Why India becoming world's top sugar producer is no good news for companies

India toppling Brazil to become the world’s largest sugar producer may not be a good news for companies related to the production of this commodity back home. This, experts say, is on the back of the differential between the minimum selling price (MSP) of the commodity and the production cost, and the existing buffer/inventory in the country amid falling consumption.

India’s production, according to the US Department of Agriculture’s Foreign Agricultural Service, may rise 5.2 per cent to a record 35.9 million metric tonne on increasing acreage and improving yields. Sugar output in Brazil, on the other hand, may tumble 21 per cent to 30.6 million tonne due to adverse weather and a shift to produce more cane-based ethanol.

The sugar year 2019 (October 01 till September 30) in India began with an opening balance of about 10.7 million tonne (MT). While the country usually produces around 26 mtpa (million tonne per annum) of sugar, this year the initial estimate was already 36 per cent higher at around 35 – 35.5 mtpa. These estimates, however, were sharply revised downward to 31.5 mtpa. 

Given the falling consumption, the 2019 sugar year is likely to end with a surplus, significantly higher than ideal 6 – 7 MT of inventory at the end of any sugar year, experts say. 

ICRA, for instance, expects the sugar surplus to continue and pegs the closing stock for SY2019 at around 11.5 – 12 million MT, ruling out a significant uptick in sugar prices. Sugar prices, on the other hand, have dropped to Rs 29 – 30 per kilogram (ex-mill) with the start of the crushing season from Rs 30 – 31 per kilogram, reports suggest. 

“While the prices may not go down further from here given the minimum selling price (MSP) of Rs 29 fixed by the government. Though this has provided some respite, the MSP is still much lower than production price of Rs 35 a kilogram (including depreciation and interest costs). Manufacturers are not out of woods yet and will face a challenging year ahead,” says Abhinash Verma, director general, Indian Sugar Mill Association (ISMA).

Though the government continues to provide support to the industry through various measures, including regulating the minimum selling price (MSP) of sugar, soft loans, export subsidies, cane price assistance, higher ethanol pricing and blending mandates, analysts at JM Financial suggest ethanol is unlikely to break the cyclicality of the sector given its limited impact on sugar production.

While the increased procurement price of ethanol in September seems to be attractive and can lure companies to make further investment in new capacities, the move is unlikely to benefit companies much during the current year. 

INVESTMENT STRATEGY 

So, what does this mean for sugar stocks at the bourses?

Given this backdrop, analysts have a cautious stance on the sector suggest investors consider companies with a strong balance sheet and a lower cost of production. Balrampur Chini Mills that has never slipped into losses at operating profit level on a full year basis is one such pick of analysts at ICICI Securities.

“Balrampur Chini, Dhampur Sugar Mills and Dalmia Bharat Sugar may see some upside in the short-to-medium term,” says Rahul Agarwal Director at Wealth Discovery.

Among the other producers, EID Parry remains a safe bet in the sugar sector, say analysts at JM Financial, given the company’s geographical advantage (located in Tamil Nadu, Karnataka and Andhra Pradesh), that can help lower cane costs and the ability to exploit export/import opportunities. 

“Further, EID’s current share price reflects a 73 per cent holding company discount to the value of its stake in of Coromandel International ( EID owns 60.5 per cent stake), which is one of the highest in the past three years,” they said in a recent report.