Ess Dee aluminium produces packaging made from high-quality aluminium foil and polyvinyl-based film for use in the rapidly growing Indian pharma/FMCG sectors.
The story here is that the company is producing something which has huge shortage in local market (50% of aluminium foil requirement is imported). Thus, Ess Dee is benefiting from import substitution. The general industry growth is 10%. Ess Dee currently has 30% market share and 20% is with unorganized/other producers.
Aluminium packaging industry has high entry barriers. Since the product is touches medicines and food products, the customer demand utmost quality products and getting an approval from customers takes 3-5 years. Pharma sector forms 70% of Ess Dee sales and rest is from FMCG companies. Ess Dee has over 200 pharma companies as customer.
Capacity addition is key requirement for growth, Ess Dee has proven track record
From 2004-2009, Ess Dee increased capacity through organic route by 5 times to 18k tons. In 2009, Ess Dee doubled its capacity to 37k tons by acquiring a sick company India Foils (inorganic growth). In past 1 year, Ess Dee quickly turnaround India Foils operations against investor expectation. The capacity from India Foils will now come in phases over next 2 years. Thus, sales for volume for Ess Dee will double in next 2 years (In FY10, it sold 19k tons). Ess Dee has recently raised Rs800m to set up new capacity of 12k tons in next 2 years.
The company top line is growing exceptionally well.
What about bottom line:
The company has stable EBITDA margin (cash profit before tax, interest and depreciation) of Rs1 lakh per ton and all the cost (mostly aluminium foil) is a complete pass through. Thus, any movement in aluminium price does not affect the margins on per ton basis for this company.
The company made a profit of Rs100cr in FY10. This year, I expect it to report a profit of Rs200cr and Rs260cr next.
Ok, earnings look good, how is balance sheet?
Despite huge expansion, Ess Dee has a strong balance sheet with a debt-equity of just 40% (debt of Rs150cr). Most of the debt is for working capital (i will touch this aspect later). Ess Dee has always resisted of keeping too much debt on books and has financed its growth largely from internal cash flows and share capital. It first raised money in 2007 and has recently raised again to fund new capital expenditure.
The reason for low capital requirement is due to low pay back period (about 2-3 years).
The company has high working capital requirement as it sells to pharma companies. Pharma companies generally pay after 6 months of sales. Average receivable days for Ess Dee is 160 days. They were slightly higher up to 200 days in 2010 because Ess Dee offered high credit days for selling from India foils, but the management is guiding that these will reduce to normal level these days. The high receivables is a key risk to earnings.
Current working capital for EDA is Rs230cr and will have sufficient cash flows to fund further working capital.
I like the story, what is the price?
As the company trading history is not new (first listed in 2007), one should not value this company on historical valuation. Generally, packaging companies trade in range of 8-10 time PER (Investopedia has explained PER very nicely!).
The company current market cap is Rs1500cr implying a PER of less than 8 times (based on my earnings forecast).
The company is available cheap with a high growth. I expect the stock to at least triple in next 2 years from here due to strong earnings growth.
Ess Dee is a first generation company and management has strong experience in this field. The company was started from scratch in 1994 and has now become largest producer of aluminium packaging.
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