the industry to consolidate going forward as smaller units are increasingly becoming unviable given the competitive scenario.

Analysts say the fragmented nature of the industry is a result of past government policies which encouraged the setting up of many small mills with as low capacity as 1 tonne per day. However, industry dynamics are not in favour of small players because paper manufacturing is a highly capital and energy intensive industry, explains an analyst.

The manufacturing process demands considerable material handling skills as very large quantities of raw materials are used as input. Paper manufacturing is also a highly polluting process and requires substantial investments in pollution control equipment.

Typically, a paper plant costs about Rs 50,000 to Rs 120,000 per tonne of capacity. To achieve significant economies of scale the plant size should be at least 3000 tonnes per annum, implying nearly Rs 180 crore of investment, with a minimum gestation period of two years.

This means that only large players will be able to capitalise on the growth potential. Says Abhijeet Kundu, analyst with Fortis Securities, "The industry is slated for a consolidation act now," With consolidation close to the heels, analysts say larger players like Bilt stand to benefit immensely. Currently, India has a capacity of around 5 million tonnes and capacity utilisation is around 80 per cent.

Then again, domestic paper prices are linked to international prices. Hence, paper prices in India are very much dependent on the international demand supply situation for paper and, therefore, the fortunes of the Indian paper industry are largely externally-driven. Internationally paper prices are showing an ascending trend.

Currently, they stand at $300-450 per tonne (in the January-March quarter of 2004), an increase by $20-30 per tonne from the last quarter. Analysts expect prices to rise further in the coming quarters.

However, if there is one thing that is hampering the profitability of paper producers it is the rising cost of key raw materials. Raw material costs have been under pressure due to rising international pulp prices as BGPL - now merged with Bilt - imports around 70 per cent of its raw materials.

"Raw materials remain one of the concerns but Bilt has started cutting down other costs to balance the rise," says Kundu. Cut in import duties from 25 per cent to 20 per cent in the Union Budget will also help paper producers curtail excess raw material costs.

Raw materials constitute 40 to 60 per cent of the total cost of paper production. The major raw materials used for production of paper are wood, bamboo, waste paper, bagasse, caustic soda, chlorine and power/steam.

The persistent shortage of fibrous raw material in the country has led to continued dependence on imports. In the long term, with proper government policies, the use of semi arid land for commercial plantations will help in bridging the gap in the supply of fibrous raw material.

Bilt has shown steady improvement in its financials over the last one year. It registered an increase of 41.2 per cent in net profit to Rs 32.88 crore in the quarter ended December 31, 2003, against the corresponding previous quarter, mainly driven by growth in APR pulp (6.4 per cent to Rs 60.9 crore) and other products (16.7 per cent to Rs 109.8 crore).

The company registered a 4.59 per cent increase in sales to Rs 508.33 crore in the same period. Operating profits recorded a 5.08 per cent increase to Rs 106.21 crore on the back of higher volumes. Operating margins, however, posted a marginal increase to 20.89 per cent with a decline in stores and spares cost.

Going forward, interest rates will help the company save on borrowing costs. Interest costs for the December quarter declined 8.4 per cent to Rs 31.98 crore on a y-o-y basis. Analysts expect savings of Rs 16-18 crore in FY04.

Analysts expect an EPS growth of around 30 per cent and 38 per cent for FY04 and FY05 respectively. "I expect an EPS of Rs 8.5 for FY04 and Rs 11.8 for FY05," says Kundu. Internationally, paper companies quote at a P/E of over 13. At a current price of Rs 70, the stock is quoting at a P/E of 5.9 its FY05 earnings.