Latin Manharlal Securities Pvt Ltd. 124 Viraj, S,V.Road, Khar (W), Mumbai S t o c k I d e a

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1 S t o c k I d e a Date: 25-Jan -13 CMP: `65 TARGET: `83 Upside: 27.7% B U Y SENSEX NIFTY 6075 Eq. Cap. (` Crs) 79.7 Face Value (`) 2.0 M. Cap (` Crs) 2590 BSE Code NSE Code Financial Year GSFC Apr-Mar 52-w H/L 91/64 Avg. Daily Vol TTM EPS (`) TTM P/E (x) 3.6x BVPS (`) P/BVPS (x) 0.74x Stock vs. Sensex Latin Manharlal Securities Pvt Ltd. 124 Viraj, S,V.Road, Khar (W), Mumbai GUJARAT STATE FERTILIZERS & CHEMICALS LTD Incorporated in 1962, Gujarat State Fertilizers and Chemicals Ltd (GSFC) is a premier fertilizer & chemical manufacturing company. The company was promoted by the Government of Gujarat for the manufacture of fertilisers and heavy chemicals. Strategic pact with Karnalyte Resources Inc: Assured supply of Potash for long term GSFC has executed definitive agreements and committed a strategic investment up to C$60 mn (~`333 Crs) in Karnalyte Resources Inc (KRN) in Canada to secure long term supply of potash. The deal underscores the growing push by top consumers - India and China - to distance themselves from Canada s Canpotex Ltd. and Russia s BPC, producer groups that have long controlled most of the world s potash supply amid strong profits. With this deal, GSFC has also secured an assured long term supply of potash to India, which imports almost its entire domestic requirement of about 5-6 million tonne. Karnalyte Resources Inc: a dedicated supplier of high quality Potash KRN is ahead of other junior potash mining companies in Canada in terms of expected commissioning of the Project. For GSFC, an assured supply will help in expanding its portfolio of fertilizers. GSFC also intends to use part of the potash imported from KRN for production of high grade NPK fertilizers at Sikka, for which new facilities are being constructed. Global demand for Caprolactam has been steadily increasing Caprolactam is a chemical primarily used in the production of nylon fibers and resins, and production levels are rising in Asia as industrial demand builds. The chemical is used for the manufacture of textiles, tyre cord, carpets, engineering plastics, industrial yarns and films. China has recently been witnessing developments in various manufacturing sectors which demand caprolactam. Caprolactam realisations: Worst seems to be over Prices of caprolactam fell to a 3-year low in Oct 12 on weak demand from apparels and automobiles industries. Also putting pressure on the prices are new capacities. GSFC has seen pressure on its margins during couple of quarters due to decline in caprolactam realisations and increase in the price of key raw material benzene. However, we believe the caprolactam benzene spread, which bottomed out in July, is expected to improve. Set to expand its Fertilizer production capacity The company has planned capex of `800 Crs for FY13E, which includes setting up of Urea, DAP, Melamine and Caprolactam at Dahej. The new methanol plant at Vadodara with an annual capacity of 1.60 lakh tonnes is expected to be commissioned by end of FY13E (currently test run is going on), can add ~`300 Crs to the GSFC s revenues at peak utilisation levels. Cash-rich Debt Free Company GSFC is a debt free company and have a surplus of over Rs700 Crs parked with banks. The cash per share including investments stood strong at `33.40 at the end of FY12. At the CMP of `65, the stock is trading at 3.2x its FY14E EPS of ` We recommend BUY on the stock with a months target price of `83, providing an upside of 27.7% from the current levels. Please Refer DISCLAIMER on the Last Page

2 Company Profile Incorporated in 1962, Gujarat State Fertilizers and Chemicals Ltd (GSFC) is a premier fertilizer & chemical manufacturing company. The company was promoted by the Government of Gujarat (Gujarat State Investments Ltd holds 37.84% now) for the manufacture of fertilisers and heavy chemicals. It operates in 2 business segments: Fertilizers and Industrial Chemicals. The fertilizer segment includes urea, ammonium sulphate, di-ammonium phosphate (DAP) and ammonium phosphate sulphate and NPK traded fertilizer products. Its Industrial chemicals division produces Caprolactam, which is a raw material of nylon-6 and is used in carpets, threads, ropes, plastics, tires, wire and cable. Their manufacturing facilities are located at Vadodara, Surat and Jamnagar in Gujarat. Over the past 50 years, the company has stemmed its position as a market leader in caprolactam, ammonium sulphate (AS) and melamine, and it is the 2 nd largest manufacturer of DAP in the country, contributing ~8% to the total demand. Business Model ~ 64% of its revenues from the fertilisers segment, while 36% is contributed by industrial chemicals In terms of the revenue stream, GSFC generates ~64% of its revenues from the fertilisers segment, while ~36% is contributed by industrial chemicals. Industrial Products 35.8% Revenue Mix - 1H13 Fertilizers Products 64.2% FY2012 Product Name % of Revenue Revenue (` Crs) Di-Ammonium Phosphate (DAP) Caprolactum Ammonium Phosphate Sulphate (APS) Ammomium Sulphate (AS) Others Urea Nylon-6-Imported Excise duty recovered Melamine Ammonium Sulphate-Polymers Nylon Filament Yarn Gujarat State Fertilizers & Chemicals Ltd Jan-2013

3 INVESTMENT POSITIVES GSFC has very strong brand equity Strong market shares across products / Fertilizers Out of total amount of DAP sold in Gujarat, GSFC had market share of close to 50%, well ahead of IFFCO which had the market share of ~25%. In case of Ammonium Phosphate Sulphate (APS), the company attained the highest market share of ~51% in Gujarat, followed by Gujarat Narmada Valley Fertilizers Company Ltd s (GNFC) share of ~46%, which is also promoted by GSFC. Strategic pact with Karnalyte Resources Inc: Assured supply of Potash for long term GSFC has executed definitive agreements and committed a strategic investment up to C$60 mn (~Rs. 333 Crs) in Karnalyte Resources Inc (KRN) in Canada to secure long term supply of potash. The acquisition price also includes cost of financing the construction of Karnalyte s potash mining project. This is the first partnership by an Indian company with a potash mining company abroad to procure high quality potash for the Indian market. KRN is ahead of other junior potash mining companies in Canada in terms of expected commissioning of the project The deal underscores the growing push by top consumers - India and China - to distance themselves from Canada s Canpotex Ltd. and Russia s BPC, producer groups that have long controlled most of the world s potash supply amid strong profits. Moreover, KRN is ahead of other junior potash mining companies in Canada in terms of expected commissioning of the project. GSFC first contacted KRN in February, 2012, after engaging the Saskatchewan government three years ago to help it in its search for supply partners. With this deal, GSFC has also secured an assured long term supply of potash to India, which imports almost its entire domestic requirement of about 5-6 million tonne. The strategic investment will give GSFC an assured supply of 350,000 tonnes of potash a year from KRN's Wynyard Carnallite project for 20 years from the start of commercial production in Phase-I, increasing to 600,000 tonnes a year with the commencement of Phase-II. GSFC will appoint one nominee to the board of directors of Karnalyte. In addition, GSFC retains the right to maintain its equity position in future equity offerings. Gujarat State Fertilizers & Chemicals Ltd Jan-2013

4 Karnalyte Resources Inc: a dedicated supplier of high quality Potash Intends to use part of the potash imported from KRN for production of high grade NPK fertilizers at Sikka, for which new facilities are being constructed China has recently been witnessing developments in various manufacturing sectors which demand caprolactam. GSFC has 2 Caprolactam Plants having rated capacities of tpa and tpa. KRN is engaged in exploration and development of high quality agricultural and industrial potash and magnesium. It plans to operate a mining facility that will initially produce 6.25 lakh tonnes per annum of potash, increasing to million tonnes annually. The miner owns 100% interest in subsurface permit and subsurface mineral lease for a total of 85,126 acres of land near Wynyard town in Saskatchewan province in Canada. At present, India is fully dependent on imports of potash. This is a significant partnership by an Indian fertilizer manufacturing company with a potash mining company abroad to procure high quality potash for the Indian market. KRN is ahead of other junior potash mining companies in Canada in terms of expected commissioning of the Project. For GSFC, an assured supply will help in expanding its portfolio of fertilizers. GSFC also intends to use part of the potash imported from KRN for production of high grade NPK fertilizers at Sikka, for which new facilities are being constructed. Hence, securing a dedicated supply line of high quality Potash is expected to be of considerable advantage to GSFC in its constant endeavour to provide top quality agri products in the Indian markets. Global demand for Caprolactam has been steadily increasing Caprolactam is a chemical primarily used in the production of nylon fibers and resins, and production levels are rising in Asia as industrial demand builds. The chemical is used for the manufacture of textiles, tyre cord, carpets, industrial yarns and films, while nylon resins are also used in engineering plastics, and their resistance to oils and greases has led to their utility in engine covers, gears and bearings. The global demand for caprolactam has been steadily increasing over the last decade, from 3,503,390 tons in 2000 to 4,164,201 tons in 2011, and this figure is expected to hit 5,992,732 tons by As demand in developed economies has matured, growth in Asia-Pacific economies has become the main driver for global caprolactam demand, and is predicted to account for 69.5% of total global demand in China has emerged as a global caprolactam manufacturing hub due to low feedstock costs and a regional huge demand for nylon, and accounted for ~46% of Asia- Pacific s total demand volumes during China has recently been witnessing developments in various manufacturing sectors which demand caprolactam. However, volatility in crude oil prices threatens the profitability of caprolactam producers, as the chemical s feedstock is derived from crude oil. Caprolactam constitutes more than half of its Industrial products business of GSFC. Though the industrial products business generates only ~35% of the revenues, the segment is more profitable than the fertilizer business. The main raw materials are Benzene, Ammonia, Carbon dioxide, Sulphur dioxide, Caustic soda and Sulphuric acid etc. Gujarat State Fertilizers & Chemicals Ltd Jan-2013

5 Caprolactam realisations: Worst seems to be over Prices of caprolactam fell to a 3-year low in October 2012 on weak demand from apparels and automobiles industries. Also putting pressure on the prices are new capacities. Thus faced with high raw material cost and bleak market conditions, GSFC has seen pressure on its margins during couple of quarters. Decline in caprolactam realisations and increase in the price of key raw material benzene led to a squeeze in industrial product segment s margins for GSFC. However we believe the caprolactam benzene spread, which bottomed out in July, is expected to improve. 45.0% EBIT Margin - Industrial Products Decline in caprolactam realisations and increase in the price of benzene led to a squeeze in industrial product segment s margins 40.0% 35.0% 30.0% 25.0% 20.0% 15.0% 1Q12 2Q12 3Q12 4Q12 1Q13 2Q13 Despite a 4.4% Q-o-Q decline in revenue in the industrial products segment in 2QFY13 to Rs Crs, the segment s EBIT margin improved by 5% to 26.7%. This was facilitated by higher sales of value added nylon chips during the quarter. Set to expand its Fertilizer production capacity New methanol plant at Vadodara is expected to be commissioned by end of FY13E can add ~Rs 300 Crs to the GSFC s revenues The company has planned capex of Rs 800 Crs for the current fiscal, which includes setting up of Urea, di-ammonium phosphate (DAP), Melamine and Caprolactam at Dahej. The new methanol plant at Vadodara with an annual capacity of 1.60 lakh tonnes is expected to be commissioned by end of FY13E (currently test run is going on), can add ~Rs 300 Crs to the GSFC s revenues at peak utilisation levels. Methanol is used in a host of applications by the pharma sector to making many synthetic organic compounds and part of many solvents. The company has already commissioned the modernization of Cylohexanone plant which is an intermediate of caprolactam. This will result into saving in consumption of Benzene in this plant. GSFC's joint venture with Coromandel International in Tunisia has commenced Phosphoric acid and the first shipment of the same has started from Dec 12. The JV Tunisian Indian Fertilisers (TIFERT) in Tunisia will produce 3,60,000 tpa of phosphoric acid and both GSFC and Coromandel will import 1,80,000 tpa of phosphoric acid each p.a. Gujarat State Fertilizers & Chemicals Ltd Jan-2013

6 GSFC presently produces 9 lakh tonnes on DAP at its Sikka unit in Gujarat and it requires 4,20,000 tpa phosphoric acid as raw material, for which it has already tied up. The company now plans to add 5,00,000 tpa DAP and its production will be met through imported phosphoric acid from Tunisia. In anticipation of good monsoon during FY13E, the company is hopeful that demand for fertilisers will be higher in the coming years. GSFC's other expansion projects include capacity addition of 15,000 tpa for nylon-6 facility at Vadodara with an outlay of Rs.125 Crs. The expansion is expected to complete by FY15E. Commissioned 123MW wind power for captive use GSFC has setup GPICL which caters to the power needs of its plants GSFC has also commissioned 123MW of electricity production through wind power in the Kutch-Saurashtra region. The company aims to increase this capacity by another 29MW by the end of FY13E. This is in line with the company s focus on green technology and sustainable means of manufacturing. Apart from this GSFC has setup GPICL (Gujarat Industrial Power Company Ltd) which caters to the power needs of its plants. The power generated from its windmills are used at 4 locations; the main plant at Vadodra, its polymer unit which is just 4km away, its Kharach plant near Surat and the 4 th plant at Sikka near Jamnagar. Likely to set up LNG terminal in partnership with GSPL GSFC is considering the option of partnering with Gujarat State Petronet Ltd (GSPL) for setting up a liquefied natural gas (LNG) terminal in Gujarat. The firm is awaiting the new urea policy to be unveiled by the centre before going ahead with its Dahej expansion plan. The new urea policy is expected to provide major relief for gas used in fertilizer units, making it viable to use imported gas. Once this policy is in place, GSFC will go ahead with its Dahej plans. The proposed terminal with a capacity of 5 mtpa of LNG (equivalent to ~18 mscmd, of natural gas) is expected to come up at Sikka near Jamnagar. The estimated cost of the project is at least Rs 5,000 Crs and while GSPL will remain the single largest stakeholder, GSFC will pick up not more than a 30% stake in it. GSFC is waiting for the government's urea policy, before going ahead with the project Awaits urea policy, to set up Rs 8000 Crs Petrochem complex GSFC has drawn up Rs.8,000 Crs investment for setting up an integrated fertiliser and petrochemicals complex at Dahej. The company is setting up 2,250 TPD ammonia, 3,500 TPD urea along with melamine and caprolactum manufacturing unit at Dahej near Bharuch at an estimated cost of Rs 8,000 Crs. GSFC has already acquired land and ready with the detailed project report (DPR). However, the company is waiting for the government's urea policy, before going ahead with the project. After rolling out a slew of reform measures, the government is likely to approve the much-awaited urea investment policy, aimed at attracting Gujarat State Fertilizers & Chemicals Ltd Jan-2013

7 an investment of ~Rs 45,000 Crs to boost urea production in the country. The draft policy floated by the fertiliser ministry has got the nod of concerned ministries such as finance, commerce and agriculture ministries as well as the Planning Commission. Now it will be sent to the Cabinet for final approval. The policy aims adding production of 7-8 mtpa to country's existing urea production capacity of 22 mtpa against the annual demand of 30 million tonne. Cash-rich Debt Free Company Cash per share including investments stood strong at Rs GSFC is a debt free company and have a surplus of over Rs700 Crs parked with banks. To fund its future expansions (Rs.8000 Crs capex after new urea policy), it is open to borrowings but would remain conservative and avoid crossing the 1.5 debt equity ratio. The cash per share including investments stood strong at Rs at the end of FY12. Strong Shareholding Equity - Shareholding more than 1% No of Shares % of Holding 31/12/ /12/2012 Fidelity Puritan Trust Fidelity Low Priced Stock Fund 18,822, Gujarat Alkalies & Chemicals Ltd 7,500, Gujarat Mineral Development Corporation 5,000, Gujarat Narmada Valley Fertilizers Company Ltd 7,500, LIC of India 27,873, Reliance Capital Trustee - Reliance Growth Fund 23,540, Reliance Capital Trustee - Reliance Natural Resources Fund 13,447, SBI Mutual Fund Magnum Tax Gain ,986, TOTAL 110,670, Source: Capitaline, LMSPL Research CONCERNS Volatility in raw material prices, such as sulphur, phosphoric acid, ammonia, caprolactam etc. Changes in government policy on complex fertilisers. Fertiliser subsidy policy Gujarat State Fertilizers & Chemicals Ltd Jan-2013

8 VALUATIONS At the CMP of `65, the stock is trading at 3.2x its FY14E EPS of ` We recommend BUY on the stock with a months target price of `83, providing an upside of 27.7% from the current levels. Source: Company, Capitaline Registered Office: 124 Viraj, S,V.Road, Khar (W), Mumbai Tel. (022) , Fax (022) research@lmspl.com LMSPL Network: Fort, Mahalaxmi, Parel, Bandra, Santacruz, Vile Parle, Andheri, Malad, Kandivili, Borivali, Bhayender, Ghatkopar, Mulund, Chunabhatti, Jacob Circle, Masjid Bunder, Cotton Green, Thane, Bhiwandi, Panvel, Pune, Sholapur, Nasik, Malegoan, Ahmednagar, Aurangabad, Akola, Mahekar, Nagpur, Surat, Karjan(Baroda), Khambat, Ahmedabad, Rajkot, Surendranagar, Porbandar, Amreli, Bharuch, Anand, Chennai, Vishakhapatnam, Vizianagaram, Palasa, Kakinada, Karnal, Kolkatta, Bhubhaneshwar, Hyderabad, Bangalore, Jafrabad, Chital, Kodinar, Keshod, Gondal, Haryana, Srikakulam, Mehkar (Buldhana, Jamnagar, Bangalore, Jodhpur, Jalgaon, Malkangiri (Orissa), Karimnagar Dist. (Andhra Pradesh) This document is for information only and is meant for the use of the recipient & not for circulation. The information contained in this document has been taken from publicly available information, trade and statistical services & other sources. While the information contained herein is from sources believed to be reliable, we do not hold ourselves responsible for its completeness and accuracy. All opinions and estimates included in this report constitute our judgement as of this date and are subject to change without notice. Investors are expected to use the information contained in this report at their own risk. This report is not and should not be construed as an offer or the solicitation of an offer to buy or sell any securities. M/s Latin Manharlal Securities Pvt. Ltd. and its affiliates may act as market maker or have assumed an underwriting position in the secure-ties of companies discussed herein and may sell them to or buy them from customers on a principal basis. Gujarat State Fertilizers & Chemicals Ltd Jan-2013