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Thursday, April 25, 2013

Sugar Sector - Policy Changes and which Large cap Sugar Stocks can benefit!

India is one of the largest consumer and producer of sugar in the world. In fact, the process of crystallization of sugar from sugarcane originated from India itself and traveled and gained acceptance around the world. India is world's second largest producer of sugarcane next to Brazil and has one of the largest area under sugarcane cultivation in the world. Currently about 4 million hectares of land in India is under sugarcane with an average yield of 70 tonnes per hectare. In terms of sugar and sweetener production, India tops the charts with 26 million tonnes of sugar and traditional sweeteners like Gur, Khandsari production followed by Brazil at 18.5 million tonnes.

Modern sugar processing industry in India began in 1930 with government promising tariff protection to the Indian sugar industry. The number of sugar mills quickly jumped from just about 30 mills in 1931 to hundreds of small scale, medium and large scale industries within a few decades. The sugar sector is a Rs 80,000 crore market now, and is expected to double within four years.

Despite the very basic human nature of craving for sweetness and Indian culture heavily inclined towards usage of sugar and sweeteners, Indian sugar sector has been one of the worst performers with top sugar sector firms showing heavy losses in their books in recent quarters. The simple reason for under performance of this sector is that Indian Sugar sector is heavily regulated, politicized, tariff driven and any decision taken to modernize the sector is met with equal numbers of voices in favor and in against, all motivated by political reasons, and not so economic ones.

Recent Policy Changes and Sugar Sector Decontrol 
Recently a whiff of fresh air is greeting the sector with government announcing fresh reforms for the sector to decontrol the sugar sector. Government has removed the obligation to sell 10 per cent of the output to the PDS (public distribution system) at prices below the cost of production. Sugar mills were required to sell 10 per cent of their production at Rs 19 per kg, which was a huge ongoing loss to the industry. In the open retail market, prices range from Rs 30 per kg to about 35 per kg. Mills were undertaking a minimum loss of Rs 10 per kg of sugar produced for 10% of their output every year. There is no other sector which was operating under such uneconomic laws, hence heavy losses for the sector. This policy is now dismantled, hence the industry is breathing a sigh of relief.

Another welcome policy change has been scrapping of government's power to control the supply of sugar to the open market. Under this release mechanism, the government used to decide how much sugar quantity sugar mills can sell in the open market and in what time frame. This was another useless piece of legislation as government cannot decide what is the optimum distribution mechanism for private sector firms. This crippled the forward demand chain for the firms and they had to hold the stocks longer than required to anticipate the government action. Scrapping of this control will also open up the industry for better demand chain improvements.

These measures and more in the offing will modernize the sugar sector and industry will now grow at 25% on a YoY basis to double the annual sector revenues to Rs 1.6 lakh crore in next four years. Let's look at the top four firms in the sector to benefit from this whiff of change in the sector in the coming years.

Shree Renuka 
Shree Renuka Sugars is one of the largest sugar producers in the world and is a leading manufacturer of sugar in India. Shree Renuka Sugars operates eleven mills globally - four in Brazil and seven in India and has integrated ethanol and power co-generation capacity. The company also has two large port based sugar refineries in India.

Starting with just one sugar mill in Karnataka in 1998, the Company has grown to become the largest sugar company in India. Firm has total crushing capacity of 20.7 million tonnes per annum (MTPA) which includes seven sugar mills in India that have a total crushing capacity of 7.1 MTPA and two port based sugar refineries that have a capacity of 1.7 MTPA. Brazilian subsidiary has total crushing capacity of 13.6 MPTA.

The firm has constantly delivered better revenue figures from Rs 2234 crores in 2009 to Rs 6362 crores in 2012. The net profit has not grown due to cyclical nature of sugar sector and this is probably a reason why this sector sometimes struggles in delivering capital appreciation.

Promoter shareholding has improved from 38.06% two quarters ago to 38.34% now. Firm is trading at Rs 25.2 which is close to its Book Value of Rs 26.4, hence its a good value buy for medium and long term investments.

Bajaj Hindustan
Bajaj Hindustan is one of the oldest sugar companies in India and was incorporated in 1931. Bajaj Hindustan has ten sugar manufacturing locations across UP with a cane crushing capacity of 136,000 TCD and is country’s largest ethanol producer with an output of 800 KL/ day.

Company also deals in power generation, and its three bagasse-based power co-generation plants at Kundarkhi, Rudauli and Utraula that have an aggregate power generation capacity of 95.8 MW. Combined with the power generation capacity of 325 MW from other units, the Company’s total generation capacity is 420.8 MW. After meeting its own energy needs, the Company has a surplus of 90 MW, which it supplies to UP state grid. The firm is Asia's number one and world's number four integrated sugar company.

The firm has improved on its revenues from Rs 1917 crore in 2008 to Rs 4262 crores in 2012. Profits have not kept pace due to cyclical nature of the sector and overall government regulations. Things might improve with opening up the sector to market requirements.

Firm is trading significantly below its Book Value of Rs 64 and is available at 70% discount to its Book Value. Promoter shareholding is flat at 46% and firm has paid regular dividends over the years.

Though valuations are attractive, investors can slowly chip in slowly over the next one year for long term investments in this sector.

Balarampur Chini Mills 

Balrampur Chini Mills Ltd is one of the largest integrated sugar manufacturing companies in India . In addition to sugar, its other products include Ethyl Alcohol & Ethanol, generation and selling of power and manufacturing and marketing of organic manure .

Balrampur Chini has sugar factories located in U.P. having an aggregate crushing capacity of 76,500 tons per day. The firm was setup in 1975 with crushing capacity of 800 TCD and has grown organically and inorganically in leaps and bounds to reach to its present status.

The firm has grown in revenues from Rs 1475 crores in 2008 to Rs 2320 crores in year ending 2012. Net profit has remained stagnant, but unlike other firms in this sector, Balrampur has not dived in red and is consistently profitable.

Promoter shareholding is constant at 40.93% and Book Value is at Rs 45.75 per share. Firm is trading close to Book Value and is a good value bet at these levels.

Overall, the sugar sector is going through tough times and change in government policies would benefit the sector in the next 6-12 months. Patient investors can chip in slowly and take positions at lower levels to benefit when the policy changes finally make effect and sector is back to profitability.

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