Indelible Prints - Tamil Nadu Newsprint & Papers

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The froth and the excitement from the market is certainly off and it is time to focus on companies which are more of safe bets. With this simple logic in mind we scanned an array of counters to shortlist those companies that performed and then made noise, rather than companies that just made noise.

Our search led us to the Tamil Nadu Newsprint and Papers (TNPL), a South India-based PSU, which has been performing almost consistently, yet unnoticed, over the last three years.

TNPL is basically in to manufacturing of newsprint (NP) and printing & writing paper (PWP) with an installed annual capacity of 2,45,000 MT. It follows a flexible product mix between NP and PWP. However, with the customs duty reducing to the bare minimum of 3 per cent, making availability of NP easy through import, TNPL has reduced its focus on the segment and in FY08 opted to produce only PWP. The demand for PWP is still much stronger with better margins for companies such as TNPL.

Many would ignore this fact considering that the scrip has corrected sharply by 51.42 per cent. We feel it is more of weaker sentiment that has overplayed on it. But with stronger fundamentals in place a bounce-back in the counter cannot be ruled out. Besides, factors such as huge capacity expansion, strong management bandwidth, best margins in the industry, improving realisations and low valuations, which make us believe that TNPL does merit a second look at a CMP of Rs 65.5. Let’s look at these factors in detail.

Capex to drive future growth
The company has been working at more than 100 per cent capacity utilisation for the last three fiscals with 106.75 per cent capacity utilisation in FY08. In a bid to cater to the strong demand the company has already undertaken a massive Mill Development Plan (MDP). Phase I of this has already been implemented in FY07 itself at a cost of Rs 565 crore, which was funded through combination of internal accruals and debt. Phase I expansion included increasing the production capacity to 2,45,000 MT from 2,30,000MT and the pulping capacity to 800 tonnes per day from 520 tonnes previously.

The management is now implementing Phase II of the MDP. This entails capital expenditure of Rs 725 crore wherein TNPL would install paper machine 3 (PM3) of 1,55,000 MT capacity, which will increase its total capacity to 4,00,000 MT. Besides, TNPL aims to utilize the waste such as lime sludge and fly ash generated during paper manufacturing process and hence is also setting up mini cement plant of 400 TPD capacity at an additional cost of Rs 40 crore. All these expansions are expected to be completed by 2010.

Though TNPL said that it would raise funds through market sources and internal accruals, there are no official figures available. Sources say that TNPL plans to borrow Rs 550-600 crore, while the rest would be raised from internal accruals. There are twin benefits of this expansion as firstly it would reduce its raw material dependence costs, thus improving margins further, while secondly at total capacity at 4,00,000 MT it would[PAGE BREAK]

push its revenue growth to a different level altogether. The only concern here is that raising debt will increase the overall interest cost for TNPL.

Strong revenues on better realizations
Being one of the leaders in the paper industry TNPL has been able to command better premium over peers. The sales realisation per tonne has increased over the last three fiscals at more than 7 per cent. The sales realisation per tonne in FY08 stood at Rs 41,229.31/MT compared to Rs 38,707.79/MT in FY07 and Rs 35,921.57/MT. The other reason for this is that the demand for the PWP has been quite buoyant over the last three years. We spoke to some of the paper dealers in south, who informed us that the prices of PWP for Grade A mills such as TNPL has increased from 33,000/MT at the beginning of the year to touch a high of Rs 42,000/MT before settling down at Rs 40,000/MT. In fact prices of value-added products such as Copier, Maplitho, Creamwove etc had even gone as high as Rs 49,000/MT, before settling at Rs 44,000/MT.

Considering that almost 50 per cent of TNPL revenues come from value-added products, the sales realisations would continue to inch up in the coming period. The management is already focusing more on the value-added products such as copier, which has been growing at a brisk rate of 15-18 per cent. Besides, on the macro front there is lot of catching up to do as average per capita consumption of paper in India is still just over 8 kgs, where the Asian average itself is more than 45 kgs and the global average is more than 55 kgs. Thus one can expect ample demand for paper in India in the coming years, which augurs well for companies such as TNPL.

Consistent Performer
Apart from this, it should be noted that TNPL has been a consistent performer both in the topline as well as the bottomline over the last three years. TNPL’s topline has grown from Rs 671.28 crore in FY05 to Rs 938.53 crore in FY08, indicating a five-year CAGR of 11.82 per cent. The bottomline too has grown from Rs 37.95 crore to Rs 112.83 crore, indicating a brisk growth rate of 43.79 per cent during the same period. In fact TNPL has carried this performance even in H1FY09 where its topline and bottomline has grown 21 per cent and 15 per cent respectively over the same earlier period.

Besides, TNPL has also shown corresponding improvement in the operating margins as well. In the last three years its operating margins have gone up by 361 basis points. As on H1FY09 its operating margins at 27.61 per cent were highest in the industry. This is on account of better realisations, integrated setup, cost management etc.

Valuations
For FY09 we expect TNPL to post revenues of around Rs 1144.7 crore, while bottomline could be around Rs 141.12 crore. Thus at estimated EPS of Rs 20.34, TNPL generates PE of just 3x, while on market cap to sales it is available at just 0.37x, which we feel is quite low. Here we see an upside of at least 37 per cent. But on replacement basis, a new one tonne paper plant costs around Rs 46,774, while the EV/tonne of TNPL after considering FY10 expansion comes to around Rs 39,841.75. This limits the upside to just over 17 per cent. Thus despite factors such as highest industry margins, better realisations and strong management bandwidth, we might not see a huge capital appreciation, but considering higher dividend yield of 6.76 per cent, it surely looks a safe bet for long term.