Wednesday, April 21, 2010

Kesar Enterprises - Seems Sweet!!

Statutory Warning: Kesar Enterprises is a sugar company!

In spite of this, if you still have any interest left in this post, please read on! :-)

Kesar Enterprises (KEL) is a sugar company based in UP. It also has small divisions like power generation from molasses, seeds, smart crops, etc. The reason i am writing about this company is because it is demerging one division, which has the potential to create substantial value to the shareholders.

The situation:
Along with the sugar business, KEL also has a liquid storage division. The company had announced the demerger of this division into a separate company, Kesar Terminals and Infrastructure Ltd. (KTIL), which would of course be listed. The demerger has already been sanctioned by the Mumbai High Court and all that remains is for the company to hold a Board Meeting and announce the record date and other details. The ratio for this demerger has been fixed at 7 shares of KTIL for every 10 shares held in KEL.

I have tried to value KEL and KTIL directly on market cap basis, without getting into per-share calculations.  

Valuation of sugar business:
Analysing sugar business and investing in sugar companies is not my cup of tea. I do not like the business at all and have never analysed/studied any sugar company. So i faced a big problem here and i feel this is the weak link in my hypothesis.
So, of course, i had to talk with someone who analysed sugar businesses. After talking with quite a few people, there was consensus that the replacement cost of a plant of KEL's size would be at least Rs.250 crores. KEL has debt of Rs.165 crores for FY09. So that gives us an approximate market cap of (250-165)=Rs.85 crores. This is close to the present market cap of KEL. We can conclude that the sugar business is fairly valued. (Again, i am stressing that this is just a rough calculation. Since i do not like the dynamics of the sugar industry in India, i have not even studied the sector/any sugar company and hence, cannot value sugar businesses properly.)

Valuation of the storage business:
KEL's liquid storage division has become an annuity kind of business for the company. For FY09, the business had a topline of about Rs.14 crores and PBIT of just over Rs.7 crores. After considering interest on debt to be transferred to KTIL Rs.13 crores and taxes, KTIL can have PAT of Rs.5.5 crores. KTIL has plans to grow into an integrated logistics player, from having only storage business. Companies in this sector get valuations in excess of 20x trailing. To be conservative, we will give KTIL a valuation of 10x.. that seems quite reasonable right? Soooo PAT of Rs.5.5 crores and a PE of 10x should give KTIL a market cap of Rs.55 crores at least.

Great!! Now lets summarise...

This demerger could create substantial value for the shareholders. Post demerger, KTIL has substantial growth plans of its own, but lets not get into that, since i am approaching this as a 'special situation' case and not as an investment case.

Now lets take a look at the risks/limitations in this entire exercise:

  1. Inability to value sugar business with conviction: As i have already mentioned, its just not something i am particularly good at (like a lot of things!). So if there is anyone out there who can value KEL's sugar business properly, I am more than willing to buy you a nice single malt ka bottle! :-)
  2. Time risk: All the legal and procedural formalities for the demerger have been completed. All that is left is for the company to announce the record date and go ahead with the demerger. It is very much probable that the company might declare the record date, along with the results announcement. (before April 2010-end). So in my view, the time risk is not significantly high.
To conclude, it does seem that if one buys shares of KEL at current market cap, it would prove to be a good special situation position. The MOS comes from the current market cap of just Rs.80 odd crores, which is quite near to the value that KTIL could command and the fact that all legal formalities are over. 

Cheers and happy investing!!


Unknown said...

Dear Neeraj,

Gone through the submission.Excellent.
Keep it up.

Neeraj Marathe said...

Thank you Ramkrishnaji..

ZeeNut said...

Noble group estimated replacement cost as 22 Cr per 1000 tcd (in early 2009). SO using that, it works out to 158 Cr for the sugar business.
When & where can i collect my single malt, boss ?

Neeraj Marathe said...

:-) thnx Bosco..weak links break easy, huh?
So wat do u think of KEL now, after the recalculations?
and btw, since i know u don't drink, i think i will keep the single malt and gift u a nice big bottle of Pepsi instead! :-)

ZeeNut said...

Make it a 10 litre bottle then !! On Kesar, i did look into it when i saw the announcement, but the sugar industry turns me off. So i cannot make up my mind.

ZeeNut said...
This comment has been removed by a blog administrator.
Gaurav said...

Great analysis Neeraj,

The opportunity seems good, however the only issue is the negative sentiment on sugar stocks.

Also buying now and waiting for demerger exposes you to the market risk. Is there a way that one risk can be hedged.

I agree that there could be some value unlocking in the demerger

Neeraj Marathe said...

Hi Gaurav,
Your thoughts on the risk part are extremely valid. The risk of sentiment for the sugar sector being hit is very realistic and in my view cannot be hedged. There is no way of knowing when and if at all this could happen. But if one sees value in KEL at present market cap, one can certainly take that risk. A fall in price would only make it more attractive. The problem about pricing of the sugar business is sumthn which Bosco has exposed earlier. (I guess the single malt ka offer was too tempting for him. :-) )
As for the time risk, please go through today's BSE announcement.
Hope this helps..plz do keep commenting..

scorpio said...

For the hedge on sugar stocks - what if we short the sugar stocks - say balrampur chini or renuka. Its not a total hedge but can be thought about.

Simple good analysis neeraj :)

Inquisitive Stranger said...

Ni Neeraj,

As a reader of your blog wanted to suggest something, You may use it if you like it.

will it be possible for you to just mention the Stock symbol (NSE) when whenever you talk about a Stock, its not too tough to find it, just suggesting cause it makes it easier for investor and readers to review the stock on Google Finance or money control and look at it.


Neeraj Marathe said...

Hi Inquisitive Stranger,
Thnx for the suggestion..will implement it henceforth.

Anonymous said...

opportunities present themselves in strange ways na ;)
kesar sugar may soon be attractive enough on its own.
btw noble's replacement cost is useless to you and me, it's useful to a buyer tsking mgmt control.

Neeraj Marathe said...

Yes boss!!
I intend to write a separate post on Kesar now..a gr8 experience nonetheless..

Sparsh said...

Dear sir,
i think investing in sugar stocks needs good needs to study the bull market and bear market in sugar before taking a call.
Sugar prices were 64cents/pound in 1974. Then collapsed in 2cents/pound in 1985 and are now at 15cents/pound.

Neeraj Marathe said...

Dear Pankaj,
Plz dont call me Sir, I feel like i have been knighted by the Queen!!!
Ya i totally agree wid ur views on sugar..


seeing that kesar ltd has made a loss in last 2 quaters..wil merger help them to over cum that..seeing that u have made a valuation..

Neeraj Marathe said...

Hi Aniket,
there appears to be some confusion in ur mind..there has been a demerger in the company, not a merger..

excel_monkey said...

Good write-up
any department on KTIL's front?
do you still like KTIL?


Neeraj Marathe said...

Hi Excel,
I have been a regular seller in KTIL above 115 bucks..would be glad buyer below 70 bucks.

Anonymous said...

Are you a buyer at CMP of KTIL?

Neeraj Marathe said...

No sir,
i no longer hold the stock, nor am i buying afresh.