Invest in UPL To Take Advantage Of Advanta Merger
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India is the fourth largest pesticide producing country in the world. Country’s agrochemical market has witnessed a steady growth of 12 per cent and is expected to reach at USD 6.8 billion in 2017. Indian crop protection industry is largely dominated by insecticides which constitutes about 65 per cent of the industry. Other segments like herbicides, fungicides and other (rodenticides or nematicides) contribute 16, 15 and 4 per cent respectively.
Agriculture and allied sectors registered a growth of 1.1 per cent despite less rainfall during the current fiscal year. Recently, UPL formerly known as United Phosphorus made a declaration of its intentions to merge Advanta into the company. The merger raised headwind around the sector. Therefore looking forward, we at Dalal Street Investment Journal taking our reader-investors through an exhaustive analysis of UPL.
Understanding its business
UPL is a generic agrochemical company. The company is engaged in the business of manufacturing and marketing crop protection chemicals. It is also engaged in offering crop protection solutions. UPL manufactures crop protection chemicals and industrial chemicals across around 28 manufacturing locations across the world. The company offers a product portfolio of crop protection chemicals, including fungicides, herbicides, insecticides, plant growth regulators, rodenticides, specialty chemicals, nutri feeds and seeds.
UPL operates through two business segments viz. agro activity and non-agro activity. The agro activity segment includes manufacturing and marketing of conventional agrochemical products, seeds and other agricultural related products. The non-agro activity segment includes manufacture and marketing of industrial chemical and other non-agricultural related products. It operates through around 76 global subsidiaries in the agrochemical space.
Advanta – an Advantage
Advanta is a transactional plant genetics company. The company is engaged in research and development of hybrid seeds using germplasm. It utilises Molecular Marker Technology (MMT), while building biotech traits through seeds. Advanta has two biotech and 15 R&D stations.
During last week of November 2015, the Board of Directors of UPL and Advanta agreed to merge both the companies. The proposal will be implemented by a scheme of amalgamation. The appointed date for merger is April 1, 2015.
More than 90 per cent sales of UPL come from Agro products & the remaining 10 per cent from Non-Agro and Un-allocable product segment. The merger will enhance the presence of UPL across the agriculture inputs value chain. It will increase the geographical reach, market penetration and customer access. UPL can achieve economies of scale, greater efficiency, optimization of logistics and a vast distribution network with the merger which will help the company in annual cost saving of Rs 90 crore in future.
On other side, Advanta will benefit from the strong distribution channel of UPL and the presence of UPL in Mexico, Brazil, Colombia, China. Advanta will also be able to fast track its own growth path.
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Shareholding post-merger
The promoter company, UPL has 48.44 per cent stake in Advanta as of September 2015. UPL's shareholding in Advanta will stand cancelled on amalgamation.
There will be swap ratio like one UPL equity share for one equity share of Advanta. Further, three optionally convertible preference shares of UPL for one equity share of resident shareholders of Advanta. There will be three compulsorily convertible preference shares of UPL for one equity share of non-resident shareholders of Advanta. The preference shares will be convertible in to UPL equity shares any time up to 18 months, it will carry an annual dividend of 5 per cent.
Advanta GDR (global depository receipt) holders holding one GDR will be issued 1.06 GDR of UPL.
So once the merger is approved by the various authorities, by the shareholders, Gujarat High Court, UPL will be issuing 77.45 million new equity shares and 181.83 million new preference shares having face value of Rs. 10 based on Advanta’s shareholding pattern as on November 30, 2015 assuming full conversion of foreign currency convertible bond (FCCB) and existing Employee Stock Options (ESOPs).
Post merger, shareholding pattern of UPL will be 27.8 per cent towards promoter group and remaining 72.2 per cent with the public.
Complete business model
UPL's strategy to merge Advanta into the company is quite in line with global business models. Most crop protection players have a sizeable presence in seeds business. Considering an industry as whole integrated model in India with crop protection business grew by 3.9x and seed business by 2.3x over the last seven years’ period.
Post merger, UPL will have 89 per cent exposure towards agro chemicals against 11 per cent towards seed business. UPL has new integrated model to drive new heights across the sector in coming years. The merger value equation which will help to the company to save around Rs 40 crore in general and administrative cost, Rs 26 crore from interest burden and Rs 26 crore from tax expense.
Exponential growth opportunity
Post merger UPL will be able to access its entire value chain ranging from seeds to post harvest chemicals. The company will also be able to spread footprint across entire agri-inputs value chain. The company will have an access of broad geographic reach by leveraging channel capabilities. It would improve customer access more efficiently
After consolidation, UPL will have strong product portfolio consisting fungicides, herbicides, insecticides, rodenticides, specialty chemicals ; seeds: sorghum, sunflower, corn, canola, mustard, rice, wheat, nutri feeds and vegetable crops. The company will have best cross selling opportunities from its large product portfolio. The company will also have a competitive cost structure.
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Advanta Financials
Advanta follows calendar year as financial year. Considering 9M results, the company's revenue declined by 9.24 per cent to Rs 924 crore in 9MFY15 as compared to same period in the previous year. Its operating profit increased by 32.73 per cent to Rs 207 crore in 9MFY15 on yearly basis as 33.58 per cent reduction in raw material expense to Rs 354 crore during the same period. Advanta reported net profit of Rs 92 crore registering growth of 58.38 per cent in 9MFY15 on yearly basis.
On geographical segment revenue front, Advanta earned 63.4 per cent from Asia pacific region, 16.66 per cent from Latin America, 16.61 per cent from North America region and remaining 3.36 per cent from Europe FY14.
UPL financials
UPL's top line increased by 15.81 per cent CAGR in last five financial years and stood at Rs 12091 crore in FY15. The company's EBITDA too rose by 16.3 per cent CAGR at Rs 2363 crore in FY15. Its bottom line also expanded by 15.46 per cent amounting to Rs 1144 crore in FY15. UPL's ROE and ROCE stood at 21 and 21.73 per cent respectively as of FY15.
In spite a long dry monsoon this year, UPL's revenue increased by 5.23 per cent to Rs 2802 crore in Q2FY16 as compared to same period in previous fiscal year. The company's EBITDA also rose by 8.87 per cent to Rs 523 crore in Q2FY16 on yearly basis. Its EBITDA margin expanded by 62 basis points to 18.67 per cent in Q2FY16 on yearly basis. The net profit of UPL increased by 11.53 per cent to Rs 185 crore in Q2FY16 as compared to same period in previous financial year. The company's net profit margin expanded by 37 basis points to 6.61 per cent in Q2FY16 on yearly basis.
On half yearly basis, UPL's revenue increased by 8.24 per cent to Rs 5866 crore in H1FY16 on yearly basis. The company's EBITDA boosted by 10.69 per cent to Rs 1110 crore in H1FY16 as compared to same period in previous fiscal year. Its EBITDA margin expanded by 42 basis points to 18.93 per cent in H1FY16 on yearly basis. UPL's net profit rose by 1.18 per cent to Rs 460 crore in H1FY16 as compared to same period in previous fiscal year.
On geographical revenue front, UPL earned 31 per cent from India, 26 per cent from Latin America, 16 per cent from North America,15 per cent from Europe and remaining 12 per cent from Rest of the World during H1FY16.
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Projection of financials
The company's management maintained guidance revenue growth of 12 to 15 per cent on yearly basis with EBITDA margin improvement of 60 to 100 basis points in FY16 on constant currency basis. Though, UPL's total debt increased by 11.25 per cent to Rs 4450 crore as of Q2FY16 on yearly basis, the company's management expects to reduce its total debt burden by Rs 780 crore by end of the current financial year.
Peer comparison
UPL has lower PE multiple in comparison with Bayer Corp Science, Rallis India and Atul as 33.05x ,24.54x and 19.6x respectively. The competitors have already witnessed a negative growth in top line as well as bottom line since last three to four quarters. Share price of Bayer Crop Science and Rallis India are trading towards their 52 week low.
Conclusion
On valuation front, UPL scrip is presently trading at trailing twelve month (TTM) PE multiple of 16.34x which is quite low in comparison to industry PE of 21.15x. The lower PE multiple of the company indicates better growth will appreciate share valuation in future term. UPL and Advanta, both the companies under one roof have been anticipating better financial strength through optimal utilisation of resource and reduction of expenditure in near term. During first half of the current financial year, weak agriculture commodity prices, adverse weather conditions and the resultant impact on demand conditions took away pricing power. Meanwhile, UPL has a proper geographic mix which enables the company to hedge risk perfectly. Being present worldwide, the company's business hedges geographical location wise. It also performed financially better as compared to peer companies in the industry. On upcoming merger, we recommend our readers to BUY this stock.