Govt’s new subsidy regime hits fertilizer companies hard

Gujarat Narmada Valley Fertilizers & Chemicals Ltd (GNFC) reported a significant decline in profitability margins during the latest December 2023 quarter due to industry-wide disruption stemming from a change in government policy.

The company’s operating margins crashed to 6-7% in the first 9 months of financial year 2023-24, down from 18% in the same period last year.

The company management highlighted that fertilizer industry is reeling under reduced subsidies while chemical segment is facing margin pressures due to higher input costs. The tough macroeconomic environment has impacted earnings across the sector.

The company management highlighted that revised nutrient-based subsidy rates and high fixed costs have eroded profitability of its fertilizer segment. The urea business, in particular, continues to incur losses due to under-recoveries of input costs.

While both input costs and output realizations have declined, the fall in output prices has been much sharper leading to the massive margin compression, it noted.

The company executive director and CFO, DV Parikh said, “There has been margin pressure mainly because of the disproportionate impact rather on the realizations as compared to the inputs. Although, both have gone downward, the proportions are different, which is impacting most companies, including GNFC.”

“There is not much to do and much to change as far as the fertilizer segment is concerned for cost cutting,” said Manish Billore, Sr Executive Director of GNFC.

On an optimistic note, the management expressed confidence that double-digit operating margins should return in financial year 2024-25 based on recent improvements in product selling prices since December 2023. The correction in input costs is also expected to catch up soon.

GNFC reported revenues of Rs. 5,246 crores and net profit of Rs. 76 crores for the first nine months of FY 2023-24. The company is an integrated producer of fertilizers and industrial chemicals. Its key products include urea, ammonium nitrate, weak nitric acid, toluene diisocyanate (TDI) and acetic acid.

The company management will focus on sweating its assets while containing fixed costs to protect profitability until a more sustainable margin recovery takes hold over the next few quarters.

“Looking to the pricing guidance given, it looks margins should be better. We are trying for double digit margins next year,” Parikh said.

Production Strategy

The company is looking to ramp up production volumes to counter the impact of reduced fertilizer subsidies, which have led to losses in its urea business.

The company is now focused on optimizing its product mix towards more profitable fertilizer variants. It can toggle production between urea, ammonium nitrate and nitrogen-phosphate complexes depending on market demand and realizations.

Additionally, GNFC has brownfield expansion projects underway to debottleneck urea and ammonia capacity. The additional volumes once projects get commissioned by mid-2025 will also help in absorbing fixed costs better.

While profitability has taken a hit in the near term, the long-term demand outlook for fertilizers in India continues to remain robust. GNFC with its integrated fertilizer and chemical facility is well positioned to benefit as sector economics improve over the next few years.

Capital Expansion

The company said it continues to execute its aggressive capital expansion program. It has identified new projects worth Rs 1,200 crores focused on expanding its chemicals portfolio.

The key growth projects include a new weak nitric acid plant with capacity of 200,000 metric tonnes per annum. Additionally, the company is also setting up an ammonium nitrate plant with 50,000 tonnes per annum capacity.

GNFC management stated that the investment decisions on these two new plants are likely to be formalized within the next two months. The company has done the groundwork in terms of planning and clearances. Execution can commence by Q2 of calendar year 2024, with likely completion by mid-2026.

Apart from these new plants, GNFC also has other expansion projects currently underway. This includes a 4 MW power plant at Dahej site, 63,000 tonne per annum urea debottlenecking and a new 235 MW coal-based power plant. Around Rs 20-30 crores have already been invested so far across these schemes.

The additional capacities will help GNFC strengthen its chemicals product portfolio beyond urea and improve profitability longer term. Operating margins are under pressure currently, down to 6-7% from 18% last year. Volume expansion along with self-reliance on key inputs like power is the focus.

Despite the weaker metrics, GNFC recently completed a buyback offer at a price of Rs 360 per share. The company bought back 8.4 million shares utilising close to Rs 300 crores. Post extinguishment of these shares, the promoter shareholding has increased to 41.3% from 41.18% earlier.

GNFC also has a policy of maintaining a 30% dividend payout ratio. For FY22, the company paid a dividend of 32%, distributing Rs 97 crores to its shareholders.

TDI Business

Amid all the gloom, the company reported significant improvement in its toluene diisocyanate (TDI) business performance. Losses from the TDI segment more than halved for the company during the first nine months of FY 2023-24.

Driven by higher capacity utilization of its new Dahej-based TDI plant, GNFC has managed to bring down accumulated losses to Rs 175 crores from over Rs 350 crores last year for the April-December period.

The state-of-the-art Dahej facility has steadily ramped up production over the past year. For FY23 so far, the plant has achieved 55,822 metric tonnes of TDI output, surpassing the full-year production levels achieved in FY22.

The management expressed confidence that the losses in the TDI business will turn into profits from next fiscal year, aided by better realizations and the upcoming coal-based power plant.

“The new power plant will improve our margin in TDI at Dahej. We will further reduce losses and book profits depending on pricing difference between natural gas and coal,” said Yogesh Patel, Head of Operations, GNFC.

GNFC is investing Rs 613 crores on a 235 MW power plant at its Dahej site that will provide cost-effective steam and energy to the TDI plant compared to gas-based power today. This project is slated for completion by mid-2025.