United Phosphorus Poised for a re‐rating!:: Prabhudas Lilladher,

! Concerns overdone, CMP factors in all negatives: United Phosphorus (UPL)
continues to trade at ~50% discount to peers due to investor concerns related to
piling up of debt, further deterioration in working capital, margin dilutive
acquisitions and decline in return ratios. However, we believe, concerns are
overdone and CMP factors in all negatives. We would like to highlight that
despite decline in return ratios from their peak, current RoE/RoA at 16.4%/6.1%
are significantly higher than the global generic players, Nufarm & Makhteshim‐
Agan (MAI).
! Working capital unlikely to deteriorate further: Despite increasing contribution
from Brazil which has longer credit cycles, we do not expect working capital to
deteriorate further. On the contrary, we have modelled for working capital
improvement of three days over the next two years to 143/142 in FY14E/FY15E.
We believe there is room for improvement in inventory/receivables across
multiple geographies as unfavourable weather conditions this year have
resulted in piling up of inventory and longer credit days. However, rebound in
these markets over the next two years would result in marginal improvement of
working capital.
! Earnings growth, combined with improvement in return ratios, to trigger re‐
rating: UPL’s higher exposure to emerging markets positions it well to deliver
sustainable revenue growth over the medium term. EBITDA margins are likely to
improve by 60bps over the next two years, driven by a turnaround in DVA
(expect DVA to contribute 20-30 bps of improvement), significant cost savings
initiatives and shift in product mix. We expect UPL to register 12.5%/14.1%
CAGR in Revenue/PAT over FY12-15E. RoE/ROCEs are likely to improve ~150bps
to 17.8%/12.6% from FY13E-FY15E. With sustainable earnings growth and
improvement in return ratios, stock is likely to get re-rated. We value UPL at 9x
FY14 earnings and recommend ‘BUY’ with target of Rs 170 (43% upside to CMP).

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Valuation & Recommendations
Earnings growth, combined with improvement in return ratios, to
trigger re‐rating
UPL, through its higher exposure to emerging markets, is comfortably placed to
deliver sustainable growth in revenues over the medium term. EBITDA margins are
likely to improve led by shift in product mix, rationalization of costs and turnaround
of DVA. We expect UPL to register 12.5%/14% CAGR in revenues/PAT over FY12-15E.
Balance sheet concerns related to pile-up of debt and higher working capital
requirements are likely to recede as UPL focuses its energies on integration, going
forward, rather than acquisition. Consequently, we expect RoE/ROCE to improve by
~150bps to 17.8%/12.6% from FY13E- FY15E. With sustainable earnings growth and
improvement in return ratios over the medium term, stock is likely to get re-rated.
UPL is trading at 50% discount to peers; expect valuation gap to
bridge; recommend ‘BUY ‘with target price of Rs170
UPL continues to trade at a significant discount to peers due to investor concerns
related to high debt position, further deterioration in working capital requirements,
turnaround in DVA and a decline in RoE/ROCEs. However, we believe, concerns are
overdone and current price factors in all the negatives. Despite decline in return
ratios from their peak, current return ratios are higher than global generic players.
Sustainable earnings growth, DVA turnaround and marginal improvement in working
capital over the next two years are likely to dispel investor concerns and re-rate the
stock.
At CMP of Rs119, UPL trades at 6.3x FY14 earnings which is a discount of ~50% to
industry average and 30% discount to its 3-year average. We recommend ‘BUY’ &
value UPL at 9x FY14 earnings of Rs19.1, resulting in target price of Rs170 (upside
potential of 43%).