Harvesting growth

A robust business model, improving margins and healthy growth prospects make United Phosphorus a good investment case.

United Phosphorus, one of the leading players in the global agrichemical market, is incidentally among the few companies which are least affected due to the global crisis and domestic economic slowdown. Although global agriculture commodity prices have come down, these are still higher compared to prices two-to-three years back.

Even at current levels, farmers (globally) are estimated to be making profits for every crop they are sowing. United Phosphorus which operates in two segments (crop protection and seeds) is among the key beneficiaries of this underlying trend having presence in over 80 countries, including India.

Notably, this trend of high growth is likely to continue (except for some impact on realisations) in the future as well along with additional benefits accruing on account of improving margins and integration of some of its subsidiaries.

Multi-pronged strategy

The most important factor, which has helped the company to grow fast, has been its strategy to diversify into different regions and products. Its strategy of pursuing acquisitions in the international markets has seen UPL acquire 18 companies in the last six years.

This has worked in many ways as it has not only given the company a controlling market share in some of the major markets as well as access to newer markets, but it has also helped expand into newer product categories.

Today, international markets account for 79 per cent of UPL’s consolidated revenues, and have been the key growth driver for the company. For instance, during Q3FY09, domestic revenues grew by about 15 per cent, whereas its international business saw revenues grow at a robust 43 per cent.

Notably, the company is also well diversified in terms of regions. Revenues from the US markets (23 per cent share of international revenues) grew by mere 9 per cent, which however was compensated by the 60 per cent growth in European markets (36 per cent share) and 53 per cent growth from rest of the world (42 per cent share).

After the acquisition of European company, Cerexagri, in Q4FY07, UPL has emerged as the 11th largest player globally (in revenue terms) in the agrichemical business as against 16th earlier. Cerexagri, which has an annual turnover of Rs 1,250-1,300 crore, has strong hold in the markets like Europe and US.

On the other hand, UPL has also diversified its product portfolio and enhanced its presence in the agricultural value-chain by acquiring a 49.9 per cent stake in Advanta India (in 2006). Advanta, a listed company, reported revenues of Rs 430 crore and net profit of Rs 43.63 crore in CY07. Advanta has given UPL significant presence in the fast growing seeds market.

It is a leading supplier of seeds and has a well-diversified portfolio consisting of seeds for crops like rice, cotton, canola, corn, sunflower, sorghum and wheat. Today, Advanta has operations in Australia, Argentina, Thailand and India. Together, they are taking the benefits of synergies of common distribution network to grow.

Vast global opportunity

Off-late, while the growth has been faster in these international markets, the decline in agriculture commodity prices has resulted in lower realisations for agrichemical companies. Although analysts say since agrochemicals account for a very small portion (7-8 per cent) of the total cost of crop, the volumes should still be growing at 5-6 per cent. Also, the US and UK markets are relatively larger markets, as about 75 per cent of the market is off-patent. This enables UPL to spread its reach and introduce new products to garner higher growth–UPL’s revenues have grown at about 28 per cent annually during 2002-08 in these markets.

Improving margins

Cerexagri specialises in plant protection products, where fruit and vegetable segment account for about 80 per cent of the sales. As of now, the company enjoys EBIDTA margins of about 10 per cent as against the UPL’s EBIDTA margins of 17.5 per cent. However, the margins are expected to improve as UPL is restructuring the business of Cerexagri.

The company plans to outsource its products to take the advantage of India’s low cost manufacturing and also leverage its international distribution network. Overall, it is estimated that the company will be able to improve its operating margins by about 250-300 basis points to about 21.5 per cent by FY11. The improvement in the margins also includes the impact of falling input cost.
 

MARGIN GAINS
in Rs crore	FY08	FY09E	FY10E
Sales	3730	5020	5300
EBITDA margin (%)	19.8	18.6	21.0
Net profit	395	530	710
EPS (Rs)	9.0	10.9	13.9
PE (x)	9.8	8.2	6.3
E: analyst estimates

The international agrochemical prices have come down in the recent past, but due to the lag effect the impact of lower raw material prices is yet to seen. Analyst’s estimate that about 100 basis points improvement in the operating margins in FY10 will be on account of falling input cost.

The lower input cost will also mean that UPL will require lower working capital in FY10. The working capital days, which were at 120 in FY08 and estimated to go up to 165-170 days in FY09, are also seen declining by about 20-25 days in FY10, due to lower input prices and inventory days. Thus, indicating that UPL may see its interest cost decline partly in FY10. The interest cost for nine months ended December 2008 was up by 185 per cent to Rs 197 crore. Investment rationale

UPL is seen growing at a healthy pace, both in agrichemical as well as seeds, over the next few years. While the revenue growth could be lower (due to decline in agrichemical realisations), margins are likely to improve and boost profit growth.

A robust business model helped by a diverse presence across regions and product categories provides comfort, as well as cushion during any slowdown.

At Rs 88, UPL’s stock is trading at 8.2 times FY09 and 6 times FY10 estimated earnings, which is reasonable and can yield over 30 per cent returns in a year’s time.