Kalpesh’s Portfolio

Satia Industries India Rating credit rating Aug 2022

• All ratings upgraded from A- to A positive
• SIL doubled its production capacity to 2,05,000 tonnes per annum (MTPA) from 1,05,000 MTPA in February 2022, leading to a significant increase in the company’s scale as well as market position.
• The expansion could also improve the company’s product profile by increasing the proportion of high-quality wood-based paper to 40% (from 25%).
• Maplitho paper and snow-white paper are the highest sale contributors, accounting for 37% and 31%, respectively, of the total sales in FY22, followed by cream wove (8%), cover (6%), surface size (4%), cup stock (3%) paper
• The new capacity could enable the company to manufacture a higher-quality copier paper in addition to catering to incremental demand from state education boards.
• The management also expects a reasonable uptick in its operating margins over the medium term, driven by the change in product and higher operational leverage
• While the paper industry is fragmented with over 750 paper mills in existence, less than 100 mills have a capacity of more than 50,000 tonnes per annum and less than 15-20 have a scale and integration that is comparable with SIL
• High capital investment, technical expertise, gestation period and raw material procurement challenges restrict the entry of players of this scale in the industry.
• SIL’s plant is located in Muktsar (Punjab), which is considered the state’s wheat belt and has adequate availability of wheat straw, wood chips and veneer waste to meet the company’s raw material requirements.
• In FY22, SIL procured 95% (FY21: 95%) of its raw material (wheat straw and wood chips) from local catchment areas.
• The company has a fully-integrated manufacturing facility, which includes paper machines; an in-house pulp manufacturing facility; a captive power generation plant to meet 100% of its power requirement; and a chemical recovery plant. SIL also has eucalyptus plantations coverage of 540 acres of land for effluent treatment and to supplement the company’s raw material requirements.
• SIL continues to have a healthy market share of 10%-15% in the state’s book boards market in India
• The state’s textbook segment commands higher operating margins than the open market sales and contributes 40%-50% to SIL’s overall sales
• SIL’s healthy order book position in the state textbook segment provides revenue visibility over the medium term.
• Paper demand rebounded in FY22 after witnessing a sharp fall in FY21, despite continued online classes in educational institutions and the hybrid working model adopted by various offices for a large part of the year
• SIL’s sale volumes grew 21% yoy, with the company selling 143,605mt which was 8% higher than the pre-covid level witnessed in FY20
• Furthermore, the volumes grew 49% yoy in 1QFY23, led by the commencement of the new plant.
• The company also plans to increase its exports (FY22: 4% of revenue), given the opportunities created by a rise in demand for waste paper and pulp prices globally
• The growth in volumes coupled with a 25% yoy jump in realisation to INR62/kg in FY22 (FY20: INR60.9/kg), resulted in over 50% yoy hike in the revenue to INR8,909 million
• Realisations strengthened to over INR80/kg in 1QFY23 and are likely to remain strong in the near term led by a continued robust demand and input cost inflation.
• Despite the revenue growth, the EBITDA margins moderated to 20.3% in FY22 (FY21: 23.1%, FY20: 21.6%) as the increase in paper prices was offset by a sharp increase in the raw material costs.
• The margins declined further to 16.7% in 1QFY23 as the new plant was under stabilisation and the company used a higher proportion of waste paper owing to the ongoing upgradation of its pulp mill
• However, post completion of the pulp mill upgradation in September 2022, the margins are likely to improve as the company produces more wood-based paper, while the increase in realisations is likely to offset the input cost inflation.
• The company is improving its operational efficiencies and reducing costs by measures such as installing a new boiler which would increase the proportion of low-cost rice straw as the feedstock (compared to largely rice husk) thereby reducing power and fuel costs…
• Overall EBITDA increased 33% yoy to INR1.8 billion in FY22, aided by the volume growth. It is likely to achieve similar volume-led growth in FY23, as the new capacity ramps up
• SIL will undertake an additional INR3 billion-4 billion capex over the next three years for the modernisation of its pulp mill to improve yield and installation of a 75TPH boiler among others.
• Its cash flows have demonstrated resilience during economic downturns, with the cash flow from operations remaining positive over the past nine years (FY22: INR1,601 million; FY21: INR1,371 million; FY20: INR1,305 million; FY19: INR1,466 million). Ind-Ra expects SIL’s cash flow from operations to remain positive in the medium term, supported by healthy EBITDA margins and a moderate working capital cycle.
• However, the company’s free cash flow remained negative over the past seven out of 10 years (FY22: negative INR791 million; FY21: negative INR855 million; FY20: negative INR749 million), largely due to the continuous capex
• The company has repayment obligations of INR961 million and INR1,086 million in FY23 and FY24, respectively, which are likely to be funded by internal accruals.
• Ind-Ra believes the fundamental demand prospect for paper remains stable over the medium term, given its under penetration across segments
• Paper demand in the education sector would continue to grow with an increase in the literacy rate; copier paper could experience some slowdown over the near term, but the increasing use of computers in the sub-urban and rural areas will gradually replace the lost volumes from metro cities due to the ongoing remote working.
• Overall, the writing and printing segment is likely to grow at low single digits compared to mid-single digit in the pre-covid period
• However, with growing consumerism and e-commerce, and the ban on plastic usage in several states, demand for cupstock and packaging paper is likely to be healthy over the medium term.
• After falling in 2020 due to the covid impact on global paper demand, pulp prices have risen by around 50% in the past 12 months, surpassing the previous high witnessed in 2018.
• Waste paper prices also continued to rise in FY22, touching record levels, owing to a lower recovery in the waste paper segment and China policies.
• After falling 40% yoy in FY21, imports increased 6% yoy in FY22 as the rebound in pulp prices and high waste paper prices and ocean freight rates kept imports at bay.
• Sustained strong prices of pulp and paper could reduce import competitiveness, thereby limiting the threat of a rise in imports setting a cap on domestic prices in the near term
• Besides, the sharp rise in waste paper prices has benefitted integrated players.
• Furthermore, Indian exports continued to benefit from the price rise and China’s policy measures to combat pollution, which includes a ban on the import of waste paper since January 2021.
• Cyclical Industry: The paper industry is cyclical in nature and incumbents are exposed to volatility in raw material prices, as well as the threat of imports, which could prevent companies from passing on increases in raw material prices. In addition, lumpy capacity additions that are not commensurate with demand growth could simultaneously exert upward pressure on raw material prices and downward pressure on finished product prices, leading to a weakening of profit margins.