Since January, sugar prices have corrected by around 30% due to various reasons, including upward revision of domestic production for sugar year 2010 and above-industry forecast for sugar year 2011 by the Indian Sugar Mills Association (Isma), the government intervention through change in non-levy sugar quota to weekly basis, removal of ban on imported raw sugar by the Uttar Pradesh government and winding up of speculative sugar futures.
In our initiating coverage report on Bajaj Hindusthan Ltd, we had forecast prices to correct in sugar year 2011. We are surprised by the quick pace at which the correction has commenced in sugar year 2010 itself. Thus, we have pruned our sugar year 2010 realization estimate for free sugar from Rs38 per kg to Rs33.50 per kg, and for sugar year 2011 from Rs28 per kg to Rs25 per kg. On the bourses, the sugar stocks having corrected in reaction to the fall in prices and are trading at fair valuations.
Also See Course correction (Graphic)
We remain negative on the sugar sector and recommend any rise in the stock prices to be used as an opportunity to exit.
Domestic sugar prices, after touching the peak of Rs42 per kg in January, have corrected significantly and are currently at Rs30 per kg levels. Isma has revised the domestic production estimates for sugar year 2010 from 15 million tonnes (mt) to 16.7 mt, an increase of 11%. The bigger surprise came for sugar year 2011, when Isma estimated production to be at 24 mt against industry estimates that were in the range of 20-22 mt. Food inflation is at an all-time high. Increase in retail sugar prices by more than 100% saw the government intervening through indirect measures.
The release of non-levy sugar was changed from fortnightly to weekly basis, industrial users were pressurized to lower their inventory, while heavy checks were put on hoarders. With the end of the crushing season nearing, the UP government lifted the entry ban on imported raw sugar. Most of the inventory had been accumulating at the ports, and after lifting the ban, markets expect a supply glut in the short term. We believe that all these factors have led to the correction in sugar prices.
As discussed in our earlier reports (Bajaj Hindusthan and Balrampur Chini Mills Ltd), Brazil plays a major role in the international sugar scenario. Cosan, Brazil’s largest sugar and ethanol manufacturer, has guided total cane production for Brazil to be at 654 mt in sugar year 2011, a year-on-year growth of 10%, and 9% ahead of our estimate of 600 mt.
As per media reports, Cosan has estimated Brazil’s sugar production at 35 mt in sugar year 2011. With Brazil’s domestic consumption in the region of 12 mt, exportable surplus could be 23 mt, in turn, substantially boosting global sugar supplies.
Overall, the recent spiralling prices coupled with estimates of the forthcoming supply glut scenario have resulted in sugar prices correcting in mid-sugar year 2010 itself. Owing to this, most countries, including India, have postponed their buying plan, there has been destruction of demand and future contracts have been squared off.
We estimate most sugar companies to break even or record minuscule losses at the net level in the short term. The correction in prices has been severe and sharp, owing to which we expect a small bounce back.
However, the rise would not take realizations to earlier highs. We have revised our assumptions to reflect the correction in the sugar price; our non-levy sugar price assumption stands revised at Rs33.50 per kg and Rs25 per kg for sugar year 2010 and sugar year 2011, respectively.
Graphic by Ahmed Raza Khan/Mint