Bogged by Overhangs; Downgrade to Hold Stock Update Stock

Sector: Diversified Grasim Industries Limited (Grasim) has underperformed due to weak performance in its investments in group companies especially Company Update Idea (Grasim holds 11.6%), which continues to make losses and would have to make huge capex in spectrum and rollout of 5G services. Weak telecom Change outlook coupled with gross debt of Rs. 1.2 lakh crore, including spectrum payments, may lead to another round of fund raising for

Reco: Hold á during FY2021, despite raising Rs. 25,000 crore recently through rights issue. To maintain its stake, Grasim may have to do away with its liquid CMP: Rs. 711 investments or increase leverage at the standalone entity. Further, the weak macro environment is expected to lead to underperformance of

Price Target: Rs. 803 á ABCL (56% Grasim stake) in the near term. Consequently, UltraTech (60% á Grasim stake) remains the performing investment (apart from relatively á Upgrade No change Downgrade á á small standalone business) and comprises over 70% of our SOTP for Grasim. Hence, it provides little incentive to Buy Grasim with the current Company details overhangs, in turn switching to UltraTech directly, which has no such overhang. Hence, we downgrade Grasim to Hold with a revised PT of Rs. Market cap: Rs. 46,759 cr 803 (factoring funding requirement of Vodafone Idea by FY2021). VIL and ABCL funding requirement to remain an overhang: Since the 52-week high/low: Rs. 1081/680 merger of with Vodafone taking effect from August 30, 2018, Vodafone Limited (VIL) has been suffering customer loss and erosion NSE volume: (No of 15.9 lakh in ARPU with its market cap eroding by 68% over the trailing one year. shares) Weakness in the financial sector has also eroded 37% market cap of ABCL for the same period. High debt of VIL along with spectrum payments, BSE code: 500300 capex and weakening ARPU may entail further capital infusion during FY2021. Despite, Grasim’s standalone business and UltraTech’s healthy NSE code: GRASIM performance, the funding pressure of VIL and ABCL may remain a key overhang on the stock over the next two years. Sharekhan code: GRASIM Our call Free float: (No of 39.4 cr shares) Valuation – Downgrade to Hold with a revised PT of Rs. 803: We have revised our SOTP-based PT for Grasim to Rs. 803, factoring Rs. 2,500 crore funding requirement for Vodafone Idea by FY2021, as servicing of Rs. 1.2 Shareholding (%) lakh crore gross debt of Vodafone Idea may be a tough task considering the weak telecom environment to weigh on improvement in cash flows Promoters 40.2 and delay the monetisation of assets. We note weak business outlook for FII 18.3 ABCL and a bleeding Vodafone Idea investment provide little incentive to investors to Buy Grasim at this stage, although its valuation appears DII 21.1 attractive. On the other hand, the cement business, UltraTech (Grasim Others 20.5 holds 60% stake) continues to do well and accounts for over 70% value of the PT of Rs. 803 for Grasim. Consequently, we recommend Hold on Grasim and believe it is better for clients to play upside in the cement Price chart business directly by Buying into UltraTech. We have a Buy call in UltraTech

1,100 with a PT of Rs. 5,000 (upside of 23%). 1,050 1,000 Key Risks 950 900 Complete exit or significant easing of funding requirement from Vodafone 850 800 Idea investment is a key risk to our call. 750 700 650 Valuation (Standalone) Rs cr 600 18 19 19 18 - - - - Particulars FY17 FY18 FY19 FY20E FY21E Apr Dec Aug Aug Revenue 10,346 15,786 20,550 23,040 25,570 OPM (%) 20.8% 19.5% 19.8% 18.1% 18.2% Price performance Adjusted PAT 1,560 1,897 2,883 2,456 2,685 % YoY growth 60.7 21.6 52.0 (14.8) 9.3 (%) 1m 3m 6m 12m Adjusted EPS (Rs.) 23.8 28.9 43.9 37.4 40.9 P/E (x) 30.0 24.6 16.2 19.0 17.4 Absolute -17.7 -20.9 -7.3 -32.4 P/B (x) 2.9 1.1 1.1 1.1 1.0 Relative to EV/EBITDA (x) 18.9 5.2 5.2 5.2 4.6 -16.9 -16.7 -12.0 -30.7 Sensex RoNW (%) 9.6 4.3 6.9 5.6 5.7 RoCE (%) 9.5 5.8 6.0 5.0 5.2 Sharekhan Research, Bloomberg Source: Company; Sharekhan estimates

August 30, 2019 4 Stock Update Stock

Vodafone Idea’s financial stress - A key overhang on Grasim Grasim undertook the merger of VIL and Idea Cellular, post which VIL ceased to be an associate of the company (reduction of stake from 23.13% in Idea to 11.55% in VIL) with effect from August 31, 2018. During FY2019, it booked exceptional loss (net of tax) of Rs. 2,003 crore, representing the difference between book value and fair value of VIL as on August 30, 2018. The entry of a new financially backed player led to significant customer loss and the decline in average revenue per user (ARPU) for Vodafone Idea. Further, its gross debt stood at Rs. 1.2 lakh crore, including deferred spectrum payment obligations to the government. Although Voda-Idea plans to sell its 11.15% stake in and explores monetising its ~1.59 lakh kms fibre assets, the weak business outlook along with deferred spectrum payouts, debt repayments and capex are expected to weigh on its financial liquidity. Consequently, it may require to further infuse capital during FY2021 despite recently raising Rs. 25,000 crore through rights issue. Hence, to maintain its stake, Grasim may need to participate in infusing capital in FY2021 either through parting off with its standalone liquid investments (Rs. 2,555 crore as on Q1FY2020) or increasing leverage at the standalone level. UltraTech remains a safe bet Since August 2018, the market capitalisation of Aditya Birla Capital (55.99% stake) and Vodafone Idea (11.15% stake) has diminished by 37% and 68%, respectively. Current headwinds in the financial sector and telecom sector have led to sharp erosion in the market capitalisation of Aditya Birla Capital and Vodafone Idea over the trailing one year. Funding concerns for Vodafone Idea are here to stay, while ABCL is expected to underperform on account of weak macro environment. On the other hand, UltraTech, which forms 70% of our SOTP-based PT for Grasim, has no such overhangs. The earnings outlook for UltraTech remains strong with levers of revival of government spending on infrastructure and affordable housing and favourable cement pricing. Hence, it provides little incentive to Buy Grasim (despite embedded value) with Vodafone Idea overhang and instead have direct exposure to UltraTech.

Erosion in Voda-Idea MCap

40.0 20.0 0.0 -20.0 -40.0 -60.0 -80.0 18 18 19 19 19 18 18 19 19 19 19 19 ------Jul Jan Jun Oct Apr Sep Feb Dec Aug Nov Mar May

Ultratech (% chg) Aditya Birla Capital (% chg) Voda-Idea (% chg) Grasim (% chg)

Source: Company; Sharekhan Research

August 30, 2019 5 Stock Update Stock

Financials in charts

Viscose Volume trend Viscose Realisation trend

160000 20.0 200 16.0 140000 18.0 180 14.0 16.0 160 12.0 120000 14.0 140 10.0 100000 12.0 120 8.0 80000 10.0 100 6.0 60000 8.0 80 4.0 6.0 60 2.0 40000 4.0 40 0.0 20000 2.0 20 -2.0 0 0.0 0 -4.0 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20

VSF/VFY Sales Volume (Tonne) YoY growth (%) VSF/VFY Realisation (Rs/kg) YoY growth (%)

Source: Company, Sharekhan Research Source: Company, Sharekhan Research

Viscose EBITDA/kg trend Chemical Volume trend

45.0 25.0 300000 120.0 40.0 250000 100.0 35.0 20.0 80.0 30.0 200000 15.0 25.0 60.0 150000 20.0 40.0 10.0 15.0 100000 20.0 10.0 5.0 50000 0.0 5.0 0.0 0.0 0 -20.0 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20

VSF EBITDA (Rs/kg) VSF EBITDA margin (%) Chemcal sales volume (Tonne) YoY growth (%)

Source: Company, Sharekhan Research Source: Company, Sharekhan Research

Chemical EBITDA margin trend Standalone Debt

33.0 5000 31.0 4000 29.0 3000 27.0 2000 25.0 1000 23.0 0 21.0 -1000 19.0 17.0 -2000 15.0 -3000 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20

Chemical EBITDA margin (%) Stdalone Debt (Rs cr) Liquid Investments (Rs cr) Net Debt/(Surplus)

Source: Company, Sharekhan Research Source: Company, Sharekhan Research

August 30, 2019 6 Stock Update Stock

Outlook Near-term outlook tough for the standalone business: For viscose, the ongoing U.S.-China trade war is creating surplus supply along with 55% overcapacity in Indonesia putting downward pressure on viscose prices. However, declining pulp prices should aid the cushioning of margins. Caustic soda’s realisation and profitability are expected to be under pressure in the near term with current ECU at 10-15% below the average Q1FY2020 due to weak chlorine prices. Hence, in the near term, pressure on realisations in viscose and caustic is expected to continue. The company is taking initiatives to increase contribution from value-added products to wither near- term headwinds. Valuation Downgrade to Hold with a revised PT of Rs. 803: We have revised our SOTP-based PT for Grasim to Rs. 803, factoring Rs. 2,500 crore funding requirement for Vodafone Idea by FY2021, as servicing of Rs. 1.2 lakh crore gross debt of Vodafone Idea may be a tough task considering the weak telecom environment to weigh on improvement in cash flows and delay the monetisation of assets. We note that weak business outlook for ABCL and a bleeding Vodafone Idea investment provide little incentive to investors to Buy Grasim at this stage although its valuation appears attractive. On the other hand, the cement business, UltraTech (Grasim holds 60% stake) continues to do well and accounts for over 70% value of the PT of Rs. 803 for Grasim. Consequently, we recommend Hold on Grasim and believe it is better for clients to play upside in the cement business directly by buying UltraTech. We have a Buy call on UltraTech with a PT of Rs. 5,000 (upside of 23%).

One-year forward P/E (x) band 70 60 50 40 30 20 10 0 11 12 13 14 15 16 17 18 19 11 12 13 14 15 16 17 18 11 12 13 14 15 16 17 18 19 ------Apr Apr Apr Apr Apr Apr Apr Apr Apr Dec Dec Dec Dec Dec Dec Dec Dec Aug Aug Aug Aug Aug Aug Aug Aug Aug

1yr fwd P/E Peak 1yr fwd P/E Trough 1yr fwd P/E Avg 1yr fwd P/E

Source: Sharekhan Research

August 30, 2019 7 Stock Update Stock

About company Grasim is the flagship company of . The company started as a textiles manufacturer in India in 1947. The cement business was started in 1985 with a capacity of 0.5 MTPA. Aditya Birla Nuvo Limited, an Aditya Birla Group Company, was merged with Grasim w.e.f. July 1, 2017. Subsequently, the financial services business was demerged from the merged entity and was listed on the bourses as Aditya Birla Capital Limited on September 1, 2017. Currently, it is a leading global player in VSF, the largest chemicals (Chlor-Alkalis), largest cement producer and diversified financial services (NBFC, Asset Management and Life Insurance) player in India.

Investment theme Grasim has been underperforming due to its exposure in Vodafone Idea with 11.55% stake. Vodafone Idea’s highly leveraged balance sheet, weak telecom outlook and delay in monetisation of assets may lead to further capital infusion by FY2021 from its stakeholders, including Grasim, to retain its stake. This is expected to lead to erosion in liquid investments or higher leverage at Grasim standalone. Further, weak macro environment is expected to lead to underperformance of ABCL (56% Grasim stake) in the near term. Hence, UltraTech remains a safe bet, which comprises major value of Grasim’s SOTP. We believe investors can directly have exposure in UltraTech, which has no overhangs and a better earnings growth outlook over the next two years. Hence, we have a Hold rating on Grasim.

Key Risks ŠŠ Funding requirements of its other listed entities. ŠŠ Pressure on VSF and chemical division’s demand and/or realisations negatively affects profitability. ŠŠ Higher holding company discounts for any of its other business such as telecom, cement and financial services.

Additional Data

Key management personnel Mr. Chairman Mr. Dilip Gaur Managing Director Mr. Ashish Adukia Chief Financial Officer Mrs. Hutokshi R Wadia Company Secretary Source: Company Website

Top 10 shareholders Sr. No. Holder Name Holding (%) 1 Birla Group Holdings Pvt. Ltd. 19.01 2 Life Insurance Corp of India 9.73 3 IGH Holdings Pvt. Ltd. 5.09 4 Ltd. 4.29 5 Umang Commercial Co. Ltd. 4.07 6 Standard Life Aberdeen PLC 3.98 7 Pilani Investment & Industries Cor 3.69 8 Vanguard Group Inc./The 1.77 9 Franklin Resources Inc. 1.72 10 ICICI Prudential Life Insurance Co. 1.68 Source: Bloomberg

Sharekhan Limited, its analyst or dependant(s) of the analyst might be holding or having a position in the companies mentioned in the article.

August 30, 2019 8 Know about our products and services

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