rethink everything

12 September 2017

Elara Securities (India) Private Limited

Shubham Maheshwari

[email protected]

+91 22 6164 8562

IIndia Dairy

Rethink Everything

Sagarika Mukherjee

[email protected]

+91 22 6164 8594

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Mar

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Sagarika Mukherjee • [email protected] • +91 22 6164 8594

Shubham Maheshwari • [email protected] • +91 22 6164 8562

Indian dairy at centre stage of the world Key premises about dairy sector were negated in 2015-17 period

"Value-added products are good only when it is good for the manufacturer as well.”

– RS Sodhi, MD, Gujarat Co-operative Milk Marketing Federation

Key premise that increase in salience of value added products (VAD) will necessarily benefit a company remains challenged as we believe not all of them have 1) the balance sheet strength to grow rapidly in VAD 2) the brand power to pass on inflation 3) VAD is working capital heavy, requires companies to fund the distribution channel as it is nascent 4) and requires milk procurement capacity to grow in multiples of volume growth thereby requiring constant capex. However, category tailwinds like low PCC (97 Ltrs/Yr), changing consumer preferences towards clean and hygienic foods & propensity to increase protein intake in diets with rising disposable income will lead to 20% CAGR for the sector going forward.

Prefer South Indian dairies over others due to low price volatility

Milk price volatility is relatively high in northern and western regions in India as they are milk surplus regions and the excess milk produced is exported as SMP (95% of powder capacity located in North and West) to SAARC and Russia. However, this introduces huge volatility in milk prices in those regions. Hence prefer South Indian dairy companies over North and Western region.

….and companies with high salience of pouch milk

Pure-play B2C dairy companies like HFL and Hatsun Agro have 61-63% of their sales coming from pouch milk which is also highly cash generative. As all dairy companies are in a high growth phase, we believe that a slow and steady but cash generative business of pouch milk is extremely critical to support the growth and development of VAD products. This principal has been followed by several companies like ITC (Cigarettes – FMCG), MRCO (PCNO-VAHO/Saffola Edible oil-Saffola Oats) in order to grow new verticals and launch brand extensions.

Valuation

We initiate on HFL with BUY rating and TP INR1804 (INR1628 for HFL +INR176/share value of FRL stake) as our preferred pick in the dairy space as it is a pure-play B2C, South based dairy company with an established brand name (Heritage) & high salience (62%) in pouch milk, which shall help in growing the VAD category. We initiate on Prabhat with BUY rating and TP INR160 as it is emerging as a low cost supplier of specialized dairy ingredients for large dairy brand owners. We value it at par with B2B players like Kwality Dairy. We initiate on Parag Milk Foods with Accumulate rating and TP INR289 as it has high salience in fast growing cheese and ghee categories. However as VAD is heavy on the balance sheet we value it at a discount to HFL/Hatsun while at a premium compared to B2B players like Prabhat and Kwality Dairy.

India | Dairy 12 September 2017

Initiating Coverage

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Milk consumption in India accelerated in 2007-16 led by rising income growth

Milk Consumption Growth (%)

CAGR

2000-16 2000-07 2007-16

World 2.4 2.9 2.3

Developed Countries 0.2 0.3 0.2

Developing Countries 3.9 4.8 3.5

Asia 4.5 5.9 3.7

India 4.0 3.6 4.8

Source: FAO

PCC in India is <50% of developed economies

Source: Parag DRHP

Business model comparison

Source: Company, Elara Securities Research; Size of bubble represent % of sales from B2C

Peer Valuation

Company Rating CMP* ((INR)

TP ((INR)

EV/Sales(x) EV/EBITDA(x)

FY 18E

FY 19E

FY 20E

FY 18E

FY 19E

FY 20E

Heritage Buy 1,502 1804 1.5 1.3 1.2 21.7 16.8 14.2

Prabhat Buy 133 160 1.0 0.9 0.8 10.4 8.5 6.9

Parag Acc. 250 289 1.1 1.0 0.8 16.5 15.2 11.0

* Pricing as on 4 September 2017; Source: Elara Securities Estimate

285 281

220

156

97

24

0

100

200

300

USA

EU2

7

Russ

ian

Fe

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atio

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Bra

zil

Ind

ia

Ch

ina

(litr

es/y

ear)

Prabhat Dairy

Parag Milk

Heritage Foods

Hatsun Agro

Kwality Dairy

0

5

10

15

20

25

30

0

5

10

15

20

25

30

35

12

MT

EV/E

BIT

DA

(x)

Average of last 5 years ROCE(%)

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2 Elara Securities (India) Private Limited

Table of Content

Executive Summary - Rethink Everything……………………………………………………………………………………………. 1

Huge untapped market in India…………………………………………………………………………………………………………… 3

Domestic self consumption story playing out……………………………………………………………………………………. 13

Changing dietary patterns in favor of packaged dairy products…………………………………………………….. 16

Prefer dairies with direct procurement and brands in fresh dairy products…………………………………… 21

Global SMP prices weigh on Indian milk prices…………………………………………………………………………………. 23

Western and Northern dairies affected by global milk prices………………………………………………………….. 27

Prefer South Indian companies over North or Western players………………………………………………………. 32

Valuation Methodology & Recommendation and Relative Valuation…………………………………………….. 37

Return ratios much better for B2C players in fresh dairy products………………………………………………….. 39

Company Section Heritage Foods - Taking measured steps to grow (Buy - TP INR 1,804)……………………………………….. 43

Taking measured steps to grow………………………………………..………………………………………………………………… 46

The only dairy with balance sheet strength to fund growth………………………………………..…………………. 49

Return ratios and cash flow from operations superior than others………………………………………..………. 55

Value of stake in Future Retail at INR176/share at CMP………………………………………..………………………… 56

50:50 JV announced with France based Novandie SNC………………………………………..………………………… 57

Valuation & Recommendation (BUY - TP INR 1,804)………………………………………..……………………………….. 58

Relative Valuation - EV/Sales & EV/ EBITDA bands………………………………………..…………………………………. 59

Prabhat Dairy - Leveraging its roots (Buy - TP INR 160)………………………………………..………………………….. 63

Rock solid foundation………………………………………..………………………….………………………………………..…………….. 66

Targeting less cluttered Tier-2/3 cities for B2C products………………………………………..…………………………. 74

Striking a fine balance: Growth and Capital………………………………………..…………………………………………….. 84

Valuation Methodology & Recommendation (Buy - TP INR 160)……………………………………….. 87

Relative Valuation - Trading at B2B valuations………………………………………..…………………………………………. 88

Parag Milk Foods - Cheese and Whey all the way! (Accumulate - TP INR 289) ……………………………. 93

Investing behind fast growing value added products……………………………………………………………………… 96

Cheese is one of the fastest growing categories in dairy products in India…………………………………… 98

Cheese was introduced into India through QSRs…………………………………………………………………………….. 99

Cheese evolved into a B2C category along the way………………………………………………………………………… 99

Foraying into a nascent category of Whey for protein shakes………………………………………………………… 101

Realizations in Whey protein in health supplements are manifold compared to infant nutrition… 103

Ghee and SMP margins highest during high inflation in global and domestic milk prices…………… 106

Valuation & Recommendation (Accumulate - TP INR 289)……………………………………………………………….. 110

Relative Valuation - Parag was de-rated due to heavy fluctuations in margins……………………………… 111

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Indian dairy industry stands to benefit from the huge untapped market India is the leading milk producer in world, producing approximately 19% of the world’s total milk. Milk production in India is growing at 5% CAGR. Indian dairy Industry has witnessed a strong growth (15% CAGR) in last decade and reached a size of INR6.2tn in FY17 led by 5-6% volume growth in the same period and higher realizations (~10% YoY in-line with CPI inflation in the same period). Value added products both in fresh dairy segment (curd, butter milk, lassi, cottage cheese) and in long shelf life products (cheese, UHT milk, Flavored milk, clarified butter) have been growing at a fast pace (~20% CAGR/ 8% vols/12% price) compared to pouch milk. During the same period, organized segment grew at a CAGR of 20% led by the increasing level of urbanization across the Indian population as urban consumers prefer clean, hygienic and ready-to-drink milk and dairy products. Studies have shown that with rising disposable income, consumers start increasing their protein intake and dairy products are the biggest beneficiaries of this trend. We expect this growth to continue for the organized dairy industry as 70% of the marketable surplus (excluding milk produced by farmers but used for self consumption, which is 46% of the total milk produced) is still unorganized and sold through traditional milkmen and bulk milk vendors. As opposed to preparing dairy products like curd, ghee, buttermilk, lassi at home, we believe that the consumer is shifting towards packaged dairy products and hence fresh dairy products are bound to grow at a fast stead.

The unorganized segment still dominates the Indian dairy industry Although the unorganized Industry dominates the dairy industry currently, it is growing at a slower pace (~15% CAGR) compared to organized dairy (~20% CAGR) and hence organized dairy is expected to become 25% of the dairy industry in value terms by 2020.

Why does unorganized market in milk exist?

Even though co-operatives provide a remunerative price to the producer, the unorganized sector plays a major role in milk marketing because of three factors:

� The first factor is the pricing policy of the co-operatives: their purchase price is based on the fat content of the milk, whereas the unorganized sector pays a flat rate per liter of milk.

� The second factor, which motivates the milk producers to sell milk to unorganized vendors, involves the type of milk animals reared by the producer. Crossbred cows yield more milk with a lower fat( Fat – 4.45%/ SNF-8.54% ) than do buffalo (Fat – 7.75%/ SNF -10.11%).

� The third factor is payment policy. The can pay their producers every day, whereas the co-operatives pay weekly or fortnightly. Producers sometimes have to fight with the co-operatives to get their payments.

Huge untapped market in India � 70% of the market is unorganized giving huge room for growth and value addition

� The unorganized segment dominates procurement and consumption both which is very rare

� Dairy companies with direct milk procurement systems highly valuable and potential partners for

tie-ups with Nestle, Britannia, ITC, Danone, Kraft, Lactalis, GSK Consumer

� Organized dairy sector will play a pivotal role in “Doubling Farmers Income”

India Diary Market

Organised Diary Market Unorganised Diary Market

Cooperatives Private Diaries Traditional Milkmen /

Vendors Self Consumption at

home

Source: IMARC Report, Elara Securities Research

Exhibit 1: Indian dairy industry structure: Large unorganized market gives huge room for growth and value addition

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Exhibit 6: Milk - Marketing Channel in India

Source: Journal of Food Distribution Research, K. Rajendran and Samarendu Mohanty

Producer

Milk Vendor

Wholesaler

Retailer

Retailer

Government

Village Coops Private

District level milk producers

cooperative union

Village level milk producers

cooperative union

Unorganized sector Organized sector

Exhibit 2: Milk production volume break-up by marketability

Exhibit 3: Marketable milk value break-up by segment

Source: IMARC Report, Elara Securities Research Source: IMARC Report, Elara Securities Research

Exhibit 4: Marketable milk volume break-up by segment

Exhibit 5: Organized marketable milk volume break-up by segment


Self consumption

46%

Marketable Milk 54%

Organised 20%

Unorganised 80%

Organised 30%

Unorganised 70%

Private 55%

Co-operatives &

Govt 45%

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Stages in Milk Processing Step 1: Testing

Samples of milk are taken from farm vats prior to collection and from the bulk milk tanker on arrival at the factory. Samples from the bulk milk tanker are tested for antibiotic and temperature before the milk enters the factory processing area.

Step 2: Clarification and Separation

Clarification is a step in milk processing that ensures the milk will be free of bacteria and debris. Milk is put into large vats that continually spin. The spinning causes the milk to separate from debris and floating bits of bacteria. After clarification is completed, the milk is spun once again to separate heavier and lighter milks. Heavier milks might be used for butter, cream, or buttermilk, while lighter milks are reserved for the majority of table milks.

Step 3: Fortifying with vitamins

The next step in milk processing is typically fortifying with vitamins. Most of the time, vitamins A and D are pumped into the milk in carefully measured amounts.

Step 4: Pasteurization

Once the vitamins are in the milk, it is ready to be pasteurized. it involves heating every particle of milk to a specific temperature for a specified period of time and cooling it again without allowing recontamination. Pasteurization is performed for two reasons;

1. Ensure all milk products are safe for human consumption by destroying all bacteria that may be harmful to health (pathogens).

2. Improve the keeping quality of milk by killing or inactivating some undesirable enzymes and spoilage bacteria.

Step 5: Homogenization

Homogenizing is a step in milk processing that eliminates some of the remaining milk fat. This is done by using heat to reduce the size of fat particles. Without homogenization, fat particles would eventually separate from the milk and float to the top.

Final Step

The final step in milk processing is putting the milk into retail containers.

Exhibit 7: Milk Value Chain

Village Level Collection Center


Chilling center Dairy Plant

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Exhibit 8: Milk Processing

Source: MarcusTech

Raw milk in from diary

Holding tank

testing

Raw milk

standardization

optional addition of vitamins A and D

Skim milk

seperation

cream for butter making

raw milk for cheese making

milk for desired fat content

packaging of milk

to additional processing into evaporated, condensed and dried milk products

homogenization

filling of bottles, cartons or plastic jugs

cream

Pasteurizationhigh-temperature heating

cooling

hot-water heating system

cold-water cooling system

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Market Structure The market structure of milk supply chain is such that power is skewed towards a few milk processors cum marketers and hence they are price makers. Milk consumers and producers being dispersed and large in number are compelled to be price takers. Hence, there is an innate tendency for the organised milk marketers to act as an oligopoly when selling (Wann and Sexton, 1992) and as an oligopsony when buying, wherein vertical restraints are used by the processors or marketers as part of their supply chain management strategy (McCorriston, 2002).

Exhibit 9: Vertical restraints used by both organized and unorganized sector in milk procurement

Comments

Organised Sector

� The primary restraint used by the organised sector is by buying milk against credit, wherein, payment for milk is made once in 7 to 15 days. This credit period can be extended by the milk purchasers unilaterally, as per their convenience.

� The second is by providing inputs like concentrate and providing in-house veterinary health and breeding cover services, on credit.

� Thirdly, they assist farmers in availing credit and insurance for dairy animals, at concessional rates

Unorganised Sector

� The primary vertical restraint used by these traders is advance payment for milk to dairy farmers. It is sometimes given even before the animal comes into milk. They also have a very flexible payment system as per the needs of the farmer and develop a personal relation with each farmer.

� They also provide cattle feed and other inputs required by the dairy farmers. Since convenience of the farmer is being met, the price at which they buy milk or the price at which they sell inputs become secondary.

� Some of the milk traders also act as market facilitators in the purchase and sale of animals of all age groups, productive and unproductive.

Source: IIM B Research Paper

Correlation of organised and unorganised sector

Interestingly, the two are not mutually exclusive. There is a grey area wherein, the unorganised sector represented by the local milk trader acts as an interface between individual dairy farmer and the organised sector, buying from the farmer and selling to the latter. The grey area exists as farmers are able to benefit from the best of organised and unorganised sectors. It may be on account of this that the unorganised sector is still able to continue sourcing 70% of the marketable surplus of milk from farmers.

Exhibit 10: Vertical restraints in unorganized sector


Constraints in milk marketing

� The dairy sector is characterized by:

� Small-scale, scattered and Unorganized milk-animal holders

� Low productivity

� Inadequate and inappropriate animal feeding and health care

� Lack of an assured year-round remunerative producer price for milk;

� An inadequate basic infrastructure for provision of production inputs and services

� An inadequate basic infrastructure for procurement, transportation, processing and marketing of milk and lack of professional management.

Consumers

Milk from dairy farmers

Unorganized sector (70%)

Organized sector (30%)

Exhibit 11: Vertical restraints in organized Sector Vertical restraints in unorganized Sector


Dairy animal rearing

Quality testing & collection

Processing & marketing

Retailing

Credit purchase

Health & breeding

Inputs

Credit & insurance

Dairy animal rearing

Milk collection & transport

Retailing

Cash advance towards

purchase of milk

Personal relationship

Assistance in marketing of dairy animals

Flexibility in payment

Cattle feed sale on credit

Assured price

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� Other important characteristics of the dairy sector are the predominance of mixed crop-livestock farms and the fact that most of the milk animals are fed on crop by-products and residues, which have very low opportunity costs. Milk marketing in India remains grossly primitive compared to its western counterparts.

� It begins with the largely unregulated sector, which handles the majority of the milk production, providing ample opportunity for malpractice. Some of the common forms of malpractice include false measurements in the selling of milk and adulteration of milk.

� Another major impediment to an efficient marketing system is the presence of numerous intermediaries, which take advantage of producers’ weakness. In many cases, intermediaries dictate the price by advancing a loan to the milk producers. On the other hand, it will be impossible for most producers to market their milk without the presence of these market intermediaries.

� Political and bureaucratic interference, delayed payments to the primary producers, and the decision-making power of the administrators over marketing of milk and milk products by the district-level union and the state-level federation also adversely affect the growth of dairy co-operatives.


Organized dairy sector will play a pivotal role in “Doubling Farmers Income”

The Department of Animal Husbandry under the aegis of Agriculture Ministry is holding a series of discussions with private players and co-operatives with regards to doubling of farmers’ income by 2022.

Looking at the data on various contributors of farmers income over a period of 10 years (FY03 to FY13) – we

come to the conclusion that 1) the key contributor to doubling of farmers income in that period was due to income coming from non-farm activities like animal husbandry and bee-keeping. This trend is also reflected in the fact that share of income from farming of animals rose from 4.3% in FY03 to 12% in FY13.

Exhibit 13: Income growth from animal husbandry and allied sectors was the highest (FY13 vs FY03)

Source: NSSO, Elara Securities Research

2) During FY03-13, farmer’s income grew at a compounded rate of 11.75% in nominal terms and 4% in real terms; as such, nominal income doubled in 6.2 years while real income doubled in 17.7 years. Hence in order to accelerate the growth, the government has decided to shift focus towards allied sectors like dairy. Income growth has been fastest from animal husbandry. In terms of remunerative capacity, animal husbandry is found to be most profitable source of income for farmer households.

3) Dairy forms the largest portion of income for Landless and Marginal farmers

In India Milk production is dominated by small and marginal land-holding farmers and also by landless laborers and as the crop production on agricultural land still depends on rain, which is prone to both drought and floods , rendering agricultural income is very much

9.7 12.3

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11.8

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15

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Wag

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Farm

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(CA

GR

%)

Exhibit 12: Share in farmer household income

FY03 FY13


Wages 38.7%

Cultivation 45.8% Farming of

animals 4.3%

Non-farm business 11.2%

Wages 32%

Cultivation 48% Farming of

animals 12%

Non-farm business

8%

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uncertain for most farmers . Dairying, as a subsidiary source of income, is a real relief to most of these weaker groups in society. Often one or two milch animals enable these farmers to generate sufficient additional income to break the vicious subsistence agricultural-debt cycle.

Exhibit 14: Share of household income (%) by Source

Household Dairying Crop

HHusbandry Others Total

Landless 53.08 0.00 46.92 100

Marginal 30.14 46.55 23.30 100

Small 29.67 53.75 16.58 100

Semi-medium 26.25 58.98 14.76 100

Medium 25.33 62.77 11.91 100

All 27.28 55.36 17.36 100


Exhibit 15: Livestock and allied sectors must be promoted as the variability in output is significantly lower than farming

Source: Ministry of Agriculture, Elara Securities Research

Milk production is a stable source of income even in drought years

The production of milk and eggs has helped although that of food grains fell significantly suggesting livestock can be a good bet against vagaries of Monsoon. Hence NDDB has made it one of the main objectives to promote increasing productivity of animals in order to increase the milk output. This serves two purposes at the same time since the farmer is able to have a stable source of income even in drought years, secondly, increasing milk procurement and productivity of milch cattle are key factors for Indian dairy industry in general and increasingly more farmers with surplus milk need to be linked to some village milk collection centre (MCC).

Exhibit 16: Output growth in drought years

Source: Ministry of Agriculture, Elara Securities Research

States of Rajasthan, Gujarat, Madhya Pradesh, Andhra Pradesh, Himachal Pradesh and Uttarakhand , where crop area under irrigation is less than 45% , have recorded above average(355 gms/day) per capita availability of milk. States of Punjab and Haryana are the only exception to this scenario, where 99% of the crop area is under irrigation and also have recorded highest per capita availability of milk. As income from crop production is seasonal, dairying provides a stable which is a year - round income and also an important economic incentive for the small farmer.

0

2

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6

8

10

Milk Eggs Wool Food grain

(%)

Std deviation of output (FY87 to FY15)

(20)

(15)

(10)

(5)

0

5

10

15

1987-88 2002-03 2004-05 2009-10 2014-15

(% Y

oY)

Milk Eggs Wool Food grain

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Milk production is stable source of income even in drought years. Dairying provides a stable source of income to regions with less irrigation.

Exhibit 17: Percentage of State-Wise Irrigated area out of total crop area

Note: Map not to scale; Data collected prior to Telangana and AP split, hence Telangana’s data not available separately

Source: Directorate of Economics and Statistics, Ministry of Agriculture

TamilNadu40.9%

Karnataka19.5% Andhra

Pradesh34.3%

Maharashtra17.0%

Madhya Pradesh26.5%

Rajasthan24.3%

Gujarat32.3%

U ttar Pradesh82.3%

Punjab99.0%

Bih ar54.7%

Odisha25.3%

Jharkhand7.5% W e s t

Be nga l54.2%

Sikkim10.0%

Arunachal Pradesh

12.5%

Assam7.3%

Tripura23.3%

Meghalaya20.0%

Mizoram10.0%

Manipur25.0%

Nagaland6.4%

Goa100%

Pondicherry

Uttarakhand43.8%

Jammu&

Kashmir41.1%

H a ryana90.6%

HimachalPradesh

11.0%

D e lhi

Chhattisgarh16.7%

Kerala26.0%

Telangana

Crop area under irrigation is more than 45%

Crop area under irrigation is less than 45%

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States of Rajasthan, Gujarat, Madhya Pradesh, Andhra Pradesh, Himachal Pradesh and Uttarakhand , where crop area under irrigation is less than 45% , have recorded above average(355 gms/day) per capita availability of milk.

Exhibit 18: State wise per capita availability of Milk (gms/day)

Note: Map not to scale

Source: Department of Animal Husbandry, Dairying & Fisheries, Ministry of Agriculture and Farmers' Welfare, GoI

Tamil Nadu283

Karnataka282

Andhra Pradesh

475

Maharashtra239

Madhya Pradesh428

Rajasthan704

Gujarat545

Uttar Pradesh335

Punjab1032

Bihar219

Odisha124

Jharkhand152 West

Bengal145

Sikkim282

Arunachal Pradesh

105

Assam70

Tripura109

Meghalaya83

Mizoram57

Manipur76

Nagaland89

Goa74

Puducherry108

Uttarakhand434

Jammu&

Kashmir395

Haryana877

HimachalPradesh

505

Delhi36

Chhattisgarh133

PCA > 355

250 > PCA < 355

PCA < 250

Kerala200

Telangana

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Larger portion of the consumer price paid should trickle down to the farmer to encourage dairy

The farm gate prices offered to the dairy farmers by the state level dairy cooperatives are the benchmark prices that are generally followed by the private dairies. The dairy cooperatives generally consider factors such as increases in feed and other input costs for revising the farm gate prices. From fiscal year 2010-11 to 2015-16, fodder and oil cake prices increased at a compound annual growth rate of 11 and 8 percent respectively while milk prices increased by only 7 percent; this squeezed farmer’s profits. Reportedly, some state governments provide financial subsidies to dairy cooperatives so that they can offer higher milk prices to farmers. According to industry sources, the September 2016 average farm gate price for milk ranges between INR 40 to 45 per liter ($0.60 to $ 0.67 per liter) for water buffalo milk (six percent fat and nine percent SNF), and INR 25 to 30 per liter ($0.37 to $0.45 per liter) for cow milk (four percent fat and eight-and-a-half percent SNF)(GAIN Report-USDA). Also, a consistent if not a higher proportion of the consumer rupee to the farmer will encourage him to produce more. For example, Mysore district cooperative milk producers’ union has been able to transfer 70% to 80% of the consumer rupee to its member farmers as price of milk (Mymul, 2015). This is in contrast to less than 50% of the consumer rupee being transmitted to dairy farmers in developed countries.

From Farm to Fork distribution chain and key market participants in milk

Exhibit 19: Milk Cumulative Price (INR per liter) -Maharashtra- data as of 2014-15

Procurement price for Cow Milk (3.5% fat & 8.5% SNF) 25

Transportation charges from village to chilling center 1

VSP commission 2

Cost of capital investment 1

Procurement manpower cost 0.5

Chilling cost 0.5

Transportation cost from chilling center to plant 0.5

Processing cost + Packaging Cost 3

Dairy Profit Margin 7

Distributor Purchase Price 40.50

Distributor margin 1

Retailer Purchase Price 41.50

Retailer margin 3.50

Consumer Price 45

Source: Channel Checks – Elara Securities Research, Industry

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Indian dairy industry is at the centre stage of the world as it’s the fastest growing dairy market and the largest milk producer in the world

Indian dairy industry is at the centre stage of the world currently due to 1) India being the largest milk producer in the world – contributing 20% of the total world production and consumes most of it domestically (INR6.2tn in FY17) 2) Indian dairy industry is the fastest growing dairy Industry in the world and has strong growth prospects as rising disposable incomes will lead to higher protein intake. Consumers will shift from unbranded/ home-made products (Clarified Butter, Curd, Butter Milk, Lassi, Cottage Cheese) to branded products 3) Although India is a small player in global dairy trade Indian dairy exports accounts for 4% of the world SMP exports (largest player is Fonterra with 7% ) and the major contribution to the Indian exports has come from Amul which has also listed itself for trading on the “Global dairy trade” in 2013 to trade in dairy products and Amul is one out of the only 7 sellers on the platform along with Denmark’s Arla Foods, US-based Dairy America, Australia’s Murray Goulburn, French Euroserum and New Zealand’s Fonterra.

Milk production has grown at 5.1% p.a. in FY07-17 period

Exhibit 20: Milk production

Source: National Dairy Development Board (NDDB)

Exhibit 21: Productivity of Milk Animals

Parameter Buffalo Indigenous Cow

Crossbred CCow

Domestic milk consumption

High Moderate Moderate

Global milk consumption

Low High High

Fat content in milk

7-7.5% 3.5-4% 4.45-5%

Water content in milk

80-85% 85-90% 82-85%

SNF 10.11 9.11 8.54

Cost per animal INR 80,000-100,000

INR 60,000-70,000

INR 70,000-100,000

Yield (kg/day) 5.15 2.54 7.02

Lactation Days 200-250 150-200 300

Source: Journal of Food Distribution Research, K. Rajendran and Samarendu Mohanty, FAO, Industry, NDDB

The crossbred cow population has increased over years because of artificial insemination and improvements in management practices. Also,the proportion of milk from crossbred cows has increased from 17% to 25% between 1997-98 and 2014-15 due to higher yield and more number of lactation days. This 8% increase was coupled with proportionate decline of milk from Indigenous cows (6%) and from buffaloes (2%). As of 2014-15, 55% of total milk production was contributed by buffaloes while the remaining 45% came from cows.

Exhibit 22: Bovine Milch Population

Species Year (mn)

% Increase 2007 2012

Crossbred Cow 14.4 19.42 34.78

Indigenous Cow 48.04 48.12 .17

Buffalo 48.64 51.05 4.95

Source: Ministry of Agriculture

Exhibit 23: Proportion of Milk from 3 types of bovine animals

Year Milk ffrom ((%) Total milk quantity

(MMT) Crossbred

CCow Indigenous

cow Total CCow

Buffalo

1997-98 17 26 43 57 67.84

2014-15 25 20 45 55 146.3

Source: IIMB Research paper/Open Government Data

0

1

2

3

4

5

6

7

0

30

60

90

120

150

180

19

91

-92

19

93

-94

19

95

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19

97

-98

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99

-2K

20

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20

05

-06

20

07

-08

20

09

-10

20

11

-12

20

13

-14

20

15

-16

(%)

(mn

ton

nes

)

Milk production Growth YoY

Domestic self consumption story playing out � India is the largest consuming hub making it an attractive investment for overseas brands

� Growth in milk production worldwide has been driven by developing nations especially India

� Milk production has grown at 5.1% p.a. in FY07-17 period; India could soon lose its self –

sufficiency tag if milk productivity is not increased rapidly

� PCC of milk one of the lowest in the world at 97 Ltrs per year

Rethink Everything


Exhibit 24: Why crossbreds are profitable?

Particulars Cow Crossbred Buffalo

Purchase Price 60,000 70,000 80,000

Gestation period 283 270 310

Intake per day (Kg) 20 28 33

Cattle Feed Cost (INR/kg) 5 8 6

Cattle Feed input costs in gestation period (INR)

28,300 60,480 61,380

Lactation Cycle (Days) 200 300 250

Per Day Yield (Kgs per day) 3.9 7.1 6.2

Selling price in INR/Kg 29.1 33 37

Revenue from selling Milk (INR/Day) per cow

113.6 234 229

Revenue over the lactation period

22,718 70,290 57,184

Avg no of babies that a cow produces per pregnancy

1 1 1

No of times that a cow can re-produce

13-18 13-18 13-15

Source: Dairy Knowledge Portal

Low PCC of milk in India shows enormous possibility for future growth

India is the world‘s biggest producer and consumer of milk on a country-wise basis. However, the per capita consumption of milk at 97 litres per year (265 gms per day) is well below that of other major milk markets, except for China as illustrated in the chart below:

Exhibit 25: PCC of milk one of the lowest in the world

Source: Parag DRHP

India shall soon lose its self -sufficiency tag in dairy

Per capita availability (PCA) of milk in India has touched 355 grams per day which has recorded a CAGR of 3.9% in FY07-17 while Per capita consumption (PCC) has touched 340 grams per day (Source: Amul) in FY16. This indicates that India shall soon lose its self-sufficiency tag if milk production growth is not bolstered through productivity increase of our milch cattle.

PCA has grown at a sluggish pace of 3.9% p.a

Exhibit 27: PCA growth compared with milk production growth Growth (%) Milk production PCA

CAGR (2000-2007) 4.1 2.2

CAGR (2007-2017) 5.1 3.9

CAGR (2000-2017) 4.3 3.0

Source: NDDB

Exhibit 28: Per capita availability (PCA) has touched 355 grams per day

Source: NDDB

285 281

220

156

97

24

0

50

100

150

200

250

300

USA

EU2

7

Russ

ian

Fe

der

atio

n

Bra

zil

Ind

ia

Ch

ina

(litr

es/y

ear)

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400

19

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20

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20

13

-14

20

15

-16

(%)

(gra

ms

per

day

)

PCC Growth YoY

Exhibit 26: Growth in milk production worldwide has been driven by developing nations especially India

Region wise growth rate (%) 2011 2012 2013 2014 2015 2016P 2017P 2018P 2019P 2020P

WORLD 1.8 2.2 1.2 2.9 1.7 2.2 1.7 1.9 1.8 1.9

Developed countries 1.3 1.4 0.6 2.5 1.4 1.5 0.7 1.1 0.9 1.1

Developing countries 2.3 3.0 1.8 3.3 2.1 3.0 2.6 2.7 2.6 2.7

Asia 4.4 3.8 1.4 4.3 2.4 3.2 3.0 3.0 2.9 2.9

Africa (0.7) 3.2 1.2 0.5 0.7 2.2 2.5 2.4 2.3 2.3

LATAM (2.5) 0.2 3.6 1.8 1.5 2.7 1.3 2.0 1.4 2.1

Production growth YoY (%) 2011 2012 2013 2014 2015 2016 2017P 2018P 2019P 2020P

India 5.0 3.5 2.4 4.5 3.0 4.2 3.9 3.8 3.8 3.6

Russia (0.6) 0.6 (3.9) 0.1 (3.0) 3.5 (0.3) (0.4) 0.0 0.2

China 1.7 2.3 (5.0) 6.2 1.5 1.7 1.3 1.2 1.2 1.3

Source: OCED-FAO Agricultural Outlook

Rethink Everything

Dai

ry


Exhibit 29: Milk production is almost matching consumption in India

Source: Rabo Bank

Exhibit 31: Key objective of National Dairy Plan – 1 (2012-17) is to maintain the demand supply balance

Parameter Details

Objective

Improve milk productivity of milch animals so that demand-supply balance is sustained over the long run; provide rural milk producers with greater access to the organised sector

Fund

INR22.42bn in the first phase (International Development Agency - 70% share, Government of India - 8%, NDDB and its subsidiaries - 9%, and the rest by the various end implementing agencies in every major state

Plan period 2011-12 to 2016-17 (Phase I)

Coverage 14 major milk producing states in India

Source: NDDB

122 128

132 140

147

113 119

125 130

138

80

100

120

140

160

FY11 FY12 FY13 FY14 FY15

(litr

es/d

ay)

Production Consumption

Exhibit 30: Key government schemes for dairy industry

Scheme/parameter Details

Priority lending status for banks The sector has this status since 1999

Technology upgradation 40% subsidy in general areas and 50% subsidy in difficult areas for machinery in all segments subject to a maximum of INR10m of total cost

Foreign Direct Investment (FDI) 100% FDI permitted in dairy products

Import of equipments 5% customs duty on imports of capital goods/machinery, including second-hand

Excise duty exempted products Products manufactured by SSI units (exemption limit raised to INR150m from INR10m)

National mission on food processing

State government will set up the large scale food processing units/parks, and the Centre will provide technological and logistical support. Also plans to set up various nodal agencies that will test quality of the dairy product and ensure that any food processing unit will have to register with it, in order to operate

MRTP, FEMA regulations MRTP (Monopolies & Restrictive Trade Practices Act) rules and FEMA (Foreign Exchange Management Act) are relaxed to encourage investment and expansion by large corporates

Source: NDDB

Rethink Everything


Developing countries show high income elasticity of demand for dairy Consumers in developing countries with relatively low per capita incomes tend to have relatively high income elasticity of demand, meaning that with increasing disposable income they will increase their consumption of dairy products disproportionately and decrease their consumption of staple foods. On the other hand, with falling per capita incomes, consumers in developing countries tend to drastically reduce their dairy consumption. Opposed to this, consumers in developed countries have very low demand elasticity for food including dairy products.

Income elasticity of demand for milk is high, especially amongst lower income levels in developing countries (Gerosa and Skoet, 2012). Expenditure elasticity for milk and milk products in India varies from 1.5 (Dastagiri, 2001) to 2.185 (Bhattacharya et al., 2014). (Kumar et al., 2011) have found that while the average income elasticity for all classes of households is 1.65, it is as high as 2.34 for poor households. Hence, as income levels rise, demand for milk and milk products will go up and if sufficient supply is not forthcoming, it would drive up food inflation.

Rising middle class and urban population provide tailwind for dairy The number of middle class households is expected to significantly increase from 255 million in 2015 to 586 million in 2025 at a CAGR of 8.7%. Also, India‘s increasing working population, aged between 15 to 64 years, is expected to increase from 826 million in 2015 to 988 million in 2030. The rise in working population and disposable incomes from the increasing number of middle class households is expected to drive growth in the dairy industry. The increasing level of urbanization across the Indian population is also expected to drive growth in the organized dairy industry as a result of urban consumers preferring clean, hygienic and ready-to-eat milk and dairy products. The proportion of urban population is expected to increase from 31.2% in 2011 to 34.5% in 2021.

Rising income level drives consumption of proteins The sustained rising income levels, growth of the Indian economy, shift in lifestyles and eating habits of Indian consumers is expected to drive the consumption of milk and dairy products. Demand for food items is increasing at a very high rate following a steady increase in per capita income. Higher disposable income has not only significantly increased the overall demand for agricultural commodities but also changed the pattern of consumption. The pressure on prices is more on protein foods like pulses, milk and milk products, egg, fish and meat and vegetables indicating the shift in consumption pattern from cereal based diets to protein based diets due to rise in income. There has been nearly threefold increase of per capita income (at constant prices) in India in the last two decades and poverty has declined from 45% in 1993-94 to 22% in 2011-12 (Source: Planning Commission Government of India, 2013). The overall demand has been further magnified by huge public expenditure of the government on a number of welfare schemes like rural employment, food security of the poor, subsidies, pension and various allowances.

Exhibit 32: Growth in disposable income has spurred changes in consumption pattern in India

Note: Adjustment factor of 1.019 used to calculate disposable income under new series

Source: Central Statistics Office (CSO)

0

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10

15

20

25

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40,000

60,000

80,000

100,000

120,000

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00

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20

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7

(%)

(INR)

Per Capita Disposable Income Growth YoY

Changing dietary patterns in favor of packaged dairy products � Developing countries show high income elasticity of demand for dairy

� UHT milk, cup-curd, cheese, packaged cottage cheese, cow-ghee to grow at a fast pace

� Rising middle class and urban population – providers of tailwind for the sector

� Rising income level drives consumption of proteins

Rethink Everything

Dai

ry


Exhibit 33: Per capita disposable income growth accelerated in CY07-16 period

Source: Centra Statistics OFFICE

Exhibit 34: Milk consumption growth accelerated in CY07-16 period led by rising income levels

Milk Consumption GGrowth (%)

CAGR 2000-16

CAGR 2000-007

CAGR 2007-16

World 2.4 2.9 2.3

Developed Countries 0.2 0.3 0.2

Developing Countries 3.9 4.8 3.5

Asia 4.5 5.9 3.7

India 4.0 3.6 4.8

Source: FAO

Changing dietary patterns in favor of proteins

Greater per capita income and urbanization have changed food consumption patterns in Indian households, particularly from consuming lesser cereals and increasing consumption of milk and dairy products. In 2012, urban and rural households spent approximately 20.3% and 18.7%, respectively, out of total monthly expenditure on milk and dairy products.

Exhibit 35: Monthly expenditure on dairy products rises with income growth and urbanization

Source: NSSO, GoI, MOSPI

Exhibit 36: PCC of cereals has declined over the years


Exhibit 37: PCC of pulses has increased in the same period


Exhibit 38: Monthly consumption shows growth in milk intake


10.9

8.6

12.8

0

2

4

6

8

10

12

14

CAGR 2000-16 CAGR 2000-07 CAGR 2007-16

(%)

11.7 14.3

15.4

18.7

14.7 17.4

18.9 20.3

0

5

10

15

20

25

FY71 FY91 FY01 FY12

Shar

e o

f mo

nth

ly fo

od

ex

pen

ditu

re

(%)

Rural Urban

8

9

10

11

12

13

14

1993-94 1999-00 2004-05 2009-10 2011-12

(kg

/mo

nth

)

Rural (kg/month) Urban (kg/month)

0.3

0.6

0.9

1.2

1993-94 1999-00 2004-05 2009-10 2011-12

(kg

/mo

nth

)

Rural (kg/month) Urban (kg/month)

(40)

(30)

(20)

(10)

0

10

Rice Wheat Jowar Bajra All pulses

Milk

(CA

GR

% F

Y05

-12

)

Rural per capita monthly consumption Urban per capita monthly consumption

Rethink Everything


Exhibit 39: Value added dairy products to grow in strong double digits led by 15% volume growth in the period

(INR mn) 22014 2020 CAGR 2014 -2020

Category Sales Saales of

organized ddairy

Share of oorganized

sector Sales

Sales of oorganized

dairy

Share of oorganized sector (%)

Total Market ((%)

Organized market (%)

Liquid milk 2,621,460 519,400 19.8 6,068,000 1,593,000 26.3 15.0 20.5

Ghee 618,225 110,256 17.8 1,367,212 288,912 21.1 14.1 17.4

UHT Milk 26,045 26,045 100.0 103,778 103,778 100.0 25.9 25.9

Flavored milk 12,636 12,636 100.0 47,828 47,828 100.0 24.8 24.8

Curd 216,496 12,121 5.6 492,690 35,421 7.2 14.7 19.6

Frozen yogurt 2,268 2,268 100.0 12,075 12,075 100.0 32.1 32.1

Cheese 11,721 11,721 100.0 59,388 59,388 100.0 31.1 31.1

Paneer 293,300 6,145 2.1 653,576 22,684 3.5 14.3 24.3

Whey (powder) 3,009 3,009 100.0 9,712 9,712 100 21.6 21.6

Source: IMARC

Exhibit 40: Realization increase in VAP is around 8-12% as opposed to ~5% on average led by Amul in pouch milk segment

Brand Name Price (INR/Ltr)

Fat content (%)

Pric

es a

s o

n

Mar

20

09

Pric

es a

s o

n

Mar

20

10

Pric

es a

s o

n

Mar

20

11

Pric

es a

s o

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Au

g 2

01

1

Pric

es a

s o

n

Ap

ril 2

01

2

Pric

es a

s o

n

Ap

ril 2

01

3

Pric

es a

s o

n

Oct

-20

13

Pric

es a

s o

n

May

20

14

Pric

es a

s o

n

Jun

e 2

01

5

Pric

es a

s o

n

1st

Ap

ril

20

16

Pr

ices

as

on

2

nd

Ju

ne

20

16

Pr

ices

as

on

3

rd M

ar

20

17

CA

GR

(%)

Amul Gold Full Cream (Fat - 6%) 24 30 36 38 40 42 44 46 48 48 49 52 6

Amul Diamond Premium - ( Fat -7.5%)

45 46

51 50 52 54 4

Amul Shakti Fat - 4.5%

42 44 44 45 48 7

Amul Taaza Toned Milk (Fat -3% )

30 32 34 34 36 36 38 40 5

Amul Tea Special

48

Amul Cow Milk

44

Amul Slim and Trim Double Toned (Fat -1.5%)

26 28 30 32 34 35 36 38 6

Source: Media articles

Rethink Everything

Dai

ry


Exhibit 41: Creamy Total Energy 87.2 kcal

Energy from Fat 54 kcal

Total Fat 6.0 g

Carbohydrate 5.0 g

Protein 3.3 g

Calcium 120 mg

Source: Company, Elara Securities Research

Exhibit 42: UHT - Activ Total Energy 46.7 kcal

Energy from Fat 13.5 kcal

Total Fat 1.5 g

Carbohydrate 5.0 g

Protein 3.3 g

Calcium 120 mg


Exhibit 43: UHT - Lite

Total Energy 58.2 kcal


Total Fat 3.0 g

Carbohydrate 4.7 g

Protein 3.1 g

Calcium 120 mg


Exhibit 44: Flavored Milk



Total Fat 1.5 g

Carbohydrate 12.0 g

Protein 3.3 g

Cholesterol 4.0 mg


Exhibit 45: Dahi Cup/ Pouch Total Energy 62.8 kcal


Total Fat 3.0 g

Calcium 183.0 mg

Protein 3.68 g

Carbohydrate 5.26 g

Sugar 0.0 g


Exhibit 46: Lite Dahi/ Pouch

Total Energy 39 kcal


Total Fat 0.5g

Calcium 183.0 mg

Protein 4.2 g

Carbohydrate 4.5 g

Sugar 0.0 g


Exhibit 47: Desi Ghee



Total Fat 99.7 g

Saturated Fat 58.0 g

Unsaturated Fat 28.0 g

Pufa 2.0 g

Trans Fat 3.0 g

Cholesterol 275mg

Protein 0 g

Carbohydrate 0 g

Sugar 0 g

Vitamin A 3400 IU

Vitamin D 60 IU

Vitamin E 3.5 mg

Vitamin K 8.6 mcg


Exhibit 48: Paneer (Cottage Cheese)



Total Fat 25 g

Carbohydrate 2g

Protein 19.5 g

Calcium 485 mg

Added Sugar 0.0g


Exhibit 49: Paneer (Makhni Paneer) - Super soft and made for Tandoori dishes in India



Total Fat 21 g

Carbohydrate 2 g

Protein 18 g

Calcium 485 mg

Added Sugar 0.0g


Exhibit 50: Chaach



Total Fat 1.0 g

Carbohydrate 2.0 g

Protein 2.0 g

Added Sugar 0.0 g


Nutritional Information per 100ml*

Rethink Everything


Exhibit 51: Chhena Kheer Exhibit 52: Dairy Whitener


Fat 15.0 g

Protein 10.5 g

Carbohydrate 21.5 g

Sugar 8.0 g

Calcium 260 mg

Total Energy 434 Kcal

Energy from Fat 162 Kcal

Total Fat 18 g

Carbohydrate 50 g

Protein 18 g

Added Sugar 22 g

Source: Company, Elara Securities Research Source: Company, Elara Securities Research

Following is the nutritional value chart of each

Exhibit 53: Cow Ghee Exhibit 54: Buffalo Ghee

Nutritional Information per 100 g Energy 804.33 kcal From Fat 801.09 kcal

Total Fat 89.0 g


Monounsaturated fatty acid 22.86 g

Polyunsaturated fatty acid 1.62 g

Trans fatty acid 2.61 g

Cholesterol 199 mg

Total Carbohydrates 0.36 g

Sugar (Added) 0.0 g

Protein 0.45 g

Vitamin A 1113.31 mcg

Vitamin C 0.0 g

Calcium 9 mg

Phosphorous 1.35 mg

Nutritional Information per 100 g Energy 802.17 kcal From Fat 797.85 kcal

Total Fat 88.65 g


Monounsaturated fatty acid 19.53 g

Polyunsaturated fatty acid 1.53 g

Trans fatty acid 2.97 g

Cholesterol 164.7 mg

Total Carbohydrates 0.72 g

Sugar (Added) 0.0 g

Protein 0.36 g

Vitamin A 1098 mcg

Vitamin C 0.32 mg

Calcium 55 mg

Source: Chitale Dairy Source: Chitale Dairy

Cow ghee more preferred over Buffalo ghee due to higher nutritional value, lower fat and carbohydrates

Cow ghee has greater Vitamin A content (1.4% more than buffalo ghee). Cow ghee has more protein content than buffalo ghee (Cow ghee has 0.45g protein in 100 g of ghee whereas buffalo ghee has 0.36g. in 100 g) Cow ghee has phosphorus content of approximate 1.35mg which is not present in buffalo ghee. Also, the total carbohydrate content in cow ghee is half of that present in buffalo ghee. The unsaturated fats (Monounsaturated

& Polyunsaturated) help lower the bad cholesterol level instead of Saturated and Trans fats. Unsaturated fats might boost good cholesterol and can reduce heart diseases. The Unsaturated fat content in cow ghee is more than the buffalo ghee. The Saturated & Trans fat is more in buffalo ghee. Thus, the cow ghee is more nutritious when compared to buffalo ghee.

Rethink Everything

Dai

ry


We prefer dairies with strong brand names in fresh dairy products

While co-operatives (Amul, Mother Dairy, Karnataka Milk Marketing Federation, Verka, Tamilnadu Co-op Milk Producers’ Federation) under National Dairy Development Board (NDDB) have focused on increasing pouch milk sales under their respective brands, the private dairy players have focused on growing fresh dairy products and long shelf life products due to higher profitability (~product margin of 15% and above) in these products compared to pouch milk (margin of ~5%).

However, the working capital requirements of pouch milk and fresh dairy products is far lower (5% of sales) compared to long-shelf life and value added products due to high inventory days (cheese needs at least 45-90 days of curing), high receivables since the churn of these value added products is far lower than products like snacks, biscuits, noodles, soup, breads and bakery items etc. Hence the retailer invariably ends up asking for longer credit periods for the long shelf life dairy products or higher trade margin in order to keep these products.

Fresh dairy products (ex pouch milk) are higher margin products with short working capital cycle as stock turn is higher.

Exhibit 55: Defining dairy products by shelf life Product Shelf Life (days) Temperature

Pouch Milk 48 hrs <8

Paneer 30 -14

Lassi - 200ML cups 10 <5

Curd - 100/200/400g cups 10 <7

Chass-200ML cup/ pouch 10 <5

Source: Tetra Pak

Exhibit 56: Long shelf life products are working capital heavy due to high inventory and receivables days

Product Shelf Life

(days) Temperature

Shrikhand - 100/250/500g 60 <-18

Tetra Pack - Flavored Milk (200ML) 120 Ambient

Wholesome toned milk - Sterilized by UHT process - 200ML

90 Ambient


90 Ambient


180 Ambient

Cheese Tins 9 months below 4

Cheese Blocks 6 months below 4

Cheese Slices 6 months below 4

Source: Tetra Pak

"Value-added products are good only when it is good for the manufacturer as well.”

– RS Sodhi, MD, Gujarat Co-operative Milk Marketing Federation

Our channel checks suggest that the biggest myth that value addition or higher MRP implies higher realization is not true since all these products sell on very high trade margins:

� The channel is very different from sales of pouch milk (fast churn and low working capital requirements) and is not completely like FMCG since the products have to be delivered in stipulated time period especially for packaged products like curd, butter milk, and in temperature controlled environment (fresh/frozen, chilled and ambient product range) for value added products, which makes it costlier to transport and the logistics is complex.

� The cost of production is also equally high.

� Value added dairy products are also taxed at 12-15 per cent while there is no tax on fresh milk sales. Value added dairy products (long shelf life products) also need brand investments in order to propel consumption and create brand visibility in order to command pricing power.

� In liquid milk, the operating margins are around five per cent, whereas it is around 15 per cent in ice creams. But, the volumes are much higher in liquid milk.

Dairies should invest in direct procurement consistently to keep growing

“The key in dairying is the link between the rural production centre and the nearest consumption centre. Milk is just like an agricultural crop — you have to sow it, nurture it, fertilize it and then harvest it. In case of an agricultural crop, this process takes three to six months. In case of milk, it takes two to three years. No corporate wants to invest in this. They want to directly start procuring milk, no one is sowing. They go to the procurement centre and offer a slightly higher pay than what the farmer is getting. The second day, someone else does the same thing. It does not work that way“

– RS Sodhi, Managing Director, GCMMF

Prefer dairies with direct procurement & brands in fresh dairy products � We prefer dairies with strong brand names in fresh dairy products

� "Value-added products are good only when it is good for the manufacturer as well.” – RS Sodhi, Amul � “Dairies should invest in direct procurement consistently to keep growing” - RS Sodhi, Amul

Rethink Everything


Private dairies with strong procurement network will see investments and tie-ups for outsourcing production of VAD

High growth and sheer size of the addressable market in India has attracted FDI from various global players like Schreiber Foods, Danone, Lactalis, Nestle, Kraft who have either partnered with local Indian private dairies who have strong milk procurement network or outsourced their manufacturing to smaller private dairy players who have direct procurement network to

produce high quality products like ccheese, packaged curd, UHT milk, flavored milk. We believe such investments will continue since it’s a win-win situation for both parties, as the foreign partner gets the direct milk procurement network which is difficult to build without having local influencers who belong to the village or the town and the milk processor can ramp up capacity depending on the order book and expect to fetch higher realizations for his output since the products will be marketed under a valuable brand.

Rethink Everything

Dai

ry


Global dairy industry went from a glut to a crunch in a jiffy leading to steep inflation

Globally the dairy industry went from a supply gut wherein we saw dairy prices fall drastically due to several reasons like 1) Russia trade embargo on EU, USA, Norway, Australia and Canada 2) slowdown in China 3) EU milk quotas being lifted in April’15. In mid-2016, a set of opposite forces like production cuts (willingly or due to erratic weather conditions prevailing in respective geographies) by key dairy exporting nations (EU, New Zealand, Australia) led to supply shortage as demand was showing a strong revival especially as China showed a comeback in terms of demand for dairy products, which lifted dairy prices across the world (up +40% from June 2016 levels) including India where SMP prices have staged a revival from INR130/Kg to INR220/kg prevailing now. We believe that due to muted production growth in key exporting nations, world dairy product prices will see an inflationary trend for another 6 months at least. We expect inflation of +20% in India as well for a large portion of CY17, as the last flush season (starting Oct 2016) has been disappointing in terms of increase in milk yield for milch cattle due to droughts in Maharashtra, Karnataka, Tamil Nadu and AP. Since India does participate in the global dairy trade primarily through selling SMP to ASEAN nations (primarily Bangladesh/Pakistan/Sri Lanka), we expect global inflation to feed into domestic dairy prices as well.

Exhibit 57: SMP prices crashed starting 1QFY15 due to supply gut

Source: Dairy.ahdb.org.UK

Exhibit 58: ……But staged a strong comeback in 2016 due to production shortage

SMP prices have risen by 40% since June 2016

Source: Dairy.ahdb.org.UK

What caused the global supply glut in 2014-15?

Prices for dairy ingredients such as milk and butter had fallen sharply till May 2016 for two years, hit by a global oversupply and slowing demand from China and import ban by Russia (imposed in Aug 2014). This led to squeeze in finances of farmers and producers globally pushing many towards consolidation in search of economies of scale.

Exhibit 59: China and Russia constitute 22% of total dairy imports

Source: Fao.org

0

1,000

2,000

3,000

4,000

5,000

Q1

FY1

1

Q3

FY1

1

Q1

FY1

2

Q3

FY1

2

Q1

FY1

3

Q3

FY1

3

Q1

FY1

4

Q3

FY1

4

Q1

FY1

5

Q3

FY1

5

Q1

FY1

6

Q3

FY1

6

Q1

FY1

7

Q3

FY1

7

Q1

FY1

8

(USD

/to

nn

e)

(60)

(40)

(20)

0

20

40

60

80

Q1

FY1

2

Q3

FY1

2

Q1

FY1

3

Q3

FY1

3

Q1

FY1

4

Q3

FY1

4

Q1

FY1

5

Q3

FY1

5

Q1

FY1

6

Q3

FY1

6

Q1

FY1

7

Q3

FY1

7

Q1

FY1

8

(%)

China 17%

Russian Federation

5%

Mexico 5%

Saudi Arabia

4%

Algeria 4%

Indonesia 4%

Malaysia 3%

Singapore 2%

Japan 3% Philippines

3% Others 50%

Imports

Global SMP prices weigh on Indian milk prices � Global dairy industry went from a glut to a crunch in a jiffy leading to steep inflation in 2HFY17

� SMP prices globally crashed starting 1QFY15 due to supply glut

� SMP Prices in India were also affected by the global supply glut

Rethink Everything


Exhibit 61: Majority of world exports (80%) is handled by 6 countries

Source: Fao.org

Russia imposed a trade embargo on EU dairy products

Prior to the embargo, Russia was the EU’s largest export market, taking about one-third of its cheese exports and one-fourth of its butterfat shipments. In all, Russia imports from the EU were the equivalent of about 2 percent of EU milk production.

Russia trade embargo imposed in Aug 2014 reduced exports demand from EU

Imports by Russia dropped significantly after the embargo was levied

Exhibit 62: Russia - Total Imports

Import (‘000 tonnes) 2012 2013 2014 2015 2016

Packed milk 277 205 244 199 173

Butter 149 146 151 96 102

Cheese 453 440 321 208 217

WMP 27 3.6 37 34 48

SMP 96 112 95 113 133

Others 9.1 12 13 14 13

Total Imports ('000 tons) 1,011 919 861 664 686

Change YoY (%)

(9)) (6)) (23)) 3

Source: http://www.clal.it

Exhibit 63: Cheese import

(000 tons) 2012 2013 2014 2015 2016

Belarus 120 133 136 164 180

% of total cheese imports by Russia 27 30 42 79 83

EU 246 257 133 4 -

% of total cheese imports by Russia 54 58 42 2 0

Total Cheese Imports by Russia 453 440 321 208 217

Source: http://www.clal.it

Exhibit 64: Total Cheese Consumption in Russia

('000 tons) 2010 2011 2012 2013 2014 2015 2016

Russia 815 812 862 905 749 632 709

Change YoY (%)

0 6 5 (17) (16) 12

Source: OCED-FAO

Import demand from China fell 9% in volume terms in CY15

China, the world’s biggest dairy importer, 9% lower in terms of volumes of dairy products as it exhausted stockpiled milk powder and faced a macroeconomic slowdown. Hence the cut-back in imports was mainly in SMP (-21% in volume terms) and WMP (-48% in volume terms).

China: Impact of slowdown in CY15 – Cut-back on WMP/SMP imports primarily

Exhibit 65: China Dairy Product - Total Import

('000 tons)

Infant milk

formula Cheese

Whey Powder

WMP SMP Bulk &&

packaged milk

Total YoY (%)

CY12 92 39 378 406 168 80 1163

CY13 123 47 434 619 235 161 1619 39

CY14 123 66 404 671 253 287 1804 11

CY15 180 76 436 347 200 402 1641 (9)

CY16 225 97 497 420 184 549 1972 20

Source: http://www.clal.it/en/?section=stat_cina

Increased production by EU due to removal of milk quotas in April 2015

Production has increased from 150 mn tonnes in 2010 to a forecast 167 mn tonnes in 2016. The pace of increase has been uneven. Production grew by ~ 1% annually in 2011 and 2013 and by a bumper 3.8% in 2014/2.1% in 2015/ 2.3% in 2016 led by the removal of milk quotas and also as they could successfully divert their exports to other importing countries within EU and outside EU. This increase in production was associated with a

New Zealand

27%

European Union 26%

United States of America

12%

Belarus 7%

Australia 5%

Argentina 3%

Saudi Arabia

2%

Uruguay 2%

Ukraine 1%

India 0%

Others 15%

Exports

Exhibit 60: Steep increase in milk production in EU-28 led to supply glut in CY14

CY10 CY11 CY12 CY13 CY14 CY15 CY16 CY17 CY18 CY19 CY20

World (mn tonnes) 725 738 754 763 785 799 817 831 847 862 878

Change YoY (%)

1.8 2.2 1.2 2.9 1.7 2.2 1.7 1.9 1.8 1.9

EU-28 (mn tonnes) 150 152 153 154 160 163 167 167 169 170 172

Change YoY (%)

1.3 0.2 0.8 3.8 2.1 2.3 0.3 1.1 0.9 0.9

Source: OCED-FAO agricultural Outlook

Rethink Everything

Dai

ry


gradual loosening of milk quotas. Following the Commission Communication on the Health Check and in anticipation of the final Health Check decisions, there was strong pressure in the Agriculture Council to increase production possibilities. As a result quotas were increased by 2% in April 2008. To ensure a ‘soft landing’ and to gradually erode the value of quotas to close to zero by 1 April 2015 when quotas were due to expire, quotas were increased by 1% each year from 2009/10 until 2013/14, with an additional measure (fat correction reduction) which further increased production potential. Milk prices also touched record levels in 2014 despite the steady expansion of quotas since 2008. We believe that any price depressing factor like lifting of milk quotas was more than compensated by positive price signals coming from a rapid growth in the world demand. The incentives for boosting milk production in 2014 were also heightened as input costs, which were up until 2013 were rising in-line with milk prices, actually fell in 2014 thereby increasing overall milk production.

Exhibit 66: Low input costs in 2014 led to high margins in dairy leading to increase in production

Source: OCED-FAO agricultural Outlook

Exhibit 67: SMP prices in India were also affected by the global supply glut

Source: Centre for WTO Studies,IIFT, Working Paper

SMP exports will pick up further with more inflation in global dairy prices

SMP exports from India has picked up significantly after the global dairy prices started rising from mid-2016 onwards. We believe that SMP exports will rise further as the global prices inch further; however, there will be limitation to price increase in global dairy prices as demand from China will grow in future but with not as aggressively as it is still affected by slowdown. Russia trade embargo on EU/USA/NZ/Australia continues and is unlikely to be lifted in CY17.

Exhibit 68: Sharp drop in SMP exports in FY15 and FY16 since realization fell drastically

Source: Commerece.nic.in

Exhibit 69: Total SMP exported by India in value terms (INR bn)


Since SMP prices crashed globally, they had similar impact on Indian SMP prices as well – which fell from INR223/Kg to INR182/Kg and have risen since then to INR225/Kg

1.3

0.2

0.8

3.8

2.1 2.3

0.3

1.1 0.9 0.9

0

1

2

3

4

130

140

150

160

170

180

CY1

0

CY1

1

CY1

2

CY1

3

CY1

4

CY1

5

CY1

6

CY1

7

CY1

8

CY1

9

CY2

0

(%)

Pro

du

ctio

n (

bn

to

nn

es)

EU-28 Change YoY

(60)

(40)

(20)

0

20

40

60

80

0

50

100

150

200

250

300

FY0

3

FY0

4

FY0

5

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9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

(%)

(IN

R/K

g)

SMP Prices Change YoY

21

,20

5

11

,63

2

11

,22

9

10

69

,63

4

12

3,9

64

27

,55

4

13

,83

8 6

3,7

67

0

30,000

60,000

90,000

120,000

150,000

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7 -

Till

Dec

(MT

ton

nes

)

3.8 1.4 1.5

0.0

10.9

26.1

6.1

2.5 2.8

0

5

10

15

20

25

30

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7 -

Till

Dec

(IN

R b

n)

Rethink Everything


Exhibit 70: Net realization (INR/Kg) fetched on SMP exports by India


Global supply gut in 2014 and 2015 was followed by production cuts in EU, NZ, Australia in 2HCY16

Global dairy prices have risen sharply (~50%) since July’16 since the supply and demand economics started to rebalance itself due to consistently increasing demand from developing countries and alongside sharp cuts in production in Oceania region and Europe. US is the only major exporting nation which has witnessed a growth in production as farmers are responding to favorable weather conditions and grain prices.

Exhibit 71: Milk production declined for all major exporting countries except USA in 2016

Country

Production cchange YoY (%) for 12 mmonths

Comment

New Zealand

(2)

Total New Zealand milk production in March was up 9% compared to the same month last year. The monthly volume change reflects improved growing conditions as a result of better than expected weather conditions in the latter part of the season. New Zealand production for the 2016/17 season (from 1 June 2016) is down 2% to the end of March.

Australia (8) Production for the 12 months to Feb 2017 is down 8% compared to the same period the previous year.

EU (1)

EU production decreased for the Ninth consecutive month starting June 2016, with February down -4% compared to the same month last year. Key milk producing countries contributing to this decline included the UK, down 5%, France, down 4%, and Germany, down 2%.

USA +2 Milk production in USA has been recording 2% YoY growth for the last 10 month till Mar'17

Source: Fonterra-Global Dairy

Exhibit 72: The rebalancing of world supply and demand appears to be underway

Source: Fonterra-Global Dairy

Exhibit 73: EU-28: Milk production down -2% YoY till Feb’17

Source: OCED-FAO

178

118 138

54

156

210 223

182

225

0

50

100

150

200

250 FY

09

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7 -

Till

Dec

(INR/

kg)

(800)

(600)

(400)

(200)

0

200

400

Ap

r-1

6

May

-16

Jun

-16

Jul-1

6

Au

g-1

6

Sep

-16

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

(mn

litr

es)

New Zealand EU27 United States Australia

(6)

(4)

(2)

0

2

4

6

8

10

12

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

16,000

Jan

/14

Ap

r/1

4

Au

g/1

4

Dec

/14

Ap

r/1

5

Jul/

15

No

v/15

Mar

/16

Jul/

16

No

v/16

(%)

Milk

Pro

ud

tcio

n (

mn

litr

es)

Rethink Everything

Dai

ry


Milk procurement prices can show very divergent trends across different regions

The following factors affect the milk prices regionally:

� SMP inventory across all dairies in that region

� SMP prices in export markets

� Fodder prices in India

� Rainfall in that region during South West monsoon (for Maharashtra) and North East/Retreating monsoon (Southern states – TN, coastal AP, south interior Karnataka and Kerala)

Due to the above four factors, one could see very divergent trends in milk procurement prices. Currently, along with inflation in dairy prices globally due to the cutback in production by major exporters, Indian milk procurement prices are also witnessing 5-17% inflation across regions and around 25% in Maharashtra.

Dairies faced a dry-flush season in 2016 despite normal monsoon

There could be two reasons why milk prices are rising, even in an overall good agricultural year. The first has to do with the nature of the milk production cycle itself. In bad rainfall years, farmers rely more on milk sales to make up for lost income from their main crop. So, rather than plant cotton or groundnut, they might opt for short-duration fodder crops and invest all their resources into dairying. In the event, more milk may flow from the udders of their buffaloes and cows.

The flip side to this, however, is that farmers even in normal times accord priority in feeding to their animals already in milk. During droughts, they would tend to do this all the more. Since pregnant animals and calves are the ones that are deprived maximum of fodder, their reproduction-cum-lactation cycle suffers disruption. The impact on milk output, though, is felt not immediately, but in the succeeding year.

It could well be the case, then, that 2016-17 is when the effects of not one, but two years of drought, are manifesting themselves. That production has taken a hit is also borne out by milk procurement volumes of dairies. As per the industry sources milk procurement in Maharashtra and North is down by 27%/15% respectively, while being flat to negative in Gujarat and much of South.

Procurement in Maharashtra had fallen by 27% in the flush season of FY17 (Oct-Feb)

Dairies in Maharashtra stated that procurement had dropped by 27% in the latest flush season due to which cow milk prices (at retail level) were hiked from INR40/Ltr to INR 42/Ltr in Jan’17 as procurement cost went up by INR 3/Ltr from the farmers (Statement issued in media by Maharashtra State Milk Producers Cooperative Action Committee). Earlier in Aug’17, the state government had increased the purchase price from INR 20 to INR 22 per litre for 3.5 per cent fat 8.5 per cent solid not fat (SNF) milk. Following the decision to increase purchase price, now farmers will be paid INR 25 per litre for the same quality of milk. As against the requirement of 110 lakh litre per day in Maharashtra, at present, dairies —both cooperative and private dairies —just around 80 lakh litre of milk is being procured on a daily basis. Shortfall was a cumulative effect of drought, less fodder and demonetization. Lack of fodder in 2016 was due to drought in 2015 which led to a dip in milk production.

Exhibit 74: Milk production in Maharashtra affected by two consecutive droughts

Source: Meteorological Department of India

Milk prices in Maharashtra were at least 10% lower than any other region in 2015-16

Milk prices in Maharashtra fell much more in FY16 as dry milk powder inventory (SMP) also known as “Buffer Stock”, had gone up to 1-1.5 Lakh tonnes from the usual level of 78k tonnes as prices of SMP in export markets were lower than prices prevailing in India and the realization in export markets were lower than cost of production of SMP in India. Since milk is a perishable commodity farmers were forced to off load their produce to nearby dairy farms at low prices, which caused prices

2.7 1.6

(7.2)

5.6

(11.9) (13.8)

(2.9)

(15)

(10)

(5)

0

5

10

FY11 FY12 FY13 FY14 FY15 FY16 FY17

Dep

artu

re fr

om

Lo

ng

Ter

m

Ave

rag

e (%

)

South West Monsoon (Rainfall deficit)

Western and Northern dairies affected by global milk prices � Milk prices vary region wise led by factors like source of milk (cow or buffalo), rainfall conditions

pasture growth and if the region is milk surplus or deficient naturally � SMP prices crashed starting 1QFY15 due to supply glut and affected SMP prices in India

� Western and Northern dairies affected by global fluctuations due to concentration of powder

capacities in those regions

Rethink Everything


in Maharashtra to drop much more than other regions. Since mid-2016, the SMP prices globally have risen by 40% YoY while SMP stocks in India have fallen to around 50k tonnes (35% below the normal inventory levels in the country).

SMP Exports mainly concentrated in North and West India

As per the SMP exports data by origin, we understand that SMP exports are mainly done from North and West India which leads to 1) high linkage of milk procurement prices and therefore inflation with global SMP prices 2) high volatility in milk procurement and prices prevailing for regional dairies from North and West India.

Exhibit 79: State wise SMP exports (Value share)

Source: Industry

Uttar Pradesh 28.7%

Gujarat 17.1%

Maharashtra 16.7%

Haryana 15.8%

Delhi 13.6%

Tamil Nadu 4.1%

Bihar 1.7%

Kerala 1.0%

Punjab 0.7%

Karnataka 0.5%

Telangana 0.0%

Milk procurement prices in Maharashtra

Exhibit 75: Cow milk prices in Maharashtra Exhibit 76: Change in cow milk prices in Maharashtra

Source: Prabhat Dairy, Elara Securities Research Source: Prabhat Dairy, Elara Securities Research

Milk procurement price in Maharashtra compared to other states – Shows clear divergence

Exhibit 77: Cow milk prices across regions Exhibit 78: Buffalo milk prices across regions

Note: Prices as existing in Jan 2016; Source: DNAIndia.com Note: Prices as existing in Jan 2016; Source: DNAIndia.com

20

.3

22

.0

26

.3

26

.0

25

.8

25

.2

24

.8

22

.7

19

.0

20

.8

21

.3

20

.7

25

.7

25

.6

27

.2

28

.6

27

.1

0

5

10

15

20

25

30

Q1

FY1

4

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6

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7

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7

Q1

FY1

8

Pro

ce (

INR/

Ltr)

27

14

(6) (13)

(26) (17) (14)

(9)

35

23 28

38

6

(30)

(20)

(10)

0

10

20

30

40

50

Q1

FY1

5

Q2

FY1

5

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FY1

7

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7

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7

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7

Q1

FY1

8

Ch

ang

e Yo

Y (%

)

20.0

23.0

23.3

22.4

22.7

22.0

18 20 22 24

Mumbai

Bengaluru

Jaipur

Jabalpur

Kolar

Ujjain

(INR/Ltr)

29.0

33.0

36.0

36.0

30.8

35.0

31.7

0 10 20 30 40

Mumbai

Banaskantha & Mehsana

Surat

Indore

Bhopal

Jaipur

Dharwad

(INR/Ltr)

Rethink Everything

Dai

ry


North East Monsoon (Retreating monsoon) has been deficient in 2016-17 period

Southern states like Tamilnadu, coastal Andhra Pradesh, south interior Karnataka and Kerala were declared drought states by January 2017 by respective state governments as the north east monsoon was 45% short of average for Oct- Dec 2016 period. This led to inflation in Southern states and especially in Tamil Nadu where the rainfall was 62% short of normal.

Exhibit 82: Northeast Monsoon Rainfall Deficit, 2011-16

Source: Meteorological Department of India

(100) (50)

0 50

100 150

Tam

ilnad

u

Co

asta

l An

dh

ra

Co

asta

l Kar

nat

aka

Ker

ala

No

rth

Inte

rio

r K

arn

atak

a

Raya

lsee

ma

Sou

th In

teri

or

Kar

nat

aka

Tela

ng

ana

(%)

2011 2012 2013 2014 2015 2016

Exhibit 80: North Indian Milk Prices Exhibit 81: Change in milk prices YoY (%)

Source: Bloomberg, Elara Securities Research Source: Bloomberg, Elara Securities Research

33 36 38 39 41

38 32 31

37 33 33 33

37 38 39 43 45

0

10

20

30

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50

Q1

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(IN

R/Lt

r)

17 17

0 5

1

(14) (9)

(22) (15)

6

25

46 41

29

17

(30)

(20)

(10)

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50

Q3

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8

(IN

R/Lt

r)

Rethink Everything


Rainfall deficiency for several years has led to depletion of water reservoirs in 4 southern states causinginflation in milk prices in Southern India.

Exhibit 83: India’s reservoirs, by state (as on 5 January 2017)

Note: Map not to scale;

Source: Maps of India

Tamil Nadu-82%

Karnataka-39%

Andhra Pradesh

-27%

Maharashtra4%

Madhya Pradesh48%

Rajasthan11%

Gujarat6%

Uttar Pradesh59%

Punjab-13%

Bihar

Odisha12%

Jharkhand20% West

Bengal17%

Sikkim

Arunachal Pradesh

Assam

Tripura

Meghalaya

Mizoram

Manipur

Nagaland

Goa

Puducherry

Uttarakhand12%

Jammu&

Kashmir

Haryana

HimachalPradesh

-25%

Delhi

Chhattisgarh14%

Kerala-37%

Telangana72%

Departure from normal (%)

-106.0 106.0

Rethink Everything

Dai

ry


Exhibit 84: Milk procurement price in South India (AP/ Telangana)

Exhibit 85: Change in milk procurement prices

Source: Heritage Foods, Elara Securities Research Source: Heritage Foods, Elara Securities Research

Exhibit 86: Procurement prices for Karnataka Exhibit 87: Change in procurement prices in Karnataka

Source: Karnataka Co-operative Milk Producer’s Federation Ltd. Source: Karnataka Co-operative Milk Producer’s Federation Ltd.

26 26 27 30 31 31 33 33 31 30 31 31 32 32 33 34 35

0 5

10 15 20 25 30 35 40

Q1

FY1

4

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(IN

R/lit

re)

0 2

9

18 17 18 20

9

3

(2) (6) (5)

1 5 5

11 10

(10)

(5)

0

5

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15

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25

Q1

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8

(% c

han

ge

YoY)

8 9 9 9 11 12 12

16 18 19

21 22 21

25

0

5

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15

20

25

30

FY0

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(IN

R/lit

re)

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27

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(5)

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(% c

han

ge

YoY)

Rethink Everything


Price volatility in Southern region is lower than North and Western region

Price volatility in milk procurement prices is lower in Southern region as that region does not have high salience of SMP exports which exposes the western and northern dairy players to global dairy price fluctuations and demand –supply mismatch leading to sharp and sudden inflation in prices in case of SMP inventory like it happened in June’16 for all western dairy companies.

We prefer South Indian Dairies over other regional players

Prefer South Based Dairies with strong presence in Fresh dairy products as private dairy sector in South India developed their business model around fast moving pouch milk while creating strong consumer brand loyalty. Given that co-operatives in Maharashtra and Gujarat are more entrenched players in pouch milk, hence the business models of Western and North India private dairy companies have evolved around manufacturing SMP (commodity) to divert the excess milk production in these regions or towards VAD products (High capex, high working capital requirements) which have far less competition from unorganized players.

Exhibit 88: Share in daily milk distribution (LLPD) of private dairies in Maharashtra has fallen from 64% to 41% indicating that they have reduced their salience in pouch milk

Year Gov. Co-Op. Private Total % procured by ppvt dairies

FY11 2.1 33.4 54.1 89.6 60

FY12 1.6 37 62.3 100.8 62

FY13 2 38.7 60.6 101.4 60

FY14 1.4 37.8 60.9 100 61

FY15 1.1 44.3 69.5 114.9 60

FY16 2.5 48.8 64.7 115.9 56

FY17 0.8 44.5 61.9 107.2 58

Source: Dairy Development Department, Maharashtra State (India), Elara Securities Research

Exhibit 89: Daily Milk Distribution (LLPD) in Maharashtra

Year Gov. Co-Op. Private Total % procured by pvt dairies

FY11 2.1 29.8 58 90 64

FY12 1.5 29.8 66.2 97.4 68

FY13 1.5 34.3 59.9 95.7 63

FY14 1.4 36.9 61.4 99.8 62

FY15 0.8 40.5 53 94.3 56

FY16 1 51.5 35.7 88.1 41

FY17 0.8 52.1 36.3 89.3 41

Source: Dairy Development Department, Maharashtra State (India), Elara Securities Research

Prefer South Indian companies over North or Western players � We prefer South Indian dairies over North or Western players due to lower milk price

volatility/linkage to global milk prices

� Dairies in fresh dairy products preferred due to low working capital requirements, steady cash

flows from operations and higher asset turn

Heritage Foods Low working capital requirements as it is mainly in fresh dairy products and pouch milk

Exhibit 90: Cash conversion cycle Exhibit 91: Liquid milk business has low working capital requirements and the products are fast moving compared to long shelf-life products

Source: Company, Elara Securities Estimate Source: Company, Elara Securities Estimate

24

(13)

1

10

17 12 11

15 18

16 15

9 9 9

(15)

(10)

(5)

0

5

10

15

20

25

30

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

20

2

13

9

0

5

10

15

20

25

Inventory days

Receivable days

Trade payables

Cash conversion

cycle

(day

s)

Rethink Everything

Dai

ry


Exhibit 92: Inventory days on the lower side

Source: Company, Elara Securities Estimate

Exhibit 93: Receivable days minimal


Exhibit 94: Loans and advances days


Exhibit 95: Creditors days in –line with payment cycle


Exhibit 96: Fixed Asset Turnover Ratio (x) higher than other players


Exhibit 97: Cash flows from operations


Exhibit 98: Working capital as % of sales much lower than other players like Prabhat/Parag/Kwality


64

45

30

42

29 32 25

31 31 28

24 20 20 20

0

10

20

30

40

50

60

70

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

5

6 5

5 5

3 3 4

4 4

2 2 2 2

0

1

2

3

4

5

6

7

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

41

33

21 20 15

10 10 10 6 6 5 5 5 5

0 5

10 15 20 25 30 35 40 45

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

…

FY1

…

FY2

…

(day

s)

45

64

34 37

17 22

17 19 17 16 10 13 13 13

0

10

20

30

40

50

60

70

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

3.3 3.5 3.4 3.2

3.6

4.2 4.5 4.4

4.7 4.9

4.4

4.8 5.0

4.7

2

3

4

5

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(x)

12

4

(12

3)

84

(88

)

32

1

51

7

60

2 97

3

74

8

51

6

1,2

49

1,4

04

1,4

46

1,6

79

1,9

69

(500)

0

500

1,000

1,500

2,000

2,500

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(INR

mn

)

5

(2)

1

2

4

3 3 3

4 4

3

2 2 2

(2)

(1)

0

1

2

3

4

5

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

Rethink Everything


Exhibit 99: Cash Conversion Cycle is around 4.5 months


Exhibit 100: Inventory days expected to increase further due to higher cheese production


Exhibit 101: Receivable days expected to come down with higher B2C sales


Exhibit 102: Loans and Advances days high due to funding farmers for buying cattle and cattle feed


Exhibit 103: Creditor days in –line with other co-operatives in Maharashtra


Exhibit 104: Working capital as % of sales expected to ease due to reduction in receivable days


115 124

103 120 114

121 138 134 131

0

20

40

60

80

100

120

140

160

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

22 26 24

30 35

43 46

50 53

0

10

20

30

40

50

60

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

35

45

66 76 71 70

64 56

50

0

10

20

30

40

50

60

70

80

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

89

73

39 45

29 26

45 45 45

0

20

40

60

80

100

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

28

19

24

29

21 17 17 17 17

0

5

10

15

20

25

30

35

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

27 29

26 30 29 31

34 32 31

0

5

10

15

20

25

30

35

40

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

Prabhat Dairy Working capital requirements are high due to high receivables, loans and advances to milk suppliers and due to high SMP related inventory

Rethink Everything

Dai

ry


Exhibit 105: Fixed Asset Turnover ratio (x) expected to increase due to higher capacity utilization


Exhibit 106: CFO expected to increase due to lower receivables…….


Exhibit 107: …..CFO as % of EBITDA expected to rise as a result


2.0 2.4 2.3 2.3

2.5 2.6 2.7

0

1

2

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(x)

627 590

130 79

438 279

460

1,397

1,704

0

300

600

900

1,200

1,500

1,800

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(INR

mn

)

110

77

9 1

25 16 14

58 56

0

20

40

60

80

100

120

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

CFO as % of EBITDA

Rethink Everything


Exhibit 108: Cash flows from operations (Parag)


Exhibit 109: CFO as % of EBITDA


Exhibit 110: Cash conversion cycle almost 3 months


Exhibit 111: Working capital as % of sales


Exhibit 112: Inventory days high due to cheese


Exhibit 113: Receivable days high due to B2B customers


Exhibit 114: Loans and advances are high as they fund farmers and distributors


Exhibit 115: Payable days are high to match the loans and advances given to farmers


118

(132) (236)

388

1,300

1,013

142

998

549

873

(400) (200)

0 200 400 600 800

1,000 1,200 1,400

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(INR

mn

)

23.5

(16.0) (28.2)

47.1

121.3

68.4

13.1

72.3

36.5 42.6

(40) (20)

0 20 40 60 80

100 120 140

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

85 89

122 125

89 88 103

94 93 92

0

20

40

60

80

100

120

140

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

23 24

33 34

24 24

28 26 26 25

10

15

20

25

30

35

40

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

83

67 74 72 69

73

102

73 73 73

40

60

80

100

120

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

47

41

52 52

42 45

48 48 48 48

20

30

40

50

60

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

22 25

48

57 53

34

46 46 46 46

10

20

30

40

50

60

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

42 38

47 47

55 55

70

55 55 55

30

40

50

60

70

80

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

Parag Milk Foods: High working capital ratios due to

1) Inventory of cheese, SMP 2) high receivables due as they cater to B2B clients 3) high loans and advances given to farmers for buying cattle, cattle feed and 4) new distributors are supported for 6 months by Parag

Rethink Everything

Dai

ry


Valuation Methodology & Recommendation � Initiate on Heritage with Buy and TP of INR 1,804. Valuation for HFL pegged to Hatsun and

recent PE deals

� Initiate on Prabhat Dairy with Buy and TP of INR160. Valuation pegged with other B2B players

� Initiate of Parag Milk Foods with Accumulate & TP INR289 (at a discount to historical average as

we maintain a cautious stance due to limited pricing power and very low cash flow generation)

Heritage Foods: HFL has got re-rated by 3x over the period of last 3 years as they increased salience of VAD in their portfolio

Exhibit 116: 1-yr forward EV/EBITDA Band Exhibit 117: 1-yr forward rolling EV/EBITDA

Source: Bloomberg, Elara Securities Estimates Source: Bloomberg, Elara Securities Estimates

Exhibit 118: 1-yr forward EV/Sales Band Exhibit 119: 1-yr forward rolling EV/Sales


Prabhat Dairy: Trading at 8x 1-yr forward EV/EBITDA in-line with historical average



2x

5x

8x

11x

15x

(200) 0

200 400 600 800

1,000 1,200 1,400 1,600

Ap

r-0

8

Dec

-08

Au

g-0

9

Ap

r-1

0

Dec

-10

Au

g-1

1

Ap

r-1

2

Dec

-12

Au

g-1

3

Ap

r-1

4

Dec

-14

Au

g-1

5

Ap

r-1

6

Dec

-16

Au

g-1

7

(INR)

6.5 9.0

3.9

11.5

1.4 0

4

8

12

16

20

Ap

r-0

8

Dec

-08

Au

g-0

9

Ap

r-1

0

Dec

-10

Au

g-1

1

Ap

r-1

2

Dec

-12

Au

g-1

3

Ap

r-1

4

Dec

-14

Au

g-1

5

Ap

r-1

6

Dec

-16

Au

g-1

7

(IN

R )

Rolling 2yr fwd Ev/EBITDA Avg + 1 Std dev - 1 Std dev + 2 Std dev - 2 Std dev

0.2x

0.4x

0.6x

0.8x

1.0x

0

200

400

600

800

1,000

1,200

1,400

1,600

Ap

r-0

8

Dec

-08

Au

g-0

9

Ap

r-1

0

Dec

-10

Au

g-1

1

Ap

r-1

2

Dec

-12

Au

g-1

3

Ap

r-1

4

Dec

-14

Au

g-1

5

Ap

r-1

6

Dec

-16

Au

g-1

7

(INR)

0.4 0.6

0.1

0.8

(0.1) (0.4)

0.0

0.4

0.8

1.2

1.6

Ap

r-0

8

Dec

-08

Au

g-0

9

Ap

r-1

0

Dec

-10

Au

g-1

1

Ap

r-1

2

Dec

-12

Au

g-1

3

Ap

r-1

4

Dec

-14

Au

g-1

5

Ap

r-1

6

Dec

-16

Au

g-1

7

(IN

R )

Rolling 2yr fwd Ev/Sales Avg + 1 Std dev - 1 Std dev + 2 Std dev - 2 Std dev

50

100

150

200

Oct

-15

Dec

-15

Feb

-16

Ap

r-1

6

Jun

-16

Au

g-1

6

Oct

-16

Dec

-16

Feb

-17

Ap

r-1

7

Jun

-17

Au

g-1

7

(INR)

11x

7x

8x

9x

10x

8.4 9.9

6.9 5.4

11.4

4

8

12

16

Oct

-15

Dec

-15

Feb

-16

Ap

r-1

6

Jun

-16

Au

g-1

6

Oct

-16

Dec

-16

Feb

-17

Ap

r-1

7

Jun

-17

Au

g-1

7

(x)

Rolling 2yr fwd Ev/EBITDA Avg +1 Std dev -1 Std dev -2 Std dev +2 Std dev

Rethink Everything


Prabhat Dairy



Parag Milk Foods Trading below its historical average

� Due to recent concerns over low pricing power and

� Stiff competition in cheese as Amul tripled its cheese capacity from 40MTPD to 120MTPD





40

60

80

100

120

140

160

180

200

Oct

-15

Dec

-15

Feb

-16

Ap

r-1

6

Jun

-16

Au

g-1

6

Oct

-16

Dec

-16

Feb

-17

Ap

r-1

7

Jun

-17

Au

g-1

7

(IN

R)

1.1x

0.6x

0.7x

0.8x

1.0x 0.8 1.0

0.7

1.1

0.6

0.4

0.6

0.8

1.0

1.2

Oct

-15

Dec

-15

Feb

-16

Ap

r-1

6

Jun

-16

Au

g-1

6

Oct

-16

Dec

-16

Feb

-17

Ap

r-1

7

Jun

-17

Au

g-1

7

(x)

Rolling 2yr fwd Ev/Sales Avg +1 Std dev -1 Std dev +2 Std dev -2 Std dev

12x

14x

16x

18x

20x

150

200

250

300

350

400

Jun

-16

Jul-1

6

Au

g-1

6

Sep

-16

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

Ap

r-1

7

May

-17

Jun

-17

Jul-1

7

Au

g-1

7

(INR)

16.3 19.1

13.6

21.9

10.8

5

10

15

20

25

Jun

-16

Jul-1

6

Au

g-1

6

Sep

-16

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

Ap

r-1

7

May

-17

Jun

-17

Jul-1

7

Au

g-1

7

(x)

Rolling 2yr fwd Ev/EBITDA Avg +1 Std dev -1 Std dev +2 Std dev -2 Std dev

0.5x

0.7x

0.9x

1.1x

1.4x

0 50

100 150 200 250 300 350 400 450

Jun

-16

Jul-1

6

Au

g-1

6

Sep

-16

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

Ap

r-1

7

May

-17

Jun

-17

Jul-1

7

Au

g-1

7

(INR)

1.1 1.3

0.9

1.5

0.7

0.5

0.7

0.9

1.1

1.3

1.5

1.7

Jun

-16

Jul-1

6

Au

g-1

6

Sep

-16

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

Ap

r-1

7

May

-17

Jun

-17

Jul-1

7

Au

g-1

7

(X)


Rethink Everything

Dai

ry


Return ratios much better for B2C players in fresh dairy products � B2B players like Prabhat and Kwality have over 100 days of working capital locked in to the

business due to high receivables and inventory of SMP.

� Western region dairies have high loans and advances as they fund farmers and distributors

� Heritage, Prabhat and Kwality have ad-spends on the lower side (<1% of sales) and is expected to

rise due to brand building in new markets (Heritage) or just started to invest in their brand

(Kwality/ Prabhat)

Exhibit 128: Dairy comparative analysis

Dairy Comparative PParameters

Prabhat Parag Heritage Hatsun Agro Kwality Dairy

Type of milk Cow Cow Both Both Buffalo

Business Model Speciality Ingredients (B2B)

Consumer brand in Ghee and Cheese. Recently entered high end retail Whey protein market

Consumer brand in pouch milk and fresh dairy products like curd, paneer lassi, butter milk

Consumer brand in pouch milk and fresh dairy products like curd, paneer, lassi, butter milk and ice cream

SMP manufacturer with growing B2C brand in pouch milk and fresh dairy products like curd, lassi, buttermilk

Procurement region Maharashtra Maharashtra, AP, Karnataka, TN

AP, Telangana, Karnataka, TN, Maharashtra, Haryana, Rajasthan, Punjab & Gujarat

TN, AP, Kerala, Goa, Karnataka, Maharashtra

UP, Rajasthan,Haryana

Direct milk procurement (%)

70 85 90 95 24

Growth in milk procurement -Last 5 year CAGR (%)

15 8 8 N/A N/A

Installed Milk processing capacity (MLPD) - Own and leased

1.5 3.4 2.29 2.8 4.3

Average milk procurement (mn litres/day)

0.9 1.2 1.26 (Including Reliance Dairy)

2.5

Milk procurement farmers (mn nos)

0.085 0.2 0.35 0.32 0.35

Employee strength (Nos)

800 1737 2522 4962 822

Retail touch points (Nos)

0.1 mn retail outlets 0.2 mn retail outlets

1.5mn households, 1200 Heritage Parlours, 2000 outlets of Reliance Retail. 500-600 outlets of Future Retail. Total outlet reach of 0.118mn

0.045 retail outlets

Revenue break--up ((FY17)

B2C 30 70 100 100 34

B2B 70 30

67

Pouch milk as % of sales (FY17)

14 22 63 61 42

Pouch milk installed capacity (LLPD)

500,000 375,000 1,135,000

1,806,000

Cheese capacity (MTPD)

30 60 N/A N/A 20


Rethink Everything


Business model comparison: B2B vs B2C and Fresh milk products vs VAD

Exhibit 131: High salience in pouch milk and B2C leads to higher ROCE (%)

Source: Elara Securities Estimate

Exhibit 132: B2B players have high Wcap requirement of ~30% of sales and lower Fixed asset turnover ratio – leading to high incidence of debt on the balance sheets


Prabhat Dairy Parag Milk

Heritage Foods Hatsun Agro

Kwality Dairy

0

5

10

15

20

25

30

0

5

10

15

20

25

30

35

12

MT

EV/E

BIT

DA

(x)

Average of last 5 years ROCE(%)

Prabhat Dairy

Parag Milk

Heritage Foods

Hatsun Agro

Kwality Dairy

(1)

0

1

2

3

4

5

6

(5) 0

5

10

15

20

25

30

35

40

Net

deb

t to

Eq

uity

WCap as % of sales

Exhibit 129: Margin profile and Key Cost Drivers - Last 5 years average and balance sheet strength

Prabhat Parag Heritage Hatsun Agro Kwality Dairy

Gross Margin (%) 21.1 25.8 23.0 26.0 9.0

Employee costs as % of sales 2.3 3.9 5.6 3.1 0.3

Power and fuel costs as % of sales 2.1 3.5 2.1 2.5 0.3

Ad-spends as % of sales 0.9 2.4 0.8 2.4 0.5

Freight forwarding costs (%) of sales 1.1 3.1 3.3 3.5 0.5

EBITDA Margin (%) 10.2 7.9 7.5 7.8 6.0

Wcap as % of sales 31.9 28.9 4.1 3.2 28.1

Net Debt : Equity 0.9 4.7 0.7 3.0 3.3

CFO/EBITDA (%) 40 34.3 91 85.6 Long term history of

negative CFO

RoCE (%) 10.1 11.2 24.0 20.2 19.0

Fixed asset turn (x) 2.5 1.8 5.8 4.1 37.8

Source: Elara Securities Research

Exhibit 130: Domestic Peer comparison: Heritage Foods Ltd – Strong case for further re-rating; Trading at 30% discount to Hatsun Agro on TTM basis on EV/Sales (x)

Company Ticker Rating Mcap CMP Target EV/Sales EV/EBITDA ROE (%)

(INR mn) (INR) (INR) FY17 FY18E FY19E FY20E FY17 FY18E FY19E FY20E FY17 FY18E FY19E FY20E

Heritage Foods

HTFL IN Buy 34,845 1,502 1,804 1.6 1.5 1.3 1.2 26.7 21.7 16.8 14.2 24.6 25.6 23.8 22.7

Prabhat Dairy PRABHAT IN Buy 12,991 133 160 1.1 1.0 0.9 0.8 12.0 10.4 8.5 6.9 4.2 7.0 9.0 11.0

Parag Milk

PARAG IN Accumulate 21,000 250 289 1.3 1.1 1.0 0.8 20.9 16.5 15.2 11.0 6.0 5.7 6.6 10.5

Hatsun Agro

HTSMF IN Not Rated 95,456 628 - 2.5

27.2

38.6

Kwality Dairy KWALITY IN Not Rated 28,670 122 - 0.7 10.3 19.6

Note: pricing as on 4 September 2017; Source: Company, Elara Securities Estimate

Rethink Everything

Dai

ry


Milky Mist in talks to fetch 4x EV/Sales due to direct milk procurement, unique cold chain distribution network for dairy products and plans to go national

About Milky Mist’s unique cold chain infrastructure

COLD CHAIN INFRASTRUCTURE, WHICH BINDS THE ORIGINAL QUALITY UP TO THE FORK!!!!

To ensure the product quality up to our primary clients and stores, we have a fleet of Reefer trucks of various capacities to take care of cold chain, which forms the most essential part to retain the products inherent properties. We provide refrigerated vehicles to the distributors to ensure the continuity of cold chain management. The entire logistics is monitored using the latest GPS technology to ensure timely service and product temperature at every stage. In order to extend the cold chain to our secondary customers like retail outlets, we are the only Dairy to provide Visi-coolers to every eligible outlet, which enhances the brand visibility and ensures product quality. We are in the process of extending this to as many stores as possible to make sure that the product reaches the end consumer in its best quality.

Exhibit 133: PE deal valuations in dairy space

Target Buyer(s) Deal Value

(UUSD mmn) Percentage Sought (%)

EV/Sales (x)

EV/EBITDA (x)

P/E (x)

Milky Mist 3 PE players (Un-announced) 46.88 20 4.0x NA NA

Dodla Dairy Ltd. The Rise Fund 50.00 27.0 1.00x 11.74x 33.06x

Gho Agro Pvt. Ltd. ASK Pravi Private Equity Opportunities Fund 7.34 NA NA NA NA

Sri Krishna Milks Pvt. Ltd. Capvent India Advisors Pvt. Ltd. 9.76 NA NA NA NA

Shreedhar Milk Foods Ltd. Omrudra International Trading LLC 3.52 4.4 0.47x 10.08x 20.85x

Neo Milk Products Pvt. Ltd. Ambit Pragma Fund II 0.69 53.3 0.54x NM NM

Neo Milk Products Pvt. Ltd. Ambit Pragma Fund II 8.73 100.0 1.05x NM NM

Dodla Dairy Ltd. Cargill Ventures 20.34 23.7 0.67x 9.63x 17.32x

Prabhat Dairy Ltd. India Agri Business Fund Ltd., Proparco SA 25.34 36.8 0.91x 22.19x NM

Parag Milk Foods Ltd. IDFC Private Equity Fund III 20.48 32.7 0.83x 8.96x 15.98x

Average 0.78x 12.52x 21.80x

Median 0.83x 10.08x 19.09x


Rethink Everything


Notes



Glo

bal

Mar

kets

Res

earc

h


Taking measured steps to grow Cash flows from liquid milk business to fund expansion into VAD

We believe Heritage has a well established brand and strong presence in the generally sticky and difficult to encroach category of pouch milk in South India (80% of sales). The company has shown prudence of hiving off the loss making retail/agri/bakery divisions to divert all cash flows into expanding milk procurement and to graduate to mid-shelf life VAD. Heritage has shown financial discipline as they take a balanced approach to funding growth through a mix of debt and internal accruals from the highly cash generative pouch milk business. This approach ensures that the business does not become too leveraged while growing fast and faces cash crunch every 2-3 years at the wake of capacity expansion.

Reliance Dairy acquisition to add 16% to liquid milk procurement

RRL with milk procurement capacity of 2LLPD (16% additional to HFL) was integrated into HFL in Apr’17 and they expect to turnaround the business by Sept’17 by rationalizing sub-optimal milk routes, disposing off loss making bulk commodities, balancing the milk procurement and sales and by diverting excess milk to VAD production.

Dairy EBIT to clock 20% CAGR in FY17-20E led by high salience of VAD and acquisition of RRL

The dairy business of Heritage has clocked in a Sales/EBIT CAGR of 18% in FY06-17 period and we expect it to grow at 17%/26% CAGR respectively in FY17-20 period led by 1) 25% CAGR in VAD segment in the same period which fetches a higher margin of 15% compared to 5% in liquid milk VAD to increase salience by 300bps every year to 40% by FY22. 2) Heritage is entering new markets and also penetrating deeper into existing markets primarily in Tier II and Tier III cities. 3) Acquisition of RRL which gives access to key markets like in North and West India where HFL always wanted to expand into.

Valuation We have assigned a EV/Sales(x) multiple of 1.1x and 16.5x EV/EBITDA(x) on FY20E estimates, at a discount to Hatsun Agro as it has higher margin profile compared to HFL despite much higher ads-to-sales ratio (2.4% in Hatsun vs 0.8% in HFL). We believe HFL to get re-rated to Hatsun Agro’s valuations as the company has hived off the loss making retail venture, expanded its procurement capacity by 16% through RRL acquisition and has a strong brand in liquid milk to support capex. We have arrived at SOTP valuation of INR1,804 for HFL including the value of the stake in FRL at INR176/share.

Price performance

Source: Bloomberg

Key FFinancials YE March

Revenue ((INR mn)

YoY (%)

EBITDA (INR mn)

EBITDA margin (%)

Adj PAT (INR mn)

YoY (%)

Fully DEPS (INR)

RoE (%)

RoCE (%)

P/E (x)

EV/EBITDA (x)

FY17# 22,734 (4.5) 1,366 6.0 669 (4.5) 28.8 24.6 32.6 53.1 26.8

FY18E 24,238 6.6 1,675 6.9 916 6.6 39.5 26.5 54.1 38.8 21.7

FY19E 26,880 10.9 2,136 7.9 1,173 10.9 50.6 26.6 73.1 30.3 16.8

FY20E 29,954 11.4 2,495 8.3 1,352 11.4 58.3 24.2 67.5 26.3 14.2

Note: pricing as on 4 September 2017, #FY17 financials as reported post the hive off Retail, Vetca, Agri, Bakery division to HFRL - 100% owned subsidiary of HFL to be transferred to Future Retail; Source: Company, Elara Securities Estimate


Initiating Coverage

Heritage Foods

Rating: Buy Target Price: INR 1,804 Upside: 20% CMP: INR 1,502 (as on 4 September 2017)

Key data Bloomberg /Reuters Code HTFL IN/HEFI.BO

Current /Dil Shares O/S (mn) 23/23

Mkt Cap (INR bn/USD mn) 35/543

Daily Volume (3M NSE Avg) 3,309

Face Value (INR) 10

1 US$= INR 64.1

Note: *as on 4 September 2017; Source: Bloomberg

Price & Volume

Source: Bloomberg

Shareholding (%) Q2FY17 Q3FY17 Q4FY17 Q1FY18

Promoter 39.9 39.9 39.9 39.9

Institutional Investor 11.5 12.7 13.0 13.4

Other Investor 17.3 16.9 16.9 16.9

General Public 31.3 30.6 30.3 29.7

Source: BSE

Price performance (%) 3M 6M 12M

Sensex 1.5 9.0 9.2

Heritage Foods 30.3 33.4 96.4

Parag Milk Foods 5.0 10.1 (25.8)

Prabhat Dairy 17.6 3.4 41.0

Source: Bloomberg

50

100

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200

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Reb

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Heritage Foods Sensex

0.0

0.5

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650

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Vol. in mn (RHS) Heritage Foods (LHS)

Heritage Foods


Valuation trigger

Source: Bloomberg, Elara Securities Estimate

Valuation overview (FY20E) EV/Sales (x) Weightage (%) 50 Sales (INR mn) 29,954 EV/Sales (x) 1.1 EV (INR mn) 33,975 Gross Debt (INR mn) 3024 Cash (INR mn) 3,191 Net Debt (INR mn) (167) Fair Value (INR mn) 34,141 TP (INR/Share) 1,472 CMP (INR/Share) 1,530 Upside (%) (3.8) Implied P/E(x) 25.3 EV/EBITDA (x)

EBITDA (INR mn) 2,495 EV/EBITDA (x) 16.5 EV (INR mn) 41,241 Gross Debt (INR mn) 3,024 Cash (INR mn) 3,191 Net Debt (INR mn) (167) Fair Value (INR mn) 41,407 TP (INR/Share) 1,785 CMP (INR/Share) 1,530 Upside (%) 16.7 Implied P/E(x) 30.6 Weighted TP (INR) 1,628 CMP (INR) 1,530 Upside (%) 6 Implied P/E(x) on FY20 28 SOTP Valuation INR/share HFL 1,628 Value of stake in FRL 176 Target Price on FY20 1,804 Implied P/E(x) for Dairy & FRL stake 31.0 CMP 1,530 Upside (%) 18

Source: Elara Securities Estimates

Valuation driver - CFO to EBITDA


Investment summary

� Growing the milk delivery service in new markets like Mumbai to build the brand ‘Heritage’

� Company ROCE to improve due to hive off of loss making retail, agri, bakery divisions

� Accelerating capex program to grow direct milk procurement by 10% p.a. to enter Tier 2-3 towns

� Return ratios are superior than peers as it is majorly invested in fresh dairy products

Valuation trigger

1. Breakeven to be achieved by Reliance Dairy by Sept’17

2. Milk prices to sequentially start declining by Oct’2017

3. To achieve 5%/15% margin in milk and milk products for Reliance Dairy by FY19E

4. EBITDA margin of ~8% to be achieved by FY19E at company level

Key risks

� Execution risk of developing milk procurement channels in new markets

� Delay in break-even of Reliance Dairy operations

� Milk prices not cooling off in 2HFY18 can lead to delay in achieving turnaround of Reliance Dairy

Our assumptions

� Fresh Dairy products to grow at 17% CAGR in FY17-FY20 period led by 25% CAGR in VAD and inorganic growth

� VAD expected to become 40% of sales by FY22 from 23% in FY17

� Dairy EBITDA margin to expand by 80bps over FY17-20 period from 7.8% to 8.6%

� We expect Adj. PAT CAGR of 18% in FY17-20 period led by improvement in mix and inorganic growth led by Reliance Dairy acquisition

12 3 4

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-18

Milk prices to sequentially start

declining by Oct’2017

EBITDA margin of ~8% to be achieved

by FY19E at company level

Breakeven to be achieved by

Reliance Dairy by Sept’17

To achieve 5%/15% margin in milk and milk products for Reliance

Dairy by FY19E

63 89

46

(3)

111

51

(111)

(71)

(145)

64

139 113

94

77

62

95

103

86

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Heritage Foods

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Financials (YE March) Income Statement (INR mn) FY17# FY18E FY19E FY20E Net Revenue 22,734 24,238 26,880 29,954 EBITDA 1,366 1,675 2,136 2,495 Add Non operating income 45 45 45 45 OPBITDA 1,411 1,719 2,180 2,540 Less: Depreciation & Amortization 325 314 335 398 EBIT 1,086 1,405 1,845 2,141 Less Interest Expense 111 142 216 264 PBIT 974 1,263 1,629 1,878 Less Taxes 306 347 456 526 Minority Interests - - - - Adjusted PAT 669 916 1,173 1,352 Add or less extraordinary items - - - - Reported PAT 669 916 1,173 1,352 Balance Sheet (INR mn) FY17# FY18E FY19E FY20E Share capital 232 232 232 232 Reserves 2,803 3,637 4,729 5,999 Minority Interests - - - - Borrowings 1,524 2,024 2,524 3,024 Deferred Tax (Net) 191 191 191 191 Other long term liabilities 115 115 115 115 Total Liabilities 4,865 6,199 7,791 9,561 Gross Block 5,184 4,837 5,847 6,857 Less: Accumulated depreciation 2,389 2,703 3,038 3,436 Net Block 2,795 2,134 2,809 3,421 Add: Capital work in progress 93 93 93 93 Goodwill - - - - Investments 1,511 2,968 2,968 2,968 Cash 460 1,117 2,033 3,191 Net working capital 6 (113) (112) (112) Other assets - - - - Total Assets 4,865 6,199 7,791 9,561 Cash flow statement (INR mn) FY17# FY18E FY19E FY20E Cash profit adjusted for non-cash items 1,061 1,328 1,680 1,969 (Inc)/Dec in working capital 344 118 (0) (1) Operating cash flow 1,404 1,446 1,679 1,969 Less: Capex 12 (347) 1,010 1,010 Free cash flow 1,392 1,793 669 959 Financing cash flow 46 274 200 153 Investing cash flow (1,451) (1,066) (966) (966) Net change in cash (1) 655 914 1,156 Ratio Analysis FY17# FY18E FY19E FY20E Income sstatement Ratios (%) Revenue growth (4.5) 6.6 10.9 11.4 EBITDA growth 4.4 22.6 27.5 16.8 PAT growth 17.6 37.0 28.1 15.2 EBITDA margin 6.0 6.9 7.9 8.3 Net margin 2.9 3.8 4.4 4.5 Return and liquidity ratios Net debt/Equity (x) 0.3 0.2 0.1 (0.0) ROE (%) 24.6 26.5 26.6 24.2 ROCE (%) 32.6 54.1 73.1 67.5 Per share data and Valuation ratios Diluted EPS (INR) 28.8 39.5 50.6 58.3 EPS growth (%) 20.5 37.0 28.1 15.2 DPS (INR) 4.0 3.0 3.0 3.0 P/E (x) 53.1 38.8 30.3 26.3 EV/EBITDA (x) 26.7 21.7 16.8 14.2 EV/Sales (x) 1.6 1.5 1.3 1.2 Price/Book (x) 11.7 9.2 7.2 5.7 FCFF yield (%) 3.9 5.1 1.9 2.7 Dividend yield (%) 0.3 0.2 0.2 0.2


Revenue & margin growth trend


Adjusted profit growth trend


Return ratios


6.0

6.9

7.9 8.3

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6

7

8

9

15,000

20,000

25,000

30,000

35,000

FY17# FY18E FY19E FY20E

(%)

(INR

mn

)

Net Revenue EBITDA margin

17.6

37.0

28.1

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32.6

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80


ROE (%) ROCE (%)

Heritage Foods


Dairy established to benefit farmers Heritage Foods Ltd was established as a Dairy company to benefit farmers through transparent and guaranteed off-take practices. Heritage Foods Ltd was founded in 1992 with a vision to assure remunerative prices to dairy farmers who needed better marketing opportunities. The company has a milk procurement network of 3 lakh dairy farmers through 11k milk agents. The company directly procures 90% of its milk requirement (around 1.06MLPD) from its 144 chilling plants (average capacity of 11,400 LPD) and bulk coolers spread across 8 states of AP & Telangana, Tamil Nadu, Karnataka, Maharashtra, Gujarat, Rajasthan and Delhi. The company procures both cow (60% of volumes) and buffalo (40% of volumes) milk with blended fat content of 5.5%. It has a Chilling Capacity 1.73 million liters per day, Processing Capacity 1.89 million liters

per day and Packaging Capacity 1.14 million liters per day through 15 packaging stations. The company clocked revenues of INR18.7bn in dairy segment of which INR4.4bn (23% of revenues) was from value added products like curd (77% of VAD), flavoured milk and paneer etc. The company has grown it’s procurement at 8% CAGR in FY14-17 period in order to cater to the fast growing value added products segment. With acceleration in capex for increasing milk procurement infrastructure the company is poised to continue increasing its direct procurement reach, which is the most critical asset to create in order to be a value added product manufacturer. The dairy company has fairly high retail presence through Heritage retail parlours in home market AP, direct retail reach of 118k outlets and services 1.15mn households daily through its delivery service.

Taking measured steps to grow � Fully integrated operations with strong brand recall and wide retail presence

� Operations are uniquely set up very close to demand centers, thereby delivering well on fresh

dairy product sales

� Heritage Foods has one of the largest distribution networks amongst all peers

� Heritage parlor network has grown at 11% CAGR in FY14-17 period

Directly procures 1.06MLPD from 300K farmers through 11k milk agents

Exhibit 1: State wise Milk Procurement Exhibit 2: State wise milk chilling plants (Nos)


Heritage has very small sized milk chilling plant of 11,400LPD highlighting that there is huge room to grow milk procurement from existing network itself

Exhibit 3: State wise milk chilling capacity Exhibit 4: State wise milk processing capacity


0

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FY13 FY14 FY15 FY16 9MFY17

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AP TL TN KA MH HR/DL RJ DL

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.)


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Heritage Foods

Dai

ry


Exhibit 5: As per FY17, Heritage Owns 15 Processing and Packaging Plants spread across various regions

State No of Plants

Andhra Pradesh 7

Telangana 3

Tamil Nadu 1

Karnataka 2

Maharashtra 1

Haryana/Delhi 1

Source: Company

Fully integrated operations with strong brand recall and wide retail presence

The company is fully integrated in terms of procurement and processing capabilities, along with strong presence in retail channels as it has a distribution network of 118k stores and services around 1.15mn households daily primarily through selling pouch milk and curd. The company also builds its visibility through 1680 Heritage milk parlours (20% of dairy revenues), which sell only milk and fresh dairy products like curd, lassi, flavored milk and butter milk exclusively under the 'Heritage' brand name. They produce and market a full range of milk & dairy products including fresh milk, curd, butter-milk, lassi, ice-cream, paneer, table butter, milk powder, flavoured milk, UHT milk and dairy whitener. Headquartered in Hyderabad, they have a significant presence in the states of Telangana, Andhra Pradesh, Tamil Nadu, Karnataka, Kerala, Maharashtra, Odisha, Delhi, Haryana and Rajasthan.

Exhibit 6: Farm- to- Fork Model

Source: Company

Exhibit 7: Operations spread across several states and has uniquely set up processing plants very close to demand centres, thereby delivering well on fresh dairy product sales

Source: Company

Exhibit 8: Distribution Network is widespread with presence in 118k retail outlets

No of Sales Office 31

No of Distributors/Agents 6,330

No of Outlets 118,500

No of Households Serviced on daily Basis 1.15mn

No of Vehicles (Trucks/Tankers) Servicing Heritage Everyday

1,585

Source: Company

Milk procurement

Testing Chilling Processing

Reaches the customer

Heritage Parlours & Heritage

Fresh

Distribution Packaging

Heritage Foods


Strong brand visibility generated through 1,680 Heritage Parlors

Heritage Parlors are exclusive outlets (average size of 100sq ft) selling the whole range of Heritage products, that includes Heritage milk, milk products, ice cream, bread and other bakery products, eggs, private label products, fruits & vegetables and also products supplied/approved by Heritage Foods Ltd. It is a franchisee based business model that provides excellent business opportunities for new entrepreneurs as well as existing business owners. WWith a well established network of over 1,680 Parlours in Hyderabad, Vishkapatanam, Rajahmundry, Vijayawada, Tirupati, Chennai and Bangalore, Heritage Parlours plays a vital role in ensuring that Heritage products are available to customers at their doorstep.

Apart from producing healthy products they also help the society in various ways. They have generated employment opportunities for 5,077 People. Entrepreneurship opportunities for 11,097 procurement agents in rural areas, 5,300 sales agents and 1,680 franchisees who operate Heritage Parlours. Providing financial assistance and other support to unemployed youth to open Heritage Parlours. They also offer a diploma course to farmers children and ensuring job guarantee at Heritage on completion of the course.

Exhibit 9: Heritage Parlour – Franchisees which sell Heritage branded dairy products exclusively

Source: Company

Exhibit 10: Heritage parlor network has grown at 11% CAGR in FY14-17 period

Source: Company

Exhibit 11: Heritage Foods sells 95% of its sales through direct distribution – one of the largest direct distribution networks

Source: Company

1,000

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(no

.) One Level Two Level Three Level

4.75 % sales

Sales Office

CFA/CA

Distributors/ Stockists

Agents/Retailers

Consumer

8.75 % sales

Sales Office

Distributors/ Stockists

Agents/Retailers

Consumer

86.50 % sales

Sales Office

Agents/Retailer/ Parlours

Consumer

Heritage Foods

Dai

ry


Fresh Dairy products to grow at 17% CAGR in FY17-FY20 period The dairy business of Heritage has clocked in a Sales/EBIT CAGR of 18% in FY06-17 period and we expect it to grow at 17%/20% CAGR respectively in FY17-20 period led by 1) 25% CAGR in VAD segment in the same period which fetches a higher margin of 15% compared to 5% in liquid milk 2) Heritage is entering new markets and also penetrating deeper into existing markets primarily in Tier II and Tier III cities. We expect Heritage to report EBIT growth of 26% CAGR in the same period led by improvement in margins due to higher salience of VAD, addition of 2LLPD of milk processing capacity into HFL from the acquisition of Reliance Dairy which will also be selling pouch milk and fresh dairy products.

Exhibit 12: Dairy - Revenue Break-up


Exhibit 13: Segment wise growth rate in FY13-17 period


Exhibit 14: Heritage sells 0.86MLPD of pouch milk which has grown at 7% CAGR in FY13-17 period led by 5% of price increase

Heritage sells cattle feed to farmers for increasing milk productivity

Source: Company

Milk 63%

VAD 23%

FAT 9%

SMP 1%

Others 4%

7

23

4

91

25

10

0

25

50

75

100

Milk Value added

products

Fat products

SMP Others Total

(%)

The only dairy with balance sheet strength to fund growth � Fresh Dairy products to grow at 17% CAGR in FY17-FY20 period led by 25% CAGR in VAD

� VAD expected to become 40% of sales by FY22 from 23% in FY17

� Dairy EBITDA margin to expand by 80bps over FY17-20 period from 7.8% to 8.6%

� Growing the milk delivery service in new markets like Mumbai to build the brand ‘Heritage’

� Accelerating capex program to grow direct milk procurement by 10% p.a. to enter Tier 2-3 towns

� Reliance Dairy acquisition to add 16% to total milk procurement of HFL

Heritage Foods


Exhibit 15: Liquid milk sales volumes have grown at 3% CAGR in FY14-17 period


Margins in liquid milk gets squeezed during inflationary periods as it is highly competitive

Exhibit 16: Liquid milk realization has increased at 7% CAGR in FY14-17 period


Exhibit 17: Liquid milk procurement price has increased at 10% CAGR in FY14-17 period


Exhibit 18: Gross spread in liquid milk tends to come under pressure during inflationary phases


Exhibit 19: Gross margin in liquid milk hovers around 15% and drops during high inflation periods


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6

Q2

FY1

6

Q3

FY1

6

Q4

FY1

6

1Q

FY1

7

2Q

FY1

7

3Q

FY1

7

4Q

FY1

7

1Q

FY1

8

(INR/

Litr

e)

6

8

10

12

14

16

18

Q1

FY1

4

Q2

FY1

4

Q3

FY1

4

Q4

FY1

4

Q1

FY1

5

Q2

FY1

5

Q3

FY1

5

Q4

FY1

5

Q1

FY1

6

Q2

FY1

6

Q3

FY1

6

Q4

FY1

6

1Q

FY1

7

2Q

FY1

7

3Q

FY1

7

4Q

FY1

7

1Q

FY1

8

(%)

Heritage Foods

Dai

ry


Growing the delivery service in new markets like Mumbai

Heritage currently has chilling capacity of 1LLPD in Maharashtra where it procures primarily from Baramati and brings the chilled milk to their processing and packaging plant in Vashi (packing capacity of 1LLPD). The company collects its milk through 9 milk chilling centres in Maharashtra. Currently the company is procuring only 62K LPD (3QFY17 presentation) and selling around 40K LPD(3QFY17) of liquid milk. Heritage is distributing their branded pouch milk through 160 distributors and has a presence of 1200 retailers currently in Mumbai. They are approaching townships for establishing the milk delivery system (delivery charges of INR1/Litre) which shall help in creating brand visibility for Heritage and which then helps in cross selling other fresh dairy products to the same customer and hence increase through-put and grow in scale.

Reliance Dairy acquisition to add 16% to liquid milk procurement

HFL acquired dairy business of Reliance Retail Ltd (RRL) in a slump sale for INR615mn in FY17. The dairy business operated a pan-India procurement (2LLPD – additional procurement of 16%) and distribution platform under two brands “Dairy Life” and “Dairy Pure” with wide variety of products such as packaged milk, flavored milk, butter, ghee, curd, dairy whitener, sweets and skimmed milk powder. Milk procurement during lean season is around 1.5LLPD while in flush it reached 2LLP. This acquisition augurs well for HFL as it gives new opportunities in states like Punjab, Uttarakhand and Rajasthan it is not currently present and strong synergies in markets like Mumbai and Delhi-NCR where your company already commenced its operation and can add the procurement from these regions to sell products under Heritage brand also. TThe company was integrated into HFL in April’17 and is expected to turnaround by Sept’17.

RRL to breakeven by 3QFY18

� RRL incurred a loss of INR60mn at PBT level in 1QFY18 as the company has operations spread out all across India with many milk routes which are not viable. HFL is rationalizing those routes, like in UP and MP the company has completely wound up its operations.

� In certain states, the chilling centres are not located at optimal distances, hence some milk procurement routes were shut (20 out of 184 rationalized)

� RRL was also not prudent with milk balancing and would always procure more than could sell and hence ended up with SMP for making dairy whitener which was causing losses. There are also stocks of

bulk commodities that HFL will be disposing off by Sept’17

� HFL plans to divert the excess milk procured into fresh VAD products under either of the two brands depending on the relative strength of each brand in each region. In Delhi & Rajasthan, all products will be sold under “Heritage” brand to consolidate its position in the market. While in Punjab and Haryana, RRL has better penetration, hence would continue. In Telangana, Heritage brand will continue in urban areas while RRL will be expanded into suburbs.

� In 1QFY18, HFL was already able to match procurement volumes with sales volumes, hence we expect that the turnaround will be quite quick. RRL contributed to INR670mn (10% of sales) to the top line of HFL in 1QFY18, and incurred a PBT loss of 10% (INR60mn).

� HFL plans to achieve long term margin of 7-8% in RRL by driving 5% margin in liquid milk and 15% margin in fresh dairy products

Will invest INR750mn per year for growing milk procurement infrastructure

To grow their direct procurement they have to set up more village collection centres (VCC), bulk milk coolers in non –core markets like Delhi, Mumbai, Orissa for which the company has capex outlay of INR750mn per year. The company added 1MLPD chilling capacity as part of its on-going capex for increasing milk procurement capacity in FY17. Arranging credit through banks, supplying cattle feed and veterinary services to farmers. Heritage is able to attract more farmers to pour milk at their village collection centres as they pay very timely which attracts many farmers. They have built trust of farmers by using digital measurement equipments – called milk analysers for measuring FAT and SNF content of milk and thereby make payments to farmers according to the quality of milk supplied. Since the system has been built on transparency it attracts farmers for joining their network.

Exhibit 20: Direct milk procurement has grown at 8% CAGR in FY14-17 period


4

6

8

10

12

14

Q1

FY1

4

Q2

FY1

4

Q3

FY1

4

Q4

FY1

4

Q1

FY1

5

Q2

FY1

5

Q3

FY1

5

Q4

FY1

5

Q1

FY1

6

Q2

FY1

6

Q3

FY1

6

Q4

FY1

6

1Q

FY1

7

2Q

FY1

7

3Q

FY1

7

4Q

FY1

7

1Q

FY1

8

(LLP

D)

Heritage Foods


Exhibit 21: Accelerating capex program to grow direct milk procurement by 10% p.a. to enter Tier 2-3 towns


Value added products in fresh dairy segment which earn high margins and have low working capital requirements

Value added products expected to become 40% of turnover by 2020 from 23% currently. The company plans to increase the salience of VAD by 300bps every year. VAD products fetch EBITDA margin of ~15% compared to 6% in pouch milk, thereby will lift the overall margin profile of the company going forward. VAD products have reported a CAGR of 23% in FY14-17 period while the branded curd sales have reported a faster growth at 28% in the same period.


Exhibit 22: Branded fresh dairy products have grown at a CAGR of 23% in FY14-17 period with curd growing at 28%


VAD expected to reach 40% of sales by FY22

The company reported total sales of INR 24bn in FY17 of which dairy was INR18.7bn. The dairy business has reported a CAGR of 18% in FY06-17 period driven by 20% volume growth in VAD and higher realizations due to increasing share of value added dairy (VAD) in to the portfolio. Currently, VAP contributes around 23% to sales in dairy and the contribution is expected to increase by 300bps every year and is expected to become 40% of dairy revenues in next 5 years. In the VAD portfolio, curd forms the largest segment with 77% (as of FY17) contribution.

VAD has grown at 23% CAGR in FY14-17 period led by 28% CAGR in packaged curd in the same period

Exhibit 23: VAD revenues expected to grow at 25% CAGR in FY17-20E


Exhibit 24: Share of VAD to increase to 40% by FY22 from 23% in FY17


89

26

2

32

5

15

4

26

7

21

1

19

8

23

4

30

0

38

7

38

7

80

0

75

0

75

0

75

0

0

200

400

600

800

1,000 FY

06

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(INR

mn

)

Dairy Capex accelerated

37 34

31 30

15

28 25 24

20

12

18

10

21

0

10

20

30

40

Q1

FY1

5

Q2

FY1

5

Q3

FY1

5

Q4

FY1

5

Q1

FY1

6

Q2

FY1

6

Q3

FY1

6

Q4

FY1

6

1Q

FY1

7

2Q

FY1

7

3Q

FY1

7

4Q

FY1

7

1Q

FY1

8

(%)

2,438 3,161

3,823 4,390

5,487

6,859

8,573

0

2,000

4,000

6,000

8,000

10,000

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(IN

R m

n)

22 23 23 26

29 33

40

0

10

20

30

40

50

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

FY2

1E

FY2

2E

(%)

Heritage Foods

Dai

ry


Exhibit 25: Dairy EBITDA margin to expand by 80bps over FY17-20E


Exhibit 26: Dairy sales expected to grow at 17% CAGR in FY17-20E period led by 25% growth in VAD and inorganic growth (Acquisition of Reliance Dairy)


Exhibit 27: EBIT for dairy business expected to grow at 20% CAGR in FY17-20 period


Exhibit 28: Dairy EBIT margin expected to expand by 50bps in FY17-20E


Exhibit 29: Capital employed in dairy in FY17 includes the acquisition cost of Reliance Dairy in it (INR 615mn)


Exhibit 30: Dairy ROCE to fall to 42% by FY20 from 55% in FY17 due to accelerated capex program and Reliance Dairy acquisition


7.7 7.8 8.1 8.3 8.6 8.5

5.9 6.0 6.0 6.0 5.0

14.5 15.0 15.0 15.0

0

2

4

6

8

10

12

14

16

FY16 FY17 FY18E FY19E FY20E

(%)

0

10

20

30

40

50

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(YoY %

) (INR

mn

)

Dairy Revenue Growth

(40)

(20)

0

20

40

60

80

100

0

500

1,000

1,500

2,000

2,500

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(YoY %

)

(IN

R m

n )

Dairy EBIT Growth

6.6

5.2 4.7

6.7

9.4

5.4 5.5

8.6

7.5

4.4

6.5 6.5

5.6

6.7 7.0

3

4

5

6

7

8

9

10

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

84

2

1,1

40

1,1

68

1,2

51

1,5

56

1,4

59

1,4

20

1,4

84

1,7

61

1,8

69

1,9

57

2,4

30

3,4

30

4,4

30

5,4

30

0

1,000

2,000

3,000

4,000

5,000

6,000

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(INR

mn

)

22

.7

17

.9

19

.9 3

2.8

46

.2

30

.9 42

.1

75

.3

60

.8

37

.0

60

.3

55

.5

46

.4

45

.8

42

.5

0

20

40

60

80

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

Heritage Foods


Exhibit 31: We expect Adj. PAT CAGR of 18% in FY17-20 period led by improvement in mix and inorganic growth led by Reliance Dairy acquisition


Exhibit 32: We expect reported PAT CAGR of 26% in FY17-20 period led by hiving off of loss making retail, bakery and agri division to Future Retail


Exhibit 33: Fixed asset T/O(x) to improve led by hive off of loss making businesses


Exhibit 34: Working capital as % of sales to reduce as the retail business has been hived off


Exhibit 35: ROCE at company level expected to improve


684 827

916

1,173

1,352

0

300

600

900

1,200

1,500


(INR

mn

)

555 669

916

1,173

1,352

0

300

600

900

1,200

1,500


(INR

mn

)

3.3 3.5 3.4 3.2

3.6

4.2 4.5 4.4

4.7 4.9

4.4

4.8 5.0

4.7

2

3

4

5

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(x)

5

(2)

1

2

4

3 3 3

4 4

3

2 2 2

(2)

(1)

0

1

2

3

4

5

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

4

(12) (5)

12 7

12

31 25

15

28 33

54

73 67

(20)

0

20

40

60

80

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

Heritage Foods

Dai

ry


Return ratios are superior to peers as it is majorly invested in less capital intensive products We believe that in order to keep growing any consumer oriented dairy business, one has to continuously keep investing in direct milk procurement in newer markets and also to deliver freshness in fresh milk products, one has to procure locally. Low working capital requirements and the management’s decision to grow in to value added products, as that is where the growth is, in a calibrated manner shall keep the cash flow from operations healthy enough to keep growing the procurement side through internal accruals of INR750mn annually on average.

Exhibit 36: ROCE for Dairy Business upwards of 30%


Exhibit 37: Liquid milk has very low working capital requirements


Exhibit 38: Capital employed in the dairy business is minimal due to low gross capital requirements in pouch milk


Exhibit 39: Asset turns falling due to accelerated capex to increase milk procurement and RRL acquisition


0

20

40

60

80

100

120

1Q

FY1

0

3Q

FY1

0

1Q

FY1

1

3Q

FY1

1

1Q

FY1

2

3Q

FY1

2

1Q

FY1

3

3Q

FY1

3

1Q

FY1

4

3Q

FY1

4

1Q

FY1

5

3Q

FY1

5

1Q

FY1

6

3Q

FY1

6

1Q

FY1

7

3Q

FY1

7

(%)

20

2

13

9

0

5

10

15

20

25

Inventory days

Receivable days

Trade payables

Cash conversion

cycle

(Day

s)

22

.7

17

.9

19

.9 32

.8 4

6.2

30

.9 42

.1

75

.3

60

.8

37

.0

60

.3

55

.5

46

.4

45

.8

42

.5

0

20

40

60

80

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

3.5

3.2

3.6

4.5

4.6

5.1

6.8

8.1

8.0

7.8

8.6

8.3

7.3

6.5

5.8

0

2

4

6

8

10

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(X)

Return ratios and cash flow from operations superior than others � Return ratios are superior than peers as it is majorly invested in fresh dairy products

� Liquid milk business is less capital intensive compared to cheese/ghee etc

Heritage Foods


Slump sale of loss making retail venture to Future Retail will lift the profitability and improve ROCE They have completed the transaction of slum sale of retail, agri, bakery, VetCa divisions to Heritage Foods Retail Limited, 100% owned subsidiary of HFL (effective 1st Nov’16) and then demerger into Future Retail Limited with effect from 31st Mar’17 and integration process is in progress. The transaction was completed on May 31, 2017 and the business controls have totally shifted into Future Retail on June 1.

In FY17, the company clocked net sales of INR22.7bn of which Retail was 7.6bn (29% of revenues). Retail division (124 Heritage Fresh Stores) had accumulated losses of INR3bn on the books. In exchange, Heritage Foods Ltd has acquired Future Retail in exchange of 3.65% stake in Future Retail or 17.8 mn shares through fresh issuance. The value of the stake in Future Retail is around INR10bn at CMP of INR 569 (as on 4th Sept’17). Since there is a lock –in period of 3 years starting from the date of transaction closing which was May’17 i.e. May’20, we have discounted the value of the stake (INR10bn at CMP INR569) by WACC of 12.3% to arrive at the present value of the stake at INR5.8bn. We expect that the company will liquidate the stake in Future Retail in CY20 and use the cash to fund its capex (for increasing direct milk procurement and capacity expansion for fresh dairy products) and investments in JVCo (total investment by both the partners will be INR750mn which will be ramped up in next 5 years). OOverall, Heritage will transfer assets worth INR2.95bn to Future Retail for shares worth INR10bn at current market price of INR 569( discounted PV for HFL’s share in the stake is INR 176/share of HFL). Since retail division had accumulated losses of INR3bn, and the net assets transferred are worth INR2.95bn, the present value of the Future Retail stake is lower than the total capital employed by HFL in HFRL. They will recover the total capital employed in retail only if the stock price of Future Retail goes to INR1175/share.

Value of HFL stake in FRL at INR176/share

Exhibit 40: Future Retail Transaction

CMP of Future Retail (INR) 569

No of shares (mn) 17.8

Value of Holding in Future Retail (INR mn) in 2020 at CMP 10,128

HFL's share in the FRL stake (INR mn) 5,782

PV of Holding in Future Retail (INR mn) 4,083

Value of Holding in Future Retail (INR/ share) 176

#CMP of Future Retail as on 4th Sept 2017

Accumulated losses (INR mn) 3,000

Assets Transferred (INR mn) 2,950

Capital Invested in Retail business 5,950

Net gains/(losses) today for Heritage Foods Ltd (1,867)


Exhibit 41: When does Heritage make profits in Future Retail Deal?

Stock price of Future RRetail (INR) 1,175

No of shares (mn) 17.8

Value of Holding in Future Retail (INR mn) in 2020 at CMP 20,915

HFL's share in the FRL stake (INR mn) 8,479

PV of Holding in Future Retail (INR mn) 5,988

Value of Holding in Future Retail (INR) 258

Accumulated losses (INR mn) 3,000

Assets Transferred (INR mn) 2,950

Total Capital deployed by HFL 5,950

Net gains/(losses) today for Heritage Foods Ltd 38


Exhibit 42: Weighted average cost of capital (%)

Cost of Equity (%) 15.0

Cost of Debt (Pre-tax) (%) 9.5

Market rate of Return (%) 15.0

Risk free rate (%) 7.5

Debt/(Debt+Equity) 31.3

Equity/(Debt+ Equity) 68.7

WACC 12.3


Value of stake in Future Retail at INR176/share at CMP � Slump sale of loss making retail venture to boost profitability

� HFL can sell it’s stake in Future Retail post June’20 (lock-in of 3 years)

� HFL to use the cash flows from the stake sale for funding organic growth in dairy business

Heritage Foods

Dai

ry


Investments in JVCo will be in a very calibrated fashion � The JVCo will manufacture and market the products

viz. Fruit and Flavored Yogurts, as well as western style desserts like custards

� Each company will nominate two directors

� Will be setting up a Greenfield plant in Maharashtra under the first phase of investments in FY18 for INR160mn. The JVCo has plans to invest INR750mn over next 5 years (HFL’s share INR325mn)

� The JVCo will be setting up a yogurt capacity of 20MTPD for INR160mn (INR80mn by HFL as its share of the investments) and will be commissioned during FY19E

� The first year revenue plan is for INR300mn in

FY19E( Yr 1) which can be scaled upto INR1bn at full utilization.

� The two JV partners will be looking to invest into the JVCo to start a new product line every alternate year, after giving two enough time to set up the previous project.

50:50 JV announced with France based Novandie SNC � Initial investment of INR160mn by the JVCo to set up Greenfield yogurt plant in Maharashtra

� Total 5 year project with INR3bn in sales and investment plans of INR750

� Yogurt plant to breakeven by Year 2; expected to clock margins of 10-20%

Heritage Foods


Initiate with BUY and TP INR 1,804 Heritage is a pure-play B2C dairy company which checks all the boxes in terms of key requirements by any dairy company to become a significant player in value added products. Heritage will also be driving growth in distribution reach and increasing its advertising spends on brand Heritage in order to establish its brands in new markets like Maharashtra and Delhi. The company is focused on growing its procurement base by 10% CAGR in order to expand into new markets and more into value added products. The company is taking measured steps to grow in to mid-shelf life dairy products in a very calibrated approach in order to avoid stretching of balance sheet due to higher working capital requirements. We have factored in 25% CAGR growth for the VAD segment in –line with 23% growth recorded in FY13-17 period.

Arrive at SOTP valuation of INR1,804 for HFL including value of stake in FRL at INR176/share

We have used an equal average of EV/Sales(x) and EV/EBITDA (x) methodology as 1) bottom line for dairy companies is extremely volatile due to growth capex and interest costs 2) dairy business has capital invested behind milk procurement which is an on-going capex for increasing direct milk procurement, the benefits of which come with a lag in terms of achieving higher salience in value added products. Hence we choose EV/Sales(x) and EV/EBITDA(x) methodology to value dairy companies. We have assigned a EV/Sales(x) multiple of 1.1x and 16.5x EV/EBITDA(x) on FY20E estimates, at a steep discount to Hatsun Agro (TTM EV/Sales (x) 2.5x vs 1.6 for HFL) as it has higher margin profile (7.8% for Hatsun) compared to HFL (7.5%) despite much higher ads-to-sales ratio (2.4% in Hatsun vs 0.8% in HFL).

Exhibit 43: Valuation Methodology

FY20E

EV/Sales (x)

Weightage (%) 50

Sales (INR mn) 29,954

EV/Sales (x) 1.1

EV (INR mn) 33,975

Gross Debt (INR mn) 3024

Cash (INR mn) 3,191

Net Debt (INR mn) (167)

Fair Value (INR mn) 34,141

TP (INR/Share) 1,472

CMP (INR/Share) 1,530

Upside (%) (3.8)

Implied P/E(x) 25.3

EV/EBITDA (x)

EBITDA (INR mn) 2,495

EV/EBITDA (x) 16.5

EV (INR mn) 41,241

Gross Debt (INR mn) 3,024

Cash (INR mn) 3,191

Net Debt (INR mn) (167)


TP (INR/Share) 1,785

CMP (INR/Share) 1,530

Upside (%) 16.7

Implied P/E(x) 30.6

Weighted TP (INR) 1,628

CMP (INR) 1,530

Upside (%) 6

Implied P/E(x) on FY20 28


Exhibit 44: SOTP Valuation

INR/share

HFL 1,628 Value of stake in FRL 176 Target Price on FY20 1,804 Implied P/E(x) for Dairy & FRL stake 31.0 CMP 1,530 Upside (%) 18


Valuation & Recommendation � Pure-play B2C dairy company to become a significant player in VAD going forward

� Use SOTP method to arrive at TP INR1804 with dairy business valued at INR1628 and stake in

Future Retail valued at INR176/share

� HFL valued at implied P/E(x) of 31x on FY20 EPS of INR58.3

Heritage Foods

Dai

ry


HFL has got re-rated by 3x over the period of last 3 years as they increased salience of VAD in their portfolio

Exhibit 45: 1-yr forward EV/EBITDA Band

Source: Bloomberg, Elara Securities Estimates

Exhibit 46: 1-yr forward rolling EV/EBITDA


Exhibit 47: 1-yr forward EV/Sales Band


Exhibit 48: 1-yr forward rolling EV/Sales


2x

5x

8x

11x

15x

(200) 0

200 400 600 800

1,000 1,200 1,400 1,600

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Heritage Foods


Board of Directors Seetharamaiah Devineni - Chairperson

He is a commerce graduate from Andhra University and a fellow member of the Institute of Chartered Accountants of India. Senior partner of Brahmayya & Co., a leading Chartered Accountancy firm and has been practicing for the last five decades. Has held various coveted posts, which include Membership of the Southern Regional Board of Reserve Bank of India, and Federation of Andhra Pradesh Chamber of Commerce and Industry, Chairpersonship of the Tirumala Tirupati Devasthanams Trust Board and Trusteeship of the NTR Memorial Trust and is also on the Board of several other companies.

Srivishnu Raju Nandyala - Director

He holds a bachelors degree in Chemical Engineering from Osmania University, Andhra Pradesh. Founder Chairperson and CEO of EXCIGA group, which consists of five non banking finance companies. He is the Founder and Past President of Entrepreneurs Organization, Hyderabad. Past President of CII's (Confederation of Indian Industries) Young Indians, Hyderabad Chapter and a past member on the state council of CII. Is a Director in several Public and Private Companies.

Dr. Nagaraja Naidu Vadlamudi - Director

He is an M. Com, M. Litt and a PhD. (Financial Management), he began his career from the Administrative Staff College of India, Hyderabad in 1972. He has held various positions in reputed Universities, like Professor, Dean, Director etc., and has taught in the fields of Finance and Business Economics at Post Graduate and Doctorate levels for about 25 years. He has been the Registrar (Administrative Head) of the Dr B R Ambedkar Open University for about 10 years. He has been associated with the company since its inception and has been able to utilize his intimate understanding of the rural socio-economic scenario to strengthen milk

procurement systems and strategies of Heritage, which has contributed to the current status of Heritage as a leading player in South India.

Bhuvaneswari Nara - Vice-Chairperson & Managing Director

She is a B.A Graduate and is a Director in several other Companies. She is a dynamic leader who has extensive experience in business and has been successfully steering Heritage towards growth and better prospects.

Mrs. Brahmani Nara Executive Director,

She has Master's Degree in Business Administration from Stanford University, Bachelor of Science degree in Electrical Engineering from Santa Clara University USA and Bachelor of Engineering with specialization of Electronics and Communications from Chaitanya Bharathi Institute of Technology. Investment Associate in Vertex Venture Management Pvt Ltd between 2009-2011 in Singapore and was associated with the Company as a Vice-President (Business Development).

Corporate Management Team Dr. M. Sambasiva Rao - President

He is a Post Graduate and Doctorate in Zoology. He has served the state and central governments for about two decades as a member of the Indian Administrative Services(IAS). Dr Rao was the Joint Secretary in the Department of Commerce under the Ministry of Commerce and Industry, Government of India.

CA A Prabhakara Naidu Vice President - Finance & Accounts

He is a Fellow Member of the Institute of Chartered Accountants of India and Graduated from Sri Venkateswara University with a University rank in Science. He has 23 years of experience in Finance and Accounts. Has been associated with the Heritage group since It's inception.

Company Description Heritage Foods Ltd was established as a Dairy company to benefit farmers through transparent and guaranteed off-take practices. Heritage Foods Ltd was founded in 1992 with a vision to assure remunerative prices to dairy farmers who needed better marketing opportunities. The company has a milk procurement network of 3 lakh dairy farmers through 11k milk agents. The company directly procures 90% of its milk requirement (around 1.06MLPD) from its 144 chilling plants (average capacity of 11,400 LPD) and bulk coolers spread across 8 states of AP & Telangana, Tamil Nadu, Karnataka, Maharashtra, Gujarat, Rajasthan and Delhi. The company procures both cow (60% of volumes) and buffalo (40% of volumes) milk with blended fat content of 5.5%. It has a Chilling Capacity 1.73 million liters per day, Processing Capacity 1.89 million liters per day and Packaging Capacity 1.14 million liters per day through 15 packaging stations. The company clocked revenues of INR18.7bn in dairy segment of which INR4.4bn (23% of revenues) was from value added products like curd (77% of VAD), flavoured milk and paneer etc.

Heritage Foods

Dai

ry


Umakanta Barik Company Secretary,

He has Masters in Economics, LLB, FCS, LIII and is a Fellow Member of the Institute of Company Secretaries of India, New Delhi and a Licentiate from Insurance Institute of India, Mumbai. Has over 14 years of experience in the domains of Secretarial, Legal, Insurance & Intellectual Property Rights.

J Samba Murthy Head - Dairy Division,

He holds an MBA in Marketing and a Bachelors of Science degree. He is the Senior Vice President at Heritage and has been associated with the Company since 2007. He has worked previously in APDDCF Limited, Visakha Dairy NDDB, and Reliance in various positions in the field of Sales & Marketing.

Heritage Foods


Coverage History

Date Rating Target Price Closing Price

1

4-Sep-2017 Buy INR 1,804 INR 1,502

Guide to Research Rating BUY Absolute Return >+20%

ACCUMULATE Absolute Return +5% to +20%

REDUCE Absolute Return -5% to +5%

SELL Absolute Return < -5%

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Leveraging its roots Prabhat differentiates itself as a low cost ingredients supplier

Prabhat is a specialized ingredients supplier of SCM and SMP to large confectionary, infant foods and MFD players like Mondelez, Abbott, GSK Consumer along with being a co-packer for Mother Dairy, Britannia, ITC to name a few. The dairy plant is located at Shrirampur which is in close vicinity of the milk surplus region of Ahmednagar from where Prabhat procures its milk requirements. Prabhat stands to benefit from differentiating it as a low cost ingredients supplier( freight costs at <1% vs 3.5%+ for other players) to large branded dairy players as most of its clients are located within a radius of 150-300kms from its plants in Shrirampur and Navi Mumbai.

Leveraging its roots for increasing procurement

Ahmednagar has cross-bred in-milk cows population growing at a fast pace of 4% which have much higher yield than buffaloes and indigenous cows. We believe that Prabhat will be able to grow its procurement at 16% CAGR due to increase in milk production led by increasing milk yield in the region, encouraging farmers to own more cattle.

Targeting Tier-2&3 cities in Maharashtra as they are less cluttered and fast growing

Tier –II cities are emerging as software export hubs hence leading to faster economic growth and hence increasing the spending and purchasing power of the region. The four urban districts of Mumbai, Thane, Pune and Nasik account for 50% of the state income/ 45% of the population and balance 31 districts share the remaining 50% of the income and 55% of the population. In order to en-cash this catchment area in Tier-II cities, the company has built a distribution network for the HORECA segment (as proxy retail channel) exclusively for curd, paneer and cheese for daily requirements.

Valuation We expect Prabhat to report a 13%/21%/36% CAGR in Sales/EBITDA/Adj. PAT in-line with the growth reported in FY12-17 period. We initiate coverage with Buy rating and TP of INR160 with an upside of 20% by valuing it on equal weighted EV/Sales(x)/ EV/EBITDA(x) of 0.8x/8x respectively in-line with its own historic trading multiple and at a steep discount to B2C players (HFL/Hatsun Agro) to account for lower CFO/EBITDA(%) (50% lower) and higher working capital requirements (30% of sales vs 5%)

Source: Bloomberg


Revenue ((INR mn)

YoY (%)

EBITDA (INR mn)

EBITDA Maargin ((%)

Adj PAT (INR mn)

YoY (%)

Fully DEPS (INR)

RoE (%)

RoCE (%)

P/E (x)

EV/EBITDA (x)

FY17 14,099 20.7 1,268 9.0 470 102.1 4.8 7.0 8.8 27.7 11.7

FY18E 15,931 13.0 1,523 9.6 497 5.8 5.1 7.0 10.0 26.2 9.7

FY19E 18,003 13.0 1,839 10.2 690 39.0 7.1 9.0 12.0 18.8 8.0

FY20E 20,343 13.0 2,231 11.0 929 34.6 9.5 11.0 14.2 14.0 6.9



Initiating Coverage

Prabhat Dairy

Rating: Buy Target Price: INR 160 Upside: 20% CMP: INR 133 (as on 4 September 2017)

Key data Bloomberg /Reuters Code PRABHAT IN/PRDA.BO




Face Value (INR) 10

1 US$= INR 64.1


Price & Volume

Source: Bloomberg


Promoter 44.4 44.4 48.9 48.9


Other Investor 40.0 39.8 35.8 37.2

General Public 9.1 10.2 8.8 6.6

Source: BSE


Sensex 1.5 9.0 9.2

Prabhat dairy 17.6 3.4 41.0

Parag 5.0 10.1 (25.8)

Heritage foods 30.3 33.4 96.4

Source: Bloomberg

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Prabhat Dairy


Valuation trigger


Valuation overview (FY20E) EV/Sales (x)


EV/Sales (x) 0.8

EV (INR mn) 16,812


Cash (INR mn) 1,522

Net Debt (INR mn) 2,191


TP (INR/Share) 150

CMP (INR/Share) 133

Upside (%) 12.5

Implied P/E(x) 15.7

EV/EBITDA (x)


EV/EBITDA (x) 8.3

EV (INR mn) 18,556


Cash (INR mn) 1,522



TP (INR/Share) 168

CMP (INR/Share) 133

Upside (%) 26.0

Implied P/E(x) 17.6

Weighted TP (INR) 160

CMP (INR) 133

Upside (%) 20



Valuation driver


Investment summary

� Prabhat sources 70% of its milk directly giving it an advantage over forward integrated B2B players

� Strategically located in milk surplus region and in close proximity to its B2B clients

� Ahmednagar has high population of high yielding cross-bred cows growing at 4% p.a.

� Milk procurement of Prabhat expected to grow at 16% p.a. and reach 1.4MLPD by 2020

� Targeting Tier-2&3 cities in Maharashtra as they are less cluttered and fast growing

� Targeting mid-sized QSR chains/HORECA segment and less cluttered markets in Maharashtra for selling Cheese

Valuation trigger

� VAD to become 40% of sales by FY19

� VAD to become 50% of sales by FY20

Key risks

� Execution risk of increasing capacity utilization of the cheese plant

� Disproportionate increase in inventory and receivables due to higher salience of cheese

� Extending financial support to distributors to stock their products in order to increase B2C salience

Our assumptions

� Expect gross margin and operating margin to expand by 156bps/197 bps in FY17-20E due to better product mix, and operational leverage due to increase in cheese plant utilization

� Expect EBITDA to grow at 21% CAGR in FY17-20E led by high growth and increase in B2C sales

� Adj PAT expected to grow at 36% CAGR in FY17-20E period led by lower interest costs

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Prabhat Dairy

Dai

ry


Financials (YE March) Income Statement (INR mn) FY17 FY18E FY19E FY20E Net Revenue 14,099 15,931 18,003 20,343 EBITDA 1,268 1,523 1,839 2,231 Add Non operating income 13 13 13 13 OPBITDA 1,281 1,535 1,852 2,244 Less: Depreciation & Amortization 432 423 450 485 EBIT 836 1,100 1,389 1,745 Less Interest Expense 294 371 371 371 PBIT 849 1,112 1,401 1,758 Less Taxes 274 245 340 458 Minority Interests - - - - Adjusted PAT 280 497 690 929 Add or less extraordinary items - - - - Reported PAT 280 497 690 929 Balance Sheet (INR mn) FY17 FY18E FY19E FY20E Share capital 977 977 977 977 Reserves 5,905 6,356 7,001 7,884 Minority Interests - - - - Borrowings 3,714 3,714 3,714 3,714 Deferred Tax (Net) 159 159 159 159 Other long term liabilities - - Total Liabilities 10,754 11,205 11,850 12,733 Net Block 4,150 4,227 4,277 4,291 Add: Capital work in progress 265 265 265 265 Goodwill - - - - Investments 567 567 567 567 Cash 1,656 967 1,120 1,462 Net working capital 4,130 5,193 5,635 6,161 Other assets (14) (14) (14) (14) Total Assets 10,754 11,205 11,850 12,733 Cash flow statement (INR mn) FY17 FY18E FY19E FY20E Cash profit adjusted for non-cash items 1,391 1,278 1,499 1,773 (Inc)/Dec in working capital (1,191) (1,063) (442) (526) Operating cash flow 200 215 1,058 1,247 Less: Capex 394 500 500 500 Free cash flow (194) (285) 558 747 Financing cash flow 2,221 (417) (417) (417) Investing cash flow (393) (487) (487) (487) Net change in cash 2,028 (689) 153 342 Ratio Analysis FY17 FY18E FY19E FY20E Income statement Ratios (%) Revenue growth 20.7 13.0 13.0 13.0 EBITDA growth 9.9 20.1 20.8 21.3 PAT growth 20.7 77.1 39.0 34.6 EBITDA margin 9.0 9.6 10.2 11.0 Net margin 2.0 3.1 3.8 4.6 Return and liquidity ratios Net debt/Equity (x) 0.3 0.3 0.3 0.2 ROE (%) 4.2 7.0 9.0 11.0 ROCE (%) 9.0 10.1 12.2 14.3 Per share data and Valuation ratios Diluted EPS (INR) 4.8 5.1 7.1 9.5 EPS growth (%) 102.1 5.8 39.0 34.6 DPS (INR) - - - - P/E (x) 28.4 26.8 19.3 14.3 EV/EBITDA (x) 12.0 10.4 8.5 6.9 EV/Sales (x) 1.1 1.0 0.9 0.8 Price/Book (x) 1.9 1.8 1.7 1.5 FCFF yield (%) (1.5) (2.1) 4.2 5.6 Dividend yield (%) - - - -






Return ratios


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Prabhat Dairy


Prabhat sources 70% of its milk requirements directly; giving it a distinct advantage over forward integrated players Prabhat dairy is a western dairy major with total milk procurement capacity of 1.5MLPD and is based out of milk surplus region of Ahmednagar, Maharashtra with plants located in Shrirampur and Navi Mumbai. The company procures around 70% of its total milk requirement (~1MLPD) from its network of more than 85,000 farmers and registered vendors. As of 31st Mar’17, the company had 481 milk collection centres and 115 bulk milk coolers across 600 villages.

The company procures around 70% of its milk requirement directly from the farmers ('Prabhat Mitras') in order to maintain the high quality of milk and due to consistent delivery on the quality front, the company is able to command a high gross margin of around 22-23%. The company has a stabilised operating margin of around ~9-10%, which is higher than other B2B players (drawing 7-8% operating margin) which primarily sell milk powders by sourcing milk from several bulk milk agents.

The second advantage of sourcing directly is that it’s a key requirement for catering to large MNC clients due to quality assurance reasons and also that VAD requires high quality milk sourced within less than 25Kms from the chilling centre. Hence Prabhat is ahead of other B2B players which are forward integrated and will remain restricted to making commodity dairy products like SMP.

Long standing relationship with leading global and domestic FMCG companies The company is primarily a specialty ingredients supplier in the B2B segment and has large dairy players like Modelez (Sweetened condensed milk or SCM), Abbott Healthcare Private Ltd (speciality milk powders) and Britannia, Gokul, Mahanand, Mother Dairy, Heritage Foods ltd as a co-manufacturing partner for products such as UHT milk, curd and ice creams. The company’s long standing relationship with these large MNCs has not only increased the consumption of their milk produced, provided a stable revenue source, but also has helped them align their quality standards in-line with global food benchmarks.

Recent client wins in B2B segment

� Entered into an MOU with Nutridor Ltd. Thailand for being it’s co-manufacturer for Cow Ghee, Mozzarella Cheese and Sweetened Condensed Milk.

� Cheese, Skimmed Milk Powder and Butter supplies to Dabon International

� Cheese supplies to Domino’s Sri Lanka & Britannia

Rock solid foundation � Prabhat sources 70% of its milk directly giving it an advantage over forward integrated B2B players

� Long standing relationship with leading global and domestic FMCG companies

� Strategically located in milk surplus region and in close proximity to its B2B clients

� Ahmednagar has high population of high yielding cross-bred cows growing at 4% p.a.

� Milk procurement of Prabhat expected to grow at 16% p.a. and reach 1.4MLPD by 2020

Exhibit 1: Key B2B clients of Prabhat Dairy


Prabhat Dairy

Dai

ry


Exhibit 2: Prabhat has the largest sweetened condensed milk plant in Asia with capacity of 180MT/Day and 3rd largest cheese plant after Amul and Parag Milk Foods Ltd

Production/PProcessing Capacity Shrirampur Navi

MMumbai Total

Aggregate milk processing capacity (in litres per day)

11,00,000 4,00,000 15,00,000

Pasteurized and Pouch Milk (in litres per day)

2,00,000 3,00,000 5,00,000

Milk powder (Kg) 36,000 - 36,000

Condensed Milk (in kgs per day) 1,80,000 - 1,80,000

Clarified Butter (Ghee) (in kgs per day)

20,000 - 20,000

Flavored Milk (in litres per day) 15,000 - 15,000

Butter (in kgs per day) 2,500 - 2,500

Ice Cream (in litres per day) - 10,000 10,000

Curd (Flavored Yogurt, Pouch Curd) (in kgs per day)

- 40,000 40,000

UHT Milk (in litres) 40,000 - 40,000

Cheese (Cheddar/ Mozzarella/Processed) (in kg per day)

30,000 - 30,000

Paneer (in kgs per day) 5,000 - 5,000

Shrikhand (in kgs per day) 5,000 - 5,000


Strategically located in milk surplus region and in close proximity to its B2B clients The company makes operating margin of close to 9-10% which is the highest in the industry as the production facilities are strategically located in Shrirampur (Ahmednagar), in close proximity to both milk generating regions (Ahmednagar – has highest population of female cross bred cows ~26% of total in Maharashtra) and in Navi Mumbai, a target market for end products. It does majority of its procurement within 160kms radius.

Exhibit 3: Freight forwarding costs of Prabhat is lower than peers as it sources and sells in a close vicinity


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0.9 0.8 0.8 0.8

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FY15 FY16 FY17 FY18E FY19E FY20E

(%)

Exhibit 4: Milk surplus districts in Maharashtra

Note: Map not to scale; Source: NDDB – ‘Dairying in Maharashtra – A Statistical Profile, Elara Securities Research

Ahmednagar

Akola

Amravati

Aurangabad

Beed

Buldhana Chandrapur

Dhule

Gadchiroli

Gondia

Hingoli

Jalgaon

Jalna

Kolhapur

Latur

Mumbai City

Mumbai Suburban

Nagpur

Nanded

Nandurbar

Nashik

Osmanabad

Parbhani

Pune Raigad

Ratnagiri

Sangli

Satara

Sindhudurg

Solapur

Thane

Wardha

Washim Yavatmal

Alibag

District HQ

Census Year 2001

Prabhat Dairy


Exhibit 5: Parag milk foods spends around 4.3% of sales on Freight costs as the operations are more spread out


Milk procurement expected to reach 1.4MLPD by 2020 recording a CAGR of 16% in the period In Maharashtra, more than three-fourth of the agriculture is rain-fed. Moreover uneven distribution of rainfall across various regions of the state and also with erratic pattern, dairying is gaining importance as a source of livelihood for the small and marginal farmers of the state. Prabhat is expected to operate its business within Maharashtra for at least the next 2-3 years, and will be using its proprietary milk procurement models to increase its milk procurement by 1) increasing milk productivity of existing milch cattle 2) encourage more farmers to join their network for direct milk procurement 3) encouraging farmers to buy more cattle in order to expand their revenue from dairy.

Exhibit 6: Milk collection centre in Maharashtra

Source: NDDB – ‘Dairying in Maharashtra – A Statistical Profile

Prabhat is located strategically in Western region of Maharashtra where Dairying is prevalent

As per “19th Livestock Census-2012”, bovine population in Maharashtra has declined by about 5 per cent to 2.1 crore as against 2.2 crore in 2007. While crossbreds cattle increased by 19 per cent, local cows and buffaloes have shown 8-9 per cent decline. However, the indigenous cattle and buffalo milch population declined by 5-7 per cent between 2007 and 2012, while there has been an impressive growth of 26 percent in crossbred milch animals. Region-wise, the Marathawada and Vidarbha regions are characterised by frequent droughts, cracked soils, parched wells, dry hand pumps, low yielding livestock and accordingly, dairying is relegated to western parts of the state. The perpendicular strip of land in western part comprising of Ahmadnagar, Nasik, Pune, Satara, Sangli, Kolhapur and Solapur districts comprises more than one-third of bovine population of the state, mainly crossbred cows and buffaloes.

Exhibit 7: Ahmednagar has 26% of the total population of cross bred cows in Maharashtra

Source: NDDB – ‘Dairying in Maharashtra – A Statistical Profile, Elara Securities Research

Exhibit 8: Ahmednagar has 26% of the total population of in-milk cross bred cows in Maharashtra


2.7%

1.2%

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3.9% 3.8% 4.3% 4.5% 4.5% 4.5%

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Kolhapur 5

Nashik 7

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Solapur 10

Others 28

District wise Female Cross Bred Population (%) - 2012

Ahmadnagar 26

Kolhapur 6

Nashik 6

Pune 14

Sangli 6

Satara 6

Solapur 10

Others 25

District wise in-milk population (2012)

Prabhat Dairy

Dai

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Exhibit 9: Types of crossbred cows grown in Ahmadnagar – Total population of 818k crossbred cows


Exhibit 10: Cattle Milk Yield (Kg/day)


Exotic Cattle

1%

Jersey crossbred

33%

Holstein Friesian

Crossbred 66%

Other crossbred

0%

Exotic and crossbred cattle population in Ahmadnagar

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Indigenous Crossbred Buffalo

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Ahmadnagar Mumbai

Exhibit 11: Maharashtra is a cow belt as cattle population is 73.5% of total bovine population

1992 1997 2003 2007 2012

CAGR (%) (1992--2012)

Total Bovine 2,28,88,246 2,41,44,225 2,24,47,724 2,22,56,144 2,10,78,599

Growth (%) 5.5 (7.0) (0.9) (5.3)

Total Cattle 1,74,41,008 1,80,71,537 1,63,03,019 1,61,83,527 1,54,84,207 (1.0)

Growth (%) 3.6 (9.8) (0.7) (4.3)

Total Cattle as % of total Bovine Population 76.2 74.8 72.6 72.7 73.5

1992 1997 2003 2007 2012

CAGR (%) (1992--2012)

Total Bovine 2,28,88,246 2,41,44,225 2,24,47,724 2,22,56,144 2,10,78,599 0

Growth (%) 5.5 (7.0) (0.9) (5.3)

Total Cattle 1,74,41,008 1,80,71,537 1,63,03,019 1,61,83,527 1,54,84,207 (1.0)

Growth (%) 3.6 (9.8) (0.7) (4.3)

% of total Bovine Population 76.2 74.8 72.6 72.7 73.5

Total Indigenous cows 1,56,71,675 1,56,14,653 1,35,27,018 1,30,61,236 1,18,33,330 (1.0)

Growth (%) (0.4) (13.4) (3.4) (9.4)


Total Buffaloes 54,47,238 60,72,688 61,44,705 60,72,617 55,94,392 0.0

Growth (%) 11.5 1.2 (1.2) (7.9)


Total Exotic/ Crossbred cows 17,69,333 24,56,884 27,76,001 31,22,291 36,50,877 4.0

Growth (%) 38.9 13.0 12.5 16.9

% of total Bovine Population 7.7 10.2 12.4 14.0 17.3 Source: NDDB – ‘Dairying in Maharashtra – A Statistical Profile, Elara Securities Research

Prabhat Dairy


Exhibit 12: Distribution of Holstein Friesian and Jersey Crossbred

Note: Map not to scale; Source: NDDB – ‘Dairying in Maharashtra – A Statistical Profile, Elara Securities Research

Ahmednagar

Akola

Amravati

Aurangabad

Beed

Buldhana Chandrapur

Dhule

Gadchiroli

Gondia

Hingoli

Jalgaon

Jalna

Kolhapur

Latur

Mumbai City

Mumbai Suburban

Nagpur

Nanded

Nandurbar

Nashik

Osmanabad

Parbhani

Pune Raigad

Ratnagiri

Sangli

Satara

Sindhudurg

Solapur

Thane

Wardha

Washim Yavatmal

Alibag

Holstein Friesian CrossbredMajor Distribution

Minor Distribution

Ahmednagar

Akola

Amravati

Aurangabad

Beed

Buldhana Chandrapur

Dhule

Gadchiroli

Gondia

Hingoli

Jalgaon

Jalna

Kolhapur

Latur

Mumbai City

Mumbai Suburban

Nagpur

Nanded

Nandurbar

Nashik

Osmanabad

Parbhani

Pune Raigad

Ratnagiri

Sangli

Satara

Sindhudurg

Solapur

Thane

Wardha

Washim Yavatmal

Alibag

Jersey CrossbredMajor Distribution

Minor Distribution

Prabhat Dairy

Dai

ry


Prabhat specialises in cow milk products as that is more preferred by consumers both domestically and internationally

Maharashtra’s total bovine population (cows+buffaloes) is skewed towards cows (73.5% of total bovine population). Prabhat has the strategic advantage of being located in this region and hence sourcing becomes easier. On the other hand, globally, all major milk exporters (EU, NZ) are cow milk producers which helps Prabhat is being a partner of choice for many B2B players. While domestically consumer tastes are also developing more in favour of cow milk than buffalo due to its low fat content.

Indigenous cows comprise the largest portion of the bovine population The low milk yielding indigenous cow population has been declining at -1% CAGR in 1992-2012 period while exotic or cross bred cows have be growing at 4% CAGR in the same period.

Exhibit 13: Share of in-milk indigenous cows have been declining due to reduction in indigenous cow population


Exotic and crossbred cows population growing at 4% CAGR in Maharashtra as it has the highest yeild

Maharashtra is growing the population of higher yielding crossbred cows by growing the female population at 4% CAGR.

Exhibit 14: Exotic or crossbred cows are now 17.3% of total bovine population up from 7.7% in 1992


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(%)

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1992 1997 2003 2007 2012

(%)

Exhibit 15: Maharashtra is a cow belt as cattle population is 73.5% of total bovine population

1992 1997 2003 2007 2012

CAGR (%) (1992--2012)

Total Exotic/ Crossbred cows 17,69,333 24,56,884 27,76,001 31,22,291 36,50,877 4.0%

% of total bovine population 7.7 10.2 12.4 14.0 17.3

Females 13,85,341 18,78,747 22,38,377 25,80,347 32,07,011 4.0%

In-milk 5,48,027 7,32,957 9,33,877 11,38,932 14,44,659 5.0%

% of female population in milk 0.4 0.4 0.4 0.4 0.5

% of total bovine population 2.4 3.0 4.2 5.1 6.9


Prabhat Dairy


Exhibit 16: Cross bred cows mainly grown for dairying purposes as female cross bred cows comprise 88% of the population


Exhibit 17: Indigenous cows grown more as beasts of burden and for farming related work


Exhibit 18: In-milk indigenous cow population in Maharashtra has been de-growing at CAGR of -1% in 1992-2012 period


Average Milk Procurement of Prabhat grown at 15% CAGR in FY12-17 period

Average milk procurement has grown at 15% CAGR in FY12-17 period. Milk procurement was adversely hit during 2HFY17 due to drought conditions prevailing in Maharashtra which led to shortage of milk production, hence the milk procurement dropped sharply. The

company substituted liquid milk requirement by buying ingredients like cream from the market and manufacturing its products. We believe that Prabhat despite being into B2B has been able to pass on inflation to its institutional clients with a lag of 2-3 months.

Average milk procurement of Prabhat has grown 3x faster than the population growth in cross bred cows

Population growth in crossbred cows in the period 2007-2012 has been around 3.2% and average milk procurement for Prabhat has grown at 15% p.a. in the same period.

Exhibit 19: Growth in population of cross bred cows in Maharashtra


Exhibit 20: Milk procurement of Prabhat expected to grow at 16% p.a. and reach 1.4MLPD by 2020


Long standing relationships with B2B clients converted into in-house expertise

One of its largest and oldest institutional client to which it supplies sweetened condensed milk (18% of revenues) is Mondelez India Foods Private Ltd based out of Pune. Sweetened condensed milk is sold both as a finished product and as a vital ingredient for the manufacturing of certain foods (such as chocolates, confectionaries and bakery items). Prabhat acts as dedicated supplier of SCM for Mondelez. Prabhat commenced selling condensed milk to Cadbury’s in 2008 and then in 2010 set up a

78.3 76.5

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92

1992 1997 2003 2007 2012

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(%)

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(%)

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1997 2003 2007 2012

(%)

0.45 0.61

0.78 0.90

1.07

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Prabhat Dairy

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ry


dedicated condensed milk plant for Cadbury’s. They have appointed Mr. Sridhar Vishwanath (ex-Mondelez, 16+ years of experience) as Commercial Director in FY17 to boost the B2B business in specialty ingredients.

Prabhat derives 53% of its sales from top 10 clients

Exhibit 21: Prabhat Dairy: Key Institutional Clients Some of their institutional ccustomers for speciality ingredient products include the ffollowing: CCustomer

Specialty Ingredient Products partnerships

Mondelez India Foods Private Limited (formerly known as Cadbury India Limited

Sweetened condensed milk, Skimmed / Whole milk powder, Full cream milk for chocolates

Abbott Healthcare Private Limited

Speciality milk powder for baby food

GSK Consumer Healthcare, Heinz

Speciality milk powder for malted food drinks and sweetened condensed milk


Co-manufactured Products: Co-manufactured products include specialty milk powders, curd (dahi), clarified butter (ghee), dairy whiteners, yogurts, processed and concentrated milk, and ice creams for various institutional customers including Britannia Industries Limited, Mother Dairy Fruit & Vegetable Private Limited and Heritage Foods Limited.

Exhibit 22: List of Institutional Customers for Co- Manufactured Products Some oof our institutional customers for co-manufactured products include the following: Customer

Co-Manufactured Products

Heritage Foods Limited dairy whitener; curd (dahi); butter milk

Britannia Industries Limited UHT milk, lassi, yogurt, dairy whitener, clarified butter (ghee), curd (dahi), flavoured milk

Mother Dairy Fruit & Vegetable Private Limited

Ice cream; milk candies


Prabhat Dairy


Increasing B2C presence within Maharashtra through unique distribution model For the B2C foray, the company is increasing its distribution network for curd(fast moving product with low working capital requirements) in cities like Pune, Nasik and Aurangabad, which are within its catchment area. The company has 270 sales professionals to service the retail outlets on a regular basis (almost every 2-3 days) since Prabhat is selling fresh milk products in Maharashtra which needs frequent replenishment.

Targeting Tier-2&3 cities in Maharashtra as they are less cluttered and fast growing

Maharashtra is the second richest state amongst all major states in India in terms of Net Domestic Product. It has one of the fastest growing economy in India with sustained higher growth rate and its per capita income is significantly higher than national average. Tier –II cities are emerging as software export hubs hence leading to faster economic growth and hence increasing the spending and purchasing power of the region. The four urban districts of Mumbai, Thane, Pune and Nasik account for 50% of the state income and balance 31 districts share the remaining other half. These four urban districts account for 45% of the population of

Targeting less cluttered Tier-2/3 cities for B2C products � Increasing B2C presence within Maharashtra through unique distribution model – ‘Raftaar’

� Aggressive product launches in the last 2 years to cater to B2C customers

� Targeting Tier-2&3 cities in Maharashtra as they are less cluttered and fast growing

� B2C business supported through brand investments

� Targeting mid-sized QSR chains/HORECA segment and less cluttered markets in Maharashtra for

selling Cheese

� Foray into B2C should be margin accretive despite increase in brand investments

Exhibit 23: Unique distribution model ‘Raftaar’ adopted for distributing curd and supported by OOH advertising

Launched Dahi with no preservatives in Mumbai. Adopted a unique model for distribution of fresh Dahi for the first time in Indiaunder the project called ‘Raftaar’ which delivers fresh Dahi in chilled vans / mopeds with chilled box at the back to 10,000 grocery shops in Mumbai.

Source: Company

Prabhat Dairy

Dai

ry


Maharashtra hence giving a huge locational advantage to players like Prabhat. In order to encash this catchment area in Tier-II cities, the company has built a distribution network for the HORECA segment (as proxy retail

product) exclusively for curd, paneer and cheese for daily requirements.

Exhibit 24: Aggressive product launches in the last 2 years to cater to B2C customers

Source: Company

Launched FFresh Paneer in an attractive thermoform ppackaging, extending the shelf life from 15 days to 21 days.

Prabhat Dairy


Exhibit 25: B2C business supported through brand investments


Gradually establishing pan-India presence through modern retail

Outside the state, the company has established presence in major metropolitan cities and is now available across 1,10,000 retail outlets across 26 states in India. The company’s distribution network comprised of 40 super stockists, 6 C&F agents, 135+ modern trade outlets, and 1200 distributors as of Mar’17.

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1.4

FY15 FY16 FY17 FY18E FY19E FY20E

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Ad-spends as % of sales

Prabhat Dairy

Dai

ry


Exhibit 26: Advertising Ghee and other products during festival season offline and online


Ganpati Festival Campaign

Social Media Campaign

Prabhat Dairy


� Products like Cottage Cheese, Curd, Lassi, Butter Milk and Shrikhand are retailed in Modern Trade shelves like Big Bazaar, Star Bazaar, Hypercity, D-Mart, etc

� Measures in Modern trade have been extended beyond Mumbai in Maharashtra and also Gujarat.

Expanding reach to Northern and Southern Indian markets especially for long shelf like products like Ghee and Cheese, Curd and Cottage Cheese

Exhibit 27: Prabhat’s increasing its footprint by getting listed in modern retail outlets


Prabhat Dairy

Dai

ry


Exhibit 28: Prabhat’s distribution and supply chain network

Note: Map not to scale; Source: Company, Elara Securities Research

Assam

Bihar

Goa

Gujarat

Himachal Pradesh

Jammu and Kashmir

Jharkhand

Karnataka

Madhya Pradesh

Maharashtra

Meghalaya

Orissa

Punjab

Rajasthan

Tamil Nadu

Tripura

Uttar Pradesh

Uttarakhand

Chandigarh

Dadra and Nagar Haveli

Daman and Diu

Delhi

Pondicherry

Telangana

Retail presence across states in India

Milk procurement districts in Maharashtra

Facility locations

28 States250+ Sales professional800+ Distributors

Prabhat Dairy


Exhibit 29: Prabhat’s Pure Cow Ghee is present in 26 states in 1lac + retail outlets benefitting from the category tailwind


Targeting mid-sized QSR chains/HORECA segment and less cluttered markets in Maharashtra for selling Cheese

The company has gradually picked up pace of entering into value added products in the B2C segment and has commissioned a 30MTPD cheese plant (FY17) to cater to the institutional market in the HORECA (hotels, restaurants and catering) segment along with pan-India QSRs like Domino’s, KFC etc. The company has established its cheese brand in HORECA segment in Maharashtra and Gujarat last year and now plans to foray into South and North India. They are planning to operate in less cluttered segments like mozzarella cheese for small and mid- sized pizza chains. We believe that the margins are unlikely to see any contraction in the coming years as it will primarily focus on catering to the institutional business in Maharashtra or to the retail consumers in the interiors of Maharashtra where the competition from big multinational companies is far lower.

Foray into B2C should be margin accretive despite increase in brand investments

We believe that with the entry into value added products (VAP) like cheese, paneer, curd, flavored milk etc through B2C and B2B channel, the advantage will continue to stay as they are targeting Tier 2/ 3 cities in Maharashtra and Gujarat. Consumer expenditures in Tier 2/3 cities have been rising at the rate of 14% YoY and in metros at the rate of 12% YoY. Secondly, VAP and B2C fetches 300bps higher gross margin (~25%) compared to the existing gross margin profile of the company. We have accounted for high growth in ad-spends (CAGR of 13% in FY17-20E period) as Prabhat intends to increase its presence outside Maharashtra and has ventured into North and South India as well. We believe Prabhat will be able to expand its margin despite an increase in ad-spends. Therefore, we estimate that operating margins for Prabhat to be around 11% (+200bps expansion from current 9% levels).

Gross margin expected to expand due to higher sales from VAP (B2C) and cheese (B2B)

In cheese category, Parag, Amul, Prabhat and Schreiber Dynamix are key players in this market which is around INR18 bn in size and is growing at 10-15% p.a. Cheese is a fast growing category as out of home consumption is also spurring in-home consumption by consumers in the form of cheese slices, spreads etc. Secondly, cheese market is highly lucrative at the premium end where specialty cheese can fetch margins as high as 40-50% for branded players. Therefore, as opposed to the fresh milk products or commoditized products like SMP, selling value added products like cheese will fetch better margins for Prabhat Dairy. Currently the gross margin hovers around 22-23% while Cheese has gross margin upwards of 25% (at realizations fetched from institutional buyers like QSRs). And with the huge plans of expansion for the whole QSR industry going ahead, we remain confident that the gross margin profile can structurally see an improvement, albeit gradually.

Exhibit 30: Share of revenues between B2B and B2C


Exhibit 31: B2C as % of sales


11 30

50

89 70

50

0

20

40

60

80

100

FY12 FY17 FY20E

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B2C B2B

11 14 14

24 28 30

36 42

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Prabhat Dairy

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Exhibit 32: Gross Margin expected to expand due to VAD


Operational leverage to come into play with increasing capacity utilization in pouched milk and value added products curd, UHT milk and cheese segment

Exhibit 33: SG&A as % of sales expected to come down


Exhibit 34: Operating margin (%) expected to improve due to operational leverage


Cheese production ramp-up underway

The company commissioned a new plant in Sept'15 for Cheese (30 TPD), Paneer (5TPD) and Shrikhand (5TPD) post a capex of INR1.4bn. This is the 3rd largest cheese plant in India. Given that the asset turn in cheese or any value added product is generally around 3x, we estimate that peak revenues from the cheese facility could be around INR3bn. The capacity utilisation of cheese is

around 20%- 22% at the moment and it is expected to reach around 40%.

The company strategy to grow cheese business over next 2-3 years:

� Initially focus on selling cheese to HORECA and B2B segments and exports to Gulf countries.

� They have already procured orders from major pizza and burger chains like Dominos, Pizza Hut, Mc Donald’s and other QSRs.

� Currently manufactures following types of Cheese-

� Processed Cheese (Hard, Soft & Pizza)

� Mozzarella Cheese (Diced & Shredded)

� Cheddar Cheese

� Ricotta Cheese

� Cheese sales in HORECA segment have already started in Maharashtra and Gujarat and are planned in South India and North India.

Exhibit 35: Key Institutional Clients In Cheese:

Source: Company

Prabhat reduced its salience in liquid milk during inflationary periods to curb excess margin erosion

During FY17, the liquid milk prices shot up by 25% in Western region due to shortage of milk supply in the flush season (Oct-Feb) in India. Additionally, global milk powder prices started inching upwards from June 2016 onwards due to cut back in supply by major exporters leading to a huge pressure on margins for dairy companies. As a result, dairy companies resorted to buying milk ingredients like powder, cream, butter oil for diverting their direct milk procurement (high quality milk) for only value added products irrespective of whether they were selling it for B2C or B2B customers. Prabhat followed the same approach as a quick response to the situation and has applied the same technique previously to avoid excessive margin erosion. Secondly, Prabhat was able to pass on the inflation with a shorter lag of 2-3 month (other players took at least 6 months) to pass on the inflation to its B2B customers since it operates on cost+ basis.

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Prabhat Dairy


Exhibit 36: Milk prices prevailing in Maharashtra (INR/Ltr)


Exhibit 37: Change in milk prices in Maharashtra YoY (%)


Liquid milk sales and condensed milk sales reduced during FY17 while SMP sales improved due to better realisations

Exhibit 38: Prabhat revenue mix as per FY16


Exhibit 39: Prabhat Revenue Mix as per FY17


Average milk selling price has grown at 6% CAGR while procurement costs have risen at CAGR of 8% in FY12-17 period thereby leading to contraction in margin for the liquid milk business.

Exhibit 40: Increase in milk realization lags inflation


Exhibit 41: Average milk procurement cost rose sharply in FY17


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26 26 26 25 25 23

19 21 21 21

26 26 27 29 27

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Processed and pouch milk , 21%

Condensed and

concentrated milk ,

24%

Flavored milk, 0% Curd, 2%

Ghee and Butter ,

22%

Ice cream , 1%

SMP, WMP, DW , 29%

Cheese, paneer,

shrikhand , 0

Others , 1%

Processed and pouch milk , 14%

Condensed and

concentrated milk ,

12%

Flavored milk, 0%

Curd, 2%

Ghee and Butter ,

21% Ice cream ,

1%

SMP, WMP, DW , 46%

Cheese, paneer,

shrikhand , 3%

Others , 1%

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Prabhat Dairy

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Exhibit 42: Gross Spread (INR/Ltr) impacted due to inflation


Exhibit 43: Gross Margin (%) in liquid milk dipped in FY17


Blended Gross Margin for Prabhat contracted for almost 6 quarters due to global commodity deflation in FY16 and then domestic inflation in FY17

Exhibit 44: Gross Margin impacted for prolonged period


Exhibit 45: EBITDA Margin impacted due to steep inflation


Parag Milk Foods had taken a bigger hit during the same period as they increased milk procurement

Exhibit 46: Gross Margin dipped sharply in 3QFY17..


Exhibit 47: …EBITDA margin was impacted due to higher ad-spends


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Prabhat Dairy


Striking a fine balance: Growth & Capital Exhibit 48: Sales expected to grow at 13% CAGR in FY17-20 period


Exhibit 49: EBITDA expected to grow at 21% CAGR in FY17-20 period


Exhibit 50: PAT expected to grow at 26% CAGR in FY17-20 period


Net working capital requirement expected to rise despite rise in B2C sales as Cheese inventory will negate the gains

Currently the working capital requirement of B2B businesses in dairy is typically higher than B2C because higher credit terms (~90 to 180 days) extended to the institutional customers. As B2C businesses usually operate on cash or just 7 days of receivables, the working capital requirements of dairy companies will tend to come down with increasing proportion of sales coming from retail especially in fresh milk products. Prabhat has guided for 50% of its sales coming from B2C products in next 3 years. We have adjusted the working capital requirements keeping in mind that B2C business carries only 7 days of receivable days and zero inventory days. While increasing sales contribution from cheese business will add to the inventory days due to the curing process, we believe the lower traction from milk powder inventory should net off the two effects since the receivables days in milk powder days is almost close to 90 days.

Exhibit 51: Cash conversion cycle close to 4.5months


Exhibit 52: Inventory Days expected to increase further due to higher cheese production


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Prabhat Dairy

Dai

ry




Exhibit 54: Receivable days expected to drop due to higher traction of B2C sales going forward


Exhibit 55: Loans and advances days


Exhibit 56: Creditor days


Exhibit 57: Cash flow from operations was affected due to increase in SMP inventory in FY17


Exhibit 58: Most of the capex has been done, expect only milk procurement capex to continue in next 3 years


Exhibit 59: Fixed asset turn to improve due to ramp up in cheese plant utilisation from 22% to 40%


27 29

26 30 29 31

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(INR

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(1,092) (1,136)

(674)

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(x)

Fixed Asset Turn

Prabhat Dairy


Exhibit 60: ROCE expected to improve on the back of higher cheese plant utilization


Exhibit 61: Interest expenses expected to remain stable (INR mn)


8.5

11.1 10.5 10.3 9.6 8.8

10.0

12.0

14.2

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(%)

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297 330

412 427

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371 371 371

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Prabhat Dairy

Dai

ry


Initiate coverage with Buy rating and TP INR 160 Prabhat dairy is a western dairy major with total milk procurement capacity of 1.5MLPD and is based out of milk surplus region of Ahmednagar, Maharashtra with plants located in Shrirampur and Navi Mumbai. The company procures around 70% of its total milk requirement (~1MLPD) from its network of more than 85,000 farmers (‘Prabhat Mitras) in order to maintain the high quality of milk and due to consistent delivery on the quality front. We believe Prabhat is well positioned to remain a partner of choice as a specialised ingredient supplier major dairy brands in India, given that it is located in one of the fastest growing milk production regions within Maharashtra. We expect Prabhat to report a 13%/21%/36% CAGR in Sales/EBITDA/Adj. PAT in-line with the growth reported in FY12-17 period.

We have valued the stock based on two valuation methodologies:

� We are pegging EV/Sales(x) multiple at 0.8x FY20E estimates, in line with its historical trading multiple (limited stock price history) at 20% discount to B2C players in pouch milk to account for lower return ratios (50% lower than HFL and Hatsun Agro) and lower cash flows to EBITDA (30-40% vs >100% for HFL)

� We are pegging the EV/EBITDA(x) multiple at 8.4x at ~50% discount to completely integrated (forward and backward) and high CFO generating peers like HFL and Hatsun Agro as they have much lower working capital requirements.

� We arrive at a TP of INR160 with an upside of 20% from current levels with an implied P/E(x) multiple of 17x on FY20E EPS estimate of INR9.5


FY20E

EV/Sales (x)


EV/Sales (x) 0.8

EV (INR mn) 16,812


Cash (INR mn) 1,522



TP (INR/Share) 150

CMP (INR/Share) 133

Upside (%) 12.5

Implied P/E(x) 15.7

EV/EBITDA (x)


EV/EBITDA (x) 8.3

EV (INR mn) 18,556


Cash (INR mn) 1,522



TP (INR/Share) 168

CMP (INR/Share) 133

Upside (%) 26.0

Implied P/E(x) 17.6


CMP (INR) 133

Upside (%) 20



Valuation & Recommendation � Initiate with a Buy rating on Prabhat with TP INR160 implying upside of 20%

� Expect gross margin and operating margin to expand by 156bps/197 bps in FY17-20E due to

better product mix, and operational leverage due to increase in cheese plant utilization

� Expect EBITDA to grow at 21% CAGR in FY17-20E led by high growth and increase in B2C sales

� Adj PAT expected to grow at 36% CAGR in FY17-20E period led by lower interest costs

Prabhat Dairy


Relative Valuation: Trading at B2B valuations Exhibit 63: 1-yr forward EV/Sales Band


Exhibit 64: 1-yr forward rolling EV/Sales


Exhibit 65: 1-yr forward EV/EBITDA Band


Exhibit 66: 1-yr forward rolling EV/EBITDA


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(INR)

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(INR)

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Rolling 2yr fwd Ev/EBITDA Avg +1 Std dev -1 Std dev -2 Std dev +2 Std dev

Prabhat Dairy

Dai

ry


Board of Directors & Management Mr. Sarangdhar R Nirmal (Chairman and Managing Director)

Sarangdhar R Nirmal is the Chairman and Managing Director of the Company. He holds a Bachelor’s degree in Commerce from the University of Poona and a Master’s degree in Business Administration from the University of Poona. He has been a Director of our Company since November 25, 1998. He has also worked with Pravara Sugar Factory, acted as a trader of goods and then established a proprietorship firm, Nirmal Paper Industries, which was a paper board manufacturing unit based on waste paper. He has approximately 16 years of professional experience in the dairy industry. As the Chairman and Managing Director of the Company, he is involved in the business, management and operations of the Company.

Mr. Vivek S. Nirmal: (Joint Managing Director)

Mr. Vivek S. Nirmal was instrumental in the incorporation of Sunfresh Agro Industries Pvt. Ltd. (SAIPL), which later became a subsidiary of the Company. He is currently the Managing Director of SAIPL. He has approximately seven years of professional experience in the dairy industry. He is currently a member of the CII National Committee on Dairy, 2015-16. As the Joint Managing Director of the Company he is involved in the operational activities of the Company and its Subsidiaries.

Mr. Rajesh Srivastava (Independent Director)

Mr. Rajesh Srivastava is a designated General Partner in the Rabo Equity Fund (‘the Fund’), along with Rabobank. He had 28 years of professional experience prior to moving to the Fund, including 10 years in Rabo India Finance where his last assignment was as the Managing Director in charge of corporate and commercial banking.

He had also worked in agribusiness consulting for 2 years and with the South Asian Regional Apex Fund (sponsored by Lazard India) for 3 years. He started his career with the Bank of Baroda, where he worked for 12 years in Credit, 9 years in Regional/Zonal Offices in Merchant Banking and Business Development and for 2 years as a Branch Manager. He is a graduate in economics and also holds the professional law degree.

Mr. Raphael Plihon (Non-Executive Director)

Mr. Raphael Plihon has approximately eight years of experience in corporate and project finance (both debt and equity) as an investment officer and project manager for Dexia Credit Local and as an investment officer at Proparco (French Development Financial Institution). He is currently a senior investment officer in the manufacturing, agribusiness and services division of Proparco. He has the Master’s Degree in Business Administration from ESSEC.

Mr. Soundararajan Bangarusamy (Independent Director)

Mr. Soundararajan, an entrepreneur hails from a teacher’s family at Udumalpet, near Coimbatore and have a strong agricultural background. Mr. Soundararajan started his career as a trader for egg and poultry feed in the year 1985. He is a dynamic person who actively contributes to the industry and society. He served as President of the Indian Breeders Association from 2002 to 2007. He was Chairman for National Poultry Committee in 2006-07 and Vice Chairman for CLFMA from 2005 till date. He was recognized for his contribution and achievements and awarded the Best Entrepreneur and influential people by Business Today and CII (Confederation of Indian Industry). Under his able leadership, Suguna Poultry Farm Limited won the National Productivity Council Awards 7 times successively, since 1994-95 and won the Best Asian Poultry Company in 2008.

Company Description Prabhat dairy is a western dairy major with total milk procurement capacity of 1.5MLPD and is based out of milk surplus region of Ahmednagar, Maharashtra with plants located in Shrirampur and Navi Mumbai. The company procures around 70% of its total milk requirement (~1MLPD) from its network of more than 85,000 farmers and registered vendors. As of 31st Mar’17, the company had 481 milk collection centres and 115 bulk milk coolers across 600 villages. The company is primarily a specialty ingredients supplier in the B2B segment and has large dairy players like Modelez (Sweetened condensed milk or SCM), Abbott Healthcare Private Ltd (speciality milk powders) and Britannia, Gokul, Mahanand, Mother Dairy, Heritage Foods ltd as a co-manufacturing partner for products such as UHT milk, curd and ice creams. The company’s long standing relationship with these large MNCs has not only increased the consumption of their milk produced, provided a stable revenue source, but also has helped them align their quality standards in-line with global food benchmarks.

Prabhat Dairy


Mr. Haresh Shah (Independent Director)

Mr. Haresh Shah is a Chartered Accountant, Bachelors of Law and holding Ph.D. in Mergers & Acquisitions from University of Pune. He has a successful track record of practice of more than 35 years. Presently he is acting as the Chairman of HU Consultancy Pvt. Ltd., He also practices as a Chartered Accountant in the areas of audit, taxation, law, finance, etc. He is acting as an

Independent Director on the Board of Enkei Wheels India Ltd., Anvil Share & Stock Broking Pvt. Ltd., Mergers India.com. Earlier, he also acted as a Director of Vyapar Industries Ltd. He was also a Senior Partner in J.K. Shah & Co. Chartered Accountants. His practice areas covers almost all types of industrial sectors like auto ancillary, chemical & pharma, engineering, financial services, information technology, metals, real & realty, etc

Prabhat Dairy

Dai

ry


Coverage History


1

4-Sep-2017 Buy INR 160 INR 133





1

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Not Covered Covered

Prabhat Dairy


Notes



Glo

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Cheese and Whey all the way! Striving hard to grow its brand in cheese

Cheese is one of the fastest growing categories among dairy products despite being an “acquired taste” for Indians. Adoption of cheese was led largely by the growth of food service outlets (e.g. Pizza Hut, Domino‘s, KFC, McDonald’s) in the initial stages. Today, the market has expanded further into specialty stores and local restaurants across urban India as the popularity of grated cheese spilled over to Indian snacks and meals like “Dosa/ Idli/Paranthas”. TThe Indian cheese market grew at a CAGR of 26.8% during 2007 to 2014 period expected to grow at a CAGR of 31.3% from INR 15.2bn in 2015 to INR 59.4bn in 2020. Most cheese manufacturers were just catering to large institutional clients (Dominos, KFC, McDonalds) and didn’t feel the need to develop their own brand. Interestingly, the OOH consumption of cheese led to in-home consumption as well. However, we believe that building a brand in B2C cheese is difficult as ‘Amul’ has built a category around value cheese (processed cheese in the form of slices, cubes & spreads for in-home consumption) which holds chunk of the volumes and has made premium pricing difficult. HHence we expect Parag to strengthen its brand power along with increasing its distribution reach. We estimate ad-spends to increase from 3.4% in FY17 to 4.8% in FY20E for Parag.

Foraying into a nascent category of whey for protein shakes

The realizations in sweet whey currently used is very low at <INR140/Kg as it can be easily extracted from liquid whey by the same drying machines used for making SMP (commodity). The variant of whey used for fitness products called Whey Protein Isolate (WPI), is expensive to extract (INR1000/kg and upwards) as it forms only a small fraction (~1% ) out of the total sweet whey (35% of total whey) extracted from the cheese making process. Hence Parag has forayed into this market through fitness centers & e-commerce to improve its overall realizations in Whey powder.

Valuation We estimate top line to grow at a CAGR of 16% in FY17-20E period led by 20% CAGR growth in non-pouch milk segment. Expect gross margin and operating margin to expand by 280bps/143 bps in FY17-20E due to better mix, and stable distribution costs. Cash PAT expected to grow at 30.5% CAGR in FY17-20E period led by lower interest costs. We value Parag using equal weighted average of EV/Sales (x) and EV/EBITDA(x) of 1x/12.5x on FY20E at a discount to B2C players like, HFL and Hatsun Agro. We initiate coverage of Parag with Accumulate rating and TP of INR289.

Price performance

Source: Bloomberg


Revenue ((INR mn)

YoY (%)

EBITDA (INR mn)

EBITDA Maargin ((%)

Adj PAT (INR mn)

YoY (%)

Fully DEPS (INR)

RoE (%)

RoCE (%)

P/E (x)

EV/EBITDA (x)

FY17 17,307 5.2 1,082 6.3 172 (63.7) 2.0 6.0 8.1 122.3 20.9

FY18E 19,909 15.0 1,380 6.9 437 154.7 5.2 6.4 9.6 48.0 16.5

FY19E 23,000 15.5 1,502 6.5 538 23.0 6.4 7.4 10.4 39.0 15.2

FY20E 26,678 16.0 2,050 7.7 932.5 73.4 11.1 11.6 14.7 22.5 11.0



Initiating Coverage

Parag Milk Foods

Rating: Accumulate Target Price: INR 289 Upside: 16% CMP: INR 250 (as on 4 September 2017)

Key data

Bloomberg /Reuters Code PARAG IN/PAMF.BO




Face Value (INR) 10

1 US$= INR 64.1


Price & Volume

Source: Bloomberg


Promoter 47.5 47.5 47.5 48.2


Other Investor 14.3 13.4 15.4 10.3

General Public 7.3 8.1 10.5 11.6

Source: BSE


Sensex 1.5 9.0 9.2

Parag Milk Foods 5.0 10.1 (25.8)

Heritage Foods 30.3 33.4 96.4

Prabhat dairy 17.6 3.4 41.0

Source: Bloomberg

50

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ased

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Parag Milk Foods Sensex

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Vol. in mn (RHS) Parag Milk Foods (LHS)

Parag Milk Foods


Valuation trigger


Valuation overview (FY20E) EV/Sales (x)


EV/Sales (x) 1.0

EV (INR mn) 26,224


Cash (INR mn) 588



TP (INR/Share) 294

CMP (INR/Share) 250

Upside (%) 17.6

Implied P/E(x) 26.5

EV /EBITDA (x)


EV/EBITDA (x) 12.4

EV (INR mn) 25,408


Cash (INR mn) 588



TP (INR/Share) 284

CMP (INR/Share) 250

Upside (%) 13.7

Implied P/E(x) 25.6


CMP (INR) 250

Upside (%) 16



Valuation driver


Investment summary

� Categories relevant to Parag expected to grow at a faster pace

� Investing behind milk procurement and milk handling capacity to grow VAD portfolio

� Added capacity to grow high margin products like UHT, Cottage Cheese, Flavored Milk, Curd

� Investing behind brands through both ATL and BTL

Valuation trigger

1. Gross margin to touch 30% by FY20E as company is driving for mix improvement

2. Improvement in ROCE from 8% in FY17 to 14% in FY20E

Key risks

� High working capital requirements can lead to lower cash flows and hence lead to shortage of funds to grow

� Higher interest costs due to increase in short term debt could lead to lower profitability

� High inflation in milk prices could lead to lower gross margins as pricing power is low

Our assumptions

� Expect gross margin and operating margin to expand by 280bps/143 bps in FY17-20E due to better product mix, higher realizations in SMP and operational leverage

� Expect EBITDA to grow at 24% CAGR in FY17-20E led by better realization and product mix

� Cash PAT expected to grow at 30.5% CAGR in FY17-20E period led by lower interest costs

12

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Improvement in ROCE from 8% in FY17 to

14% in FY20EGross margin to touch 30% by

FY20E as company is driving for mix

improvement

23.5

(16.0) (28.2)

47.1

121.3

68.4

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(40) (20)

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CFO as % of EBITDA

Parag Milk Foods

Dai

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Financials (YE March) Income Statement (INR mn) FY17 FY18E FY19E FY20E Net Revenue 17,307 19,909 23,000 26,678 EBITDA 1,082 1,380 1,502 2,050 Add Non operating income 110 16 16 16 OPBITDA 1,192 1,396 1,518 2,066 Less: Depreciation & Amortization 490 492 514 536 EBIT 702 904 1,004 1,530 Less Interest Expense 333 320 287 287 PBT 370 583 717 1,243 Less Taxes 4 146 179 311 Minority Interests - - - - Adjusted PAT 172 437 538 933 Add or less extraordinary items - - - - Reported PAT 172 437 538 933 Balance Sheet (INR mn) FY17 FY18E FY19E FY20E Share capital 841 841 841 841 Reserves 5,733 6,171 6,708 7,641 Minority Interests - - - - Borrowings 2,623 2,123 2,123 2,123 Deferred Tax (Net) 99 99 99 99 Other long term liabilities 181 181 181 181 Total Liabilities 9,477 9,414 9,952 10,884 Gross Block 5,850 6,750 7,050 7,350 Less: Accumulated depreciation 2,261 2,753 3,267 3,802 Net Block 3,631 4,039 3,825 3,590 Add: Capital work in progress 164 164 164 164 Goodwill - - - - Investments 0 0 0 0 Cash 1,007 311 284 588 Net working capital 4,656 4,881 5,659 6,524 Other assets 19 19 19 19 Total Assets 9,477 9,414 9,952 10,884 Cash flow statement (INR mn) FY17 FY18E FY19E FY20E Cash profit adjusted for non-cash items 1,082 1,223 1,326 1,737 (Inc)/Dec in working capital (940) (226) (778) (864) Operating cash flow 142 998 549 873 Less: Capex 499 900 300 300 Free cash flow (358) 98 249 573 Financing cash flow 1,179 (820) (287) (287) Investing cash flow (390) (874) (288) (283) Net change in cash 931 (696) (26) 304 Ratio Analysis FY17 FY18E FY19E FY20E Income statement Ratios (%) Revenue growth 5.2 15.0 15.5 16.0 EBITDA growth (27.0) 27.5 8.9 36.5 PAT growth (63.7) 154.7 23.0 73.4 EBITDA margin 6.3 6.9 6.5 7.7 Net margin 1.0 2.2 2.3 3.5 Return and liquidity ratios Net debt/Equity (x) 0.2 0.3 0.2 0.2 ROE (%) 6.0 6.4 7.4 11.6 ROCE (%) 8.1 9.6 10.4 14.7 Per share data and Valuation ratios Diluted EPS (INR) 2.0 5.2 6.4 11.1 EPS growth (%) (63.7) 154.7 23.0 73.4 DPS (INR) - - - - P/E (x) 122.3 48.0 39.0 22.5 EV/EBITDA (x) 20.9 16.5 15.2 11.0 EV/Sales (x) 1.3 1.1 1.0 0.8 Price/Book (x) 3.2 3.0 2.8 2.5 FCFF yield (%) (1.7) 0.5 1.2 2.7 Dividend yield (%) - - - -






Return ratios


6.3

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6.5

7.7

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7

8

0

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(%)

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mn

)

Net Revenue (LHS) EBITDA margin (RHS)

(63.7)

154.7

23.0

73.4

(100)

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(400)

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Adjusted PAT (LHS) PAT growth (RHS)

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11.6 8.1

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14.7

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(%)

ROE (%) ROCE (%)

Parag Milk Foods


Categories relevant to Parag expected to grow at a faster pace Parag is very rapidly driving growth in categories like curd, UHT products, cheese, yogurt, and now whey powder, which will see sectoral tailwind like urbanisation, changing lifestyle habits and propensity for hygienic and packaged dairy products.

Milk procurement has to go hand –in-hand with capacity expansion

Increase in direct milk procurement has come from increasing yield of milch cattle: The direct milk procurement growth has been 8% per annum and has been coming purely from increase in yield. Parag has built its milk procurement chain for more than two decades now and hence the farmers who supply milk to them have seen several cycles of deflation and inflation, giving them the confidence that Parag will pick up excess milk from them also if required. This kind of network differentiates Parag from several other small-time dairies operating in Maharashtra and who are just converters of milk or procure in an irregular fashion or only for some portion of the year. Parag also helps its farmers in improving productivity of their milch cattle by educating them about proper feed and lifestyle management.

Total milk procurement has increased by 8% p.a. in FY11-17 period: The supply chain network includes procurement from 29 districts across Maharashtra, Andhra Pradesh, Karnataka and Tamil Nadu, through

over 3,000 village level milk collection centres (MCC). They procure milk from milk farmers and through chilling centres and bulk coolers. The volume of milk procured by Parag increased at a CAGR of 8% from 0.68 million litres per day for the financial year 2011 to 1.2 million litres per day for the financial year 2017, slightly higher than increase in milk procurement shown by Amul (~5% p.a.) in the same period.

Adding bulk milk coolers and MCCs to their network: They propose to increase milk procurement by adding facilities in milk rich areas and also to add milk collection centers close to their existing facilities. In addition to this, they plan to add 75 bulk milk coolers (costing INR15lac per machine of 5000L capacity), 100 automated milk collection systems and install them at villages in the vicinity of their facilities and establish village level collection centers in under penetrated areas.

Capacity expansion and modernization plans of Parag

The company plans to invest INR1.47bn in capacity enhancement and modernization (to be completed in FY18) of its existing plants mainly in cheese, paneer, whey, curd/ yogurt, and UHT products. The company has increased its overall milk handling capacity from 2mn LPD to 3.4mn LPD. The milk procurement in Manchar (Pune) plant will have to nearly expand from 1.2mn LPD to 2mn LPD for which the company is planning to procure milk from nearby districts which are rich in milk.

Investing behind fast growing value added products � Categories relevant to Parag expected to grow at a faster pace

� Investing behind milk procurement and milk handling capacity to grow VAD portfolio

� Added capacity to grow high margin products like UHT, Cottage Cheese, Flavored Milk, Curd

� Investing behind brands through both ATL and BTL

Exhibit 1: Parag caters to all fast growing dairy categories

(INR mn) 22014 2020 CAGR 2014 -2020

Category Sales Sales of

oorganized dairy

Share of oorganized

sector Sales

Sales of oorganized

dairy

Share of oorganized sector (%)

Total Market ((%)

Organized mmarket (%)

Liquid milk 2,621,460 519,400 19.8 6,068,000 1,593,000 26.3 15.0 20.5

UHT Milk 26,045 26,045 100.0 103,778 103,778 100.0 25.9 25.9

Flavored milk 12,636 12,636 100.0 47,828 47,828 100.0 24.8 24.8

Curd 216,496 12,121 5.6 492,690 35,421 7.2 14.7 19.6

Frozen yogurt 2,268 2,268 100.0 12,075 12,075 100.0 32.1 32.1

Cheese 11,721 11,721 100.0 59,388 59,388 100.0 31.1 31.1

Ghee 618,225 110,256 17.8 1,367,212 288,912 21.1 14.1 17.4

Paneer 293,300 6,145 2.1 653,576 22,684 3.5 14.3 24.3

Whey (powder) 3,009 3,009 100.0 9,712 9,712 100 21.6 21.6

Source: IMARC

Parag Milk Foods

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Exhibit 3: Current capacity of different products

Installed capacity Manchar Palamaner Total

Milk handling capacity (liters per day)

2,000,000 1,400,000 3,400,000

Milk powder (includes drying capacity for Whey) – MTPD

70 40 110

Liquid milk in pouches (Liters per day)

200,000 175,000 375,000

Flavored milk (packs per day) 30,000 70,000 100,000

UHT products (liters per day) 245,000 245000

Cheese/Paneer (MTPD) 60 60

Ghee (MTPD) 40 30 70

Butter (MTPD) 50 25 75

Curd(MTPD) 40 40 80

Whey Processing(liters per day) 4 10


Exhibit 4: Capacity utilization was nearing peak for milk handling and cheese

Total Plant Utilization (%) FY13 FY14 FY15 9MFY16

Milk procured 65 62 88 50

Milk powder (includes drying capacity for Whey)

68 62 79 65

Liquid milk in pouches 54 70 82 62

Flavored milk 2 28 29 28

UHT products 0 0 0 0

Cheese/Paneer 44 47 67 81

Ghee 49 45 39 72

Butter 18 6 17 17

Curd 55 48 27 43


Exhibit 2: Capacity expansion and modernization plans

Current Capacity Expanded Capacity

Amount ((INR mn)

Date of commissioning

Machar Facility -- PPune

Effluent Treatment 2000 cubic meter per

day 2600 cubic meter per

day 307.2

Under Process/ Expected completion in FY18

Cheese 40 MTD 60 MTD 115.2 Commissioned in FY18

Milk handling capacity 1.2 MLPD 2MLPD 38.4 Commissioned in FY17

Whey 4LLPD 10LLPD 145.8 Commissioned in FY17

Paneer 20 MTD 78.4 Commissioned in FY17

Milk packing capacity 2LLPD 3LLPD 81.9 Under Process/ Expected completion in FY18

Milk procurement expansion 51.5 Under Process/ Expected completion in FY18

R&D 102.0 Under Process/ Expected completion in FY18

Contingency 2.1

Total

922

Palamaner Facility -- AAP

Milk based beverages line 0.3LLPD 177.4 Under Process/ Expected completion in FY18

Milk handling capacity 0.8 MLPD 1.4MLPD 33.5 Commissioned in FY17

Curd 40 MTPD 60MTPD 5.4 Commissioned in FY17

Milk packing capacity 1.75 LLPD 2.25 LLPD 4.4 Commissioned in FY17

UHT processing facility 0.17MLPD 0.08MLPD additional 41.2 Under Process/ Expected completion in FY18

Cold storage and warehousing 10000 pellets 124.1 Under Process/ Expected completion in FY18

Milk procurement expansion 65.5 Under Process/ Expected completion in FY18

Contingency 1.0

Total 452


Parag Milk Foods


Cheese is one of the fastest growing categories in dairy products in India

Cheese represents one of the fastest growing categories among dairy products. Traditionally India has been a cottage cheese (paneer) consuming market which is dominated by the unorganized players. The rise in food service outlets (e.g. Pizza Hut, Domino‘s, KFC) across the country and changing food habits has triggered the increase in demand for this cheese in both out-of-home and in-home consumption. The Indian cheese market grew at a CAGR of 26.8% during 2007 to 2014 period. Total sales value of cheese is expected to grow at a CAGR of 31.3% from INR 15.2bn in 2015 to INR 59.4bn in 2020. Similarly, total sales volume of cheese is expected increase from 33,200 MT (90MTPD) 2015 to 84,000 MT (230MTPD) in 2020. Parag is the second largest cheese manufacturer in India with 60MTPD capacity, second only to Amul which has 120MTPD operational capacity. Prabhat is third largest cheese maker in India with 30MTPD capacity which was commissioned only in FY17 catering to B2B customers in India and for exports.

Key drivers for growth of cheese market in India

� The key drivers of the Indian cheese market include the fast growth expected in the Indian fast food market which uses cheese across a wide number of fast food products such as pizza‘s, burgers, sandwiches among others.

� Cheese is now also consumed along-with traditional Indian food products like paratha, idli, dosa and also used as a replacement of butter in many recipes.

� Further the current demand for cheese, both in the institutional and retail segment, is focused in the metro areas of India. With increasing disposable income and shift in food consumption trends in Tier 2 and Tier 3 cities, penetration of cheese is expected to increase rapidly going forward.

� Further, the price per kilogram for cheese in the organized segment is expected to rise from INR 458 per kilogram in 2015 to INR 707 per kilogram in 2020 at 9% CAGR while up trading consumers from processed cheese to gourmet cheese will add to realizations for all cheese manufacturers, thereby improving margins.

Cheese Processing:

Cheese making involves a number of main stages that are common to most types of cheese. There are also other modes of treatment that are specific to certain varieties. The cheese milk is pre-treated, possibly pre-ripened after addition of a bacteria culture appropriate to the type of cheese, and mixed with rennet. The

enzyme activity of the rennet causes the milk to coagulate into a solid gel known as coagulum. This is cut with special cutting tools into small cubes of the desired size – primarily to facilitate expulsion of whey. During the rest of the curd making process, the bacteria grow and multiply and form lactic acid from the lactose. The curd grains are subjected to mechanical treatment with stirring tools, while at the same time the curd is heated, according to a pre-set program. The combined effect of these three actions – growth of bacteria, mechanical treatment and heat treatment – results in syneresis, i.e. expulsion of whey from the curd grains. The finished curd is placed in cheese moulds, mostly made of plastic, which determine the shape and size of the finished cheese. The cheese is pressed, either by its own weight or more commonly by applying pressure to the moulds. Treatment during curd making, pressing, brining and storage conditions determines the characteristics of the cheese. The process flow chart also shows salting and storage. Finally, the cheese is coated, wrapped or packed.

Exhibit 5: Cheese making process

Source: Dairy Processing Handbook- TetraPack

Raw milk Thermisation

Cooling Storage

Pasteurization Options

Bactofugation or microfiltration

Separation Standardization

Surplus cream

Curd manufacture

Starter culture CaCl2 Rennet

Options Protein standardization /

concentration

Draining

Moulding/ Forming

Cheddaring

Final pressing Milling

Salting

Forming

Brining Hooping Bagging

Final pressing Cooling

Ripening

Distribution

Parag Milk Foods

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Parag has 32% market share in Cheese with a high brand recall for its brand ‘Go Cheese’

Parag has 60MTPD capacity for production of cheese as on date. Of which 20MTPD capacity was commissioned in 1QFY18 in its plant in Manchar, Pune. Currently, Parag derives 20% of its revenues from Cheese of which 50% is in B2C (INR 480/Kg and upwards) at a steep discount to other branded players like Britannia (~INR600/Kg), Amul (~INR550/Kg), Dairy Craft (~INR675/kg), D’Lecta (~INR722/Kg). The company also sells cheese to the fast growing HORECA segment which has started using cheese as a topping on very traditional dishes like paratha, idli, dosa. However, the market is dominated by the market leader Amul which sells cheese blocks to HORECA segment at INR370/Kg, thereby setting a ceiling for entrants like Parag into this category, hence limiting the margin potential for Parag in this segment. With increasing retail reach and building consumer franchise, we believe Parag can graduate to better realisations and hence margins in cheese category could look up.

Cheese was introduced into India through QSRs

Cheese is one of the fastest growing categories among dairy products despite being an “acquired taste” for Indians. The Indian cheese market grew at a CAGR of 26.8% during 2007 to 2014 period. Total sales value of cheese is expected to grow at a CAGR of 31.3% from INR 15.2bn in 2015 to INR 59.4bn in 2020. Adoption of cheese was led largely by the growth of food service outlets (e.g. Pizza Hut, Domino‘s, KFC, McDonald’s) in the initial stages. Today, the market has expanded further into specialty stores and local restaurants across urban India as the popularity of grated cheese spilled over to Indian snacks and meals like “Dosa/ Idli/Paranthas”.

Cheese evolved into a B2C category along the way

Most cheese manufacturers were just catering to large institutional clients (Dominos, KFC, McDonalds) and didn’t feel the need to develop their own brand. Interestingly, the OOH consumption of cheese led to in-home consumption as well which led to a lot of supermarkets stocking them and which spurred the growth further. However, we believe that building a

brand in B2C cheese is difficult as Amul has built a category around value cheese (processed cheese in the form of slices, cubes & spreads for in-home consumption) which holds chunk of the volumes and the rest of the market is scattered with between several other hand-crafted cheese makers in the gourmet segment. We expect Parag to strengthen its brand power along with increasing its distribution reach. WWe estimate ad-spends to increase from 3.4% in FY17 to 4.8% in FY20E for Parag.

Parag has second highest market share in cheese after Amul (Including B2B market)

Exhibit 6: Key players in cheese and market shares

Source: Parag DRHP

Parag also has a geographical benefit of being based out of Maharashtra – The biggest cheese consuming state in India

Exhibit 7: Statewise cheese market break-up

Source: Parag DRHP

Amul 41%

Parag 32%

Britannia 9%

Dynamix 7%

Others 11%

Maharashtra

33%

Gujarat 16%

Delhi 7%

Tamil Nadu 7%

Uttar Pradesh

6%

Karnataka 6%

West Bengal

5%

Others 20%

Parag Milk Foods


Exhibit 8: GO cheese is priced at a discount of 15-50% compared to other players including Amul (Not exhaustive)

FY18E FY17

At current prices

Price Hike (%)

Brand Company Product Grammage

(gm) MRP MRP

Standardized (IINR/kg)

YoY (%)

Amul Amul

Cheese spread 200 72 70 360.0 3

Cheese spread 400 146 141 365.0 4

Cheese block (HORECA) 1000 370 370 370.0 0

Cheese cubes 200 105 105 525.0 0

Cheese slices 200 110 110 550.0 0

Cheese slices 100 67 65 670.0 3

Gouda 250 210 210 840.0 0

Britannia Britannia

Cheese cubes 200 120 105 600.0 14

Processed cheddar block 400 250 230 625.0 9

Processed cheddar block 200 130 122 650.0 7

Processed cheddar slices 480 350 320 729.2 9



Dairy craft Dairy craft

Pizza cheese 400 200 200 500.0 0

Mozarella 200 105 105 525.0 0

Cheese Slices (Garlic) 200 165 160 825.0 3

Cheese slices (Plain) 200 135 165 675.0 (18)

Cheddar 200 220 220 1,100.0 0

Smoked cheddar 200 270 270 1,350.0 0

D'Lecta D'lecta Foods

Mozarella Shredded 500 244 260 488.0 (6)

Cheese block 400 235 225 587.5 4

Cheese slices (Plain) 180 130 722.2

Cheese slices (Plain) 450 310 688.9

Cheese spread 180 85 472.2

Kodai Kodai cheese

Feta Cheese 200 200 200 1,000.0 0

Cheddar 200 200 200 1,000.0 0

Parmesan Cheese 200 300 300 1,500.0 0

Gouda 200 250 1,250.0

Smoked cheese - Edam 200 250 1,250.0

Goat 200 250 1,250.0

Smoked mozarella 200 200 1,000.0

Mother Dairy Mother Dairy Cheese cubes 180 99 110 550.0 (10)

Go Cheese Parag

Cheese slices (Plain) 750 365 340 487 7

Cheese spread 200 79 99 395 (20)

Cheese Angles 200 115 100 575 15

Mozarella 200 110 550

Almette 150 120 800

Natural cheese Cheddar 200 149 745

Natural cheese Gouda 200 149 745

Spice up - Cheese slice 200 140 700

Cheese slices (Plain) 100 72 720

Cheese slices 200 140 125 700 12

Cheese wedges 140 105 90 750 17

Prices for HORECA segment

FY18E FY17 At current

pprices Price Hike (%)

Brand Company Product Grammage

(gm) MRP MRP

Standardised (IINR/kg)

YoY (%)

Amul Amul Pizza cheese (Mozarella) 1000 348 328 348.0 6%

Amul Amul Processed cheese 1000 370 370 370.0 0%


Parag Milk Foods

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Foraying into a nascent category of Whey for protein shakes Whey is a by - product of Cheese which used to find no market in India…..

Whey is a component of milk protein; it is the liquid which is left after the removal of casein and fat from milk in the manufacturing of coagulated products. It is obtained as a by-product during the manufacturing of cheese, paneer and chhana. The total whey produced in the country can be broadly classified into two categories (i) acid whey which is inedible and accounts for 65% of the total production by volume; and (ii) sweet whey which is edible and accounts for the remaining market 35% of production by volume.

…..but is now a fast evolving category in India with higher realizations

The sweet whey powder market in India grew at a CAGR of approximately 26.0% during 2007 to 2014, reaching a value of INR 3.0 billion and a volume of 29,500 MT in 2014 (Average realization was INR100/kg). Key players in the Indian sweet whey market include Amul, Parag and Schreiber Dynamix. The realizations for the products in which sweet whey is currently used is very low at INR140/Kg as that whey powder variant can be easily extracted from liquid whey from the same drying machines used for making SMP. However, for supplying whey powder for usage in the health supplements industry and high end Whey Protein Concentrate (WPC) which fetches realizations of INR200/Kg and upwards. The variant of whey used for fitness products is called Whey Protein Isolate (WPI), and is expensive (INR1000/kg and upwards) to extract as it forms only a small fraction (~1% ) out of the total sweet whey (35% of total whey) extracted from the cheese making process. Hence Parag milk foods now foresees the potential market to be INR25bn including the sophisticated varieties like whey protein microfractions from whey protein isolate (WPI) and ultrafiltered whey protein concentrate (WPC).

Whey protein finds its use in several fast growing categories like infant food and health supplements

Sweet whey powder has a wide variety of applications on basis of its nutritional and functional properties. It is used as a value added ingredient in many food products and is also receiving a growing interest as a functional ingredient in dietetic and health foods. The end uses of sweet whey in infant food, health supplements, dairy, pharmacy and confectionary industries, account for 40%, 30%, 15%, 5% and 5%, respectively, of total sweet whey powder usage.

Exhibit 9: Sweet whey powder applications

Source: Parag DRHP

Whey powder has many uses in different product categories The global sweet whey powder can be classified based on protein concentration as follows:

� Whey protein concentrate (WPC) –has several variants ranging from 29-89% protein by weight

� Whey protein isolate(WPI) – has 90% protein by weight and are processed to remove fat and lactose

� Whey protein hydrolysate (WPH) - predigested and partially hydrolyzed for the purpose of easier metabolizing, but their cost is generally higher

� Native whey

Exhibit 10: Global sweet whey market

Source: Parag DRHP

Parag is the biggest whey powder supplier (DWP) for Nestle and is running commercial trials with some large malted food drinks companies in India as well. Parag sells DWP to Nestle in a customized form which fetches realization of INR340-350/Kg as opposed to market rates of INR100-140/kg.

Infant food 40%

Health supplements

30%

Dairy 15%

Pharmacy 5%

Confectionary 5%

Others 5%

WPC35 45%

DWP 35%

WPC80 13%

WPI 5%

WPH 2%

Parag Milk Foods


Exhibit 11: End usage by product categories for different whey protein concentrates and isolates

Whey product Whey Whey concentrate or powder Whey protein concentrate or

ppowder Lactose & Permeate

PPowder

Liq

uid

wh

ey

Nat

ura

l

Swee

ten

ed

Dem

iner

aliz

ed

40

-50

Dem

iner

aliz

ed

70

-90

Del

acto

sed

/

Dep

rote

iniz

ed

WPC

35

-59

WPC

60

-80

Wh

ey P

rote

in

Iso

late

Cru

de

Edib

le

Refin

ed E

dib

le

Phar

ma

Perm

eate

p

ow

der

Animal Feed X X

X

X

X

X

Human CConsumption

Baby food

X

X X

X X

Diet food

X X

X

Sports nutrition

X X

Clinical nutrition

X X

Sausages

X

Soups

X X X

X

X

Bakery X X

X

X

Salad dressings

X

Ice cream

X

Whey spread/ cheese

X

Cheeses

X

X

Beverages X

X X

X

Confectionery

X X X

X

X X

X

Pharmaceutical

X

Yeast Products X

X

Industrial PProducts

Source: Tetrapak Dairy Processing Handbook

Exhibit 12: Realizations in different types of Whey and their uses

Type of Whey Product Price range (INR/kg) Usage

Whey Protein concentrate WPC 35 250-300 Infant food

Demineralised Whey Powder DWP 100-140 Bakery, chocolate, ice cream & desserts, confectionery and dairy drinks.

Whey Protein concentrate WPC 80 700-800 Nutritional drinks, soups, bakery products, meat, dietetic foods, low-fat products and protein-fortified beverages.

Whey Protein Isolate WPI 1200-1300 Fitness products

Source: Parag DRHP

Parag Milk Foods

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Realizations in Whey protein in health supplements are manifold compared to infant nutrition

Currently most of the demand in the B2C category for Whey protein is coming from health supplements or protein powders. Most of the demand for Whey Protein Isolate (WPI) is met through imports in India which also incur 35% import duty. The retail price of such products are at a very exorbitant levels like INR3500-4500 per Kg which indicates a high potential for manufacturing such products in India since the trend for bodybuilding and healthy lifestyle habits is only increasing by the day.

Parag currently sells mostly all the whey in the cheapest category of DWP (used in infant food) at INR100-140/kg and therefore plans to upscale its operations and also fetch higher realizations (INR1000-1400/kg) by manufacturing WPI very soon.

Parag had incurred INR318.47 million capex in FY16 in enhancing its whey products processing infrastructure and are in the process of commissioning additional technological infrastructure to increase the concentration and grading of whey proteins that they manufacture, and have just launched whey directly to retail consumers in the form of branded health supplement foods and beverages under the brand name of “Avvatar Absolute” priced at INR3200/900gms. The company has already tied up with several fitness centres and has listed its product on e-commerce portals in order to tap into the opportunity. Parag has a distinct cost advantage as most of the whey protein powder is still imported and is imposed a import duty of 25%. This category is very popular in the grey market for the same reason which sells at 20% to the listed price and does not pay the taxes. Net realization in WPI can be around INR2000/Kg for Parag Milk Foods Ltd.

Exhibit 14: Launched Avvatar in FY17 to tap into the growing sports protein powder market in India

Source: Company

Exhibit 15: Sports protein powder market expected to grow at 13% CAGR in 2016-20E to INR12.2bn

Source: Company

0.03

6.8

12.2

0

2

4

6

8

10

12

14

FY11 FY16 FY20E

(IN

R b

n)

Exhibit 13: Whey powder of Parag compared to other manufacturers/ products available in the market

Source of milk Best of Cow’s milk Not known Not known

100% Made in India √ Imported Repacked in India

100% Vegetarian √ Not known Not known

100% control in manufacturing √ x x

Freshness of raw whey protein Milked & processed in 24 hrs ~7-9 months old Not known

Detailed nutritional info on pack √ x x

No artificial colors √ x x

No artificial flavour √ x X

No preservatives √ x x

Manufacturer Leading International dairy player

with multiple dairy FMCG products

Mostly imported by multiple importers

Mostly unorganized or small players, mixing and repacking

Source: Company

Parag Milk Foods


Product margins for cheese and whey combined can improve with mix shifting towards B2C in cheese and towards WPC from DWP in whey powder

Exhibit 16: Cheese and Whey Economics

CCheese and Whey economics BB2C BB2C BB2B

MMilk 1100 llitres 1100 litres 1100 litres

Cost of Milk (INR/Ltr) 26 26 26

Total Milk Cost (INR) 2600 2600 2600

CConversion from 100 litres of MMilk

BB2C BB2C BB2B

Cheese produced (Kg) 8.8 8.8 8.8

MRP INR/Kg (Parag's MRP) 480 480

Net Realisation INR/kg 370 370 350

Cheese revenues (INR) 3,266 3,266 3,089

TType of customer B2B

((WPC) B2B

((DWP) B2B

((DWP)

Whey 4.4 4.4 4.4

Realisation INR/Kg 200 140 140

Whey revenues (INR) 883 618 618

Total Revenues (INR) 4,148 3,883 3,707

Packaging cost @6% of COGS 156 156 156

Blended gross profit (INR) 1,392 1,127 951

Blended gross margin (%) 34 29 26

Source: Elara Securities Ltd


High on product innovation in terms of packaging and offerings Parag is constantly innovating its product offerings in cheese/paneer and UHT products like lassi, chaas and flavored milk to develop the categories in India

The company has developed paneer which has shelf life of 30-90days while all the other players are selling paneer with shelf life of 15 days. The company has developed this product by using cutting edge technology in cheese/paneer in both the processing and packaging side in order to make longer shelf life products in paneer.

Exhibit 17: Key product innovations done in FY17

Source: Company

Products launched during FY17 � Go "Cheede wedges - Herbs and Spices" � Go "Badam Milk Instant Mix" � "Spice up" box in 5 new flavoured cheese slices � Milkrich - Dairy Whitner � Avvatar - Whey Protein powder � Slurp - Mango drink with dash of milk

Exhibit 18: Product portfolio

One of kind premium quality cow milk under "farm-to-home" concept through a subscription model

"Go Cheezooz" awarded the "Best Children's Dairy Product" for the product innovation category

Wide & innovative variety of cheese including gourmet cheese, creamy, jalapeno cheese spread, herb cheese cubes, etc

Only one in India to market fresh paneer in retail stores (not frozen paneer) which has a shelf life of 90 days

Leading supplier in India of Whey protein powder to Nestle

Source: Company

Parag Milk Foods

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Exhibit 20: Small packs for rural consumption

Source: Company

9 ml Ghee sachet 200ml Curd pouch 200ml small UHT milk

Exhibit 19: Product packaging is vibrant and attractive

Source: Company

Parag Milk Foods


How are they expanding their retail reach? � Grow product reach by adding depots: They

currently have 17 depots and they plan to have 7 additional depots in North India (2), South India (2), Western India (2), Eastern India (1). Increasing the number of our depots will enable retailers to source a greater number and a wider range of our products from Parag’s stable.

� Distribution network spread across most states in India; Institutional clients include most QSR chains

� They have an extensive sales and distribution network, which covers 16 depots, 103 super-stockists and over 3,000 distributors as of June 30, 2015, spread across most states and union territories in India. They also have dedicated sales and marketing team comprising 520 personnel based in key distribution centres. Some of their leading institutional customers include leading restaurant and cafe chains such as Yum! Restaurants (India) Private Limited (for Pizza Hut, Taco Bell and KFC), Jubilant Foodworks Limited (for Domino’s Pizza) and Sankalp Recreation Private Limited (for Sam’s Pizza).

Exhibit 21: Distribution network of Parag Milk Foods

Region Depots Super stockiest Distributors

Mumbai 1 2 250

North 5 31 450

East 2 17 300

West 5 28 800

South 3 26 1,200

Total 16 104 3,000

Source: Company

� On account of their short shelf life, fresh milk and fresh milk products are largely sold in the western and southern regions of India, in proximity to the manufacturing facilities at Manchar (Pune) and Palamaner (AP). They sell farm-to-home premium fresh milk directly to retail customers in Mumbai and Pune and they sell beverages to direct consumption outlets such as canteens, railway stations, road-side and highway eateries and educational institutions. They have established a separate route-to-market to focus on the distribution of low unit price products including ghee, flavoured milk, UHT milk, dairy whiteners and gulab jamun mix in Tier 3 cities and rural areas in India. They cater to our institutional customers, hotels, restaurants and caterers directly and through distributors appointed by us.

‘Pride of cows’ – Operating under ‘Farm-to-home’ model

� In 2005, they set up Bhagyalaxmi Dairy Farm at Manchar, through a Subsidiary, with an aim to educate farmers about best practices of breeding, feeding, animal management and improving productivity. Their dairy farm is fully automated and houses over 2,000 holstein breed cows with higher yields of superior quality milk. They supply farm-to-home premium fresh milk (INR 80-100/Ltr; 2x the price of pouch milk and 30% premium to UHT milk) from Bhagyalaxmi Dairy Farm, which they market and sell under the brand name of ‘Pride of Cows’ in Mumbai and Pune.

Ghee and SMP margins highest during high inflation in global and domestic milk prices Ghee and SMP can fetch a combined margin of 21% during moderate inflation in milk prices

Our estimates show that Ghee and SMP margins fluctuate from 13.6% to 31% depending on global SMP prices which range between $2000/tonne to $4800/tonne (Source: Global Dairy Trade) which translates into SMP prices at INR130-312/Kg. Net realization for Ghee ranges from INR350-390/Kg. As we expect moderation in milk prices going ahead both globally (due to slowdown in dairy importing nations like China and oversupply of milk in USA and EU) and domestically (due to good monsoon in 2016 and 2017), Parag milk foods is expected to fetch 21% in gross margin from the combination of Ghee and SMP for the next two years at least which will be higher than 13% margin it fetched in FY16. Parag reduced SMP as % of its sales from 22% in FY16 to 12% in FY17 as SMP had turned unprofitable post a sharp run-up in milk prices domestically due to shortage of milk supply during the flush season (Oct-Feb). As global milk prices rose by 40% starting June-16 post which it stagnated due to no major pick-up in demand from importing nations. Hence we believe that as milk prices are expected to fall from the current levels of INR30/litre in 2HFY17 due to higher production of milk, Ghee will be able to lift the margins of this combination from 13% to 21%.

Parag Milk Foods

Dai

ry


Exhibit 22: Ghee and SMP economics works best in high inflation

Ghee and SMP economics Case 1 - High prices of milk

((Domestic and global) Case 2 - Moderate milk prices

((Domestic and global) Case 3 - Benign prices(Both

gglobal and domestic)

Milk 100 litres 100 litres 100 litres

Cost of Milk (INR/Ltr) 28 25 21

Total Milk Cost (INR) 2,800 2,500 2,100

Conversion from 100 litres of Milk

Ghee (Kg) 4.2 4.2 4.2

MRP INR/Kg

Net Realisation INR/kg 390 355 350

Ghee revenues (INR) 1,638 1,491 1,470

SMP 8.5 8.5 8.5

Net Realisation (INR/kg) 310 220 130

SMP Revenues 2,635 1,870 1,105

Total 4,273 3,361 2,575

Packaging cost @6% of COGS 168 150 126

Blended gross profit (INR) 1,305 711 349

Blended gross margin (%) 30.5 21.2 13.6


Parag Milk Foods


Exhibit 23: Revenue expected to grow at 16% CAGR in FY17-20E


Exhibit 24: EBITDA expected to grow at 24% CAGR in FY17-20E


Exhibit 25: Adj. PAT expected to grow at 45% CAGR in FY17-20E


Exhibit 26: Gross margin to benefit from better mix


Exhibit 27: EBITDA margin expected to improve


Exhibit 28: Freight costs (%) expected to stabilize


Exhibit 29: A&SP as % of sales expected to rise


Exhibit 30: Inventory days spiked due to SMP


6,5

29

8,7

57

8,9

49

10

,27

8

13

,78

3

15

,80

1

16

,82

8

19

,42

9

22

,52

1

26

,19

9

0

5,000

10,000

15,000

20,000

25,000

30,000 FY

11

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(INR

mn

)

50

2 82

3

83

4

82

3

1,0

72

1,4

82

1,0

82

1,3

80

1,5

02

2,0

50

0

500

1,000

1,500

2,000

2,500

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(INR

mn

)

(3.8

)

18

9.0

20

7.7

15

9.7

32

2.1

47

3.2

30

7.4

43

7.4

53

7.9

93

2.5

(200)

0

200

400

600

800

1,000

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(INR

mn

)

21

.9

22

.1 25

.3

23

.2 2

6.5

26

.9

27

.3

27

.9

28

.4

30

.1

15

20

25

30

35

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

7.6

9.1

9.0

7.6

7.4

9.0

6.3

6.9

6.5

7.7

5

6

7

8

9

10

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

2.7

1.2

2.6

3.0

3.9

3.8

4.3

4.5

4.5

4.5

0

1

2

3

4

5

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

2.4

1.9

2.4

1.6

2.1

2.7

3.4

4.3

4.8

4.8

0

1

2

3

4

5

6

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

83

67 74 72 69

73

102

73 73 73

40

60

80

100

120

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

Parag Milk Foods

Dai

ry


Exhibit 31: Receivable days expected to be stable


Exhibit 32: Loans and advances expected to stabilize


Exhibit 33: Payable days expected to drop




Exhibit 35: CFO as % of EBITDA


Exhibit 36: Cash flows from operations


47

41

52 52

42 45

48 48 48 48

20

30

40

50

60

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

22 25

48

57 53

34

46 46 46 46

10

20

30

40

50

60

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

42 38

47 47

55 55

70

55 55 55

30

40

50

60

70

80

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

23 24

33 34

24 24

28 26 26 25

10

15

20

25

30

35

40

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(day

s)

23.5

(16.0) (28.2)

47.1

121.3

68.4

13.1

72.3

36.5 42.6

(40)

(20)

0

20

40

60

80

100

120

140

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(%)

118

(132) (236)

388

1,300

1,013

142

998

549

873

(400)

(200)

0

200

400

600

800

1,000

1,200

1,400

FY1

1

FY1

2

FY1

3

FY1

4

FY1

5

FY1

6

FY1

7

FY1

8E

FY1

9E

FY2

0E

(INR

mn

)

Parag Milk Foods


Initiate coverage with Accumulate rating and TP INR 289 Parag Milk Foods Ltd is a value added player and a visionary leading the transition that the Indian dairy industry is currently embarking on. Value added cheese and whey are high margin products but highly capital intensive also. HHence although growth in earnings will be high for Parag, but the cash flow from operations get heavily weighed down due to high loans and advances given to farmers for buying cattle, building relationship with them and to distributors to set up their channel for selling Parag’s products.

We have valued the stock based on two valuation methodologies:

� EV/Sales (x) to even out the volatility of earnings arising due to volatility in milk prices and low pricing power and high interest costs led by both capex and working capital requirements. We are pegging it at 1x FY20E estimates, in line with its historical trading multiple (limited stock price history).

� EV/EBITDA (x) to capture the capacity to generate profits in a working capital and capex heavy industry like dairy which inherently turns it debt laden. We are pegging the EV/EBITDA(x) multiple at 12.5x at ~25% discount to completely integrated (forward and backward) and high CFO generating peers like HFL and Hatsun Agro.

� We arrive at a TP of INR289 with an upside of 16% from current levels with an implied P/E(x) multiple of 26x on FY20E EPS estimate of INR11.1


FY20E

EV/Sales (x)


EV/Sales (x) 1.0

EV (INR mn) 26,224


Cash (INR mn) 588



TP (INR/Share) 294

CMP (INR/Share) 250

Upside (%) 17.6

Implied P/E(x) 26.5

EV /EBITDA (x)


EV/EBITDA (x) 12.4

EV (INR mn) 25,408


Cash (INR mn) 588



TP (INR/Share) 284

CMP (INR/Share) 250

Upside (%) 13.7

Implied P/E(x) 25.6


CMP (INR) 250

Upside (%) 16



Valuation & Recommendation � Initiate with a Accumulate rating on Parag with TP INR289 implying upside of 16%

� Expect top line to grow at a CAGR of 16% in FY17-20E period led by 20% CAGR growth in non-

pouch milk segment.

� Expect gross margin and operating margin to expand by 280bps/143 bps in FY17-20E due to

better product mix, higher realizations in SMP and stable freight costs.

� Expect EBITDA to grow at 24% CAGR in FY17-20E led by better realization and product mix

� Cash PAT expected to grow at 30.5% CAGR in FY17-20E period led by lower interest costs

Parag Milk Foods

Dai

ry


Relative valuation: Parag was de-rated due to heavy fluctuations in margins Exhibit 38: EV/ EBITDA (x) band


Exhibit 39: Rolling EV/EBITDA(x)


Exhibit 40: EV/ Sales (x) band


Exhibit 41: Rolling EV/Sales (x)


12x

14x

16x

18x

20x

150

200

250

300

350

400

Jun

-16

Jul-1

6

Au

g-1

6

Sep

-16

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

Ap

r-1

7

May

-17

Jun

-17

Jul-1

7

Au

g-1

7

(INR)

16.3 19.1

13.6

21.9

10.8

5

10

15

20

25

Jun

-16

Jul-1

6

Au

g-1

6

Sep

-16

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

Ap

r-1

7

May

-17

Jun

-17

Jul-1

7

Au

g-1

7

(x)

Rolling 2yr fwd Ev/EBITDA Avg +1 Std dev -1 Std dev +2 Std dev -2 Std dev

0.5x

0.7x

0.9x

1.1x

1.4x

0

100

200

300

400

Jun

-16

Jul-1

6

Au

g-1

6

Sep

-16

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

Ap

r-1

7

May

-17

Jun

-17

Jul-1

7

Au

g-1

7

(INR)

1.1 1.3

0.9

1.5

0.7

0.5

0.7

0.9

1.1

1.3

1.5

1.7

Jun

-16

Jul-1

6

Au

g-1

6

Sep

-16

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

Ap

r-1

7

May

-17

Jun

-17

Jul-1

7

Au

g-1

7

(X)


Parag Milk Foods


Board of Directors & Management Devendra Shah - Chairman

He has taken Parag Milk Foods to new heights and under his leadership, the Group's revenues have grown manifold. Apart from promoting India’s largest cow farm called Bhagyalaxmi Dairy farm, he also holds reputed positions in various ventures like Director- Bhimashankar Sahakari Sakhar Karkhana, Pargaon, Secretary of National centre for Rural Development, Chairman, Sharad Sahakari Bank and Director, NDRI.

Pritam Shah - Managing Director

Responsible for the overall executional strategy of the company and consolidating the market presence. Responsible for bringing in the best manufacturing technology for the company. He has a strong understanding of procurement and production process.

B.M Vyas – Director

Advises the top management and assists in the creation of efficient and effective growth strategies for the Company. He is closely involved with monitoring the entire gamut of the business processes from the perspective of sales and distribution, getting them streamlined and efficient. Being a dairy veteran, he advises the Chairman on various aspects regarding the development of business.

Sunil Goyal – Director

Qualified C.A. and joined the board in January 2008 and is currently an Independent Director.

Narendra Ambwani – Director

He has an experience of 39 years in the consumer product industry and was ex-Chairman of Advertising Council of India (ASCI). He was appointed on our Board on May 26, 2015 and is currently an Independent Director and Chairman of Stakeholders’ Relationship Committee and member of Audit Committee.

Nitin Dhavalikar – Director

Qualified C.A.. Appointed to the board in July 2015 and currently an Independent Director and Chairman of Nomination and Remuneration committee and member of Audit Committee.

Radhika Pereira – Director

Post graduation from Cambridge and Havard. She worked for some time with Arthur Andersen and in the year 1996, she set up Dudhat Pereira & Associates. Later, she joined as a Partner at Shardul Amarchand Mangaldas & Co at their Mumbai Office.

Ramesh Chandak – Director

Qualified C.A.. He is closely working with the Company on growth strategies and cost reduction initiatives. He was awarded the ‘CA Business Leader of the Year - 2008’ by The Institute of Chartered Accountants of India.

Mahesh Israni - Chief Marketing Officer

Heads Sales and Marketing functions of the company and also handles the overall value added product sales. He has over 25 years’ of rich experience in sales and customer marketing in the FMCG sector which entailed valuable stints at Pidilite and Unilever.

Company Description Dr. Kurien ushered in ‘White Revolution’ in India with ‘Operation Flood’, the largest project for dairy development in the world. This revolution led to an increase in milk production many fold which led to the co-operatives declaring milk holidays around Pune. This adversity was circumvented by Mr. Devendra Shah (our Founder & Chairman) by helping farmers by collecting their milk on such milk holidays. And thus was born Parag Milk Foods Ltd. Parag Milk Foods Ltd, founded in 1992, is one of India's elite private sector dairy company, with a diverse portfolio in over 15 consumer centric product categories. They aim to identify, elaborate and disseminate best practices at all their infrastructures, a dairy farms set on global standards, a modern fully automated cheese plant with state of the art technology, a ghee plant with traditional way of making ghee like made at home and an UHT milk processing plant using the best equipment from one of the leading plant equipment manufacture. They manufacture products of truly international quality under internationally famous brand names such as Gowardhan, Go, Topp Up & Pride of Cows. Its product portfolio includes ghee,fresh milk, skim milk powder, whole milk powder, paneer, an array of processed and natural cheese, cheese spreads, butter, dahi, dairy whitener and gulab jamun mix under the brand names of 'Gowardhan' and 'Go' ,all made from 100% fresh cow milk. Pride of Cows is a brand of fresh farm- to -home milk and Topp Up, a flavoured milk in many a variants.

Parag Milk Foods

Dai

ry


H.S. Oberoi - President – Cheese Manufacturing

Mozarella cheese manufacturing expert with over 52 years’ experience in the dairy industry. His career includes stints with Modern Dairies, Road Master Food, Milk Federation Indodan Milk Products, Dalmia Dairy Industry and Haryana Milk Foods.

Sachin Shah- VP Southern Operations

A science graduate, with over two decades of professional experience, he oversees the Company’s operations at Palamaner. He heads Supply Chain function of the Company.

Sanjay Mishra - General Manager – Plant

Sanjay Mishra has over two decades of experience and is a Specialist in Process Cheese Recipes. He has a deep understanding of the evolving Indian palate and can develop various products to suit the Indian Taste. He also heads the Liquid Milk Procurement in the Company. In his career, he has worked with renowned dairy firms like Vadilal Dairy International Ltd. and Gokul Dairy.

Sanjay Nakra - General Manager, Plant

Sanjay Nakra is a Dairy Technologist with experience of over 25 years in Dairy Plant level manufacturing. His illustrious career includes stints across key companies like Glaxo SmithKline, Himachal Milk Product, Foremost Industries and Modern Dairies. He travels across the world, to track global practices and advancements in the dairy sector.

Akshali Shah – VP, Strategy

Akshali Shah joined the Company as a Management trainee and has been working with the organisation for the past 6 years. Despite being the youngest leader in the management team, she is responsible for strategies on marketing and works on the next horizon product categories. Along with this, she heads the Pride of Cows business and works very closely on the marketing campaigns, to drive executional excellence. She has a post graduate degree in FMB from SP Jain Institute. She was nominated to the 6th edition of Impact’s 50 most influential women in Indian media, marketing and advertising where she received a “Special Mention”. This award acknowledges the achievements of women who are influencers in their field.

Parag Milk Foods


Coverage History


1

4-Sep-2017 Accumulate INR 289 INR 250





1

180

200

220

240

260

280

300

320

340

360 Se

p-1

6

Oct

-16

No

v-16

Dec

-16

Jan

-17

Feb

-17

Mar

-17

Ap

r-1

7

May

-17

Jun

-17

Jul-1

7

Au

g-1

7

Sep

-17

Not Covered Covered


Glo

bal

Mar

kets

Res

earc

h

115 115

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The information contained in this note is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation.


116

Disclosures for U.S. Investors

The research analyst did not receive compensation from Heritage Foods Limited, Prabhat Dairy Limited and Parag Milk Foods Limited.

Elara Capital Inc.’s affiliate did not manage an offering for Heritage Foods Limited, Prabhat Dairy Limited and Parag Milk Foods Limited.

Elara Capital Inc.’s affiliate did not receive compensation from Heritage Foods Limited, Prabhat Dairy Limited and Parag Milk Foods Limited in the last 12 months.

Elara Capital Inc.’s affiliate does not expect to receive compensation from Heritage Foods Limited, Prabhat Dairy Limited and Parag Milk Foods Limited in the next 3 months.

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This material is based upon information that we consider to be reliable, but Elara Capital Inc. does not warrant its completeness, accuracy or adequacy and it should not be relied upon as such.

This material is not intended as an offer or solicitation for the purchase or sale of any security or other financial instrument. Securities, financial instruments or strategies mentioned herein may not be suitable for all investors. Any opinions expressed herein are given in good faith, are subject to change without notice, and are only correct as of the stated date of their issue. Prices, values or income from any securities or investments mentioned in this report may fall against the interests of the investor and the investor may get back less than the amount invested. Where an investment is described as being likely to yield income, please note that the amount of income that the investor will receive from such an investment may fluctuate. Where an investment or security is denominated in a different currency to the investor’s currency of reference, changes in rates of exchange may have an adverse effect on the value, price or income of or from that investment to the investor. The information contained in this report does not constitute advice on the tax consequences of making any particular investment decision. This material does not take into account your particular investment objectives, financial situations or needs and is not intended as a recommendation of particular securities, financial instruments or strategies to you. Before acting on any recommendation in this material, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice.

Certain statements in this report, including any financial projections, may constitute “forward-looking statements.” These “forward-looking statements” are not guarantees of future performance and are based on numerous current assumptions that are subject to significant uncertainties and contingencies. Actual future performance could differ materially from these “forward-looking statements” and financial information.


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Hitesh Danak India [email protected] +91 22 6164 8543

Nishit Master India [email protected] +91 22 6164 8521

Prashin Lalvani India [email protected] +91 22 6164 8544

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Sudhanshu Rajpal India [email protected] +91 22 6164 8508

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Manan Joshi India [email protected] +91 22 6164 8555

Manoj Murarka India [email protected] +91 22 6164 8551

Sanjay Joshi India [email protected] +91 22 6164 8554 Ravi Sunder Muthukrishnan Ph.D Head - Institutional Equity Research [email protected] +91 22 6164 8572

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Ankita Shah Analyst Infrastructure, Ports & Logistics [email protected] +91 22 6164 8516

Biju Samuel Analyst Quantitative & Alternate Strategy [email protected] +91 22 6164 8505

Deepak Agrawala Analyst Power, Capital Goods [email protected] +91 22 6164 8523

Gagan Dixit Analyst Oil & Gas, Aviation [email protected] +91 22 6164 8504

Garima Kapoor Economist [email protected] +91 22 6164 8527

Harshit Kapadia Analyst Power, Capital Goods [email protected] +91 22 6164 8542

Jay Kale, CFA Analyst Auto & Auto Ancillaries [email protected] +91 22 6164 8507

Param Desai Analyst Pharmaceuticals, Healthcare [email protected] +91 22 6164 8528

Rahul Veera Analyst Strategy, Agri, Travel & Hospitality [email protected] +91 22 6164 8529

Rakesh Kumar Analyst Banking & Financials [email protected] +91 22 6164 8559

Ravi Menon Analyst IT Services, Internet, Telecom [email protected] +91 22 6164 8502

Ravi Sodah Analyst Cement [email protected] +91 22 6164 8517

Ritika Dua Analyst Diversified Financials [email protected] +91 22 6164 8526

Sagarika Mukherjee Analyst FMCG, Dairy [email protected] +91 22 6164 8594

Harshraj Aggarwal Sr. Associate Oil & Gas, Aviation [email protected] +91 22 6164 8530

Manuj Oberoi Sr. Associate Banking & Financials [email protected] +91 22 6164 8500

Aarti Rao Associate Pharmaceuticals, Healthcare [email protected] +91 22 6164 8535

Aniket Pande Associate Real Estate [email protected] +91 22 6164 8510

Harsh Jhanwar Associate Cement [email protected] +91 22 6164 8546

Sandeep Joshi Associate Banking & Financials [email protected] +91 22 6164 8503

Shubham Maheshwari Associate FMCG, Dairy [email protected] +91 22 6164 8562

Vijay Gyanchandani Associate Auto & Auto Ancillaries [email protected] +91 22 6164 8511

Hetal Gada Executive Research* Metals & Mining [email protected] +91 22 6164 8536

Vaishnavi Mandhaniya Executive Research* Branded Apparels, Textiles [email protected] +91 22 6164 8519

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