In a recent earnings call, the company’s management indicated that its working capital will look stretched at FY18-end. While the receivables will be higher as expected due to the extension of the credit cycle due to demonetisation, the expected inventory build-up is interesting. Management seemed to suggest it has procured inputs in advance for the next season to avoid procurement at expected higher prices next season.
Raw materials costs from China are expected to rise and hence this strategy may lead to continuing margin expansion for Dhanuka into FY18. Note that in 9MFY17, EBITDA margins have already risen by more than 200bps.
Coupled with a significant improvement in product mix, we expect strong margin expansion to continue for Dhanuka. However, we note that the Sempra pick-up has remained soft as sugarcane planting was delayed in Maharashtra, and as we have highlighted previously, we think Sempra will take another two to three years to ramp up as Dhanuka has to build this category by itself.
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Speciality products now contribute 75-80% to sales, and we forecast this will reach 85-90% by FY20e due to a CAGR of c19%+. The increase in our target price to R857 implies upside of 8.2% from current levels. We retain our ‘buy’ rating on Dhanuka.