Can fertiliser companies keep their heads above water?

The fertiliser industry has its back against the wall. Leading players have reported a massive slump in their revenue and profitability in FY24. Gujarat State Fertilisers , for instance, saw its profit crashing 89 per cent for the year! The bust year was on two accounts:

1) Bad monsoon. Erratic rainfall during the year affected crop production, leading to lower demand for fertilisers and denting the industry's volumes.

2) Downsizing of government subsidies. Since raw material prices had eased at the end of FY23, the government cut down subsidy rates for the next year. However, raw material prices turned volatile and escalated costs. As a result, the shortfall in subsidy support with high input costs eroded the industry's profitability.

So, what's next for the industry? Before we delve into that, let's briefly understand how the industry is dependent on subsidies.

How subsidies work

The government keeps fertiliser prices under check by capping their retail prices. This is done to ensure affordability for farmers. To compensate for this, fertiliser companies are paid subsidies, which is simply the difference between their cost of production and the selling price of fertilisers.

The treatment of subsidies differs for urea and non-urea fertilisers. The selling price for urea fertilisers is fixed at Rs 5.6 per kg. The spread between the cost of producing these fertilisers and the fixed selling price is paid to urea manufacturers.

For non-urea fertilisers, the pricing is decontrolled, meaning companies decide selling prices on their own. But the subsidy paid to them is fixed. Which is why they have to keep their costs as low as possible, while maintaining a competitive price against numerous other players. Further, as state-run IFFCO is the largest producer with a market share of around 40 per cent in these fertilisers, there remains an indirect government influence on the market prices.

The regulatory nature of the industry has many more layers to it. You can read it in detail in our other story .

Will things improve?

The big question remains; what's next for the industry? For fertiliser companies to get back on track, the two major variables that need to improve are the monsoon and the subsidy rates (for non-urea players). If the monsoon continues to be erratic in 2024, the industry's volumes will remain muted.

As for the subsidies, it is entirely up to the government. It decides whether to increase or decrease subsidy allocation depending on the global prices. This is because local prices move in tandem with the prices in the global market as they get passed on into the domestic industry's import and raw material costs. For instance, in FY23, fertiliser subsidies were increased substantially as raw material prices were shooting up in line with the global market.

Hence, both the variables that heavily dictate fertiliser companies' fortunes are unpredictable. But what is certain is that the industry headwinds, if persistent, will throw a wrench in companies' operations. In Q4 FY24, the management of Gujarat State Fertilisers said that the subsidies announced for the Kharif season (June-Sept 2024) will not yield any respite, making fertiliser imports and manufacturing non-viable.

To make things worse, the government's regulations are only getting tighter. The government recently introduced norms to cap the profits fertiliser companies can make. They have fixed maximum annual profit margin for the industry as follows:

• 8 per cent for importers
  
• 10 per cent for manufacturers
  
• 12 per cent for integrated manufacturers

Our view

Given the industry is regulated with an iron fist, many players unsurprisingly are scrambling to enter less regulated segments such as crop protection and other business verticals like contract manufacturing.

While the current downturn in the industry is not new, it has become clear that only the fittest can survive i.e., companies with a superior control on their production costs and efficiency.

Also read: Zomato's new blood has investors upbeat. Will it be the final game-changer?