In spite of the pricing pressure due to the global sugar surplus during 2014 (October 2013 - September 2014, also known as SS14) and the expected surplus in SS15, south India-based mills' estimated sugar segment profitability (excluding by-products) is expected to turn positive (in the range of INR0.5/kg-INR1/kg) for FY15. While UP based peers are expected to continue registering losses in the segment (INR1/kg-INR1.5/kg). Further, factoring in by-product realisations (especially ethanol), companies are expected to continue to exhibit a similar regional divergence.
Ind-Ra expects the global sugar surplus to prevail in SS15 but contract substantially from the current 5mmt level. The agency believes that assuming no further depreciation in currencies of sugar producing/exporting countries, the prevailing low prices may persuade producers to reduce acreage thereby impacting global surplus compared to SS14 levels.
The global stock to use ratio for SS15 though unlikely to rise beyond the 41.5% estimated for SS14 is still high and thus supports the agency's base case estimate of international sugar realisations remaining between 15-16 cents per pound in 2014.
The agency expects the higher support price of INR220/qtl for SS15 to encourage sowing. The Indian Sugar Mills Association estimates domestic sugar production of 23.8mmt for SS14 and 25mmt for SS15 (similar to SS13 levels) to translate into a domestic stock-to-use ratio of 34.5% for SS14 and 33.9% SS15 (SS13: 38.3%). Factoring in Ind-Ra's base case assumption for international sugar prices, the floor price for domestic sugar should be in the range of INR29/kg-INR31/kg.
South India-based millers are expected to perform better as compared to FY14 with sugar segment profitability expected to improve in the range of INR0.5/kg-INR1/kg due to the lower cost of opening inventory (crushed in SS14) and better by-product realisations. Their improved profitability and negligible capex would help them improve their credit profiles as compared to FY14 levels and service debt rather comfortably.
For UP-based millers, the cost of producing sugar is expected to be 3%-4% higher in FY15 after declining by 2%-3% in FY14. Factoring a premium of INR2/kg-INR3/kg on the export parity price of INR29/kg-INR31/kg, UP-based mills would still continue to register sugar segment losses of negative 1/kg-1.5/kg. In spite of negligible capex millers might have to draw down additional loans to fund operations, consequently impacting their credit metrics.
The recent Cabinet approval for the export subsidy of INR3,333 per tonne of raw sugar would do little to make Indian sugar less expensive as compared to its international counterpart. The export may be viable only if global sugar prices range from 18-19 cents per pound, which is unlikely in 2014.
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Ind-Ra notes that both UP and south India-based mills would continue to be exposed to liquidity pressures to clear farmer dues at the earliest providing limited inventory holding power. Liquidity woes for the UP-based millers would be more pronounced.
What Could Change The Outlook
Rangarajan Committee Recommendations: Implementation of the committees' recommendations would benefit the UP-based mills more than their southern counterparts and on a whole would be positive for the sector. The linking of raw material cost (cane prices) to the realisation of sugar and by-products would help millers improve their overall profitability even during a down-cycle. However, the implementation of the committees' recommendations seems unlikely in the short- to medium-term. Sugar up cycle: A sharp decline in sugar production as compared to estimates for SS15 may rapidly change the current surplus scenario to one of deficit. In such an event, sugar prices could surge resulting in higher margins and improved credit profiles of sugar companies.
International prices diving to new lows: Any further deterioration in prices to below 15-16 cents per pound based on a higher-than-expected global surplus could further dent profitability and impact credit profiles.
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