India Ratings & Research (Ind-Ra) has maintained a stable to negative outlook on the fertiliser sector for FY16. This is because of delays on the part of the government of India (GoI) in undertaking comprehensive fertiliser reforms. The industry continues to face challenges such as insufficient subsidy allocation in budget, unfavourable policies for setting up new urea facilities, weak government support for setting up of overseas JVs and delays in providing interim relief to naptha-based urea producers.
Ind-Ra believes that urea retail prices, delays in subsidy payments to fertiliser manufacturers and domestic gas pricing & availability remain a concern. The agency has however maintained a stable outlook on its rated fertiliser companies as GoI's support to the sector largely remains intact due to its strategic importance.
We expect the government to push reforms to reduce its subsidy burden by decontrolling urea prices and bringing it under the Nutrient-based Subsidy (NBS) regime. A series of reforms are long due in the sector primarily because of lack of government initiative, with subsidy bills and import dependence increasing by the year and no major policy reforms undertaken since the FY11 introduction of NBS. The recent natural gas price increase will seriously impact the EBITDA of fertiliser manufacturers for post cut-off production. Also, amendments in the existing urea investment policy are awaited to make further investments in the fertiliser industry lucrative.
Domestic gas price is likely to be revised in April 2015, after the increase to USD 5.61/mmbtu effective Nov. 1, 2014. The gas price revision and GoI's intervention on urea retail prices will determine the total subsidy and the credit profile of fertiliser companies in FY16. Gas price being a pass through for urea, any increase in gas price will directly accentuate GoI's subsidy burden.
Ind-Ra expects subsidy bills to increase to around Rs 710 billion (at a gas price of about USD 6.0/mmbtu) for FY16 from around Rs 650 billion in FY15. Increasing subsidies by GoI have remained insufficient, resulting in a carry forward to next year. FY15 has not been any different and saw a spill over of the FY14 subsidy of around Rs 300 billion. The recent rupee depreciation and firming up of international prices of phosphoric acid, rock phosphate and ammonia could increase the FY15 subsidy obligation to Rs 950 billion-Rs 1.0 trillion including a spillover from initial budgetary estimates.
The build-up of subsidy dues and a lag in their payments in the second half of every year will continue unless allocations are increased or subsidy obligations are reduced through bold reforms such as decontrolling urea prices and moving urea under NBS regime.
Delayed subsidy receivables have become a standard characteristic of the industry with bills remaining pending for as long as six months at times. Since subsidy forms a substantial portion of the gross sales of fertiliser companies, the delay leads to the funding of subsidy through short-term borrowings which severely impacts their working capital cycle. Additionally, borrowing cost does not form a part of subsidy reimbursement and is borne by fertiliser companies, which poses an interest burden and significantly impacts their interest coverage.
GoI has so far not changed the new investment policy (NIP-2012) for pushing brownfield and greenfield urea projects, which had failed to pick up due to lack of clarity on urea off-take, high LNG prices, non-availability of gas. The current gas pricing structure could mean that the urea manufactured using imported gas would cost more than imported urea as there are low chances of additional domestic gas availability for fresh urea capacities. Capex plans to bridge the existing 8-10 million metric tonnes shortfall, therefore, are not likely before further clarity emerges on the new investment policy.
