The stock price of Nagarjuna Fertilizers has jumped to Rs 17.70, showing an impressive jump of 25 per cent in the last three weeks. The positive indicator that is usually noted is the rise in daily trading volume; which has occurred. Volumes have scaled a high of 3.18 lakh shares from an average of around 10,000 shares in just the recent past.However, if one were to look for reasons for the recent need for buying into fertiliser stocks, one would hardly expect to find any reasonably bullish sentiment. The reason for this is not very far to seek. From a purely investment point of view, the Nagarjuna Fertilizers stock has a very different profile. There are several non-beneficial factors that stack up against it. For one, Nagarjuna Fertilizers's fortunes are very closely linked to the payment of the government subsidy on urea rather than to its actual performance. Perhaps, this could be the reason why it attracts one of the lowest P/E multiples on the bourses. Even at the current price, the stock gets adiscounting of just around 3, which would be the lower band for fertiliser stocks.
The only advantage that equity investors have in this stock is the high dividend pay-out that the company has consistently followed. The company has good dividend track record and last year, it paid Rs 1.80 per share. And since the dividend is free of taxes in the hands of the shareholders, the equity yield (which the markets have begun to track closely) works out to around 17 per cent if the stock is being acquired at around Rs 13.
But an important question is: for how long can the company maintain such a high dividend rate? Looking at the company's expansion and diversification plans and its consequent requirement for cash to invest, the cash flow will definitely be under pressure, which may affect the dividend rate in the future.
For now there are plans for doubling the fertiliser facilities at Kakinada. The company has already incurred Rs 550 crore which constitutes the bulk of the total approved project cost of Rs970 crore. The need for an expansion of fertiliser capacities though debatable can at least be understood as it represents a business that the company has been in for sometime now. But in addition to the above the company also plans to set up an export oriented integrated hot rolled coils sheet plant at Mangalore. Further, apart from the steel project it is also planning a 1,000 mw power project. Both these projects would require huge funds, an investment that would be hard to justify.
If the company chooses to finance these projects on its own, it will put pressure on its cash flow. Even if the company prefers to part-finance it with an equity issue, the impact on the stock price would be negative as it would adversely hurt the return parameters that markets evaluate companies by. Even if the company maintains its dividend rate, the stock loses its yield advantage gradually as the stock price rises (around Rs 20). Around this level, traders who have taken long position in an anticipation of a price risewould most likely turn sellers. At the same time, the buying that was based purely for the yield offered will also decline substantially. And looking at the size of Nagarjuna Fertilisers equity of Rs 331.36 crore, the stock price cannot bear the load of selling for a long extended period of time.
Coming back to the recent jump, although the higher stock price supported by increasing volumes is a positive sign, the past track record of the stock suggests that it should not be taken too seriously. During August 1997, the jump in the stock price was equally well supported by rising volumes as it is now. But only a short while later in the latter part of August, the abnormal volumes disappeared completely and the stock went in for a downward spiral that lasted all of four months. As such, keeping prudence in mind, for investors profit booking at these levels appears to be a logical choice. And in any case, any die-hard fan of the company can always re-enter on price declines.
Copyright © 1998 Indian Express Newspapers (Bombay) Ltd.
