GST disruption, low farm prices may hit agrochemical stocks
Relative to the BSE 500 index, the outperformance of agrochemical stocks hasn’t been steep
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Despite the prediction of a good monsoon, optimism is missing in the shares of agrochemical companies whose fortunes are directly linked to the rains and farming activity. While forecasts of a good monsoon have emerged over the last one month, shares of Rallis India Ltd, Dhanuka Agritech Ltd, Bayer CropScience Ltd and Insecticides (India) Ltd were little changed.
Perhaps investors had already placed their bets earlier when the debate on the threat of another El Niño was taking place. Even then, relative to the BSE 500 index, the outperformance of agrochemical stocks hasn’t been steep.
The mixed performance reflects near-term concerns. A survey of dealers by JM Financial Institutional Securities Ltd indicates sales in the current quarter can be hit by destocking ahead of the implementation of the goods and services tax (GST), and by down-trading by farmers due to low farm produce prices. There have also been pest attacks in some regions.
Aditya Jhawar, an analyst at Investec Capital Services (India) Pvt. Ltd, says some participants in the supply chain are reluctant to stock inventories ahead of the GST implementation. The disruption in the supply chain can have a noticeable impact as April-June is usually used by the agrochemical industry for product placements in the retail network.
GST is not the only headwind. Bad weather and lower-than- expected sales in the last winter crop season mean that some markets have inventories from the previous season. This can reduce new sales. Add to this the impact of a drop in farm produce prices and there are fears investment quality may suffer in the current season.
“Based on our survey, we believe there could be some down-trading towards the unorganized segment (low-priced products) in some of these regions for the current season,” JM Financial said in a note.
Still, the broader outlook for agrochemical sales remains good. The expected shift in crop acreages to cotton, a large user of agrochemicals, can strengthen demand conditions. Also, as Jhawar reasons, down-trading may not be acute this year as farmers had a good crop season, which should aid investments.
JM Financial concurs with the views. The only risk, however, is the growth in first half of the current fiscal year may not be as strong as initially expected. If headwinds play out as feared, sales growth in the first half of the fiscal year or the summer crop season can come in at 10-12% against initial expectations of 15-16%, said the JM Financial note. The broking firm expects sales to remain weak in the current quarter, with recovery happening from next month.
One quarter of subdued sales will not be a deal-breaker for investors. What is crucial is the sales recovery from next quarter. If the recovery proves to be strong, then one may see the gains translating into higher share prices.