Sugar prices in India have risen sharply over the past one year, recording a gain of ~55% on the back of a sharp production drop in SY2009.
Since the deficit (consumption higher than production) situation is likely to continue in SY2010 we expect the sugar prices to maintain the sharp uptrend.
Balrampur Chini Mills Ltd (BCML) being the second largest sugar producer in the country will be a key beneficiary of this price surge. We expect the company’s profits to grow at a hefty CAGR of 59.2% over FY2008-11.
BCML had expanded its sugar capacity by 2.6x to 76,000tcd, doubled its distillery capacity to 320klpd and increased its cogeneration capacity to 180MW over FY2005-08. This will enable it to ride the current bull phase of the sugar cycle without incurring any capex and ensure hefty free cash flow generation.
Also, the integrated business model enables the company to perform better even in a sugar downcycle.
BCML’s debt-equity ratio of 1.4x in FY2008 and 0.8x in FY2009E are much less compared with that of its peer, Bajaj Hindusthan (a debt-equity ratio of ~3x FY2009E). While this suggests a better balance sheet strength, it also enables BCML to deliver much better shareholder returns as its interest outgo is less.
Also, unlike the bigger peer, which is resorting to equity issuance (and the resultant dilution in equity) to tide over its high debt-equity, BCML has no such issues.
Thus, we expect BCML to deliver a return on equity (RoE) of 17.4% in FY2009 and of 20.8% in FY2010 compared with Bajaj Hindusthan’s 3.8% in FY2009 and 11% in FY2010 (consensus estimates).
Also, we believe that the hefty cash flows expected over FY2009 and FY2010 have the potential of taking BCML’s debt-equity ratio to as low as 0.5x.
We value BCML at an EV/EBIDTA of 7x FY2011E considering the hefty profit growth expected over FY2008-11. Based on this valuation we arrive at a fair value of Rs148 for the stock.
At Rs98 the stock trades at 9.7x its FY2010 and 7.9x its FY2011 EPS estimates and 5.6x its FY2010 EV/EBIDTA and 4.7x its FY2011 EV/EBIDTA estimates.
We re-initiate coverage on the stock with a BUY recommendation and a price target of Rs148, implying an upside of 51.8% from the current market price.