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Shree Renuka Sugars (SHRS)
Sugar
Not the right time. SHRS corrected by ~50% after its 4QFY11 results. We are still
cautious as: (1) Estimated net debt/EBITDA of 5.4X for FY2012 (September year ending)
is high, considering strained cash flow on weak profitability in Brazil and projected cash
outflow of at least Real300 mn (consol) next year, (2) Interest rates for working capital
finance (company specific) have risen (by ~150 bps) after the 4QFY11 results, which is a
risk to our estimates and (3) There is risk of the Brazilian government regulating sugar
exports (favoring ethanol) as we see a shortage of ethanol (fuel) in Brazil in the offseason
(January-March). We have reduced our earnings estimate and multiple (5.7X
versus 6X earlier). Retain REDUCE with a revised target price of Rs24.
Significant risks remain
SHRS corrected by 50% after its 4QFY11 results. We are still cautious for the following reasons:
Highly leveraged balance sheet. According to our estimates, net debt/EBITDA (FY2012E; Sept
year ending) ratio of 5.4X is high, considering SHRS’ expected strained cash flow over the next 6-9
months.
Higher cost of working capital debt: Our discussion with bankers indicates that SHRS’ rate of
interest for working capital finance rose by ~150 bps after its 4QFY11 results, which presents a
risk to our earnings estimates. This is a company-specific development.
Risk of government regulation in Brazil. According to UNICA, production of ethanol over April-
November 2011 was down 17.7% yoy. Within that, production of hydrated and anhydrous
ethanol was down 28% and up 9% yoy, respectively, in the same period. The higher price of raw
sugar (versus ethanol) has led companies to allocate more cane to sugar production. As of
November, almost 48% of cane was converted into sugar against 45% a year earlier. Reducing
ethanol production is contrary to the government objective of increasing its production to power a
growing fleet of flex-fuel cars. Therefore, there is a risk that the Brazilian government might make
ethanol production more remunerative by offering incentives to produce it or by increasing taxes
on sugar. A measure that was talked about in March 2011 was the imposition of taxes on sugar
exports. Any such measure to discourage sugar production would be a clear negative, considering
it would be difficult to pass on, in a year of surplus production.
Reducing our estimates; maintain REDUCE
We have reduced our earnings estimates marginally for FY2012 and by 24% for FY2013 led by
lower cane production estimates in FY2013 (year to March) of10.5 mn tons for both subsidiaries
versus 13.5 mn tons earlier. We maintain our REDUCE rating with a revised target price of Rs24
(Rs55 earlier) at 5.7X (6X earlier) March 2013 EBITDA. We would look for improving net debt or
cash flow position to change our view.
Highly leveraged balance sheet
According to our estimates, net debt/EBITDA (FY2012E, September year ending) ratio of
5.4X is high, considering SHRS’ expected strained cash flow over the next 6-9 months for
the following reasons:
Planting capex of Real140 mn, which would be incurred in CY2012.
Maintenance capex of Rs1.5-2 bn for the consolidated business.
Payment of US$80 mn towards purchase of incremental stake of ~9% in RDB, expected
to be done by December 2011.
Working capital requirement in the Indian business would peak in March 2012, which
could amount to at least Rs10 bn in incremental debt.
The only positive news on the cash-flow front is an expected stake sale (50%) in RDB’s
cogeneration (295MW) business. According to SHRS, the transaction could be closed by
March-June 2012. We are skeptical about whether SHRS will be able to locate a suitable
buyer for the stake because of weak global capital markets. Besides, valuations of Brazilian
sugar mills have fallen to 4.6-5X (Bloomberg estimates for Sao Martinho) one-year forward
EBITDA. We estimate RDB (March year ending) will post EBITDA of US$162 mn in FY2013
(implying US$22 per ton of cane crushed). At these valuation multiples there would be
negligible value attached to equity in RDB (debt as of September 2011 was ~US$800 mn)
and as such dilution would not make sense.
We expect profitability of the Brazilian business to remain weak until the next season begins
in April. Therefore, the possibility of lower leverage is bleak over the next 6-9 months.
Risk of government (Brazil) regulation on sugar exports
According to UNICA, ethanol production over April-November 2011 was down 17% yoy
(20.36 bn liters versus 24.7 bn liters a year earlier). Within that, production of hydrated and
anhydrous ethanol was down 28% yoy (12.5 bn liters versus 17.5 bn liters a year earlier) and
up 9% yoy (7.9 bn liters versus 7.2 bn liters), respectively. The decrease in production of
ethanol means the shortage would be much more than it was over January-March 2011, the
off season. Last year, the price of anhydrous ethanol spiked to Real2.5 a liter during the offseason
from Real1.5 a liter in January 2011. Similarly, hydrous ethanol prices increased to
Real1.6 a liter from Real1.2 a liter. The shortage of ethanol had led Brazil to import ethanol
from the US for the first time in the past three years and to speculation about government
controls to discourage sugar production and encourage ethanol production.
However, higher raw sugar prices led companies to allocate more cane to sugar production
(versus ethanol). As of November, almost 48% of cane was converted into sugar versus
45% a year earlier. Reducing ethanol production is contrary to the Brazilian government’s
objective of increasing its production to fuel a rapidly growing fleet of flex-fuel cars and for
blending with gasoline. Therefore, there is a risk that the government might make ethanol
production more remunerative by offering incentives. A measure that was discussed in
March 2011 was a tax on sugar exports. Any such measure to discourage sugar production
would be a clear negative especially since would be difficult for companies to pass on higher
costs due to a surplus production estimate of 8.2 mn tons (raw sugar) for 2011-12.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Shree Renuka Sugars (SHRS)
Sugar
Not the right time. SHRS corrected by ~50% after its 4QFY11 results. We are still
cautious as: (1) Estimated net debt/EBITDA of 5.4X for FY2012 (September year ending)
is high, considering strained cash flow on weak profitability in Brazil and projected cash
outflow of at least Real300 mn (consol) next year, (2) Interest rates for working capital
finance (company specific) have risen (by ~150 bps) after the 4QFY11 results, which is a
risk to our estimates and (3) There is risk of the Brazilian government regulating sugar
exports (favoring ethanol) as we see a shortage of ethanol (fuel) in Brazil in the offseason
(January-March). We have reduced our earnings estimate and multiple (5.7X
versus 6X earlier). Retain REDUCE with a revised target price of Rs24.
Significant risks remain
SHRS corrected by 50% after its 4QFY11 results. We are still cautious for the following reasons:
Highly leveraged balance sheet. According to our estimates, net debt/EBITDA (FY2012E; Sept
year ending) ratio of 5.4X is high, considering SHRS’ expected strained cash flow over the next 6-9
months.
Higher cost of working capital debt: Our discussion with bankers indicates that SHRS’ rate of
interest for working capital finance rose by ~150 bps after its 4QFY11 results, which presents a
risk to our earnings estimates. This is a company-specific development.
Risk of government regulation in Brazil. According to UNICA, production of ethanol over April-
November 2011 was down 17.7% yoy. Within that, production of hydrated and anhydrous
ethanol was down 28% and up 9% yoy, respectively, in the same period. The higher price of raw
sugar (versus ethanol) has led companies to allocate more cane to sugar production. As of
November, almost 48% of cane was converted into sugar against 45% a year earlier. Reducing
ethanol production is contrary to the government objective of increasing its production to power a
growing fleet of flex-fuel cars. Therefore, there is a risk that the Brazilian government might make
ethanol production more remunerative by offering incentives to produce it or by increasing taxes
on sugar. A measure that was talked about in March 2011 was the imposition of taxes on sugar
exports. Any such measure to discourage sugar production would be a clear negative, considering
it would be difficult to pass on, in a year of surplus production.
Reducing our estimates; maintain REDUCE
We have reduced our earnings estimates marginally for FY2012 and by 24% for FY2013 led by
lower cane production estimates in FY2013 (year to March) of10.5 mn tons for both subsidiaries
versus 13.5 mn tons earlier. We maintain our REDUCE rating with a revised target price of Rs24
(Rs55 earlier) at 5.7X (6X earlier) March 2013 EBITDA. We would look for improving net debt or
cash flow position to change our view.
Highly leveraged balance sheet
According to our estimates, net debt/EBITDA (FY2012E, September year ending) ratio of
5.4X is high, considering SHRS’ expected strained cash flow over the next 6-9 months for
the following reasons:
Planting capex of Real140 mn, which would be incurred in CY2012.
Maintenance capex of Rs1.5-2 bn for the consolidated business.
Payment of US$80 mn towards purchase of incremental stake of ~9% in RDB, expected
to be done by December 2011.
Working capital requirement in the Indian business would peak in March 2012, which
could amount to at least Rs10 bn in incremental debt.
The only positive news on the cash-flow front is an expected stake sale (50%) in RDB’s
cogeneration (295MW) business. According to SHRS, the transaction could be closed by
March-June 2012. We are skeptical about whether SHRS will be able to locate a suitable
buyer for the stake because of weak global capital markets. Besides, valuations of Brazilian
sugar mills have fallen to 4.6-5X (Bloomberg estimates for Sao Martinho) one-year forward
EBITDA. We estimate RDB (March year ending) will post EBITDA of US$162 mn in FY2013
(implying US$22 per ton of cane crushed). At these valuation multiples there would be
negligible value attached to equity in RDB (debt as of September 2011 was ~US$800 mn)
and as such dilution would not make sense.
We expect profitability of the Brazilian business to remain weak until the next season begins
in April. Therefore, the possibility of lower leverage is bleak over the next 6-9 months.
Risk of government (Brazil) regulation on sugar exports
According to UNICA, ethanol production over April-November 2011 was down 17% yoy
(20.36 bn liters versus 24.7 bn liters a year earlier). Within that, production of hydrated and
anhydrous ethanol was down 28% yoy (12.5 bn liters versus 17.5 bn liters a year earlier) and
up 9% yoy (7.9 bn liters versus 7.2 bn liters), respectively. The decrease in production of
ethanol means the shortage would be much more than it was over January-March 2011, the
off season. Last year, the price of anhydrous ethanol spiked to Real2.5 a liter during the offseason
from Real1.5 a liter in January 2011. Similarly, hydrous ethanol prices increased to
Real1.6 a liter from Real1.2 a liter. The shortage of ethanol had led Brazil to import ethanol
from the US for the first time in the past three years and to speculation about government
controls to discourage sugar production and encourage ethanol production.
However, higher raw sugar prices led companies to allocate more cane to sugar production
(versus ethanol). As of November, almost 48% of cane was converted into sugar versus
45% a year earlier. Reducing ethanol production is contrary to the Brazilian government’s
objective of increasing its production to fuel a rapidly growing fleet of flex-fuel cars and for
blending with gasoline. Therefore, there is a risk that the government might make ethanol
production more remunerative by offering incentives. A measure that was discussed in
March 2011 was a tax on sugar exports. Any such measure to discourage sugar production
would be a clear negative especially since would be difficult for companies to pass on higher
costs due to a surplus production estimate of 8.2 mn tons (raw sugar) for 2011-12.
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