Import duty cut a risk to sugar rally

Last week, Isma reduced its production assessment for the ongoing sugar season to 21.3 mt

Sugar production updates continue to point downwards. With Maharashtra and Karnataka, two important states for production, being impacted by low rain, the output is likely to decline for the second year. This has led to a rally in sugar prices.

CARE Ratings says prices were Rs 35-Rs 35.8 a kg between September 1 and December 22, 2016. These rose to Rs 37.5 a kg by January 6 and a high of Rs 39 a kg on January 13. This was reflected in stock prices; many companies based in Uttar Pradesh, such as Balrampur Chini and Dwarikesh Sugar, hit 52-week highs and others such as Dhampur Sugar and DCM Shriram continued to trade firm.

This bodes well for profitability of the manufacturers. However, as prices continue to rally, the risk of government measures to control prices and increase availability also rise. One measure could be import duty reduction.

The import duty was raised two years earlier to 40%, from 15%, when there was excess supply. These could now be reduced. The country had 7.7 million tonnes (mt) of inventory at the end of 2015-16, expected to decline to six mt and less at the end of 2016-17. With less than three months of carryover inventory being anticipated, there are more reasons to encourage import.

Global prices are currently close to $0.2 a pound or Rs 30-31 a kg. Import duty at 40% would translate into landed cost of around Rs 42 a kg. This with transport charges from origin to port and then to the final destination makes import a currently unviable option. However, if the duty is reduced to 15% or to nil, the landed cost will be Rs 34.5-30.

In such a scenario, it would cap further gains for domestic manufacturers. However, even after some correction in prices, they will continue to report good profit. The bigger gains will accrue to UP-based producers, as sugarcane availability remains good there.

Last week, Indian Sugar Mills Association (Isma) reduced its production assessment for the ongoing sugar season, 2016-17 (ending this September), to 21.3 mt, down nine% from the earlier 23.4 mt. Till January 15, said Isma, mills in Maharashtra saw 28% decline in sugar output; UP-based entities saw a 31% rise.

However, UP has also a rise in the government-set State Advised Price for procuring cane, by Rs 25-35 a quintal. This would take away some of the gains from higher realisation and output. Analysts at JM Financial say the domestic ex-mill realisation bottomed decisively in August-September 2015 (Rs 27-28/kg in UP) and rose to Rs 34-36/kg.

Thus, for stock investing, Balrampur Chini, Bajaj Hindusthan, Dwarikesh Sugar, Dhampur Sugar, DCM Shriram, etc, could be considered, say analysts. EID Parry is also well placed.

However, looking at the recent rally and expectations of government measures to control prices, investors should look at share price falls on when to enter the stocks, on a select basis.