Grasim Industries (CMP Rs2,282, Buy) : Motilal Oswal

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Grasim Industries (GRASIM IN; Mkt Cap USD4.7b, CMP Rs2,282, Buy)

Grasim 2QFY11: Below estimates as higher cost push in VSF impacts margins; 6% EPS downgrade; maintain Buy

Grasim's 2QFY11 standalone results are below estimates, impacted by severe cost push in VSF business, with EBITDA margin of 28.3% (vs est 32.8%) and PAT of Rs2.8b (vs est Rs3.13b). Results are not comparable YoY due to divestment of cement business. Key highlights:

-     VSF volumes declined 9% YoY to 67,488 tons (vs est 79,000 units) severely impacted by 25 days shutdown. Realizations were in-line at Rs116.5/kg (+10.7% YoY, -1% QoQ).

-     On like-to-like basis, net revenues were flat YoY and QoQ at Rs9.3b. EBITDA margin at 28.3% was lower 530bp YoY (~360bp QoQ) impacted by ~52% YoY increase in pulp prices.

-     Expect VSF margins to improve in 2HFY11 due to price increase of Rs3/Kg from 1 Oct and stable pulp prices (at higher level).

-     Capacity expansion in VSF has been revised upwards from 80,000 tons to 156,500 tons with total capex of Rs29.1b, a 47% increase in capacity by FY13.

Valuation and view: We have downgraded consolidated EPS for FY11 by 6.2% to Rs234.3 and FY12 by 6.1% to Rs258.3, to factor in downgrade in UltraTech's EPS. The stock is quoting at very attractive valuations of 8.8x FY12E consolidated EPS, 4.4x EV/EBITDA and 1.3x P/BV. Implied valuation of cement business is 4x EV/EBITDA and US$60/ton. Maintain Buy with target price of Rs2,817 (SOTP based, valuing economic interest in cement business at US$96/ton post 20% hold-co discount and VSF at 4x EV/EBITDA).