Punjab Tractors: Harvest season

Earnings and cash flow are expected to grow at a brisk pace at Punjab Tractors

Punjab Tractors' sales performance last fiscal was typical of what the whole industry experienced. Sales started picking up in September thanks to the good monsoon.

As a result, there was a sharp contrast in the first half and second half figures. Volumes had fallen 16.9 per cent in the first half, but in the second half they rose 32.1 per cent over the corresponding period in FY03.

Moreover, volume growth in the March quarter stood at 46.8 per cent, much better than the 19.7 per cent growth recorded in the December quarter. A sign of things getting better and better?

Well, whether the improvement continues through this fiscal will depend on how good or bad the monsoons are this year. But one thing's for sure, year-on-year growth will continue to remain high at least in the first half of the year. This is simply because last fiscal's first half represents an extremely low base.

Even on the profitability front, things were better in the second half of the year. While operating margin had fallen 570 basis points in the first half, the decline was restricted to 220 basis points in the second half.

Interestingly, Mahindra & Mahindra reported a massive (700 basis points) year-on-year improvement in margin for its tractor division in the second half. Punjab Tractors' 220 basis points fall, therefore, seems strange.

The answer lies in the margin the two companies had in the second half of FY03, when sales had reached a low. While M&M's tractor division witnessed a massive drop in EBIT margin to just 5.26 per cent in that period, Punjab Tractors managed to maintain operating margin at high levels of 16 per cent. Therefore, it doesn't make sense to compare the trend in margins for the company, as the base was different.

Punjab Tractors' margin drop is explained by higher input prices, especially that of steel. What's important is that despite having a tough time for almost half of the year, the company delivered an operating margin of 12.7 per cent in FY04.

With things slated to be better in the near-term, earnings and cash flow are expected to grow at a brisk pace. This seems to be the assumption based on which the stock enjoys a discounting of over 30 times trailing earnings.

Wind in the SAIL

Steel Authority of India (SAIL), like its competitor in the private sector, Tata Steel, has posted impressive results for the quarter ended March 2004. Net profit jumped 320 per cent to reach Rs 1014.28 crore.

The key factor that led to the improved performance was the fact that prices of hot-rolled coil (HRC) in the last quarter had reached close to record levels of approximately $545 a tonne.

Also, the company has substantially lowered its debt by repaying loans worth approximately Rs 4,500 crore in FY04, and this helped in cutting the interest burden by 37 per cent.

And although coal prices moved up by approximately 24.7 per cent last quarter and that of iron ore rose 18.6 per cent, the company managed to keep its input costs under control by enhancing the captive production of key raw materials.

As a result, the Bhilai and Rourkela production facilities recorded an improvement in their profitability. And the Durgapur steel plant posted a profit of Rs 29.6 crore last quarter compared with a loss of Rs 16.02 crore in the previous year.

Going forward, the key question is whether the company would be able to sustain its performance in the future, given the fact that in key markets like China, HRC prices have already dropped from the highs they had reached earlier in the year.

Also domestic prices of the long products segments have shown signs of dropping by around Rs 2,000 a tonne.

Analysts point out that with the Common Minimum Programme of the Congress and its allies emphasising the development of rural infrastructure facilities, the domestic market is expected to absorb a larger proportion of SAIL's output. Domestic demand is growing at approximately 9 per cent and is expected to reach approximately 50 million tonne by 2009.

Besides, there exists a demand-supply gap of approximately 5-8 million tonne in Western Europe as several steel plants are operating below optimum capacity owing to a shortage of iron ore.

SAIL, since its captive facilities of iron ore ensures that it faces no production bottlenecks, should be able to meet this latent demand as well.

With contributions by Mobis Philipose and Amriteshwar Mathur