JVL Agro Industries Ltd Management Discussions.

Global economic overview

Buoyant financial markets, combined with a long-awaited cyclical recovery in manufacturing and trade, indicate an increase in global growth from 3.2% in 2016 to 3.5% in 2017 and 3.6% in 2018. Aggregate growth for emerging markets and developing economies was estimated at 4.1% for 2016, just above the post-crisis low reached in 2015. After stagnating in 2015, growth in commodity-exporting nations for 2016 was pegged at 0.4% – substantially below the forecasted 1.6% (January 2016). This reflects a significant downward revision in terms of commodity prices spurred by weak global trade, capital flow volatilities and inherent domestic challenges. With China reorienting itself into a consumption-centric economy and Saudi Arabia reducing its dependence on oil, the case for base metals has been strengthened. This has in turn propped up commodity prices. Consequently, inflation rates have recovered across advanced economies and commodity prices bottomed out in recent months. [Source: IMF, World Bank]

Outlook

The global economy entered its sixth year of stagnation with growth estimates for 2017 continuing to trend the historical path. A projected stabilisation in energy and commodity prices may provide some respite for resource-rich economies in 2017, but the medium-term outlook continues to be bleak with growth weakening in terms of investment and labour supply. Businesses will need to prepare themselves adequately in order to address the challenges arising from geopolitical tensions, policy uncertainties, financial market volatilities and rapid changes in technology. They can do so by leveraging qualitative sources of growth and boosting their technological quotients and business productivity ratios.

 

[Source: IMF]

Growth
2016 2017(E) 2018 (P)
Global economy 3.2% 3.5% 3.6%
Advanced economies 1.7% 2.0% 1.9%
Emerging market and developing economies 4.1% 4.6% 4.8%
Emerging and developing Asian economies 6.4% 6.5% 6.5%

Global economic overview

The Indian economy slowed in 2016-17 to 7.1% from 8% in FY2015-16, largely owing to the currency demonetisation in the third quarter of the financial year under review. Although the demonetisation initiative has affected the growth rate by 25-100 bps, it is expected to have long-term benefits. Over the last 30 years, Indias growth has been robust, backed by policy reforms that have eased the flow of goods and capital. The challenges that India faces include ambivalence about property rights and the private sector, deficiencies in state capacity, especially in delivering essential services, and inefficient redistribution of capital. The growth rate of the industrial sector was estimated to moderate to 5.2% in FY 2017, down from 7.4% in FY 2016. The countrys IIP registered a modest growth of 0.4% during the April-November period of 2016-17. With Rajasthan, Madhya Pradesh and Maharashtra receiving 20% more rain than the usual, the agriculture sector is expected to grow at an above-average level of 4% on a weak base caused by two consecutive poor monsoons. This should lift the sagging rural demand and, by extension, the GDP growth rate. The major impetus is expected to come from the farms as non-agriculture growth is pegged to pick up by 10 bps over the previous fiscal to 8.6%. The Union Budget for 2016-17 came in the context of a fragile economic situation. It was not just the stress in the rural economy, which has caused a steady decline in real wages as well as lowered farm incomes.

 

[Source: Crisil, HT]

Outlook

The near-term growth outlook for India seems brighter than it was during the last fiscal. Nonetheless, the growth forecast for the next fiscal has been trimmed by 40 bps. This has been primarily due to the temporary negative consumption shock induced by cash shortages and payment disruptions associated with the recent currency note withdrawal and exchange initiative. Subsequently, Indias GVA growth is likely to stay at 6.6% as economic activity will take more time to normalise. The imminent implementation of the GST will boost interstate trade by ushering in investments, reducing supply chain-related issues, improving economies-of-scale and cutting down overheads. The Asian Development Bank expects the Indian economy to grow at an accelerated 7.4% in 2017-18 and 7.6% in 2018-19, retaining its position as the worlds fastest-growing major economy. [Source: IMF, World Bank, RBI, IBEF]

Indian edible oil industry

Edible oil is considered to be one of the most important constituents of food expenditure across Indian households. Thus, it is also one of the most important industries of the Indian agricultural sector and a leading player, globally. India is the fourth largest oil seed producer after the US, China and Brazil. Of the nine types of oilseeds produced in India, soya bean, groundnut, and mustard are the most cultivated. In India, the total sowing area for oil seed spans over 27 million hectares and the industry comprises more than 15,000 oil mills, 600 solvent extraction units, 600 vegetable oil refineries and 250 vanaspati manufacturing units across the country. Indias demand for edible oils is approximately 21 million tonnes per year. It meets this with domestic production of around 7-8 million tonnes and imports of 14-15 million tonnes contributing to approximately 70% of the countrys requirements. [Source: IBEF]

Production

The past three years saw a sharp decline of edible oils production of 14.8% to seven million tonnes, post OY2013-14, which further went down by 6.5% to 6.54 million tonnes in OY2015-16. Of this, the majority of oil output was accounted by mustard oil (30%), groundnut oil (24.5%), cottonseed oil (20.2%) and soya bean oil (11.8%). The other varieties included coconut oil (7%), sesame oil (4.6%), sunflower oil (1.5%), and safflower oil (0.2%). The edible oil production in OY2016-17, driven by an increase in production of groundnut oil, soya bean oil and mustard oil grew by 17.4% to 7.68 million tonnes, as compared to the previous years actual production of 9.18 million tonnes. [Source: SEIA, USDA]

Consumption

Driven by a rising population, growing disposable incomes, and robust demand from household and institutional buyers, the consumption of edible oils in FY2016-17 is forecasted to grow by 6% to 24.4 million metric tonnes. The per capita edible oil consumption in India is also increasing and is currently estimated at 18 kilograms for 2016-17, well below the global per capita consumption of 24.7 kilograms. A consistent demand-supply deficit, characterised by slow growth in production and the strong consumption demand has widened to 70%, of which palm and soya bean oil shares stood at 65% and 25%, respectively.

 

[Source: USDA]

Imports

The widening of the demand-supply gap of edible oils has come about largely due to the limited availability of oilseeds, farmers shifting towards the cultivation of other crops, and the increasing demand of edible oil. The shutting down of several edible-oil producing companies, owing to the rise in production costs and cheaper imports have led to the financial stress in the edible oil industry. The introduction of a 5% GST on the sale of edible oil, along with the increase in the import duty is expected to help reduce the deficit of edible oil in India.

Outlook

Rising edible oils prices, high dependence on the availability of raw materials, low yield of oil seeds, annual rainfall, global price fluctuations and consumer preferences are some of the major impediments for this sector. However, the long-term outlook for the edible oils sector in India is expected to witness robust expansion, owing to positive macro and demographic fundamentals. Furthermore, the market continues to be underpenetrated, thereby providing immense business opportunities created by evolving lifestyles, growing urbanization, steady rise in affluence levels, surging retail sector and increasing health awareness.

 

[Source: USDA, CARE]

Indian food processing industry

The Indian food processing industry is pegged close to US$ 121 billion to US$ 130 billion. With the second-largest arable land in the world, India is the largest producer of milk, pulses, sugarcane and tea in the world and the second-largest producer of wheat, rice, fruits and vegetables. The Indian agriculture sector offers livelihoods to around 60% of the population and contributes to 17% of the GDP. Despite the massive production, the degree of processing is low and ranges between 2 to 35% for different produce. This indicates that there is an extensive opportunity in the food processing sector. The food processing industry, which is currently valued at US$

39.71 billion, is expected to grow at a CAGR of 11% to US$ 65.4 billion by 2018. The unorganised sector accounts for 42% of Indias food processing industry. The sizeable presence of small-scale industries points to the sectors role in employment generation. Though the market falls under the unorganised sector in the country, the organised sector has a larger share in the secondary processing segment than the primary one. [Source: Grant Thornton]

Demand drivers

Strong growth in per capita incomes has resulted in a bigger demand for food items Incomes have increased at a brisk pace and could continue rising considering the countrys growth prospects There has also been a shift in demand from carbohydrates to proteins in line with the various phases of economic growth and from utilitarian to convenience, organic and diet foods Strong economic growth since the 1990s has led to urbanisation and nuclearisation of families A young population and increasing media penetration have led to a demand surge for processed foods including health foods and supplements

Emerging trends

Changing tastes: Wide array of products, coupled with increasing global connectivity, has led to a change in preferences. Liberalisation and growth of organised retail have made the Indian market more attractive for global players.

Rising demand: With a large agriculture sector, abundant livestock and cost-competitiveness, India is fast-emerging as a sourcing hub for processed food. Indian exports of processed food and related items rose at a CAGR of 21.5% during FY11-16, accounting for US$ 19,337.4 million in FY16. Healthier ingredients: Food processing companies serve the cause of health and wellness. Given that health-conscious consumers prefer food products with lower carbohydrate content and with low cholesterol edible oils, their demand is all set to increase over the medium-term. Product packaging: Smart food packaging has enabled consumers to seek options and compare offerings thereof, before purchase. it has also enhanced portability and increased shelf-lives.

Product innovation: Product innovation is paramount as consumers not only prefer safe ingredients and additives but also useful ones. This creates opportunities mainly in product innovation, specialised products, and product extensions for the various existing players as well as new entrants. Processed foods: Frozen processed foods offer both convenience and nutrition. The increase in spending capacities and time paucity has catalysed the launch of processed food products.

Farmer-_Form linkages: Contract farming has been operational in India for long. However, it is only recently that private sector players have begun augmenting incomes and providing access to superior technologies to boost realisations.

Exports

Food processing exports comprised about 460 million tonnes valued at US$ 3 billion during FY2016-17. India enjoys great potential related to global trade in agricultural and processed foods. The share of food processing exports in total exports was around 12% in the last few years. Growth in food product exports has been aided by significant improvements in product and packaging quality as well as private sector participation. Indias geographic proximity to key export destinations like the Middle East and South East Asia has helped catalyse exports.

Government initiatives

The Government of India has focused on policy initiatives which provide initiatives for capital grant, duty-free export and tax incentives. Some of the major schemes by MoFPI include Mega Food Parks Scheme, Integrated Cold Chain and Modernisation of Abattoirs, among others. Fund allocation to MoFPI was revised to US$ 1088.5 million in the 12th Five Year Plan from US$37.5 million during the 10th Five Year Plan. The initiatives of the MoFPI augmented the development of food processing infrastructure in the country. Growth was a focus, with a reduction in losses for farm produce, value-addition, increasing exports, employment generation and increase in farm incomes.

Tax incentives

Entities in infrastructure development for food processing unit are given a tax deduction of 100% for the first five years and 30% for the next five years for the calculation of taxable income.

Customs duty on all imported capital goods, raw materials and other inputs is exempted, in addition to excise duty and sales tax on domestic inputs, for all export-oriented units.

There is a provision for duty-free import replenishment of inputs, subject to basic input-output norms for approximately 600 export categories.

Import duty scrapped on capital goods and raw materials for 100% export-oriented units. 100% tax exemption for five years followed by 25% in subsequent years.

Tax exemption for the next five years for new agro processing industries. Full excise duty exemption for goods that are used in installation of cold storage facilities.

Policy support

100% export-oriented units are allowed to sell up to 50% of their produce in the domestic market.

100%-FDI under automatic route allowed (except for alcohol, beer and sectors reserved for small scale industries).

Repatriation of capital and profits permitted 60 agro export zones have been set up across the country. 42 mega food-parks have been approved along with 128 cold chains.

100% deduction of capital expenditure for setting up and operating cold chain facilities (for specified products) and for setting up and operating warehousing facilities (for storage of agricultural produce).

Convergence of different food safety laws under the FSSA

 

[Source: Grant Thornton]

Outlook

The Indian food processing industry offers benefits through its adoption of food safety and quality assurance mechanisms such as TQM including ISO 9000, ISO 22000, HACCP, GMP and GHP. This has facilitated stringent quality and hygiene norms, protecting consumer health, preparing the industry to face global competition, enhancing product acceptance by overseas buyers and keeping the industry technologically abreast of international best practices. Going forward, urbanisation and integrated food supply chains are expected to boost industry growth. As per industry projections the Indian food processing industry is projected to reach US$ 480 billion by 2020, owing to growing disposable incomes, infrastructure investments and policy support.

Challenges

Existing competition: Intense competition is largely influenced by the unorganised sector in this industry New entrants: High investments are required to set up processing units and this acts as an entry barrier for new players

Bargaining power: Suppliers have low bargaining power as the population largely relies on the unorganised sector for processed food products. Tastes and preferences of consumers in certain products change, and hence, brand loyalty is low in these products.

Company overview

JVL Agro Industries Limited (formerly known as Jhunjhunwala Vanaspati Limited) is primarily engaged in the manufacture of edible oils and rice. The Company commenced production with a capacity of 25 metric tonnes per day and has rapidly grown to become one of the largest manufacturers of edible oil in India with a capacity of 3,000 metric tonnes per day. In October 2008, the Company changed its name to JVL Agro Industries Limited, owing to the diversification of its operations from just a hydrogenated vegetable oil manufacturer to manufacturing multiple products. Its manufacturing facilities are present in the following five locations:

Naupur (Uttar Pradesh)
Pahleza (Bihar)
Alwar (Rajasthan)
Haldia (West Bengal)
Rohtas (Bihar)

Financial overview

The financial statements of the Company have been prepared in accordance with the Generally Accepted Accounting Principles in India (Indian GAAP). The Company has prepared these financial statements to comply in all material respects with the Accounting Standards as prescribed under Section 133 of the Companies Act, 2013 (The ‘Act) read with Rule 7 of the Companies (Accounts) Rules, 2014 and the relevant provisions of The Act, to the extent notified. The financial statements have been prepared under the historical cost convention on an accrual basis. The accounting policies applied by the Company are consistent with those used in the previous year.

Analysis of the profit and loss statement

Revenues for the year stood at H3,860.30 crore. Like last year, the management strategically focused on scaling branded sales resulting in an increase worth H52.96 crore. The sales, primarily, decreased due to reduced trading sales from H 622.29 crore in 2015-16 to H322.03 crore in 2016-17. Other incomes during the year under review stood at H3.12 crore. Total expenses

decreased by 5% from H 4,094.21 crore in 2015-16 to H3,857.80 crore largely due to change in the inventories levels and reduced purchases of goods traded. Raw material costs reduced by 1.83% from H3,373.49 crore to H3,311.85 crore while employee expenses increased marginally by 3.84% from H11.99 crore to H12.45 crore.

Balance Sheet analysis

Sources of funds

Capital employed by the Company increased by 2.59% from H643.99 crore as on 31st March 2016 to H 660.07 crore as on 31st March 2017. Return on capital employed derived from every rupee invested in the business stood at 18.78% in 2016-17.

The net worth of the Company increased by 5.92% from H607.44 crore (including deferred tax liabilities) as on 31st March 2016 to H643.41 crore (including deferred tax liabilities) as on 31st March 2017 owing to increase in reserves and surpluses. The Companys share capital comprised 16,79,40,000 equity shares with a face value of H1 each. There was no change in the

paid-up equity share capital during the last financial year. Long-term debt of the Company reduced by 53.66% from H 35.95 crore as on 31st March 2016 to H 16.66 crore due to constant repayments during the year. Finance costs stood at H 69.50 crore in 2016-17 compared to H 64.50 crore in 2015-16.

There was no change in non-current investments of the Company which stood at H4.23 crore as on 31st March 2017.

Working capital management

Current assets increased by 1.76% from H1,718.55 crore as on 31st March 2016 to H1,748.85 crore as on 31st March 2017. Current ratio of the Company stood at 114.75% in 2016-17 against 113.60% in 2015-16.

Inventories including raw materials, work-in-progress and finished goods, among others reduced by H10.72 crore from H974.88 crore as on 31st March 2016 to H964.16 crore as on 31st March 2017.

Cash and bank balances of the Company increased by 14.67% from H227.13 crore as on 31st March 2016 to H260.44 crore as on 31st March 2017.

Loans and advances made by the Company increased marginally by 7.06% from H 18.12 crore as on 31st March 2016 to H19.40 crore as on 31st March 2017.

The EBIDTA margin of the Company in 2016-17 is 3.21% while the net profit margin of the Company stood at 0.84% due to lower revenue of H 3,860.30 crore in 2016-17.

Internal control systems and their adequacy

JVLs elaborate internal control systems ensure efficient use and protection of resources and compliance with policies, procedures and statutory requirements. The internal control systems comprise well documented guidelines, authorisation and approval procedures, including periodic audits. Intrinsic to the overall governance process, JVL has institutionalised a well-established internal audit framework which covers all aspects of financial and operational controls across functions and departments. The Company has recently completed the installation of SAP, which is expected to strengthen internal monitoring and control systems of the Company in near future. For this purpose, the Company hired the services of KPMG India and Vital Wires.

Risk management

Our business, financial condition or results of operations could be materially affected by any of the risks and uncertainties described below. Additional risks not presently known to us, or that we currently deem immaterial, may also impair our financial condition and business operations.

Self-sufficiency risk India may not have adequate oilseeds and oil to service its needs. Mitigation: India is dependent on the import of oilseeds for the production of edible oil. Indians consume ~24 million tonnes per year of edible oil and the countrys per capita consumption stands at around 18 kilograms, compared with a global average of 24.7 kilograms. The Central Governments 12th Five Year Plan aims to increase domestic production of oils to 38 million tonnes by 2017-end. JVL Agros production capacity is well-poised to cater to the impending rise in demand.
Product risk Excessive dependence on a single product and the inability to expand the product portfolio may affect the Companys profitability. Mitigation: The Company has, over the years, expanded its portfolio from mass products to premium products. Thus, it has successfully positioned itself as a complete solution provider in the edible oil segment. The Company restructured its product portfolio from the vanaspati segment to the premium oil segment (sunflower oil and soya bean oil) in response to evolving consumer needs and preferences and has also added canola oil to its portfolio. In order to reduce its dependence on the oil business, the Company embarked on the decision to set up a chemical plant in Assam to manufacture cosmetic products as a part of its forward integration strategy.
Raw material risk Any supply disruptions could lead to a reduction in the output and, in turn, impact the sales and profitability of the Company. Mitigation: Over the years, the Company established relationships with palm plantation owners in Indonesia and Malaysia as well as soya bean oil providers in Argentina and Brazil, facilitating consistent raw material supply even in adverse situations.
Quality risk The failure or alleged failure to maintain high standards for quality, safety, integrity environmental sustainability and social responsibility could adversely affect the reputation, growth and performance of the Company. Mitigation: JVL Agros business is largely driven by an increasing population and evolving life-standards. Its product portfolio caters primarily to the rising demand for health food and supplements, thus providing the company with an edge in a volatile market. The Company undertakes stringent quality control measures at all levels – right from the purchase of raw materials to the packaging process. Moreover, longstanding healthy relationships with raw material suppliers extend product shelf life. The Company also has in place a proactive R&D team, which ensures that the Company delivers quality products to its customers.
Brand risk Growing competition may lead to an inability to achieve top-of-the-mind customer recall which, in turn, may affect the Companys brand and offtake. Mitigation: JVL has been the market leader for the last 15 years in Uttar Pradesh and Bihar in the cooking oil segment through a strong customer pull. JVL is among the few players in the industry who has been able to position themselves as one-stop shop for all kinds of edible oil needs, creating a strong identity. The Company invested H2.10 crore during FY17 towards its branding, promotional and selling activities, which helped create strong awareness for its products. The Company was predominantly present in Central and Eastern India; with the objective to become an all-India brand, the Company forayed into Western India.