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Yet another challenging quarter

UPL’s 2QFY24 EBITDA missed JMFe and consensus estimates by 30% and 36%, respectively. This weak earnings print clearly indicates the headwinds faced by generic agrochemicals players on account of significant weakness in realisation due to global destocking issues and tactical purchases and cost management rationalisation by distributors. Owing to these challenges, the management has cut its FY24 EBITDA growth guidance to 0 to negative 5% (from 3-7% earlier). We believe that even negative 5% growth might be difficult task given that would mean mid-teen kind of YoY growth in 2HFY24. Hence, our revised assumptions bake in negative 9% EBITDA growth for FY24. We had indicated in one of our reports (click here) that price normalisation of generic agrochemicals will only happen gradually. Hence, in our view, things are likely to improve only gradually over the next few quarters for generic players. Factoring in 2QFY24 results and commentary, we have lowered our FY24/25/26 EBITDA estimates by 12%/9%/4% and PAT estimates by 28%/15%/10%, baking in higher finance cost. We maintain BUY with a revised Dec’24 TP of INR 800 (vs. Sep’24 TP of INR 880 earlier) on account of value unlocking of the specialty chemicals business.

* EBITDA miss driven by sharp decline in sales: UPL’s 2QFY24 consolidated EBITDA came in significantly below (30%/34% below JMFe/consensus) at INR 13.2 bn (vs. JMFe/consensus of INR 18.8bn /INR 19.9bn) on account of contraction in revenue to INR 101.7bn (vs. JMFe of INR 108.9bn) due to channel destocking, and elevated price pressures. Moreover, liquidation of high-cost inventory, higher-than-usual sales returns and rebates to support channel partners impacted contribution margin. This led to severe contraction in EBITDA margins to 13% (vs. JMFe of 17% and 20% in 2QFY23). During the quarter, interest expense was higher at INR 8.7bn (vs. JMFe of INR 7.0bn).

* Growth impacted across regions with severe weakness in North America: UPL’s Latin America revenue was a respite, although still weak, to an otherwise weak performance showing by UPL and stood at INR 50.3bn (down 17%/ up 70% YoY/QoQ, 5% lower than JMFe), mainly on account of pricing pressure on key herbicides. North America revenue was 29% below JMFe at INR 5.1bn (down 57%/42% YoY/QoQ) due to a) channel inventory destocking, b) weakness in non-selective herbicides and c) tactical purchases and cost management rationalisation by distributors. Herbicides, particularly Glufosinate, S-Metolachlor, Clethodim and Metribuzin, accounted for ~75% of the regional decline due to lower volume. Europe revenue was 10% ahead of JMFe and stood at INR 12.6bn (down 7%/0% YoY/QoQ) due to channel inventory led challenges, lower volume especially in herbicides and products bans. India revenue was 15% below JMFe at INR 13.9bn (down 23%/32 YoY/QoQ) driven by a) lower acreages for key crops (cotton and pulses), b) shift from cotton in North India, c) exceptionally high sales returns due to elevated channel stocks and d) erratic monsoons in Aug and Sep

* Estimates lowered – maintain BUY: We have lowered our FY24 EBITDA/PAT estimates by ~12%/28% and FY25 EBITDA/PAT estimates by ~9%/15%. We maintain BUY with a revised Dec’24 TP of INR 800 (from Sep’24 TP of INR 880 earlier).

Key takeaways from post-results conference call

* Challenging 2Q as company faced multiple headwinds across geographies: UPL faced several headwinds in 2QFY24 due to i) decline in prices of post-patent products owing to aggressive price competition in almost every region b) significant decline in herbicide volume and c) product bans in Europe. This was further compounded by a) inventory destocking issues being a persistent issue especially in North America and b) higher than usual sales returns and rebates to support contribution margins. Volume growth was strong outside of Brazil in Latin America and in Asia (ex-India) and Africa. North America along with relatively weak volume growth also saw price decline across most AIs. The company also liquidated high cost inventory in the quarter, which led to EBITDA margin compression.

* India performance weak, Glufosinate to see pick-up: Cotton products suffered especially in North India on account of lower acreages. Pulses products also suffered in because of poor acreages as a result of drought like conditions in west India. Volume loss in Glufosinate was because of the entry of ~ 13/14 new players that have entered the market. While UPL has not cut prices yet the management believes that generic sellers will face competition as they have not been able to liquidate their stock even at their relatively low prices.

* 2H performance to be markedly better than the first half of the year: Overall demand, however, remains strong and the company hopes to arrest or reduce further price decline. 3QFY24 will be better than 2QFY24 primarily led by growth in revenue in every region except North America. Europe, which has been weak through the first half of FY24, will also see a recovery as generally purchase gets pushed to the second half in the region. Dry conditions in certain south Asian countries and Australia could be a potential damper on a sequentially better quarter. UPL’s 3QFY24 overall revenue, however, will still be weaker YoY as pricing pressure will continue to persist in Brazil. In North America, however, 3QFY24 revenue performance will be on the lines of 3QFY22 with negligible growth in 4QFY24 YoY.

* Full-year guidance cut even further, volume growth and price competition to help recovery…: Recovery in herbicide volume in Europe in 2HFY24 and mid CY24 inventory destocking inventory normalisation should help improve topline growth and EBITDA and contribution margin expansion later in FY25. FY24, however, will continue to be bleak with flat revenue growth and flat to negative 5% EBITDA growth YoY. To achieve the stated full year guidance the company will have to demonstrate roughly 18% topline growth and ~30% EBITDA growth in 2HFY24. The management did indicate that this would be possible as volume growth will continue in the second half especially in 4QFY24. EBITDA margin will be ~21% in the second half and this would be on the back of cost savings of ~USD 50mn and price changes of products from China.

* but margin resuscitation because of inventory normalisation will be key to better 2HFY24: As the liquidation of high-cost inventory slows down (with some spillover in 3QFY24) the new replacement inventory, which is at a significantly lower cost, will be pared down later in the quarter will aid margin resuscitation. Improved sales of the differentiated product portfolio, which has now risen to ~38% of the overall product portfolio will also aid in recovery in 2HFY24.

* Cost reduction plans on track, USD 100mn to be saved over 2 years: Fixed overheads are down 3% YoY as the company aims to cut cost amounting to ~USD 100mn in the next 2 years. The company has cut around ~USD 8mn-9mn up till now and aims to further cut cost amounting to USD 50mn for the full year.

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