Column: Ureas undoing

Updated: Mar 8 2014, 09:44am hrs
Fertiliser makers are looking at another year of delayed subsidy payments from the government, which will step up pressure on their credit profiles. The fertiliser subsidy requirement, including past arrears, increased to R1.05 trillion for FY14 against a budgeted R680 billion. The number is set to bloat afresh in FY15 due to higher arrears carried forward in the current year and increase in subsidy burden due to gas re-pricing, even as budgeting by the government remains flat.

For fertiliser makers, this sets the stage for another year of delayed payments from the government, with subsidy arrears expected to touch an all-time high of R450 billion by the end of the FY15 or about 28% more than the R350 billion likely to be seen at the end of the current fiscal.

The stretch in subsidy receivables for CRISIL-rated fertiliser manufacturers, which stood at 116 days of sales in FY13, is likely to increase to 127 days in

FY14. Subsidy bills for many fertiliser manufacturers have been cleared till mid-November through the second tranche of Special Banking Arrangement but further payments of current fiscal might be rolled over to next year.

The introduction of nutrient-based subsidy (NBS) in complex fertilisers has helped the government contain its bill on phosphate and potash fertilisers. The subsidy for urea continues to be vulnerable to increasing share of expensive regassified liquefied natural gas (RLNG) in total gas consumption for indigenous urea manufacturing and farm gate prices of urea not being cost reflective. For imported urea, the sharp correction in import parity price (IPP) in FY14 has worked favourably. Averaging $320 per metric ton (MT) in FY14, IPP has moderated from the peak of $457 per MT witnessed in FY12.

Re-pricing of domestic gas from April 1, 2014, will, however, crank up the Centre's subsidy burden. As per Ministry of Petroleum and Natural Gas notification of January 2014, the price of natural gas will be made market-driven and linked to international benchmarks. This could result in a significant increase in domestic gas prices from the current levels of $4.2/mmBtu. In FY13, nearly 70% of gas requirement of the indigenous urea manufacturers is estimated to have been met from domestic gas. The increase in the price of domestic gas will raise the subsidy burden on the indigenous urea manufacturers using the feedstock. For every $1/mmBtu increase in the price of gas, the governments additional subsidy outgo is estimated at R3,000 crore.

Faced with worsening fiscal deficit, the government has under-budgeted for fertiliser subsidy in FY13, FY14 and again in the interim budget of FY15. This has resulted in delayed subsidy payments to fertiliser makers, particularly indigenous urea manufacturers. While NBS has reduced manufacturers dependence on subsidy but for urea manufacturers subsidy accounts for about 60-65% of total realisations.

Even though payments by the government are a certainty and it provides support to manufacturers through special banking arrangements (SBA), the stress due to delay is expected to continue into the next fiscal. The delays in receipt of subsidy from the government, which began in FY12, are increasing the working capital borrowings of fertiliser makers. At the end of FY12, subsidy receivables jumped up 43% yoy and working capital borrowings catapulted 49%. Even though payments by the government are a certainty, the stress due to delay is expected to continue into the next fiscal. Receivables as days of sales have also reflected a similar trend increasing from 82 days in fiscal 2011 to 94 days in 2012, 116 days in 2013 and 206 days in the first half of current fiscal.

Higher interest burden is impacting the profitability and debt protection metrics of CRISIL-rated fertiliser manufacturers. In FY13, the government had exhausted its subsidy budget around September-October resulting in arrears of around 6 months for urea manufacturers and around 3-4 months for complex fertiliser manufacturers. In FY14 the government has announced two tranches of special banking arrangements in November 2013 and January 2014; whereby the Central government bore 8% of the interest on working capital borrowings against subsidy dues. This helped fertiliser makers get payments for 2-3 months of subsidy billing funded through soft loans. The banking arrangement will help ease working capital strain for fertiliser manufacturers and also save interest cost on working capital debt. But the government will find itself in a similar position at the beginning of FY15 as it will have to clear previous arrears financed through banks.

The average increase in working capital borrowings for the indigenous urea manufacturers is more than 25% for the first half of this fiscal compared with fiscal 2013. Working capital borrowings were significantly higher for urea players which have a higher dependence on imported RLNG.

The government budgeted R680 billion in the interim budget for fertiliser subsidies of FY15, which is likely to be woefully short of the requirement. Even the gains from falling international urea prices and moderation in the cost of raw materials of complex fertilisers will be more than offset by re-pricing of domestic gas, further straining the fiscal position of the government. At the same time farm gate prices of urea are not reflective of market conditions and continue to bloat subsidy burden, distort consumption pattern. All these factors translate into continued working capital pain for urea manufacturers in the next fiscal amid uncertainty over the next subsidy budget as a new government is formed after the general elections in May.

Sudip Sural

The author is senior director, CRISIL Ratings