>GRASIM INDUSTRIES: Expansion projects on VSF, chemicals and cement are on track

Recommendation: Buy
Price target: Rs2,795
Current market price: Rs2,700

Price target revised to Rs2,795

Result highlights

• Consolidated earnings ahead of estimates: Grasim Industries (Grasim) in its Q1FY2013 results posted a net profit of Rs718 crore (declined by 4.5% year on year [YoY]) on a consolidated basis which is ahead of our as well as the street?s estimates. This is largely on account of a lesser than expected fall in its VSF realisation and better than expected overall performance of its key subsidiary- Ultratech which reflects the performance of the cement business. 
• Revenue growth driven by strong performance of cement and chemical division: The consolidated net sales of the company grew by 15.9% YoY to Rs6,793.4 crore which were supported by a strong revenue growth in the cement division (increased by 16.9%) and the chemicals division (increased by 52.8%). The revenue from its VSF division registered a revenue growth of 9.2% YoY as the average realisation has declined by 16%. The revenue growth in the cement division was largely supported by an around 13.7% growth in the average blended realisation whereas the volume grew by just 2.8%. In case of the chemical division the revenue growth was supported by a mix of realisation as well as volume. 
• Margin contracted Y-o-Y; improved Q-o-Q: In spite of an improvement in the cement realisation and expansion in the profitability of the chemical division, the severe margin pressure in the VSF division offset the positive impact arising from the improvement in the profitability of the chemical division and increase in the cement realisation. Hence the overall operating profit margin (OPM) of the company has contracted by 344 basis points YoY to 23.5%. The profit before interest and tax (PBIT) margin of the VSF business has contracted by over 12 percentage points (due to a drop in the realisation). In case of the cement division, the margin contracted by 155 basis points (on account of an increase in the cost of production). The PBIT margin in the chemical division has improved sharply by 739 basis points YoY. Thus, the operating profit of the company grew by just 1.1% YoY to Rs1,593.2 crore (as compared to a 15.9% growth on the revenue front). However, on a sequential basis the OPM of the company has expanded by 227 basis points. 
• Expansion on track, balance sheet is strong to fund the capex: The expansion projects on VSF, chemicals and cement are progressing well and are expected to come on stream as per schedule. The cement division is likely to add another 10.2 million tonnes per annum (MTPA) of capacity by Q1FY2014, the VSF capacity is likely to increase by 156,000 tonne by FY2013 and the chemical division is likely to add 182,000 tonne of capacity. Further the company plans to set up a greenfield VSF project in Turkey in joint venture (JV) with other group companies. The funding of the new capacity addition will be met through a mix of internal accruals and borrowings. The present debt-equity (D-E) ratio stands at 0.32 which reflects a strong balance sheet and comfortable scope for raising debt to fund the capital expenditure (capex).
• CCI has imposed a penalty of Rs1,175 crore on Ultratech; company will appeal against the CCI order: The Competition Commission of India (CCI) has imposed a penalty on around 11 cement companies for operating a cartel and manipulating cement prices at higher level. As per the CCI order Ultratech will have to pay Rs1,175 crore as penalty. However, based on a legal opinion, the company will appeal against the order before the tribunal. Accordingly Ultratech has not made any provision on account of the CCI penalty. 
• Maintain Buy with a revised price target of Rs2,795: We continue to prefer Grasim as our top pick among the large sized players due to its strong balance sheet, comfortable D:E ratio (0.32x Q1FY2013), attractive valuation and its diversified business. We estimate the consolidated earnings of the company to grow at a compounded annual growth rate (CAGR) of 9% over FY2012-2014. Hence we maintain our Buy recommendation on the stock. On the valuation front we continue to value Grasim using the sum of the parts (SOTP) valuation methodology and arrive at a revised price target of Rs2,795. At the current market price the stock trades at a price/earnings (PE) ratio of 8.6x, discounting its FY2014 estimated earnings per share (EPS). 

RISH TRADER