HPCL: Crunch time

HPCL financials will remain weak unless fuel prices are hiked

HPCL's results for FY06 reflect the difficult operating environment for the company, given its inability to raise retail fuel prices and reduced gross refining margins (GRMs).

Operating profit (excluding other income) fell a staggering 60.7 per cent y-o-y to Rs 805.6 crore in FY06, despite income from operations improving 18.7 per cent to Rs 71,037.92 crore.

The company has included oil bonds worth Rs 2344.86 crore received from the government in FY06, as part of its income from operations. Nevertheless, its operating profit margin declined 229 basis points y-o-y to 1.13 per cent in FY06.

HPCL received Rs 3,221.59 crore in FY06 as compared to Rs 1278 crore in the previous year via discounts from upstream players as part of the subsidy sharing plan.

In addition, oil refineries provided discounts worth Rs 435 crore as compared to nil in the previous year.

The company has highlighted that its gross under-recoveries for selling petroleum products (prior to the subsidy sharing mechanism) was Rs 8,340 crore in FY06 compared with Rs 4,280 crore in the previous year.

Meanwhile, crude throughput for the company was marginally lower at 13.82 million tonne in the last financial year.

However, GRMs for the Mumbai refinery were pegged at $3.22 per barrel in FY06 compared with $5.6 a barrel a year earlier.

The oil bonds received by the company in mid Q4 FY06 quarter, helped operating profit reach Rs 1,952.75 crore in the last quarter compared with Rs 456.42 crore a year earlier.

Going forward, until the company is able to change retail fuel prices in tune with global prices or duties are brought down, no major improvement in the company's financials can be expected.

The stock trades at about 9.5 times estimated FY07 earnings.

Dishman Pharma: Value buy

For Dishman Pharmaceuticals, the acquisition of Solutia's pharmaceutical services business, including 100 per cent equity in Carbogen-Amcis and some other assets, comes at a good price of about one time enterprise value (net of working capital) to revenues. Dishman will pay $74.5 million for the acquisition, and the business has $8 million of working capital.

Since Solutia, which was spun out of Monsanto in 1997, is going through a reorganisation after filing for bankruptcy, Dishman has got the business at a reasonable price, say analysts.

Plus, the CRAMS business fits well with Dishman's business. Both companies provide process R&D and commercialisation services such as clinical supply as well as small volume production of APIs.

What is noteworthy in this acquisition is that Dishman has bought a business, which has about the same revenues as itself. In 2005, Carbogen-Amcis had revenues of about Rs 300 crore and an operating profit of about Rs 55 crore, according to the Dishman management. Dishman is expected to end FY06 with revenues of around Rs 300 crore and operating profit of Rs 65-70 crore.

Dishman will finance the acquisition from its recently raised FCCBs and other debt. Through this purchase Dishman will get all the scientists, intellectual property, three plants in Switzerland, more products, and client relationships.

Carbogen-Amcis has a customer base among medium-sized pharmaceutical and biopharmaceutical companies and the Dishman management is banking on maintaining a high level of repeat business from them.

Dishman's task now is to improve the profitability of Carbogen-Amcis unit, which it can do by sourcing some raw materials/intermediates from India. Dishman will also move API manufacturing to India.

The Dishman stock has fallen about 2.5 per cent after the announcement to Rs 196 and trades at about 21 times FY07 earnings, without considering the acquisition, and about 16 times after the acquisition.

Thermax: On a strong wicket

Thermax has posted an impressive 28.8 per cent y-o-y growth in its consolidated FY06 net sales to Rs 1606 crore, and a 68.7 per cent rise in its operating profit.

Operating profit margin too improved by 260 basis points to 11 per cent, helped by a 450 basis point fall in raw material costs.

The standalone business did much better than the consolidated operations. Compared with the standalone operating profit of Rs 194.08 crore, consolidated operating profit was lower at Rs 176.75 crore.

According to the company, consolidated profitability was affected owing to ME Engineering, UK, making a loss of Rs 17.8 crore in FY06.

Many other subsidiaries too were loss making in FY05, though the amounts were rather small. In terms of segment operations, both environment and energy did as well, though segment profitability in energy improved by 265 basis points, whereas that of environment went up only 40 basis points.

The growth in net sales during the fourth quarter was slower at 16.4 per cent, after considering the adjusted numbers for the merger of Thermax Babcock & Wilcox, and Thermax Capital. But operating profit margin went up 240 basis points y-o-y to an impressive 14.96 per cent in Q4.

Going forward, margins are expected to remain strong. Its consolidated order book is strong, growing 57 per cent y-o-y to Rs 1730 crore at the end of FY06. From its high, the stock is trading about 28 per cent lower, but at 26 times estimated FY06 earnings, investor expectations remain high.