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Company Background

Chambal Fertilisers & Chemicals Ltd (Chambal), promoted by Late K K Birla in 1985, now professionally managed under the Chairmanship of Mr Saroj Poddar, is India’s largest private sector Urea manufacturer. Its three hi-tech nitrogenous fertilizer plants are located at Gadepan, District Kota, Rajasthan, with an installed capacity of ~3.3 mtpa, sold under ‘Uttam Veer’ brand, primarily in North and West India. It also trades in complex fertilizers like DAP, MOP, NPK fertilizers, crop protection chemicals (insecticides, fungicides & herbicides), seeds, sulphur, micro-nutrients, complex fertilisers and city compost etc.

Investment Rationale

Topline to grow at a CAGR of ~5.6% over FY20-23E

* During Q3FY21, Chambal reported consolidated net sales at Rs 38.73 bn, registering a muted growth of 1.1% y-o-y on back of subdued Urea and MOP volumes at 0.92 mn MT and 0.08 mn MT. However, DAP volumes increased by 16% at 0.46 mn MT. The Company has initiated the process of geographic expansion and has plans in place to start operations in Maharashtra, Gujarat, Andhra Pradesh, Telangana and West Bengal.

* Chambal continues its focus on the non-Urea product segment, both in fertilizer and agri-products for its future growth. The management does not have any plans to undertake further capex in Urea space, barring improvement of energy consumption of old plants. Further, the management is evaluating plans to set up a complex fertiliser manufacturing unit in Morocco, where it already has a JV for manufacturing phosphoric acid - the key raw material for complex fertilisers.

* With prediction of favourable monsoon in CY21, we expect the momentum in fertilizer demand and higher off-take in upcoming Kharif season to continue in FY22E as well.

* Going forward, we expect consolidated revenue growth of ~5.6% during FY20-FY23E, backed by continued robust growth in non-Urea products and optimum utilization of Urea plants during FY22E and FY23E. Management’s continued focus on traded DAP, other complex fertilizers, micronutrients and crop protection products is expected to generate CAGR growth of 20% in trading business during FY20-23E. Repayment of outstanding subsidy to result in lower debt and interest expense:

* The huge outstanding subsidy has always remained a cause of worry for the fertilizer industry. Recently, GoI has made an additional allocation of Rs 626 bn for fertilizer subsidy in revised Budget Estimates in order to clear the subsidy backlog. This was in addition to the original subsidy of Rs 713 bn announced in Union Budget 2020. Further, the fertilizer subsidy allocation in the Union Budget 2021 (Rs 795 bn) is also likely to be adequate to meet the fertilizer subsidy outgo during FY22.

* The outstanding subsidy of Chambal as on December 31, 2020 was at Rs 58.25 bn, out of which the Company has received Rs 31.65 bn in January 2021. Management remains confident that balance subsidy backlog will be released before March 31, 2021, resulting in negligible short term debt and lower interest outgo. This will result in better profitability and return ratios. We expect the debt-equity ratio to reduce significantly from 2.7x in FY20 to 0.9x by the end of FY21. Margins expected to remain stable:

* EBIDTA margins during Q3FY21, increased by 280 bps y-o-y to 20.6%, on the back of reduction in pooled gas prices which is total pass through and improved margin from non-Urea products.

* PAT margins during the quarter remained flat at 12.2% due to significant increase in tax expenses and negative other income at Rs 112 mn, while interest expense decreased by ~52% at Rs 525.1 mn on the back of reduction in interest rate to 4%.

* With expected increase in pooled gas prices backed by higher Brent crude prices and rise in the contribution of low margin trading business vis-a-vis Urea business, we expect EBIDTA margins to decline in the vicinity of 17.7% by FY23E. Going forward we expect Urea plants to operate at optimum capacity utilization and expect improvement in the margins of trading business.

VALUATION

* Chambal is India’s largest private Urea manufacturer with a robust distribution network and has set-up a new Urea plant to bridge structural demand supply gap. It is wellplaced to reap the benefits of reforms such as amendment in Modified NPS-III, DBT of fertilizer subsidy and possible steps towards removing price regulations on Urea in the long term. Further, clearance of older outstanding subsidy augurs well.

* We have valued the stock at a P/E of 10x of FY23E EPS of Rs 37.2, improving it from 7x in the previous quarter on the back of significant sustainable improvement in working capital debt, resulting in lean balance sheet and lower interest outflow, GoI’s addressing a key industry pain point by timely release of subsidies. We maintain BUY on the stock with a target price of Rs 372 (~61% upside) in 18 months.

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