SRF Ltd: Sanjoy Bhattacharyya’s latest stock pick

SRF Ltd came to our attention when Sanjoy Bhattacharyya, the master stock picker, paid it a glowing tribute in the Forbes April 2011 issue. He called SRF a “solitary beacon of hope” in the troubled market place for investors to put their money in.

A little bit of digging shows what it is about SRF that has impressed Sanjoy Bhattacharyya to the extent that it has.

Diversified Business

SRF has a diversified business. SRF‘s major revenues comes from Technical Textiles (68%) followed by Chemicals (22%), Packaging Films (13%) and Engineering Plastics (4%).

SRF was established in 1973. It has operations in 4 countries. Apart from Technical Textiles Business, in which it enjoys a global leadership position, SRF is a domestic leader in Refrigerants, Engineering Plastics and Industrial Yarns as well. SRF also enjoys a significant presence among the key domestic manufacturers of Polyester Films and Fluorospecialities.

There are obvious advantages to diversification. SRF is to a great extent protected from the vagaries and risk of dependence a particular sector.

Sanjoy Bhattacharyya called this strength of SRF a “strong and defensible competitive position“.

Excellent management pedigree:

SRF is a part of the Arun Bharat Ram group, with a legacy going back more than 100 years. While Arun Bharat Ram is the Chairman, his sons Ashish Bharat Ram and Kartikeya Bharat Ram are the Managing Directors of SRF Ltd.

Good Financial Track Record:

SRF‘s past track record has not been growing at a scorching rate. Instead, it has been growing at a slow and stead pace. SRF‘s 3 year sales CAGR was 9.79% while its 3 year profit CAGR was almost flat at 0.32%. SRF‘s return on Equity was reasonably high at 28%. Its Debt-Equity ratio was also manageable at 1.04.

However, the past sluggish track record may be misleading if one looks at the 9 Month FY 2009-10 results.

SRF reported good results in the Q3 FY 2011 Quarter. SRF reported a net profit after tax (PAT) of Rs. 171 crores during Q3 of 2010-11 recording a 350% increase over the corresponding period last year. SRF‘s revenue during October-December 2010 improved by 72% to Rs. 844 crores as against Rs. 490 crores in the corresponding period last year.

For the nine months of FY 2010-11, SRF recorded a PAT of Rs. 347 crores as against Rs. 199 crores, achieving a growth of 74% over the previous year. SRF‘s PAT during the first three quarters of 2010-11 has exceeded SRF‘s full year PAT for 2009-10 by Rs. 38 crores which was recorded at Rs. 309 crores. The revenue during the nine months of 2010-11 increased by 46% to Rs. 2211 crores as against Rs. 1513 crores during the corresponding period last year and Rs. 2194 crores for the full financial year of 2009-10.

Robust Expansion Plans:

SRF has expansion projects worth Rs. 665 crores on the anvil. This includes one for setting up of a second overseas packaging film plant to manufacture Biaxially Oriented Polypropylene BOPP) film in South Africa. Earlier in October 2010, SRF had decided to set up a Joint Venture to set up a Bi-axially Oriented Poly Ethylene Terephthalate (BOPET) film plant of 28,500 MT per annum in Bangladesh. The new BOPP film plant with an annual capacity of 25,000 tonnes is proposed to be set up as a greenfield project at a total investment of around Rs. 250 crore. Equipped with a metallizer of 5400 tonne of annual capacity, the BOPP plant in South Africa is expected to start commercial production in July 2013. The new South African plant will also mark SRF’s maiden entry into the BOPP space. Currently, SRF has an annual capacity to manufacture 59,500 tonnes of BOPET films per annum through two of its plants in India.

SRF is presently the only Indian manufacturer of HFC-134a, an ozone friendly refrigerant. SRF now proposes to set up a second HFC-134a plant with an annual capacity of 15,000 tonnes in its Chemical Complex in Dahej. The capacity of the second HFC-134a plant is significantly higher than the company’s existing 5,000 tonne capacity plant in Bhiwadi. The project is expected to be commissioned at an estimated cost of Rs. 365 crore. The new HFC plant, which is scheduled to become operational by January 2013, will also be backward integrated to produce 20,000 tonnes of AHF (anhydrous hydrofluoric acid), one of the key raw materials.

Further, to meet the enhanced requirement of power and utilities for the new projects at Dahej site, SRF intends to set up a project for Enhancement of Captive Power Generation Capacity to 14 MW at an estimated cost of Rs. 50 crore.

If the expansion plans go as planned, SRF‘s topline and bottomline can be expected to improve significantly.

Valuations:

Sanjoy Bhattacharyya is known to drive a hard bargain when picking stocks. So it is no surprise that SRF is quoting at reasonable valuations. On the basis of the FY 2009-10 EPS of Rs. 51.14, SRF‘s CMP of Rs. 346 is discounted 6.76 times. However, if one looks at the 9 M FY 2011 results, the EPS was Rs. 57.41. By simple extrapolation, the EPS for 12M FY 2011 should be close to Rs. 76 – 77. At that EPS, the PE is only 4.55 which is very reasonable for a company with market-leadership position and ambitious expansion plans.

Dividend:

The other thing about SRF that must have attracted Sanjoy Bhattacharyya is the attractive dividend yield that SRF offers. SRF paid a dividend of 140% (Rs. 14) in FY 2010. In FY 2011, SRF has already paid an interim dividend of 140% (70% + 70%). At the CMP of Rs. 346, this works out to an attractive yield of about 4%.

Rich Rewards:

Investors who backed SRF have reaped rich rewards. On a 2 year basis (CMP on 13.4.2008 Rs. 86), investors would have taken home 290% while on a 1 year basis (CMP on 13.4.2009 Rs. 201), the take home is an attractive 75%.

One can well expect Sanjoy Bhattacharyya‘s latest stock pick to give an equally, if not more, attractive, return on a 1 year forward basis!