The Hindu Business Line : Hindustan Sanitaryware: Hold

Though the boom in the housing sector and improving fundamentals is a good sign, earnings growth will depend on how well the company copes with the challenges posed by the unorganised sector.

At the current price, the stock trades at a price-earnings multiple of nine times its sustainable FY04 earnings per share.

Impressive performance

In 2003-04, the company's net sales grew 21.7 per cent to Rs 271.5 crore over the previous year. Though exports grew 50 per cent, they constituted about 10 per cent of the turnover.

Even as the operating margins dipped marginally to 18.9 per cent (19.2 per cent), earnings were higher at Rs 20.5 crore ( Rs 5.54 crore the previous year).

The sharp rise in the net profits was because of a sizeable drop in interest costs and exceptional items. Even after adjusting for exceptional items, the earnings growth was more than doubled .

Demand drivers in place

HSIL derives most of its revenues from two divisions — glassware and sanitaryware. The former, which contributes 54 per cent to revenues, depends on end-users such as soft-drinks makers , liquor manufacturers and the pharmaceutical industry.

This division, which only made cash profits in 2001-02, managed to steadily improve its performance on the back of improved operational efficiencies over the past two years. The company expects a steady 8-10 per cent growth in the market for glassware products.

The fortunes of the sanitaryware division, which contributes 45 per cent to revenues, will depend, to a large extent, on new housing initiatives.

To a lesser extent, the replacement demand also fuels this division's growth. Considering the sustained housing boom driven by the attractive interest rates and tax breaks for housing loan schemes, this division has promising prospects.

However, any sharp increase in the cost of key raw materials, particularly steel and cement, can have a negative impact on the housing sector and, in turn, on HSIL's earnings.

Challenges

To take advantage of the current housing boom, the company has to cope with challenges posed by players such as EID-Parry (Parryware) in the organised segment and a host of players in the unorganised segment.

Aided by the exemptions in excise duty and sales tax and lower overhead costs, players in the unorganised segment manage to price the products almost 40-50 per cent lower than the players in the organised segment.

Besides, the margins they offers to retailers is much higher than that offered by the organised segment.

To counter this, the company has turned its focus towards importing and selling bathroom fittings and high-end sanitaryware products.

The second major challenge is controlling fuel cost, which constitutes 25 per cent of the company's total expenditure.

Last year, GAIL,which terminated natural gas supplyto the company,had to comply with the Supreme Court's order for increasing CNG supplies to Delhi. This forced HSIL to opt for more expensive fuel to fire its furnaces.

However, since March 2004, GAIL has resumed supplies to HSIL's Bahadurgarh plant. Due to this, the company expects to cut fuel costs by Rs 30-35 lakh per month.

HSIL has also entered into an agreement with GAIL, which would ensure that the former gets compensated in case the latter terminates supply.

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