Buy United Phosphorus – 3QFY2011 Result Update Angel Broking

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United Phosphorus – 3QFY2011 Result Update

Angel Broking maintains a Buy on United Phosphorus with a Target Price of Rs. 198.

United Phosphorus (UPL) reported disappointing set of numbers for 3QFY2011.

Total sales grew 6.3% yoy to `1,222cr, while EBITDA margin came in at 18%

(17%). Net profit came in at `84cr (`64cr), up 31.4% yoy. However, on the back

of strong volume growth, we expect FY2012 to be a better year. Hence, we

maintain a Buy on the stock.

Lower-than-expected revenue growth: UPL registered a mere 6.3% yoy growth in

revenues for the quarter to `1,222cr. Revenue growth was impacted by 5% on

account of the unfavourable exchange variance and price erosion of 3%.

However, volumes continued to be strong increasing by 14% in 3QFY2011.

Key markets subdued: North America and Europe, UPL’s key markets witnessed a

decline in sales by 4% and 24%, respectively. The Indian market grew by a mere

6%. However, RoW posted robust growth of 38%.

Outlook and Valuation: We expect UPL to post 6.2% and 13.4% CAGR in sales

and PAT over FY2010-12, respectively. Post the recent correction, the stock is

trading at attractive valuations of 10.1x FY2012E EPS. Hence, we maintain a Buy

on the stock, with Target Price of `198.

Lower-than-expected top-line growth

For 3QFY2011, UPL recorded a lower-than-expected mere 6.3% yoy growth in

total revenues to 1,222cr, on the back of poor performance in the North

American, Europe and India markets. While North America and Europe

witnessed 4% and 24% decline in revenues respectively, India registered a

mere 6% growth. Overall, volumes grew by 14% yoy owing to the robust 36%

yoy growth witnessed in the Rest of the World. Revenue growth was also

impacted by unfavourable exchange movement by 5% and the 3% erosion in

the prices of products.

Higher other expense restricts improvement in OPM

Despite the poor performance on the top-line front, UPL recorded a strong

400bp improvement in gross margins though the same did not percolate

down fully to the EBITDA level, as other expenses increased by 17% yoy during

the quarter. EBITDA margins for the quarter improved by 123bp to 18.1%

(16.9%).

Earnings growth in line with estimate

Net profit for the quarter came in at `84cr (`64cr), a yoy increase of 31%

mainly on account of improved OPM and higher other income of `26cr (`8cr).

Adjusted PAT stood at `114cr (`47cr).

Conference call – Key takeaways

􀂄 For FY2011, management lowered its revenue guidance from 8-10% (organic)

and 15% on inorganic basis to overall 5%, with EBITDA margin of 20-21%

􀂄 Most of the geographies witnessed strong volume growth except Europe,

which recorded 20% yoy decline in volumes.

􀂄 Benefits of restructuring at Cerexagri, the Spain plant were visible in the

current quarter. However, benefits of restructuring at Rotterdam would be

visible in 4QFY2011 and FY2012.

􀂄 Strong balance sheet with net cash of ~`2,000cr at the end of 3QFY2011.

Investment Arguments

Innovators dominant in off-patent space - Generic firms in

sweet spot

The global agrichem industry, valued at US $40bn (CY2008), is dominated by the

top-6 innovators, viz. Bayer, Syngenta, Monsanto, BASF, DuPont and Dow, which

enjoy large market share of patented (28%) and off-patent market (32%).

Pertinently, the top-6 innovators also enjoy a large share of the off-patent market

due to the high entry barriers for the pure generic players. Thus, 1/3rd of the total

pie worth US $13bn (controlled by the top-6 innovators through proprietary off

patent products) provides high growth opportunity for the larger integrated generic

players like UPL.

Generic segment market share to increase

The generic players have been garnering high market share, increasing from 32%

levels in 1998 to 40% by end 2006. During 1998-2006, while industry registered

CAGR of 3%, generic players outpaced industry posting CAGR of 6% during the

period. Going ahead, given the opportunities and drop in rate of new molecule

introduction by the innovators, we expect the generic players to continue to

outpace industry growth and increase their market share in the overall pie.

Historically, the global agrichem players have been logging in-line growth with

global GDP. Going ahead, over CY2009-11E, the global economy is expected to

grow at around 3-4%. Assuming this trend plays out in terms of growth for the

agrichem industry and the same rate of genericisation occurs, the agrichemical

generic industry could log in 6-8% yoy growth during the period and garner

market share of 44-45%.

A global generic play

UPL figures among the top-5 global generic agrichemical players with a presence

across major markets including the US, EU, Latin America and India. Given the

high entry barriers by way of high investments, entry of new players is also

restricted. Thus, amidst this scenario and on account of having a low cost base, we

believe that UPL enjoys an edge over competition and is placed in sweet spot to

leverage the upcoming opportunities in the global generic space.

Outlook and Valuation

Over the last few years, the global agriculture sector has been

rejuvenating/reviving on the back of rising food prices. Food security is also top

priority for most governments, while reducing food loss is one of the easiest ways

to boost food inventory. Hence, we believe that the agrichemical companies would

continue to do well in wake of heightened food security risks and strong demand is

likely to be witnessed across the world. Overall, we expect the global agrichemical

industry to perform well from hereon. However, generics are expected to register

healthy growth on account of: a) increasing penetration and wresting market share

from innovators, and b) patent expiries worth US $3-4bn (2007) during 2009-14.

We estimate UPL to post 6.2% and 13.4% CAGR in sales and PAT respectively,

over FY2010-12. Post the recent correction, the stock is trading at attractive

valuations of 10.1x FY2012E EPS. Hence, we maintain a Buy on the stock, with a

Target Price of `198.