 "Grasim: Growth and value play")
The demand for cement is rising. Even after accounting for the typical holding company discount, Grasim's cement business (it has a stake of 60.4 per cent in UltraTech) is trading at a discount, compared to its peers. And, the VSF segment is likely to see growth in volumes rise in a couple of quarters, led by capacity expansion. The weak VSF realisations, too, seem to have bottomed out. Most analysts are positive on the stock, with a target price of Rs 3,500-4,000.
VSF: Limited downside to realisations
In the quarter ended December, Grasim's performance in its core VSF business was hit by lower average realisations --- at Rs 1,21,668 a tonne, it fell 5.3 per cent year-on-year and 3.9 per cent sequentially. The decline would have been higher, if not for the rupee's depreciation. During the quarter, international VSF prices fell about 14 per cent year-on-year on subdued cotton prices and surplus Chinese capacities.
However, Grasim's management does not see additional downside in VSF prices. It believes if prices decline further, Chinese companies, too, would start recording losses. Analysts, too, believe while VSF prices may remain volatile, these may not fall below current levels (slightly below the December 2012 quarter levels).
Commissioning of Phase-I capacity expansions at Harihar facility in Karnataka during September 2012 increased Grasim's VSF capacities by about 18,000 tonnes per annum (TPA) to 352,225 TPA. Thus, the quarter's production at 88,297 tonnes grew 4.8 per cent year-on-year and 10.7 per cent sequentially. The Harihar brownfield capacity expansion by 36,000 TPA is to be completed in two phases with the second phase completion expected by June or July this year. However, on the flip side, the scanty rainfall in Karnataka leading to lower water availability may impact production at the facility in the near-term. Positively, support will be provided by the 120,000 TPA greenfield expansion at Vilayat in Gujarat, which is also estimated to be completed by the first quarter of FY14.
Integration benefits
In the VSF segment, pulp and caustic soda are used as raw materials. Expansion of the 45,000-2,55,000 TPA at Domsjo's (Swedish subsidiary) pulp capacity was completed in the December quarter. Grasim restarted the Terrace Bay pulp mill in Canada in October. Though it would take time for the unit to turn around, the upgrades there would support pulp requirements in the long term.
Grasim's 182,000-TPA caustic soda expansion at Vilayat is also progressing well, and this would boost chemical sales. Analysts feel the expansions would be completed by June. Complete backward integration of caustic soda and patching up the pulp deficit would boost margins.
Firm cement outlook
Cement accounts for about 70 per cent of Grasim's consolidated revenue and profit. Though the quarter ended December saw subdued demand, owing to the festive season and extreme cold conditions, demand is expected to be rise soon. Cement prices have already seen a rise. UltraTech is expected to add 6.6 million TPA of clinker capacity by early FY14. Reportedly, it is also acquiring ABG's 6.6 million-TPA cement manufacturing facility being constructed in Gujarat.
Analysts at Citi say Grasim's current valuations are compelling, assuming the VSF/chemicals business is trading at six times the enterprise value/earnings before interest, tax, depreciation and amortisation, and the cement business is trading at 4.5 times (48 per cent discount to UltraTech and 43 per cent discount to Ambuja). Typically, the Street assigns a discount of 20 per cent to holding companies.
Ravi Sodah at Elara Capital says, “Grasim's cement business is available at $85 a tonne. This makes it the only player in the large-cap space that is available at a discount to the replacement cost.”