VSF: Limited downside to realisations
Grasim’s December 2012 quarter performance in its core VSF business was impacted by the lower average realisations, which at Rs 121,668 a tonne were down 5.3% year-on-year and 3.9% sequentially. The decline could have been much more but thanks to the rupee depreciation that provided some cushion. The international VSF prices had tumbled almost 14% year-on-year during the quarter on subdued cotton prices and surplus Chinese capacities.
However, Grasim’s management does not see further downside in VSF prices. They believe that if prices go down further even Chinese players would start making losses. Even analysts believe that while VSF prices may remain volatile, they may not decline much below the current levels (which is slightly lower than December 2012 quarter).
Improving volumes outlook
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% year-on-year and 10.7% sequentially. The Harihar brownfield capacity expansion by 36,000 TPA is to be completed in two phases with 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 if rainfall remains weak in the coming season. 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
Pulp and caustic soda are used as raw material by VSF segment, besides some external sales as well. The capacity expansion of pulp capacity of Domsjo (Swedish subsidiary) by 45,000 TPA to 255,000 TPA was completed during December 2012 quarter and is in the process of stabilisation. Grasim restarted the Terrace Bay pulp mill in Canada in October last year. Though the unit will take time to turnaround, with up-gradations taking place it will support pulp requirements in the longer term.
Grasim’s 182,000 TPA caustic soda expansion at Vilayat is also progressing well and would support its own needs as well as boost chemical sales. Analysts feel the expansions will be completed by June 2013. Complete backward integration of caustic soda and patching up of the deficit in pulp, is positive for the company as it will boost margins.
Firm cement outlook
Grasim earns over 70% of its consolidated revenue and profit from cement, which is represented by UltraTech. Though December 2012 quarter had been subdued due to soft demand on the back of festive season and extreme cold conditions, etc, the demand is expected to revive shortly. The uptick in cement prices has already been witnessed off late. Further, UltraTech is expected to add 6.6 million TPA of clinker capacity by early FY14. UltraTech is also reportedly in the process of acquiring the 6.6 million TPA under-construction cement manufacturing facility of ABG in Gujarat.
Nevertheless, on the valuations front, analysts at Citi observe that Grasim’s current valuations are compelling – assuming the VSF/chemicals business trade at six times Enterprise-Value / EBITDA, the cement business is trading at 4.5 times (48% discount to UltraTech and 43% discount to Ambuja). The Street typically assigns a 20% discount to holding companies.
Ravi Sodah at Elara Capital observes that “Grasim’s cement business is available at $85 per tonne, which makes it the only player in the large cap space that is available at a discount to replacement cost”.
