KS Oils. Oil to riches. Buy. Sector: Edible Oil. Country: India. Initiating Coverage. Bloomberg: KSO IB. Key Data. Shareholding Pattern (%)

Transcription

1 Country: India Sector: Edible Oil Jesal Shah Tel: (91 22) Achal Lohade Tel: (91 22) Price: Rs75 Initiating Coverage KS Oils Bloomberg: KSO IB Buy Target Price (Mar 09): Rs115 Key Data Market cap (bn) Rs24.8/US$0.6 Shares in issue (mn) Diluted share (mn) mon avg daily val (mn) Rs154.9/US$ week range Rs142/36 BSE sensex (14/05/08) 16,978 Nifty (14/05/08) 5,012 Rs/US$ 42.4 Shareholding Pattern (%) 4Q FY07 4Q FY08 Promoters FIIs MFs/FIs/Banks Public Others Price Performance (%) 1M 3M 12M Absolute Relative* * To the BSE Sensex Daily Performance KS OIL Sensex 25,000.0 Oil to riches Increasing share of organised players in the edible oil segment Implementation of Value Added Tax (VAT) from April 2006 has enabled organised players to increase market share in the US$17 bn Indian edible oil market. The mustard oil market (20% of the total), presents an opportunity as only 20-25% is organised so far. We expect the organised mustard oil market to increase its share to 70-75% over the next three years and KS Oil (KSO)would be the biggest beneficiary as it enjoys 25% market share. led to faster revenue growth and improving margins for established players... KSO s crude mustard oil volumes have grown at a CAGR of 40% since FY05 due to reduction in competitive disadvantage and increasing adoption of brands and retail packs. This has led to over 500 bps improvement in EBITDA margins and 230% CAGR in net profits. enabling investments and forays into other oils; driving growth KSO has embarked upon a capex programme of over Rs6.5 bn to expand crushing/refining capacities by 3.5-4x and solvent capacity by 6x in the next two years. This will fortify its share in the mustard oil segment and help build its presence in the soya/palm oil market. Hence, we expect 40% CAGR in mustard oil volumes to drive 48% CAGR in net profits over the next two years. Further, its recent foray into palm plantation at a capital outlay of Rs2.3 bn over three years would provide upsides beyond FY10. Initiate with a Buy; 50% upside in 12 months: KSO got re-rated since June 2007 and is currently trading at 18x FY09E EPS and 10x FY10E EPS after building in 48% CAGR in profits over FY08-10E. We believe the company can continue to deliver solid growth even beyond this period with its entry into newer segments and foray into palm plantations. We initiate with a Buy recommendation and March 2009 target price of Rs115, based on 15x FY10E EPS. Risk to our call is fluctuations in commodity prices and hedging positions, which make it difficult to predict earnings accurately Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 (As of 14 May 2008) 20, , , ,000.0 Exhibit 1: Financial summary (Rs mn) Y/E March FY05 FY06 FY07 FY08E FY09E FY10E Net sales 4,525 6,082 10,875 20,411 30,283 45,737 Sales growth (%) (3.3) EBITDA ,252 2,934 5,127 EBITDA (%) Adjusted net profit ,227 1,442 2,691 NPM (%) EPS (Rs) EPS growth (%) ROCE (%) ROE (%) PE (x) Price/Book value (x) EV/EBITDA (x) Source: Company data, JM Financial ASK Securities. Note: Valuations as of 14 May 2008 JM Financial ASK Securities Private Limited Please see important disclosure at the end of the report.

2 Increasing share of organised players The Indian government introduced VAT for edible oil in April This significantly improved the competitive situation for organised players, players like KSO and Ruchi Soya (RS) have grown rapidly in this market. We believe organised players will continue to increase their market share and KSO will be able to maintain its market share. Indian edible oil market is big Exhibit 2 shows that the Indian edible oil market has grown at 13% CAGR over FY03-07 to reach over US$17 bn. Importantly, it has grown at 6% volume CAGR for last two decades. Yet, the fragmented, unorganised nature of the industry has made it unattractive for investments till recently. CAGR Volume - 6.5% Value % FY07 FY03 Exhibit 2: Edible oil volumes have 6% CAGR since FY03...the value growth has accelerated to 13% CAGR over last four years Mn tn Palm Oil Rapeseed Oil Soybean Oil Others Rs Billions Palm Oil Rapeseed Oil Soybean Oil Others % CAGR Source: Industry, USDA, JM Financial ASK Securities..but, has only recently become investment-worthy Till recently, the market was unorganised due to low entry barriers, lack of branding and fragmented distribution structure. Further, unorganised players had been doing well due to multiple reasons including blending of different grades of oil, tax evasion, power theft, lower quality of packaging, etc. The industry had 15,000 oil mills, 600 solvent extraction units, over 650 refining units and 250 vanaspati units with 50% of players with an output of less than 60TPD and total capacity utilisation of less than 30%. Hence, the organised sector margins were impacted - impeding their growth. However, since April 2006, this situation has changed as the government introduced VAT. Post the introduction of VAT, and stricter implementation of VAT at mandis, unorganised players lost out on the 4% sales tax differential, which they enjoyed earlier. In the pre-vat era, organised players had a 4% disadvantage as unorganised players avoided paying sales tax on finished products. However, in the new system, they are forced to pay sales tax on purchase of raw material and hence lose out on sales tax credit, if the finished product is sold in cash. Thus, the 4% differential on raw material cost gets nullified. For an industry operating at 4% EBITDA margins, this was a big saving. Exhibit 3 shows the difference in two cases. JM Financial ASK Securities Private Limited Page 2

3 Exhibit 3: VAT has reduced competitive disadvantage Rs per ton of mustard seed Pre-VAT Post-VAT Organised Unorganised All players Seed price per ton Sales Total cost ,884 18,884 18,884 Sales Net sales Gross profit Margins 7% 11% 7% Source: Industry JM Financial ASK Securities As a result, the organised market share in mustard seed has increased from 10% to 20-25% in two years. The ramp-up in soya has been faster as against mustard with the organised sector now controlling over 70% share. This is due to the following reasons: a) Easier sourcing of raw materials: Entry of large multinational companies like Cargill, Wilmar, and Bunge due to imported palm/soya crude versus mustard seeds, which have to be procured locally. Hence, it was possible for these companies to garner market share in soya/palm on the back of economies of scale (see Exhibit 4). Exhibit 4: Imports make up larger part of domestic consumption Mn tonnes CAGR Palm oil (imports) % Domestic Palm oil cons % as% of palm oil cons 83% 95% 99% 94% 85% 86% Soybean oil (imports) % Domestic soybean oil cons % as% of soybean oil cons 64% 63% 48% 77% 59% 51% Others (imports) % Total % Source: USDA, Solvent Extractors Association of India, JM Financial ASK Securities Estimates b) Faster expansion of capacities by soya players like RS led to faster increase in share of the organised sector (see Exhibit 5). Exhibit 5: Ruchi s aggressive capacity expansion drives share 000 MTA FY03 FY04 FY05 FY06 FY07 FY03-07 CAGR* Oils ,101 2,052 2, % DOC ,047 1,894 2, % Vanaspati % Source: Company Annual Reports, JM Financial ASK Securities *CAGR excludes the capacities acquired in FY 2006 on account of merger of group companies c) Margin difference still exists in mustard oil, as unorganised players continue to save 4-5% on account of cheaper packaging and blending of different oils. JM Financial ASK Securities Private Limited Page 3

4 Overall, as shown in Exhibit 6, organised players have sales of 2.3 mn tonnes of edible oil out of the total consumption of 12.5 mn tonnes for FY06-07, controlling 18% market. Exhibit 6: Organised players in edible oil industry 000 Tonnes FY02 FY03 FY04 FY05 FY06 FY07 FY02-07 CAGR Ruchi Soya ,730 1,570 10% Liberty Oil Mills Ltd % KS Oils % Vimal Oil % Others % Total organised sales 1,452 1,577 1,424 1,419 2,311 2,264 9% Overall Consumption 9,444 10,105 10,820 11,366 12,280 12,510 6% % of total consumption Source: Capitaline 15.6% 13.2% 12.5% 18.8% 18.1% In addition, according to AC Nielsen data, Wilmar and Cargill have 23% share and NDDB s (National Dairy Development Board) Dhara has c.12% share taking the total share of the branded segment to 53%. We believe organised players will continue to increase their share especially in the mustard oil segment as smaller players will find it difficult to operate and manage sub-scale business in a dynamic industry while big companies will rapidly expand capacities. We expect organised share of the mustard oil segment to increase to 70% over the next two years. Further, we expect KSO to maintain its share in the organised segment of mustard oil, even as newer players like RS capture share from smaller players. JM Financial ASK Securities Private Limited Page 4

5 Faster revenue growth and improving margin outlook has enabled investments for future growth With improving industry fundamentals, KSO has been able to grow its mustard oil volumes at 40% CAGR over FY05-08E and improve EBITDA margins from 4.5% to 11% on the back of larger volumes and higher branded sales. This led to a 230% CAGR in net profit, which has enabled the company to expand capacities by 4-6x and venture into other edible oils. We expect 40% CAGR in mustard oil volumes over the next two years. Further, higher proportion of the branded/retail segment will help maintain margins at the current high levels of 10-11% for the next two years. This will drive 48% CAGR in net profits over FY08-10E. Improving financials As seen in Exhibit 7, KSO has been able to improve its financial position over the last three years due to higher branded sales and improving prices. Exhibit 7: Significant increase in profits Rs mn FY05 FY06 FY07 FY08 FY05-08 CAGR Sales Oil 3,744 5,019 9,447 15,716 61% Others 781 1,063 1,281 4,694 82% Total 4,525 6,082 10,728 20,411 65% % change 34% 76% 90% EBITDA , % margins 3.1% 4.5% 8.6% 11.0% % change 97% 241% 143% PAT , % margins 0.7% 2.5% 5.3% 6.0% % change 353% 278% 114% Source: Company Annual Reports, JM Financial ASK Securities Margins have also improved due to higher proportion of brands and retail packs to total sales. Retail packs and brands have higher margins than bulk packs and loose. Exhibit 8: driven by higher share of brands/retail packs Rs mn FY05 FY06 FY07 FY08 FY05-08 CAGR Branded 2,162 2,926 6,560 12, % % of total sales 47.8% 48.1% 61.1% 59.9% Retail Packs ,308 6, % % of total sales 14.9% 9.6% 21.5% 30.9% Bulk Packs (above 15kg) 1,490 2,329 4,253 5, % % of total sales 32.9% 38.3% 39.6% 27.6% Non branded 2,363 3,156 4,169 8, % % of total sales 52.2% 51.9% 38.9% 40.1% Total Sales 4,525 6,082 10,729 20,411 EBITDA Margins 3.1% 4.5% 8.6% 11.0% Source: Company, JM Financial ASK Securities JM Financial ASK Securities Private Limited Page 5

6 Margins for other organised players have also improved, but KSO s presence in mustard/brands is fetching it higher margins than peers (see Exhibit 9). Exhibit 9: KSO s margins are higher than peers Sales (Rs mn) EBITDA margins Net Profit margins FY05 FY06 FY07 FY05 FY06 FY07 FY05 FY06 FY07 Ruchi Soya 46,747 75,474 89, % 3.0% 3.1% 1.1% 1.2% 1.2% Gokul Refoils 10,833 12,500 15, % 2.4% 4.2% 1.7% 0.9% 1.7% KS Oils 4,525 6,082 10, % 8.5% 11.0% 2.5% 5.3% 6.0% Agro tech Foods 10,432 9,379 10, % 1.9% 2.4% 0.9% 1.0% 1.6% Liberty Oil Mills 10,420 8,763 10, % 1.9% 2.1% 0.6% 0.1% 0.3% Vimal Oil 2,451 3,629 4, % 2.2% 2.5% 0.4% 0.6% 0.7% Vijay Solvex 2,703 3,254 4, % 2.5% 3.7% 1.2% 0.8% 1.6% Sanwariya Agro Oils 1,748 2,201 4, % 3.5% 5.2% 1.6% 1.7% 2.7% Source: Capitaline, JM Financial ASK Securities enabled greater investments Given the improving financial outlook, the stock price moved up 4x over last one year to its current market capitalisation of Rs26.5 bn (US$650 mn). The company raised money in several tranches (see Exhibit 10). Exhibit 10: Better profits enabled fund-raising Fund raising No. of Share cap Premium Total fund raising Equity capital shares Rs mn Rs mn Rs mn Equity capital as on 31/3/ Preferential Bonus 1: Equity capital as on 31/3/ Equity to Rs180/share Split 1: Shares to Shares to Rs Rs Warrants issued to promoters Rs Diluted equity capital as on 31/3/ Additional money from warrants Total funds raised (Rs mn) Source: Company, JM Financial ASK Securities JM Financial ASK Securities Private Limited Page 6

7 The fund-raising would have diluted promoters stake from 29.35% to 22.7% (even though funds were raised at c.rs42/share) but for the warrants issued to promoters, which restore their holding to 33%. The dilution would have been 17%, instead of 22.7%, if the stock had not moved up from Rs18. With this fund-raising, the company has been able to increase its capacities. Exhibit 11: leading to aggressive capacity expansion '000 MTA FY07 FY10 P Multiplier Oil Mill ,225 4 X Solvent Extractions 600 3,600 6 X Refinery 400 1,400 4 X Wind Mill (MW) X Source: Company, JM Financial ASK Securities As seen in Exhibit 11, KSO s crushing and refining capacities are likely to increase 4x whereas its extraction capacities are set to jump 6x over FY08-10E. will drive revenue and profit growth This expansion of capacities and favourable industry dynamics should drive revenues (see Exhibit 12). Exhibit 12: paving the way for solid revenue growth Rs mn FY08 % FY09E % FY10E % FY08-10 CAGR Mustard 9,681 47% 14,502 48% 21,303 47% 48% Branded 7,746 38% 12,002 40% 18,572 41% 55% Loose 1,935 9% 2,500 8% 2,731 6% 19% Refined Oil 5,530 27% 10,637 35% 16,645 36% 73% Mustard 855 4% 1,317 4% 2,651 6% 76% Others 4,674 23% 9,320 31% 13,994 31% 73% Power 170 1% 310 1% 450 1% 63% Others* 5,041 25% 4,834 16% 7,339 16% 21% Total Sales 20, % 30, % 45, % 50% Source: Company, JM Financial ASK Securities Estimates *Others include mustard cake, soya De-oiled Cake, Vanaspati and trading sales We expect the company to move into soya oil with capacity augmentation in extraction. JM Financial ASK Securities Private Limited Page 7

8 Exhibit 13: Manufacturing - Integrated process Source: Company Further, we expect the company to maintain its margins at the high levels of FY08 due to greater share of retail/branded packs and a firm outlook on prices of raw material/finished products. See Exhibit 14 for our retail segment sales expectation in FY09E-10E. Exhibit 14: Higher share of brands will help sustain margins Rs mn FY08 FY09 % chg FY10E % chg FY08-10 CAGR Mustard 9,681 14,502 50% 21,303 47% 48% Branded 7,746 12,002 55% 18,572 55% 55% Loose 1,935 2,500 29% 2,731 9% 19% Refined Oil 5,530 10,637 92% 16,645 56% 73% Branded 3,318 6,382 92% 9,987 56% 73% Loose 2,212 4,255 92% 6,658 56% 73% Total Sales 20,421 30,283 48% 45,737 51% 50% Source: Company, JM Financial ASK Securities Estimates We believe the entry of other organised players in this space and KSO s expansion of capacities will drive faster adoption of the branded segment, particularly retail packs. Additionally, we expect the pricing outlook to remain firm, based on the demand/supply situation for edible oils (see Exhibit 15). JM Financial ASK Securities Private Limited Page 8

9 Exhibit 15: Stock to use ratio for oils is lowest in last six years Mn Tonnes E Oilseed- Production CAGR Soya % Rapeseed % Others % World total cons % % change 1.5% 13.9% 2.6% 4.1% -4.2% Stock to use ratio 14.9% 13.3% 15.5% 16.8% 18.4% 14.1% Oils- Consumption Palm % Soya % Rapeseed % Others % World total cons % % change 5.1% 7.6% 6.7% 5.2% 5.2% Stock to use ratio 8.8% 8.7% 9.4% 8.8% 7.5% 7.0% Source: USDA Exhibit 16: World consumption of oils is growing apace Mn Tonnes E CAGR Soya Oil Production Brazil % China % India % USA % World % Top 4 (% of total) 63% 65% 64% Consumption Brazil % China % USA % World % Top 3 (% of total) 60% 59% 59% Palm oil Production Indonesia % Malaysia % World % Top 3 (% of total) 85% 85% 87% Consumption China % EU % India % Indonesia % World % Top 4 (% of total) 52% 46% 46% Rapeseed Oil Production China % India % World % Top 2 (% of total) 40% 38% 32% JM Financial ASK Securities Private Limited Page 9

10 Mn Tonnes E CAGR Consumption China % India % World % Top 2 (% of total) 41% 39% 34% Source: USDA As seen in Exhibit 16, world consumption of edible oils has been growing at 6% CAGR over the last five years, whereas the production of seeds has been growing at 4%, leading to a drop in stock to usage ratio. Further, demand from alternative crops e.g. corn, sugarcane, etc, for ethanol also leads to changes in acreages depending on pay-offs. Exhibit 17: Corn acreages have increased, putting pressure on all crops mn hectares CAGR-5 yr Soya Wheat Corn Soya Wheat Corn Soya Wheat Corn Argentina % -1.0% 4.8% Brazil % -2.3% 2.3% United States % 2.2% 4.5% Others % 0.1% 2.3% World Total % 0.2% 2.8% Source: Oil world Exhibit 18: Corn prices drive Prices of soybeans and Wheat USD/Tonne Corn USD/Tonne Soybeans USD/Tonne Wheat Apr-04 Oct-04 Apr-05 Oct-05 Apr-06 Oct-06 Apr-07 Oct-07 Apr Apr-04 Oct-04 Apr-05 Oct-05 Apr-06 Oct-06 Apr-07 Oct-07 Apr Apr-04 Oct-04 Apr-05 Oct-05 Apr-06 Oct-06 Apr-07 Oct-07 Apr-08 Source: Bloomberg, JM Financial ASK Securities Exhibit 19: Profitability of crops Cost Yield (tonne) cost per tonne Realisation Gross margin Gross margin Rs/ha Tonne/ha Rs/tonne Rs/tonne Rs/tonne Rs/ha Paddy 17, ,808 13,630 4,822 9,306 Wheat 14, ,426 15,000 9,574 24,700 Soya 10, ,524 22,000 12,476 13,100 Mustard 10, ,364 25,600 14,236 12,528 Sugarcane 30, ,000 Palm 40, ,000 43,500 27,500 68,750 Source: Industry, JM Financial ASK Securities JM Financial ASK Securities Private Limited Page 10

11 Exhibit 20: Prices for all crops have increased since 4Q FY06 USD / tonne Soybean oil (Crude), Netherlands USD/tonne Palm oil, Europe Rapeseed Oil,China Rice (5% broken), Bangkok Wheat (No.2 soft red winter), Gulf port Maize (No.2, Yellow), Gulf port Jan-03 Apr-03 Jul-03 Oct-03 Jan-04 Apr-04 Jul-04 Oct-04 Jan-05 Apr-05 Jul-05 Oct-05 Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Source: JM Financial ASK Securities Prices of all edible oils (see Exhibit 20) have increased in the last two years, on the back of higher consumption (from China, and India), increased usage of seeds for biofuel (see Appendix on Page 20) and constrained capacities. Exhibit 21 shows that the acreages under cultivation and crop yields have not increased much globally over the last few years. Exhibit 21: Acreages and yields are not keeping pace Acerage ( Mn ha) Yield (tonnes/ha) Soyabeans E E USA Argentina Brazil China World Palm Oil Indonesia Malaysia Thailand World Rapeseed EU Canada China India World Source: Oil World On the other hand, consumption on worldwide basis has increased at a CAGR of 6% over the last five years due to increased consumption from China and increased usage for biodiesel (see Exhibit 22). JM Financial ASK Securities Private Limited Page 11

12 Exhibit 22: with increase in consumption from China and for fuel Mn Tonnes E FY03-08 CAGR Overall Production % % change 7.0% 8.8% 6.2% 3.3% 5.2% Consumption Soybean oil Brazil % China % USA % World % Food/feed % Industrial cons % Palm oil China % EU % India % Indonesia % World % Food/feed % Industrial cons % Rapeseed oil China % India % World % Food/feed % Industrial cons % Other oils % Total % % change 5.1% 7.6% 6.7% 5.2% 5.2% Source: USDA Firm pricing outlook makes investments in palm plantations attractive: Given this demand/supply balance, we expect the prices to remain firm. This also makes investments in plantations an attractive proposition. KSO has also announced acquisition of 20,000 hectares of land on 30-year lease basis (renewable for another 50 years) at a total investment of Rs2.3 bn (c.us$3,000/hectare). Given the cost of production of US$300/tonne of crude palm oil, the current pricing of US$1,100/tonne of Crude Palm Oil (CPO) is fairly attractive. We believe this land can be valued at US$7,000-8,000/hectare, even with conservative assumptions (see Exhibit 23). JM Financial ASK Securities Private Limited Page 12

13 Exhibit 23: Palm plantations are attractive Units Yield Realisation/Cost CPO Rs/tonne 22% 28,000 Kernels 4% Kernel oil Rs/tonne 38% 30,800 Palm pulp Rs/tonne 50% 5,200 Raw material cost Rs/ha 8,000 Other fixed costs Rs/ha 4,000 Fixed investment Rs/ha 120,000 Source: Industry, JM Financial ASK Securities Estimates Thus, KSO s 20,000 hectares could be worth US$130 mn. We note that this is c.20% of KSO s current market capitalisation. Annually, this land can generate profits of US$2,000/hectare thus contributing c.rs1.6 bn or c.60% of our FY10 estimates. JM Financial ASK Securities Private Limited Page 13

14 Palm plantation in Indonesia Indonesia and Malysia currently supply 90% of world s crude palm oil. This is because palm grows in tropical climate and Indonesia and Malaysia are situated ideally near the equator providing the right climatic conditions for palm trees. Indonesia and Malaysia control 86% of world s output Acerage (Mn ha) Yield (tonnes/ha) Output (Mn tonnes) E E E Indonesia Malaysia Thailand World total Source: Oil world Indonesia is an archipelagic nation encompassing over 10,000 islands. The five main islands of the archipelago are Sumatra, Java, Borneo, Sulawesi, and Western New Guinea. Indonesia's total land area is slightly greater than 1.2 million square miles. Palm oil producing areas have slowly expanded since the early 20th century when the palm was first introduced. Even though the bulk of Indonesia s production remains on Sumatra, according to some sources, 70% to 80% rapid expansion is occurring on the island of Borneo; the second largest producing area in Indonesia. In recent years, there has been a growing expansion of palm oil plantations on the island of Borneo particularly in Central and West Kalimantan. This continued increase in production is a result availability of land on Borneo and other previously non-developed areas that has allowed Indonesia to become the top producer. The current (December) USDA production forecast of 2007/08 Indonesia Palm Oil is 18.3 million tons - up 10% YoY. JM Financial ASK Securities Private Limited Page 14

15 Initiate with Buy KSO s net profit grew at a CAGR of 232% for FY The company has also been generating return on capital employed of over 20% for last three years. Despite the 350% and 270% YoY net profit growth in FY06 and FY07, the stock has got re-rated only in June-July 2007 to over 15x 1-year forward. It is trading at 18x FY09E EPS and 9x FY10E EPS. Hence, we believe the stock is only partly factoring-in the outlook for FY09 and leaves lot of upside for its FY10 potential. Further, we also believe that the current stock price is not capturing the value of KSO s Indonesian palm plantation. KSO s foray into palm will significantly alter the company s business composition and provide upsides to investors, as this will be a high margin business and should drive earnings growth over the next 4-5 years. We initiate with a Buy recommendation and March 2009 target price of Rs115, based on 15x FY10E EPS. Excellent past performance KSO has reported 184% growth in net profits over FY06-08, on the back of 83% CAGR in sales (see Exhibit 24). Exhibit 24: Robust profit growth of last three years Rs mn FY06 FY07 FY08 FY06-08 CAGR Sales 6,082 10,875 20,421 83% % change 34% 79% 88% EBITDA , % margins 4.5% 8.6% 11.0% % change 97% 241% 143% PAT , % margins 2.5% 5.3% 6.0% % change 353% 278% 114% Source: Co Annual Reports, JM Financial ASK Securities This is driven by increase in volumes, higher prices and improving margins on the back of better product mix and improving market dynamics (see Exhibit 25). Exhibit 25: on the back of improving EBITDA margins Rs mn FY06 FY07 FY08 FY06-08 CAGR Branded 2,926 6,560 12, % % of total 48.1% 61.1% 59.9% Retail Packs 586 2,308 6, % % of total 9.6% 21.5% 30.9% Bulk Packs (above 15kg) 2,329 4,253 5, % % of total 38.3% 39.6% 27.6% Non branded 3,156 4,169 8, % % of total 51.9% 38.9% 40.1% Total Sales 6,082 10,729 20, % EBITDA Margins 4.5% 8.5% 11.0% Source: Company, JM Financial ASK Securities re-rating only since June 2007 Despite 350% and 270% increase in net profit in FY06 and FY07, respectively, the stock got re-rated only in June-July 2007, probably as investors were awaiting consistent performance. JM Financial ASK Securities Private Limited Page 15

16 Exhibit 26: Stock got re-rated only since June-07 FY05 FY06 FY07 FY08 EPS % change 149% 248% 16% 23% PE on avg price -1-yr fwd PE on avg price-2-yr fwd Source: Company Annual Reports, JM Financial ASK Securities Exhibit 27: 1-yr forward PEx has expanded to over 17x 140 Share Price Apr-05 Jul-05 Oct-05 Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 24x 20 x 16 x 12 x 8 x 4x Source: Capitaline, Bloomberg, JM Financial estimates This compares with a stable PEx for RS throughout the period, as shown in Exhibit 28. Exhibit 28: Ruchi s PEx has remained in a narrow band FY05 FY06 FY07 FY08 EPS % change 32% 69% 22% 57% PE on avg price -1-yr fwd PE on avg price-2-yr fwd Source: Company Annual Reports, JM Financial ASK Securities We believe KSO s higher growth rate justifies higher PEx historically, especially from FY08 when the gap in profit numbers reduced. JM Financial ASK Securities Private Limited Page 16

17 Exhibit 29: KSO is rapidly bridging gap with Ruchi Rs mn FY05 FY06 FY07 FY08 KS Oils EBIDTA % change 97% 241% 143% Net profit % change 361% 277% 114% EPS % change 48% 353% 278% 114% Ruchi Soya EBIDTA % change 135% 28% 58% Net profit % change 69% 22% 57% EPS % change 5% 49% 6% 57% Difference in net profit 1430% 460% 81% 33% Source: Company Annual Reports, JM Financial ASK Securities Earnings growth is likely to be a stellar even for FY08-10E We expect KSO s net profit to grow at 48% CAGR over FY08-10E on the back of expanded volumes (see Exhibit 30). Exhibit 30: Expanded capacities will drive profit growth Rs mn FY08 FY09E FY10E FY08-10 CAGR Capacities ('000TPA) Oil Mill , % Refinery % Wind Mill (MW) % Net Sales 20,421 30,283 45,737 50% % change 88% 48% 51% EBITDA 2,252 2,934 5,127 51% margins 11.0% 9.7% 11.2% % change 143% 30% 75% PAT 1,227 1,508 2, % margins 6.0% 5.0% 5.9% % change 114% 23% 78% Source: Company, JM Financial ASK Securities We expect EBITDA margins to slightly decrease in FY09E, to neutralise the effect of favourable raw material-finished product situation in FY08, offset by higher capacities allowing more in-house production reducing lower-margin trading business. JM Financial ASK Securities Private Limited Page 17

18 Exhibit 31: Organised share has increased to 25% 000 tonnes FY05 FY06 FY07 Mustard seeds Consumption 5,455 6,210 5,657 Organised players ,131 % share in total 10% 10% 20% KS Oils % share in total 2% 1% 3% % share in organised sector 15% 13% 16% Source: Industry, USDA, JM Financial ASK Securities Even with this growth in the mustard business, we expect KSO s market share to remain stable at 25-30%, but the organised market would increase its share from 20-25% to 70% (see Exhibit 32). Exhibit 32: and will increase to 70%, driving sales growth 000 tonnes FY08 FY10E FY11E FY12E Mustard seeds Consumption 4,907 5, Organised players 1,227 3,640 4,017 4,303 % share in total 25% 70% 75% 78% KS Oils % share in total 7% 18% 19% 21% % share in organised sector 30% 26% 26% 26% Source: Industry, Agricultural Outlook (FAPRI) 2008, JM Financial ASK Securities In the next two years, the company is planning to expand its distribution network from the present 450 wholesalers and 45,000 retailers to almost 650 wholesalers and 200,000 retailers. It also plans to expand its marketing team from 80 people currently to 150. We believe KSO s volume can continue to grow at 10-12% for the next 3-4 years and 5-6% thereafter in line with the base growth. Palm plantation provides further re-rating potential Most importantly, we believe KSO is well positioned to create value in the palm plantation business. It is likely to invest Rs2.3 bn over 2-3 years for 20,000 hectares from which it can generate profits of Rs1.6 bn c.60% of our estimated profits for FY10E. Further, global peers such as IOI Corp, Sime Darby, etc are trading at 15x 1-year forward consensus EPS (see Exhibit 33). Exhibit 33: Global valuation comparables M Cap Revenue P/E EV/EBITDA ROE (%) PEG Ratio ($ bn) ($ mn) FY08 FY09 FY10 FY08 FY09 FY10 FY08 FY09 FY10 FY09 FY10 IOI CORPORATION BHD , KUALA LUMPUR KEPONG BHD 5.7 1, SIME DARBY BERHAD , INDOFOOD AGRI RESOURCES LTD WILMAR INTERNATIONAL LTD , ASTRA AGRO LESTARI TBK PT PP LONDON SUMATRA INDONES PT SAMPOERNA AGRO TBK PT Source: Bloomberg estimates JM Financial ASK Securities Private Limited Page 18

19 These stocks also got re-rated over the last two years on the back of increasing CPO prices. On relative basis, KSO is trading very cheap as it is likely to offer far higher earnings growth over the next 4-5 years. The lowest EV/hectare (see Exhibit 34) is trading at EV/ha over $16,000. Even considering 50% discount, we believe KSO can provide significant upside from its recent land acquisition. Exhibit 34: EV of global Palm Oil companies Enterprise Value Palm Plantation Area EV / hectare Mn USD Hectares USD IOI Corporation Bhd 14, ,871 97,631 Kuala Lumpur Kepong Bhd 5, ,981 38,324 Sime Darby Berhad 18, ,579 33,254 Indofood Agri Resources Ltd 3, ,457 20,533 Wilmar International Ltd 20, ,000 86,191 PP London Sumatra Indones Pt 1,525 92,533 16,482 Source: Bloomberg, company annual reports, JM Financial ASK Securities Buy for over 50% upside in 12 months We initiate coverage with a March 2009 target price of Rs115, based on 15x FY10E EPS of Rs7.5. This gives 50% upside within a year, and hence we recommend a Buy. The upsides could be higher by at least 20% if one considers the value of palm plantation. Risk to our recommendation Edible oils are traded as commodities with prices of loose packs fluctuating daily and branded products revised every week. Further, companies use hedging to cover their commodity risk. Given the nature of the business, it is difficult to predict earnings accurately as it depends on prices at which companies buy their raw materials, the number of months of inventory they build and the prices at which they forward sell finished goods. We believe KSO s earnings are relatively less susceptible, as it is able to forward-contract its finished products in the physical market with its distributors. This will ensure at least some base margins. Further, higher share of branded business and more in-house production will also help boost its margins. KSO s margins could suffer if global demand-supply outlook improves and overall price table for edible oils falls. This may happen if oil prices recede to below US$70/barrel. With the increasing use of biofuels and increasing global consumption of oil, we believe prices of edible oils will remain firm for a longer period. JM Financial ASK Securities Private Limited Page 19

20 Appendix on biofuels The price of crude oil has nearly tripled since 2003 (see Exhibit 35). Exhibit 35: Crude oil prices have nearly tripled USD/barrel Sep-97 Sep-98 Sep-99 Sep-00 Sep-01 Sep-02 Sep-03 Sep-04 Sep-05 Sep-06 Sep-07 Source: CMIE Higher crude prices lead to higher petrol/diesel cost, heating oil cost; impacting various other costs. Along with high prices, there is an increasing concern on global warming due to carbon emission. As a result, biofuels have gained traction as a substitute for petrol/diesel. Exhibit 36: Current global biofuel use (2008) million gallons Biofuels consumption Overall oil cons Oil cons (% of total world) Oil for trasnport Biofuel usage =1/4 USA 11, , % 289, % EU 3, , % 109, % Brazil 5,004 75, % 18, % India , % 12, % China , % 46, % Source: World Energy Outlook2007, US & World Agricultural Outlook Various governments have set standards for compulsory substitution of biofuels for petrofuels, to reduce dependence on oil imports and to have cleaner alternatives. Biofuels are carbon neutral, as they release carbon absorbed during its lifetime. JM Financial ASK Securities Private Limited Page 20

21 Exhibit 37: Global biofuel adoption targets Main source of Country Current Capacity Targets Biofuel US Brazil EU 18.4 billion litres of ethanol (2006), 284 million ltres of biodiesel (2005) 17.5 billion litres of ethanol (2006) 3.6 billion litres of biodiesel (2005), 1.6 billion litres of ethanol (2006) 28 billion litres (2012) of ethanol and 1 billion litres of cellulosic ethanol by % blending of ethanol (has been in effect for long time), 2.4 billion litres of biodiesel by percent of transportation fuel on energy basis by 2010 maize and future cellulosic sources sugarcane, soybean rapeseed, sunflowerseed, wheat, sugarbeet and barley Biofuel policies (explicit) excise duty credit, mandatory blending, capital grants, vehicle subsidies mandatory blending, capital subsidies, vehicle subsidies excise duty credit, mandatory blending, capital grants, vehicle subsidies, funding for R&D China 1.2 billion litres of ethanol (2006) na* maize, cussava, sugarcane subsidies and tax breaks but only for non grain feedstock Japan India insignificant 200 million litres of ethanol (2006) 360 million litres by 2010 and 10% biofeul by % ethanol in select cities and 10% biodiesel by 2012 ** imported ethanol sugarcane molasses, Jatropha (in future) excise duty credit mandatory ethanol blending, capital subsidies Source: World Bank Report 2007, * not found, ** biodiesel policies has not yet passed into law in India and is merely a government preference at this point Brazil currently uses 27% biofuel for its transportation needs. This has been possible due to low manufacturing cost of ethanol (from sugarcane) and encouraging usage of flex-fuel cars. Exhibit 38: US is the largest producer of Biofuels million Biofuels production Biofuels consumption gallons % of total world prodn Ethanol Biodiesel Total Ethanol Biodiesel Total % of total world consumption USA 8, ,310 49% 11, ,883 56% EU 1,217 1,558 2,775 15% 1,353 1,988 3,341 16% Brazil 5, ,507 29% 4, ,004 24% India % % China % % World 16,336 2,692 19, % 18,467 2,694 21, % Source: US & World Agricultural Outlook (FAPRI) 2008 While ethanol for Brazil is competitive as against petrol at oil price of US$35/barrel, the current oil price makes the usage of various other crops for biofuel also possible. Exhibit 39: Palm oil cheapest input for biodiesel Yield tons per hectare Oil (Ltrs) per hectare Conversion Biofuel (ltr) per hectare Price of edible oil $/ton Cost $/ton of biofuel Cost $/hectare soya ,400 1, rapeseed ,800 2, palm oil , Source: Industry, JM Financial ASK Securities JM Financial ASK Securities Private Limited Page 21

22 We estimate that in order to meet even 5% blending, acreage would need to increase by 25%. Exhibit 40: Land requirements to increase by 25% to meet 5% standard Diesel Diesel (m litres/year) (m litres/year) Diesel consumption (Mn litres) 805,000 Biodiesel required (Mn 5% blending 40,250 Option 1 Option 2 Million hectare land required for % of biodiesel 100% 50% Soybeans (Mn hectares) % of world soybean acreage in % 41% Rapeseed (Mn hectares) % of world rapeseed acreage in % 58% Palm Oil (Mn hectares) 8 4 % of world palm acreage in % 36% Source: IEA, Industry, JM Financial ASK Securities We thus believe that in the longer term too these crops/edible oils will continue to have enough demand, such that even if oil prices drop to US$70/barrel, there will be demand for biofuels. At the same time, biofuels are currently being subsidised by various governments and this subsidy burden will increase as prices shoot up, discouraging their use. Nevertheless, we believe that these prices are likely to remain firm over a longer period. JM Financial ASK Securities Private Limited Page 22

23 Financial Tables Profit & loss statement (Rs mn) Y/E March FY06 FY07 FY08E FY09E FY10E Net sales 6,082 10,875 20,411 30,283 45,737 Growth (%) Other operational income Increase/(Decrease in stock) (226) 288 (679) - - Raw material consumption cost 5,517 8,937 15,702 25,242 37,370 Power cost Other Manufacturing Expenses Administration Exp Selling and distribution exp ,601 EBITDA ,252 2,934 5,127 EBITDA (%) Growth (%) Other non-operational income Depreciation & amortisation EBIT ,238 2,784 4,877 Interest (income)/exp (net) Pre tax profit ,854 2,184 4,077 Taxes ,386 Tax rate 14% 22% 34% 34% 34% Extra (income)/exp (net) Net profit ,227 1,442 2,691 Adjusted net profit ,227 1,442 2,691 Margin (%) Diluted share capital (# mn) EPS (Rs) Growth (%) Source: Company, JM Financial ASK Securities. Balance sheet (Rs mn) Y/E March FY06 FY07 FY08E FY09E FY10E Share capital Reserves & surplus 383 1,444 5,621 8,013 10,644 Networth 468 1,903 6,454 8,369 11,000 Total loans 874 1,002 3,000 6,109 8,629 Sources of funds 1,341 2,905 9,454 14,479 19,629 Intangible assets Fixed assets 597 1,378 4,728 7,228 8,228 Less: Depreciation/amortisation Net block 438 1,175 4,406 6,656 7,306 CWIP ,150 2,300 Investments Deferred tax assets/(liability) - (156) (250) (350) (450) Current assets 1,821 3,234 6,869 9,398 13,844 Inventories 1,552 2,477 4,484 7,467 11,278 Sundry debtors ,206 1,245 1,880 Cash & bank balance Loans & advances Current liabilities & provisions 921 1,508 1,596 2,375 3,372 Current liabilities 875 1,272 1,296 2,075 3,072 Provisions and others Net current assets 903 1,727 5,273 7,023 10,473 Others (net) Application of funds 1,341 2,905 9,454 14,479 19,629 Source: Company, JM Financial ASK Securities Cash flow statement (Rs mn) Y/E March FY06 FY07 FY08E FY09E FY10E Net profit ,227 1,442 2,691 Depreciation/amortisation (Inc)/dec in working capital (226) (754) (3,043) (2,244) (3,450) Others Net cash from operations (46) (3) (1,602) (427) (309) (Inc)/dec in investments Capex (150) (916) (3,215) (3,650) (2,150) Others Cash flow from inv. (150) (916) (3,215) (3,650) (2,150) Inc/(dec) in capital , (0) Dividends paid + div tax (12) (39) (40) (50) (60) Inc/dec in loans ,998 3,109 2,519 Others (2) (2) (11) 0 (0) Financial cash flow ,321 3,583 2,459 Net inc/dec in cash (11) (494) - Opening cash balance Closing cash balance Source: Company, JM Financial ASK Securities Key ratios Y/E March FY06 FY07 FY08E FY09E FY10E ROCE (%) Adjusted ROCE (%) ROE (%) Debt-equity ratio (x) Valuation ratios (x) PER PBV EV/EBITDA EV/Sales Turnover ratios (no.) Debtor days Inventory days Creditor days Source: Company, JM Financial ASK Securities JM Financial ASK Securities Private Limited Page 23

24 Contact details Sales & Dealing Team Sales Team Tel: (91 22) Sales Trading & Dealing Team Tel: (91 22) Derivatives Team Tel: (91 22) JM FINANCIAL ASK SECURITIES PRIVATE LIMITED MEMBER, BOMBAY STOCK EXCHANGE LIMITED AND NATIONAL STOCK EXCHANGE OF INDIA LIMITED Bandbox House, 1st Floor 254-D Dr Annie Besant Road, Worli Mumbai Tel: Dealers: Fax: Disclosures JM Financial ASK Securities Private Limited is a joint venture between JM Financial Group and ASK Group. JM Financial Group currently owns 60% equity stake in the said joint venture. Analyst Certification The research analysts, with respect to each issuer and its securities covered by them in this research report, certify that: All of the views expressed in this research report accurately reflect his or her or their personal views about all of the issuers and their securities; and No part of his or her or their compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed in this research report. Analyst(s) holding in the Stock: (Nil) Other Disclosures This research report has been prepared by JM Financial ASK Securities Private Limited (JM Financial ASK Securities) to provide information about the company(ies) and sector(s), if any, covered in the report and may be distributed by it and/or its affiliated companies solely for the purpose of information of the select recipient of this report. This report and/or any part thereof, may not be duplicated in any form and/or reproduced or redistributed without the prior written consent of JM Financial ASK Securities. This report has been prepared independently of the companies covered herein. JM Financial ASK Securities and/or its affiliated entities are a multi-service, integrated investment banking, investment management and brokerage group. JM Financial ASK Securities and/or its affiliated company(ies) might have lead managed or co-managed a public offering for the company(ies) covered herein in the preceding twelve months and might have received compensation for the same during this period for the services in respect of public offerings, corporate finance, investment banking, mergers & acquisitions or other advisory services in a specific transaction. JM Financial ASK Securities and/or its affiliated company(ies) may receive compensation from the company(ies) mentioned in this report within a period of three to six months' time following the date of publication of this research report for rendering any of the above services. Research analysts and Sales Persons of JM Financial ASK Securities may provide important inputs into the investment banking activities of its affiliated company(ies) or any other firm or company associated with it. While reasonable care has been taken in the preparation of this report, it does not purport to be a complete description of the securities, markets or developments referred to herein, and JM Financial ASK Securities does not warrant its accuracy or completeness. JM Financial ASK Securities may not be in any way responsible for any loss or damage that may arise to any person from any inadvertent error in the information contained in this report. This report is provided for information only and is not intended to be and must not alone be taken as the basis for an investment decision. The investment discussed or views expressed herein may not be suitable for all investors. The user assumes the entire risk of any use made of this information. The information contained herein may be changed without notice and JM Financial ASK Securities reserves the right to make modifications and alterations to this statement as they may deem fit from time to time. JM Financial ASK Securities and its affiliated company(ies), their directors and employees may; (a) from time to time, have a long or short position in, and buy or sell the securities of the company(ies) mentioned herein or (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation or act as a market maker in the financial instruments of the company(ies) discussed herein or act as an advisor or lender/borrower to such company(ies) or may have other potential conflict of interests with respect to any recommendation and other related information and opinions. This report is neither an offer nor solicitation of an offer to buy and/or sell any securities mentioned herein and/or not an official confirmation of any transaction. This report is not directed or intended for distribution to, or use by any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction, where such distribution, publication, availability or use would be contrary to law, regulation or which would subject JM Financial ASK Securities and/or its affiliated company(ies) to any registration or licensing requirement within such jurisdiction. The securities described herein may or may not be eligible for sale in all jurisdictions or to a certain category of investors. Persons in whose possession this report may come, are required to inform themselves of and to observe such restrictions. JM Financial ASK Securities Private Limited Page 24