NBS cut to lower fertiliser subsidy bill by Rs.5, 000 crore

But high inventories increase monsoon dependency for fertiliser makers

The   reduction   in   nutrient-based   subsidy (NBS)   rates   announced   last   week could   trim   the government’s subsidy bill for phosphatic fertilisers by Rs 5,000 crore next fiscal. The  cut,  which follows  declining  international  prices  of  di-ammonium  phosphate  and  ammonia,  would  influence  the contracted price for phosphoric acid, the key raw material, for fiscal 2017.

However,  even  if  domestic  manufacturers  are  able  to  negotiate  a  lower  contracted  price  for phosphoric  acid,  it  may  not  be  enough  to  offset  the  subsidy reduction  because  they have  been grappling  with  high  NPK  (nitrogen,  phosphorus  and  potassium)  inventories  in  the  backdrop  of stressed farm incomes. As a result, operating margins of phosphatic fertiliser makers could reduce by up  to  75  basis  points  (bps)  in  fiscal  2017.

To  be  sure,  there  is  some  offset  available -interest expenses are  expected  to  decline  because  of lower working  capital  needed  to  finance  subsidy receivables.

Two  consecutive  years  of  deficient  monsoon  has burdened  the  fertiliser  industry  with  excess inventory,  estimated  ~5  million  tonne,  which  is equivalent to  90-100  days  of  consumption.  That means manufacturers will  have  limited  ability  to  increase prices to  compensate  for  the reduction in  subsidy, which,  in  turn, increases their  dependence on  monsoons.  They will also be compelled to offer discounts to clear inventory before the upcoming kharif season.

Sudip  Sural,  Senior  Director,  CRISIL  Ratings,  said:  “Overall subsidy  bill  reduction  would  be Rs. 10,000  crore  next  fiscal  – Rs . 5,000 crore  through  the  cut  in  NBS rates,  and  a  similar amount  in  urea  subsidy  because  of  lower  gas  costs.  This  could  help  the  government  bring down  its  fertiliser  subsidy  arrears  of  ~Rs. 35,000 crore that’s being rolled over since fiscal 2012.  But  achieving  a  balanced  nutrient  ratio,  which  was  one  of  the  objectives  of  NBS, remains   a   far   cry,   given   the   continuing   price   disparity   between   urea   and   phosphatic fertilisers.”

While CRISIL -rated large manufacturers are also likely to face profitability pressures, their flexibility to manufacture different grades of complex fertilisers, backward integration, and strong raw material tie-ups will moderate the impact.  Further, their strong brands and entrenched market position provide afford them relatively better pricing flexibility. With no long-term debt, they also enjoy strong financial flexibility –something that will support their credit profiles over the medium term.

The upshot is that the cut in NBS rates for nitrogen and phosphorus nutrients will not have a material impact on credit profile of our large rated players.  However,  dependence  on  monsoons,  favourable movement  in  raw  material  price,  and  vulnerability  to  fluctuations  in  currency  will  remain  the  key monitorables.

The  Cabinet  Committee  on  Economic  Affairs  announced  NBS  rates  for phosphatic  and  potassic fertilisers on March 23, 2016, which were significantly lower than in fiscal 2016. While subsidy rates for  nitrogen  and  phosphatic nutrients  have  been  slashed  by  Rs.5  per  kg  and  Rs.5.40  per  kg, respectively --representing  ~25%  and  30%  reduction,  respectively --the  subsidy  rate  for  potassic nutrient was kept almost unchanged.