Astral polytechnik ltd


(Hitesh Patel) #1

ASTRAL POLYTECHNIK

One of the famous quotes of Buffet is âLeaving the question of price aside, the best business to own is one that over an extended period can employ large amounts of incremental capital at very high rates of returnâ

As can be seen from the capex done over the years by Astral along with the high rates of return, Astral Poly looks like a company worth looking into.

Cmp 125 , market cap 274 crores.

Astral Polytechnik is a focussed player in the space of PVC and CPVC pipes and fittings among other plumbing products with excellent pan India reach and strong management. The company has a wide range of brands like CORZAN (industrial pipe fittings) , FLOWGUARD (pipes and fittings), BLAZEMASTER (fire sprinkler systems), FOAMCORE (underground systems) , ULTRADRAIN (conventional system) , AQUARIUS (outer loop lines), AQUATEK(high impact ABS plumbing system) , ASTRAL UNDERGROUND, DWV (drain,waste and vent), BENDABLE (composite pipe), AQUASAFE etc and has over 60% market share in India.

Over the years the company has kept expanding the capacities in line with increased demand from 4000 MT in 2004 to 30867 MT in FY 10 and currently in Jan 2011 the capacity stands increased to 35000 MT. All this has been done without any stretching of the balance sheet or dilution of equity. The capacity is expected to reach around 60000 MT by FY 12.

CAPACITY AND UTILISATION


YEAR

06

07

08

09

10

9m FY 11

CAPACITY

4000

9074

11800

25968

30867

UTILISATION

2417

5090

6895

11164

19411

18328

Cash used in investing

7

11.52

26

40

18

FINANCIAL RESULTS FOR LAST FIVE YEARS


YEAR

06

07

08

09

10

9MFY11

9MFY10

SALES

56

101

144

205

304

269

187

PBIDT

7.9

14

24

35

44

26.7

22.15

NP

4

9

17

14.6

28

20.6

16.3

LOAN

17.8

24

32

39

40

ROACE*

24.51

18.6

22.44

26.09

25.5

*DENOTES PBIT/AVG CAPITAL EMPLOYED

9M SALES AT 269 CRORES AND NET PROFITS AT 20.6 CRORES. EPS FOR 9M FY 11 IS 9.15.

OUTSTANDING SHARES 2.24 CRORES.


HIGHLIGHTS AT END OF Q3 FY 11


Astral Poly Technik Ltd., leaders in manufacturing ofCPVC pipes & fittingsannounced the financial results for the Quarter ended on 31st December , 2010.

Overview of Q3 FY 2010 v/s Q3 FY 2009

â Companyâs sales from operations has increased by 45%, to Rs.98.49 Crore for the FY 2010 (Q-3) as against Rs. 67.81 Crore in FY 2009 (Q-3).
â PBT has increased by 32% to Rs. 9.94 Crore for FY 2010 (Q-3) as against Rs. 7.55 Crore in FY 2009 (Q-3).
â Cash Profit has increased by 32% to Rs. 11.14 Crore for FY 2010 (Q-3) as against Rs. 8.47 Crore in FY 2009 (Q-3).
â Profit After Tax (PAT) has increased by 34% to Rs. 8.38 Crore for FY 2010 (Q-3) as against Rs. 6.27 Crore in FY 2009 (Q-3).
â The Company has delivered an Earning Per Share (EPS) of Rs. 3.73 for the current quarter (On Rs.5 Paid up Shares).

As usual, the company has been able to maintain its growth momentum and delivered a topline growth of 45% during the quarter. However, the EBITA margin has dropped compared to Q-2 quarter which was mainly because of reduction of PVC-Resin price during the last quarter. The drop in PVC price during the last quarter was appx. 7% to 8%. During the quarter other income has increased substantially mainly because of writing back of provision of earlier year and income on investments. However, on a consolidated basis the overall profitability has increased by 34% from Rs. 6.27 Crores to 8.38 Crores. Since long, the company has been able to maintain its 40% + CAGR growth and during the current quarter also company has been able to maintain 45% topline growth. The last Quarter is always bullish in our industry and the company is quite confident that company will do better (Q-4).

The new products launched by company such as SWR/ FOAMCORE/ MANHOLE etc are getting very good response in the market besides the existing products.

During the quarter, the company has utilized its capacity to the tune of 6,856 MT, Further the capacity utilization during the first nine months of the last year was 13,160 MT against that current year first nine months is 18,328 MT which shows a growth of 39%. During the last quarter company has utilized its capacity to the tune of 89% (Total Capacity as on closing of Q-3 was 30,867 MT). However, the company has already increased its capacity to the tune of 4,500 MT in the month of January and few machines are in pipeline which will be installed in the month of February to make the total capacity Appx. 45,000 MT.

During the quarter rupee was comparatively stable and moving on an average between Rs. 44.40 to Rs. 45.40 hence the company was able to gain Rs. 0.36 Crores in foreign exchange. However on Liabilities paid during the quarter company has incurred a loss of Rs. 0.90 Crores and on unpaid liabilities company has gained Rs. 1.26 Crores. Hence the net effect is Rs. 0.36 Crores during the quarter.

Kenya joint venture company will start production from January.

POSITIVES:


THE COMPANY HAS EXCLUSIVE ARRANGEMENT TO SOURCE ITS RAW MATERIALS FROM LUBRIZOL US. LUBRIZOL IS UNLIKELY TO PROVIDE SUCH ARRANGEMENT TO TOO MANY OTHER PLAYERS IN INDIA. THIS PROVIDES A SORT OF ENTRY BARRIER FOR THE COMPANY.

THE COMPANY KEEPS ON LAUNCHING NEW PRODUCTS E.G IN Q1 FY 11 IT LAUNCHED MANHOLES/INSPECTION CHAMBERS AND IS LIKELY TO LAUNCH CPVC BASED FIRE SPRINKLER SYSTEMSâFIRST OF ITS KIND IN INDIA.

CONSISTENT GROWTH OVER THE YEARS SHOWN BY THE COMPANY AIDED BY REGULAR AND TIMELY CAPACITY EXPANSIONS

EXCELLENT BALANCE SHEET INSPITE OF REGULAR CAPACITY EXPANSIONS.

EXPORTS TO NEIGHBOURING COUNTRIES LIKE SRILANKA, BANGLADESH, AND NEPAL COULD BE GROWTH DRIVERS. KENYA PLANT EXPECTED TO BE OPERATIONAL SHORTLY WILL ALSO AID GROWTH.

VERY GOOD RETURN RATIOS WITH ROE IN EXCESS OF 20 OVER THE YEARS


NEGATIVES:


RAW MATERIAL PRICE LINKED TO CRUDE DERIVATIVES AND HENCE PROFITABILITY MIGHT BE AFFECTED DUE TO SHARP SPIKE IN CRUDE PRICES.

SINCE IT SOURCES A MAJOR PART OF ITS RAW MATERIALS FROM OVERSEAS, IT IS EXPOSED TO CURRENCY FLUCTUATIONS.

OVERALL THIS LOOKS LIKE A BUFFETT LIKE COMPANY WHICH USES INCREASING AMOUNTS OF CAPITAL TO EXPAND CAPACITY AND GENERATES HIGHER RETURNS ON THE EQUITY.


(Ayush Mittal) #2

Real Estate/Construction sectoris a huge area in India and the potential going forward is enormous. Plumbing and clean water transportation is a very important area and crucial part of a construction project. Repairing of plumbing work is a very troublesome and costly affair and hence one wonat compromise on this front.

The plumbing industry in India is undergoing a smart change. Earlier, GI Pipes used to dominate the market but now PVC and CPVC pipes are fast replacing the GI Pipes. CPVC resin is most hygienic compound for water transportation and is resistant to corrosion. Hence as awareness and quality consciousness is increasing, more and more people are adopting CPVC pipes for plumbing needs.

Lubrizol (earlier B F Goodrich a Fortune 500 Company, USA) has been a leader in development of CPVC and they hold the patent for the same.Astral Poly is the first licensee of Lubrizol of USA and have a techno-financial joint venture with Specialty Process LLC of USA.Company has done really well over the last 5 years and hasgrown at a CAGR of almost 50%.The company has afirst mover advantage in Indiaand the competition might remain limited.

Snapshot of their performance:

Astral

For FY 2011, the gross sales should cross 400 Cr mark and the capacity should increase to 45,000 MT (was expected to come up by Dec 2010 end).

Future growth prospects:

Looking at the product potential, the market potential seems big enough for this company and hence one may expect growth rates in the range of 20-25%+ for next few years. Also, the company has been aggressive to keep introducing new products and take them PAN India. During this year company would be introducing Blazemaster Fire Sprinkler System and Manhole Inspection Chambers.

Valuations at CMP of 122:

  • For 2011, company is expected to do a turnover of 380 Cr vs 300 Cr last year.
  • Stock is trading at about 9 times expected FY 2011 earnings.

Looking at the growth prospects itseems to be a very interesting long-term investment. Please share your views.

http://dalal-street.in/astral-poly-technik-ltd-bse532830/


(Abhishek Basumallick) #3

How is CPVC pipes different from the other plastic/PVC pipes used today? I am asking from the only licensee standpoint.


(Hitesh Patel) #4

CPVC pipes are able to withstand extremes of temperature better especially hot temperature in the Indian context. Only PVC pipes often fail when temperature of water flowing through them is very high as in case of water coming from geysers/solar heaters.

About license for manufacturing Astral has got the license and technology from its overseas partner for the same. Raw material sourcing is from Lubrizol which gives Astral an edge over the local players.


(Vivek Gautam) #5

The co is founded by a competent Gujarati technocrat Mr Engineer. HDFC sec had recommended it strongly sometime back after its IPO @115.

Has the share now split to Rs 5 value?

There is some competition also in this segemnt.Any views on that & what are the implication of crude touching USD 120?


(Donald Francis) #6

Hi Guys,

Astral Polytechnik deserves much more attention from us.

On the face of it, this looks like another exclusive-distribution-rights story, with constant product introductions (sourced from the Lubrizol tie-up), in a growth sector.

a) Starting in 1999, and reaching 380-400 Cr Sales in 12 years is a massive record. Sales CAGR of 40% plus from last 7 years

b) Recent Financial performance is keeping pace with this

c) Expanded capacity from 30000 (FY10) already to 45000 in FY11

d) Blazemaster (lubrozol’s leading Fire-Sprinkler brand) when introduced in FY12 is anticipated to lead to huge growth in volumes as these are becoming compulsory forany multistoried buildings, Hospitals Hotel, Malls, Airports etc. It has UL approval and awaiting BIS approval for launch. Fire sprinkler systems will require many more pipes & fittings than conventional

e) Strong balance sheet. D/e at 0.3 or so. Growth can be funded through strong cash flows and leveraging the BS

Astral Polylinks deserves a stock story:) Am collecting all kinds of available info.

Require help in digging for more info on the company.

Rgds

Donald


(TCX) #7
[quote="hitesh2710, post:1, topic:252182030"] new products launched getting very good the capacity utilization [/quote]

After the company's December quarter results, Capital Market spoke with Hiranand Savlani, Chief Financial Officer, Astral Poly Technik. Highlights of the discussion:-

  • What % of our total sales would be from commercial segment and what would be from residential segment? How is the demand from commercial segment for CPVC pipes? Has the revival started?

It is very difficult for us to give exact figures as our sales are through our Distributor and not to the end customers. Having said that it would be our rough estimate that it would be 65 to70% on housing and balance on commercial side. Demand is picking up slowly but it will take some time to pick up substantially, Our company does not see any demand concern because Astral products are getting day by day very good acceptability in market, and we are regularly introducing new product range in market and because of that we are able to sustain growth of 40% CAGR since last 6 years.

  • What % of total sales would be from replacement market and from new markets? How much of our total sales are from urban areas, rural areas or if you can categories into from Tier 1, 2 and 3 cities. Which are the growth drivers so far in FY'10 and will be for FY'11.

As explained above it is not possible for us to give these statistics as we are billing to our distributors and not to end customer. But we can say that so far till last year demand was more on Metro's and Tier 1 cities but this year we can see a very good pickup in demand from Tier 2 and Tier 3 cities also. The products and brand getting acceptability day by day even in Tier 2 and Tier 3 cities is helping in the sales. Further with the introduction of new products range we will become a Single Window shop for all the building community.

Replacement market played very important role in the year 2008-09 and in 2009-10. It is gaining further momentum, and in times to come i.e. year 2011 onward we will be focusing more on that side, besides our very strong network on project side demand ..

  • With steel prices coming down, how does CPVC pipes cost compare with GI pipes?

We are still cheaper by 20 to 25% compared to GI pipes. CPVC is having very good advantages as far as properties over metallic pipes such as Corrosion, Scaling & Rusting is concerned. Due to these properties, the life of the metallic pipes is very low compared to CPVC pipes which gives the advantage to us and people are slowly moving from GI to CPVC products.

We have today more than 11 products under brand name of Astral, applications in various segments of residential and commercial markets. Kindly share with us the

so far uptil Dec'09, and planned products for the rest of the year and for FY'11. Which product or products were the main growth drivers and why? Or if you can share the product wise growth would help. For FY'11 which will be the leading growth drivers.

We have already launched 10 products out of 11 products in India. We are planning to launch the 11thProduct i.e. Blaze Master - Fire Sprinkler System in the next Quarter.

We are getting a very good response in our new products as well. Our recently launched SWR range is receiving very good response in the markets where we have introduced the product, but we still have to spread across the country. We have launched this product in only a few states and we are targeting to launch on a pan India basis in another couple of quarters.

Similarly our Foam Core pipe is also receiving a very good response in market but the real fruit would be seen only in the next year when we will introduce this product on pan India basis. Till today we have given only in selected areas.

Our regular products CPVC and Lead Free PVC are getting more and more acceptability and we can see a very good demand in coming years.

Further some value added products are being introduced in market shortly like Under Ground Chambers and Valves.

  • Do you have any tie-ups with any real estate players/residential/commercial builders for selling the pipes? Will we continue to follow the business model of distribution/dealers or any other plans?

We don't want to change our business model. We continue to work on Distribution Network. However we are planning to increase the said network on an ongoing basis which will give further strength to our brand. It may also be mentioned that our marketing team does undertake projects where we supply our material for projects but they are all executed and billed through local distributors.

  • How has the demand for CPVC pipes from infrastructure segments like hospitals, hotels, airports etc? Kindly update the major/recent contracts done or undergoing in these areas.
Demand from infrastructure segment is increasing day by day. We are also

orders from Hospital and Hotel Industries. Some of the recent Hotels and Hospitals done by us are :

Hospitals :

Kohinoor Hospital - Kurla

Saifee Hospital - Charni Road

Max Hospital - Delhi

Medi Citi- Gurgaon

Hotel :

Hotel Trident - BKC

Hotel Renaissance - Powai

Hotel Radisson - Amritsar

Appolo Hospital - Banglore

Colimbia Hospital -Banglore

Hotel Novatel Electronic City Banglore

Hoysela Hotel- Banglore

MAC Hotel - Banglore

Hotel Welcome Group -Banjara Hill - Hydrabad.

Airport :

Delhi International Airport

Kindly update us on Blazemaster product. Its application, capacity and date of commercialization. Has the company achieved all the clearances and certificates required for its operational? What can be the margins for this product?

Blazemaster is the brand of Lubrizol and we are the licensee of Lubrizol. It's basically a Fire Sprinkler System which is these day's becoming compulsory for any multistoried buildings, Hospitals Hotel, Malls, Airports etc. The market for Blazemaster is very big. We have our internal estimate that it could be in the range ofRs.600 to 700 crores.

We have already received an approval from UL (Underwriting Laboratory- USA) and we have given the pipes for approval in India and waiting for BIS approval. As soon as we will receive the approvals we will be in a position to commercially launch the product.

Regarding Margin naturally Astral is having exclusivity in this product and it being a world class product the margins will be much higher than the normal CPVC products.

The margins for nine months stood at 15.1%. Was there any pressure on margins due to raw material prices? Was any additional marketing or selling expenditure incurred during the period? What will be sustainable margins going forward?

If you have seen our past results you will see that we are working on 14% to 16% EBITA Margins and quarter on quarter there may be a 1% here or there variation but by and large we are maintaining the same. The company will be operating on 80% plus capacity in coming quarter, the advantage of economy of Scale will be available to us and further rupee is also on appreciating trend that will always help us to maintain our operating margin. So we will be in a position to maintain our 15% EBITA margin. Further next year BLAZEMASTER, Underground Chambers and valves will be added in our portfolio which will support our operating margin if not further improve.

  • The interest cost for nine months was flat on y.o.y basis. What is the current debt in the books of accounts and the working capital requirements? Will the company need further loans for expansions?

The current Long Term Debt is close to about 37 Cr. And the Short Term Debt will be approx. 33 Cr. Further the borrowing of the company is at very cheap rates due to better grading assigned by CRISIL. This helps the company in a big way.

Company will require some working capital as the business expands and if we go for any expansion we will be requiring some amount of Long Term Debt also but at the same time we would like to add that Debt Equity Ratio of the company is very comfortable 0.30 : 1 so raising debt is not an issue for the company. On the other hand Cash Profit of the company is very strong (First Nine Months Rs.-22.60 Crs.) so any kind of expansion, company can take care from Internal Accruals & little debt.

  • The depreciation for the nine months has jumped by 47% toRs.6.30 crore. How much of capex have been incurred till date and what is the current installed and operational capacity of pipes. What it will be for the year-end FY'10 and FY'11
Depreciation has jumped mainly because the company has increased the capacity from 11800 MT p.a. last year to 25968 MT p.a. . Company had spend last year (2008-09)Rs.32.50 Cr. in capex and we are further increasing our capacity to 30000 MT by March-10 and current year Capex will be close to about 15 Cr. In Last Quarter Company produced 5627 MT on 25968 hence work out to be 86%. First Nine months company has produced 13219 MT and by year end it will be close to about appx. 20000 MT.
  • The company had forex gain ofRs.0.36 crore as against loss ofRs.3.08 crore in nine months ended Dec'09. At net level the company is importer. What is the hedge strategy that the company follows? Uptil how much so far the company has covered its forex exposure and at what rate?

As far as hedging is concerned company has fully hedged the long term loan i.e. Term Loan on the day it is availed from the bank. So company does not have any risk but company is taking advantage of interest arbitrage which is close to 3 to 4%.

Regarding hedging of Imports we normally hedge the near term as the rupee trend is on appreciation so we are not covering our long positions in import.

  • How much was the export sales during the nine months period and which countries do we export to. Kindly share with us the latest update on JV in Kenya and our stake. Has the commercial set up for manufacturing the pipes started?

In First Nine Months we have done export to the tune of Approx.Rs.4 Cr plus, but from next year onwards it will increase as our Kenya Plant will be in operation. We have already placed the orders for machineries and we will start commercial production by April End.

We at present export to Bangladesh , Kenya and Nepal.

  • Uptil what time the company continues to remain under MAT?

We will be in MAT for another couple of years and then depend on expansion plan .

  • Sales and margins target for FY'10 and FY'11

Since the Raw Material prices are fluctuating it is difficult to put a specific figures for value growth but we can say that on a volume growth we will do 50% Plus growth in FY-10 & FY-11

Is there any plans to dilute the equity? Or any fund raising plans or M&A plans ?

As explained company is having debt equity ratio of 0.30: 1 This gives us enough leverage to raise the funds. Further Debt is available to the company at very reasonable pricing so company will prefer to go for any kind of capex with debt and internal accrual so that we can give the highest advantage to our existing shareholders .

Hence the question of raising further funds through QIP or Public Issue does not arise.

During the first Nine months itself company has made a Cash Profit ofRs.22.60 crore . Hence the capex plan ofRs.20 Cr for FY11 will not require any kind of QIP issue.

However if company can see any good opportunity for M&A or plan to increase the Capacity by a sizeable number, then the company may plan for QIP or Public Issue or any other form of raising resources.

Capital Market / 15:17 , Feb 01, 2010

Demand for CPVC pipes and fittings is picking up


(Arindam) #8

Thanks tcx. Very useful stuff!

I was inspired to start digging for more. Some broker reports I found

1). CRISIL report at NSE

2). ANAGRAM report at MyIris

3). ANAGRAM Initial coverage at Anagram

4). Astral DRAFT Prospectusat SEBI

This should get us all going. Donald -when can we have the updated stock story??


(Donald Francis) #9

Yes boss! you should have it by tomorrow, and we can refine further.

Thanks tcx and Arindam for the digging!

Cheers

Donald

[

1). CRISIL report at NSE Link: http://www.nseindia.com/content/corporate/eq_ASTRAL_base.pdf

2). ANAGRAM report at MyIris Link: http://breport.myiris.com/ASBL/ASTPOLTE_20101103.pdf

3). ANAGRAM

Anagram Link: http://www.anagram.co.in/anagram/docs/files/Anagram%20Research%20Reoprt%20-%20Astral%20polytechnik.pdf 4. Astral DRAFT Prospectus Link: http://www.sebi.gov.in/dp/astraldraft.pdf at

](http://www.anagram.co.in/anagram/docs/files/Anagram%20Research%20Reoprt%20-%20Astral%20polytechnik.pdf)


(Manish Vachhani) #10

Astraal is definitely a great find by Hitesh(like Mayur Uniquoters & VST Tillers). Consistent growth, improving margins, increasing capacities in line with (or ahead of)the demand, introduction of new product range on regular basis, high ROE/ROCE, comparatively low debt(for the company expanding capacities at regular interval) makes it very attractive. The only negative in the near future could be the Forex fluctuations(rupee appreciation against dollar) which could hamper the margins by 50 to 75 bps if they are not able to pass on the same to the customers.

I already own Astraal and would add more on any declines.

Manish Vachhani


(Donald Francis) #11

Astral Poly Technik stock story updated! Phew!

This took much longer than expected:) Thanks to the huge material dug up an put up at short notice at my disposal - tcx and arindam mainly and some from ayush & hitesh.

I think most of the notable points are covered. Alert me if I have missed covering something.

Will need to be refined some more tomorrow, but what a stock! Make your call.

-Donald


(Donald Francis) #12

Every little detail added seems to buttress the argument that Astral is a good stock to own for the next 5 years.

To avert the very real danger of getting biased and ignoring possible vulnerabilities in the business, let’s turn deliberately towards identifying RISKS - what can go wrong.

For example I didn’t like trends thrown up by recent Q3 results. Taking out Other income (which we always should) Operating margin is down actually to 11%, from 12.4% in Q2, and 14.49% in Q1. FY10 had an average OPM of 15.65%!

There are other chinks. Pls help investigate the negatives for a balanced picture to emerge.

-Donald


(TCX) #13

okay, will start looking for what can go wrong.

btw, awesome effort on Astral stock story. Someone who has the time and wants to learn more will find this a really useful compilation. my conviction has soared:)


(TCX) #14

Excerpt from Astral AR 2008-09.

However the net profit of the Company has reduced compared to the last year from Rs. 1,706.91 Lacsto Rs.1,419.05 lacs mainly because of extreme volatility of USD currency resulting in sky rocketing of the costof imported raw materials for your Company in last quarter. The Dollar has increased from Rs. 40 to Rs. 52level which has resulted in a loss to the tune of Rs.733.67 Lacs in foreign currency loan liability and Rs. 610.04 Lacs on account of cost of import of raw material. In aggregate, Company has incurred a loss of Rs.1,343.71 Lacs due to foreign exchange fluctuation. This has an extremely negative impact on the Net Profitsfor the period under review.

Hitesh/Ayush

Any idea how the company is mitigating risks on this front? I have not found anything on the hedging policies adopted by the company eversince.

_
_


(Arindam) #15

Astral management had this to say in 2010 AR, as also in 2009 AR. Identical 2 paras:)

Risk and Concerns

Foreign Exchange Risk

Being significantly dependent on imports and loans designated in foreign currency, the Company is exposedto the risk of fluctuation in exchange rate of foreign currency. Appropriate decisions are taken for hedging theexposure from time to time based on the market scenario.

Raw Material Prices

Since significant part of the raw material is imported, any increase in the import price or fluctuation incurrency may affect the margins of your Company. Further, the price of raw material is to some extent, linkedto International crude price, which may affect the price of raw material. But your Company has beensuccessfully managing this risk for the past several years.Whenever the revision in raw material prices is on thehigher side, it is passed on to the customers.

Let me check what they had to say in 2008 AR, before they had this huge loss on Forex tx.


(Arindam) #16

And it was exactly the same in 2007 & 2008 AR, as expected!

Donald, in case you are planning to set Qs for Management, this is a question to throw and understand how have they refined hedging policies, since the massive debacle in FY09. This This situation I guess was faced by most SMEs who were sold complex forex derivatives and did not know what they were getting into!


(Newbie) #17

Hi

This is my first post. I have been reading and learning here at Valuepickr for some time. must say an excellent place where so many individuals are contributing…great posts…great work by many…and insights too. I hope you csan keep up the same quality.

Not sure if this is the right forum and this may be digressing from this excellent discussion, but I want to ask a question.

I guess forex/commodity hedging is a normal practice entered into by everyone to fix at todays rates future sale/purchases. To that extent this should be safe…i.e you are trying to protect the margins as they are today. That should be safe and doable, right.

So how come many companies have made such huge losses on forex derivative contracts. What made them enter into complex derivative contracts? why couldnt they use simple hedging at a fixed rate as above?

And post the 2009 bad experience, can we say that lessons have been learnt. Complex forex derivatives are out atleast for 90% of SME businesses. And so forex fluctuation risk management and impacts should normally be manageable??

Appreciate if someone could explain this in brief.


(Abhishek Basumallick) #18

Mainly two reasons. 1) Hedging is a fairly complex job as sales is typically an ongoing affair and hedging is done on a periodic basis. 2) CFOs/Finance heads thought that they could play the forex markets and garner some “Other Income”.

Coming to point 1. There is nothing as simple hedging at a fixed rate. let me give a overly simplified example that might help.

_Say company ABC is an IT company whose main income is booked in US dollars. The exchange rate is Rs45 to a dollar. ABC signs a new contract for 10 million dollars. At the going exchange rate, that means 45 x 10=450 million rupees. That is the current contract value. This contract is to be executed over a period of say 2 years with milestone based payments.

My production costs are all in Indian rupees. Now, the money is not going to come in at one time. So, what can I do (assume that I am the CFO of the company) to mitigate the margin risk for my company? I go out and get a futures or options or currency swap contract. Now, for how much would I hedge for a particular date? I would hedge based on the milestones set. E.g. If I have a milestone payment on Dec 31 for 2 million dollars, I would hedge for 2 million dollars for a Dec contract. Now, what happens if my company misses the deadline or I get a delayed payment and I get the payment on Jan 25 the following year? I am exposed for the currency fluctuation for the next 25 days. _

__

_
_

So, as a CFO, I would spread the futures contracts across the duration of the contract. This would not completely neutralize my risk, but atleast reduce it to an extent. The counter side to this is that if the currency moves against my strategy, I would be exposed to currency fluctuation.

_This gave rise to complex derivatives. Whether they worked or the risks of such instruments well understood still remains an open question.
_

__

On your question as to whether this is purged from the system. I doubt it. People are probably more cautious now, but I don’t think complex derivatives are going to go away. The players over time will get more knowledgeable and sophisticated and then we will have a new set of problems to address!! :slight_smile:

As Taleb (I think) said recently, derivatives are like having a modern automobile (say a Ferrarri) in 1910 when all you see around you is Ford Model T and horse-drawn carts. Do the Ferrarri is not required because we don’t have the roads/systems to support it? Or do we embrace it and upgrade our systems? The choice is ours.


(Abhishek Basumallick) #19

This company also seems to have a tie up with Lubrizol (through Noveon).

http://www.ajaycorp.com/cpvc-pipes.html

Does anyone know the type of contract they have with both Lubrizol and Specialty Process to manufacture products under the flow guard brand?

From a Lubrizol perspective, I am not sure why they would tie themselves up with only one company. They produce the CPVC resin and should be interested in selling it to anyone who pays more. Any clarity on the contract type would help understand this.

The Anagram report suggests “As per our interaction with the management, Lubrizol is unlikely to give license to manufacture CPVC products in India to further players.” I wonder why.


(Donald Francis) #20

Hi Abhishek

In Astral Draft IPO prospectus 2 companies Ajay Industrial Corp and Ashirvad Pipes pvt Ltd were mentioned as other manufacturers licensed by Noveon and receiving CPVC resins. (covered in Stock story Interesting Points).

http://www.ashirvad.eindiabusiness.com/

Ashirwad Pipes website also mentions CPVC!

Both unlisted players. Capacity may be small, whereas Astral has ramped up the business over the years. Noveon/Lubrizol normally will not be interested in supplying to several small players. However if someone big comes along and says, I will set up 60000MT capacity, there is no reason for Lubrizol to deny licensing, I would think!

It may be in Astral’s interest to keep scaling up capacity to the extent that becomes unviable for a greenfield ops to manage sales corresponding to that capacity in first year. So while capex is small (extrusion & injection moulding machines 25 Cr-do I hear a Manjushree in the background) it is simply unviable for a regular new player to manage to sell that kind of capacity initially. (just like there’s no catching a Manjushree Technopack in PET preforms)

Unless ofcourse a global MNC decides to enter and leverage all its global customer/supplier relationships. CPVC plumbing market is far from that kind of size to entice the biggies - would be my take

-Donald