Ruchi AgrawalMoneycontrol Research
Rallis India reported subdued performance in Q3FY18 with a 21 percent contraction in operating margins. Though revenue increased 12 percent YoY on the back of a 13 percent uptick in the volumes, price pressure from imported raw materials on account of closure of Chinese facilities weighed negatively on gross margins with operating profit down 11 percent YoY. Net profit for the quarter under review fell 1.6 percent YoY.
Robust volume growth
The company reported a strong double-digit volume growth in both domestic as well as export businesses owing to efforts made towards increasing the channel network and partnerships and increasing credit facilities. We expect the volume growth to continue on the back of a strong Rabi season domestically along with commercialisation of new products under contract manufacturing and an expectation of a global recovery in agro-chemical demand.
Pricing pressure due to the China situation
With the closure of factories in China, Rallis India witnessed pressure on the prices and an overall difficult industry environment (45 percent raw material is soured from China). Low ability to pass on the prices, majorly due to high accumulation of channel inventory, resulted in a hit on margins and negated the benefits from higher volumes.
It also faced stiff price competition. With clearing up of the inventory channels, the company expects to pass on the price increases and thereby get some relief on the margin front. The management expects the domestic raw material prices to soften post Q4 as domestic manufacturing picks up which would help in improving the margin situation in FY19.
Late rains impacted sales in South India
Late showers in October in Southern India impacted the sales in Tamil Nadu and Karnataka which are high paddy consumption regions. Substantial inventory was returned owing to rain which resulted in further inventory piling up and channel blockages.
Further traction from contract manufacturing
The company has started its contract manufacturing business from H2FY18 which is expected to bring further revenue traction in the coming quarters. The segment has a low seasonal impact which would help in stabilizing QoQ growth. First phase of investment of around Rs 22-23 crore is now complete, the benefits of which are expected to start flowing in from Q4FY18 and full impact expected from Q1FY19.
The company has also initiated a small foray into pharma and with the recognition of the unit under GLP practice the management sees immense scope for expansion in the segment. Although a positive development, but the segment comes with immense competition from Chinese manufacturers.
Update on Metahelix
Metahelix (the seed business) reported revenues at Rs 32.9 crores up 47 percent YoY. However, the performance continued to be negative on EBITDA level with Rs 9.2 crore loss. The Board has approved the merger of Zero Waste Agro Organics Ltd, a wholly-owned subsidiary of the company. The company expects to improve sales in Q4 with new mustard and maize hybrids, though cotton and millet seeds continue to remain under pressure.
Outlook
Rallis plans to focus on existing molecules and expand reach through aggressive product registrations. Owing to the contraction of Chinese supply, the management is also exploring opportunities to venture into manufacturing, though skepticism around rapidly changing Chinese government policies would be something to watch out for while evaluating the benefits.
The stock has seen an uptick of 10 percent in the last 12 months and 17 percent since October 2017 post which it is trading at a 2019E P/E of 21.6x and an EV/EBITDA of 13.6x. Although currently impacted by external operating environment, we see Rallis as a quality stock on the back of continued revenue and volume improvement, foray into more profitable product mix and positioned to benefit from the synergies of the restructuring at the parent company. We recommend a gradual accumulation.
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