GNFC Ltd - PSU with large Industrial Chemical Business

Updated: Jun 9


Company Name – Gujarat Narmada Valley Fertilizers & Chemicals Limited (GNFC)


Current Share Price – INR 679 (June 1, 2022)


Market Cap – INR 10,558 cr


 

1. What is interesting about the stock?


As the great economist Thomas Malthus said in his theory of population, the population is going to increase exponentially while the food supply would increase at a linear rate. This makes it clear that there would be enough demand for food in the future.

Source: Wikipedia


Now the question for the sake of investment is whether I need to buy a piece of land and start farming? The answer at the first glance is: It’s a great idea!! But practically it's not that simple. The laws related to land are complex, even if you get land for farming, the business is also dependent on many external factors for the final output. Then how can we invest in the Agricultural sector?


Just like how investors can get exposure to the auto sector indirectly through auto ancillaries, it is also prudent to invest in the Agricultural sector through companies that are a critical part of this sector. And one of them is the Fertilizer industry.


As time will pass, due to the increase in the population and the increase in demand for food supplies, the demand for chemical fertilizers is only going to increase.


And as awareness increases among people about healthy and organic food, it is equally important to diversify into organic fertilizers too. Now, where do I invest in such a diversified business?


GNFC is one such company.


GNFC is a joint sector enterprise promoted by the Government of Gujarat and the Gujarat State Fertilizers & Chemicals Limited (GSFC). At the time of inception, it started manufacturing and marketing operations of the world’s largest single-stream ammonia-urea fertilizer complexes. Today, the Company has a large presence in fertilizers & industry chemicals and as well as the IT sector.


The key product and services offered by the Company are:

  • Industrial chemical such as Acetic Acid, Nitric acid, Methanol, and formic acid. Methanol is used in chemicals, resins, etc., and Formic Acid is used mainly in rubber, textiles, tanneries, and pharmaceuticals industries. Apart from this, both Methanol and Formic Acid are regularly being exported to international markets too.

  • Manufacturing and selling fertilizers such as Urea and Nitrophosphate, under the brand NARMADA. The company also has the largest Ammonia Plant and a Urea plant in India.

  • Manufacturing and marketing Neem De-Oiled Cakes and Narmada Neem Pesticides.

  • Trading of DAP, MOP, SSP, Ammonium Sulphate, and City Compost.

The chemical segment is the biggest earner for GNFC with 70% of FY22 revenues coming from the segment, while fertilizers accounted for 29% of revenues. The revenue split in FY21 was at 64:36.


The chemical segment is also the major profit earner for the company with a 36% EBIT margin in FY22, while fertilizers yielded an EBIT margin of less than 1% in the year.


Gujarat is the biggest market for the company accounting for nearly 65% of revenues.


When it comes to fertilizers the Direct Benefit Transfer (DBT) scheme has been a gamechanger. DBT for fertilizers was implemented throughout the country in March 2018. Below is the way how the benefits of DBT are passed on to the consumers. This enables fertilizer companies like GNFC to directly get the subsidy from the Govt of India and provide their products to the customers at a subsidized price.


Source: Annual report


Industry Overview


Chemical Segment:


India stands 6th in the world and 4th in Asia, accounting for almost 2.5% of the world’s global chemical sales.

The Indian Chemical industry was worth USD 178 billion in FY20 and is expected to reach around USD 300 billion by FY25. The global chemical industry itself is estimated to be worth USD 4.2 trillion and China’s chemical industry accounts for more than one-third of it.


India ranks 6th in imports and 9th in exports of global chemicals and chemical products (except pharmaceuticals). Petrochemical and related products account for a major part of imports and Specialty Chemicals account for a major share of exports. India’s proximity to the Middle East and easy access to major sea routes gives it an important strategic advantage. A part of the Indian chemical industry is already benefiting from the ‘CHINA+1’ trend and with the right strategy, policy, and business practices-especially regarding safety and environmental compliance, It has much more potential to expand and grow.


Fertilizer Segment:


The size of the Fertilizer Industry was around 66 million metric tons for FY 21.

Other than this, there are India specific factors that are expected to drive the Agri sector like

  • Rising mechanization

  • Rising use of crop protection

  • Policy measures like easy credit, etc.

  • Infra push to provide irrigation to everyone

Around 25-30% of domestic fertilizer demand is met by imports highlighting a good import substitution opportunity for domestic fertilizer makers.


The major listed competitors of GNFC in the Industrial chemicals space in India are:

  • Deepak Fertilizers

  • Tata Chemicals

  • Laxmi Organics

The major listed competitors of GNFC in the fertilizer &urea space in India are:

  • Coromandel International

  • Chambal Fertilizers & Chemicals

  • Fertilizers & Chemicals Travancore

  • Gujarat State Fertilizers & Chemicals

Key MOATs

  • High market share across various chemical products and its positioning as the sole or largest producer of bulk chemicals like TDI, aniline, and acetic acid in India. This provides the company with much-needed diversification away from the fertilizer industry and cements its position as a key provider of industrial chemicals in India.

  • GNFC possesses the largest ammonia and urea plant in India. This provides the company with a significant scale advantage in the urea and ammonia-based fertilizer segment in India.

  • The company’s focus on developing the neem organic segment shows how it stands ready to incorporate the evolving trends in the agricultural market, which is unique for a PSU.

2. Key Historical Financials

The Company saw its sales growth CAGR for the last 10 years at over 8%. It has also seen a PAT CAGR of 20% in the same period.


Revenue CAGR in the past 5 years was 14% due to increasing demand and geopolitical advantages in India. PAT CAGR in the same period was at 42% showcasing a good rise in operational efficiency for the Company in the period.


The operational revenue in FY22 is the highest since the inception of the Company and it is a 46% improvement over its previous peak revenue which was recorded in FY18. Similarly, the PBT at INR 2,298 cr is also the highest and showcased a 98% improvement over its previous high PBT for FY18.


Revenues for the company have risen in FY21 and FY22 mainly due to a continuous rise in chemical revenues for GNFC. The margins for the company have also improved in the same period mainly due to the reduction of import competition for key chemicals as COVID-related supply chain disruptions and the imposition of import duties in 2020 and 2021 for many key chemicals like TDI, ammonium nitrate, and aniline hit imports.

The major reason for EBITDA margin expansion is the healthy growth in chemical segment revenues, which had risen 83% YoY in FY22. The higher EBITDA margin has led to strong growth at the net profit level too.


Cash flow convertibility (CFO/EBITDA) has been quite healthy in FY21 and FY22. The company has a cash balance of ~ INR 2,500 cr as of March 31, 2022.


3. What is my view on Company valuation?


GNFC’s share price has almost doubled in the last 5 years. Nifty 50 has risen 67% in the same period. This shows that the company has outperformed the general market.


The company trades at an EV/EBITDA (TTM) of 3.6x vs 7.5x for Deepak Fertilizers, 10.7x for Tata Chemicals, 11.7x for Coromandel, and 7.1x for Chambal, 11.6x for FACT & 4.3x for GSFC. The company trades at a P/E (TTM) of 6x vs 12x for Deepak Fertilizers, 19x for Tata Chemicals, 18x for Coromandel, and 10x for Chambal, 19x for FACT & 8x for GSFC.


The PSU tag for GNFC and the fact that most of its revenues come from bulk chemicals seems to be the major factor behind the undervaluation vs other chemical rivals like Deepak Fertilizers and Tata Chemicals.


Based on the expected future growth of the bulk chemical & fertilizer industries, & GNFC’s strong market position in its operating segments, I expect the company to have a steady growth momentum going forward and stay around the 3-year sales CAGR of 10-15% revenue CAGR for the next few years. However, the current level of ROCE/ROE at 33%/22% in FY22 may not be sustainable leading to lower growth at the Net Profit level.


On an overall basis, the Company looks interesting and investors should evaluate the opportunity for long-term investment.


4. What are the risks to the investment analysis?


The major risks here are:

  • Fall in the realization in the bulk chemicals business could lead to significant hit on the profitability of the Company

  • The fertilizer business is heavily dependent on the agricultural sector. This means it is also easily vulnerable to cyclical climatic conditions. Global warming and climate change that is showing their impact on the seasonal changes may impact the business adversely. The Company has a big geographical concentration risk with 65% of its revenues coming from the state of Gujarat.

  • The fertilizer industry is regulated in India. Currently, the policies are favorable for the companies because of the subsidies provided, but any change in policies may directly impact the business and operations.

 

About the Author


I have over 6 years of experience in the Investment sector and have been an active prop trader in European Bond Futures in the past. Currently, I am working as head of Research at Smart Sync Services where we are working on simplifying and expanding financial and investment knowledge to make the investment world as accessible for everyday investors as much as possible.


I graduated from the Master of Finance Program at Cambridge University in 2016 after completing my Bachelor of Engineering program at Jadavpur University, Kolkata in 2011.


I am an insignificant public investor & have an avid interest in following emerging trends both in technology and other fast-evolving sectors. I am also a lifelong learner and relish the chance to learn something new all the time.


Disclosure


I have no stock, option, or similar derivative position in any of the companies mentioned in the last 30 days, and shall not initiate any such positions within the next 5 days. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from SocInvest). I have no business relationship with any company whose stock is mentioned in this article.


I am not a SEBI registered advisor. This article is purely for educational purposes and not to be construed as investment advice. Please consult your financial advisor before acting on it.


I have used publicly available information while writing this article.

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