‘GIDC at current rate is unfair’ – CEO, Engro Fertilizers Limited
BR Research sat down with Ruhail Mohammed. Following is a brief excerpt from the meeting where Ruhail talks about Engro’s plans to ensure a long-term gas supplies, the plans for expansions and the issue of Urea pricing in the country.
Prior to his current position as the CEO of Engro Fertilizers Limited, he was the Chief Financial Officer of Engro Corporation Limited and also the Chief Executive Officer of Engro Powergen Limited. He holds an MBA degree in Finance from the Institute of Business Administration Karachi, and is also a Chartered Financial Analyst.
BR Research: How is the feedstock gas supply situation at both your plants?
Ruhail Mohammed: Thankfully both our plants are operational and there is adequate gas supply thus far. As you are aware, we have a firm contract for gas on our new plant. And for the other, it is out in the public when Guddu was not utilizing, the government gave it to us. The situation is that we will continue getting gas till March this year, in lieu of that Engro will simply hand over the compressors, on which we have made sizeable investments.
The good thing is that since the dismantling of contract, Mari has become more aggressive. They do not have to go through long procedures now being independent and they have worked on a few formations in the area and have successfully found some more gas. There is now gas available; the ministries now have to work out how to allocate between power and fertilizers. We are looking at a win win situation where Guddu can run comfortably and fertilizer players can also have a fair share.
BRR: We saw a near halt in urea off-take in October last year and it revived in December. What is the situation in terms of urea demand?
RM: Under normal circumstances, when the season starts, in terms of application, DAP is applied first and then immediately afterwards there is the first round of urea. The second round follows in a couple of months and in some cases there is a third round of urea as well. Because of the uncertainty caused in both Urea and DAP, the situation arrived.
When clarity arrived on DAP, the market was aware that DAP would be applied first. The traders also bought in bulk because of the subsidy, which choked their financing as well. The whole supply chain took 15-20 days to normalize, after which the urea off-take picked up. It was also aided by the fact that we provided more clarity on urea pricing in November.
BRR: Farmers’ total fertilizer spending has not changed much over the years. What is the farmers’ economy like currently and have the fertilizer application trends seen any change?
RM: Firstly, farmers’ economy is extremely bad and more so in the two main crops that are linked with international prices i.e. cotton and rice. The situation is so precarious that there are actually negative margins on rice. The cotton farmer who was earning Rs40000 per acre is now down to Rs10000 per acre at best. And this is excluding any opportunity cost of the land.
As far as the substitution is concerned, there is a bare minimum of urea that the farmer has to apply, even if the circumstances are bad. There is a level where he knows the yield does improve, so that much will always go in – beyond that it keeps changing. DAP is different and there is surely a more direct correlation with the yield. So when the farmer is short on money, he skips the Kharif season and applies it in Rabi. The land under cultivation has hardly moved over the years. So in simple terms, the farmer may skip a DAP turn, but there is a bare minimum of urea that will go in any case.
BRR: How long will the subsidies on DAP continue? Does it end with the ongoing crop season?
RM: As per our understanding, the subsidy is supposed to continue till June 2016. The federal and provincial governments were to pool in Rs10 billion each. Of which, the federal and Punjab governments have put in their share, but Sindh and KP have not yet – which makes the subsidy short by Rs3 billion. Rs13.5 billion had already been utilized by December 2015.
On the ground, it may not affect the farmer as ideally desired. That is because, in some cases, dealers also hoard and sell it in the later stages when the subsidy goes and they can have a windfall opportunity.
BRR: What is the pricing power left with the local fertilizer players now especially after the recent slump in international rates?
RM: At $240 per ton international price, it would be almost at par with our selling price – which we are already offering at a discount. So yes, if the prices go further down, there will be pressure on margins. Recall that there was a time when we were labelled as recipients of cheap gas, but practically today, the highest level of GIDC is on fertilizer feedstock. So we are paying Rs500/mmbtu on feedstock and Rs750/mmbtu on fuel. This averages around $5.5-6per mmbtu, which is by far the highest in any fertilizer producing country.
The differential between our gas cost and that of any other fertilizer producing country has widened and the only reason why we are still able to compete and survive is that we are operating in a fertilizer consuming country. If we did not have a logistics advantage, we would not be competing today.
BRR: What is your view on the issue of GIDC and where does your pricing power stand today?
RM: Majority of fertilizer producing countries have done this as strategic industries to either monetize their gas reserves or for food security. Fertilizer is not an industry you can shut every day, it carries strategic significance because of food security. When the international urea prices were significantly higher, we still passed on billions in terms of price differential. It is the first time since 1998 that our prices are almost at parity with international prices. You can’t say that let’s shut the industry and start importing, you have to give some leeway.
We are not asking for undue favours – it is unfair that the highest rate of GIDC is levied on us. Practically, we are the only industry other than power that is paying GIDC; all others have got stay orders. Even for power, it is a pass through for them. And the purpose of GIDC as we all know is not being fulfilled. What we are asking for is rationalization of GIDC for all user categories at say Rs150/mmbtu.
We had an understanding with the government post September 2015 where the government said they would roll back the feedstock price increase and asked us to reverse our price increase. They did not keep their part of the bargain and in the meantime the international prices stumbled and we were stuck and could not go back to previous levels.
BRR: Where does the fertilizer industry stand in terms of supply in the longer run as gas reserves continue depleting?
RM: The Mari based plants, in my view, will continue getting gas for the next 4-5 years at least. The only one outside the system is FFBL, but SSGC is still in a much better shape than its northern counterpart and FFBL, in my view, would still get 80 percent of its requirements throughout. Mari seems good enough for another 8-10 years in terms of reservoir.
BRR: Will 2016 be tougher in terms of profitability and does the company have any expansion plans in the country or outside?
RM: It will be tougher because we have some time issues as we had stretched our plants, due to ambiguity over Guddu, and now we have to take three shutdowns. Our production will be lower than 2015 due to shutdowns. The unknown quantum is the purchasing power – and the international prices are the key.
We are also working on educating and training farmers and this is an area where the government also needs to put in more efforts. We are hoping that the farmers could get better yields. We are also looking at opportunities and we have been to a few African countries where we are currently exploring.
