Rating Rationale

Strengths
* Established market position as one of the leading poly film manufacturers in India: CPFL manufactures Biaxially-Oriented Polypropylene (BOPP) films, Biaxially-Oriented Polyethylene Terephthalate (BOPET) films, and metallised films, which are extensively used in flexible packaging industry which caters to end-user industries such as FMCG, pharmaceuticals, electricals, textiles etc. It has a combined capacity of 1,15,350 metric tonne per annum (mtpa) to manufacture these films (77,550 mtpa of BOPP and 37,800 mtpa of BOPET) which makes them one of the leading manufacturers in India. In fiscal 2017, the company has also started manufacturing of PET chips through a capacity of 220,000 mtpa. Ability to attract and retain customers across geographies through high product quality has contributed to a cumulative annual growth of 31% in revenue over the last five years; the company's products are exported to over 50 countries in Latin America, US and Europe among others. The ramp-up in PET chips and upcoming capacity in coated and BOPP films is expected to keep the revenue growth high at 15-20% per annum over the next three years.

* Experienced management with demonstrated track-record of successful ramp-up in operations: CPFL's management has a strong industry experience of over 15 years. Further, CPFL is part of the diversified Chiripal group, which has extensive experience in the textile value chain with presence in textile fabrics and petrochemicals, among others. The management has demonstrated ability to leverage on this experience and quickly ramp-up the capacities added over the last five years, to make CPFL, a leading domestic manufacturer in terms of combined capacity. Further, the group's presence in textile value chain mitigates the offtake risk in PET chips, as about 60% of the capacity is consumed by the group (either in-house or by the group companies). The promoters have also demonstrated ability to infuse funds into the company to support the rapid expansion; about Rs 450 crore of equity has been infused since the company's inception.

* Moderate operating efficiency marked by strong capacity utilization and benefits of backward integration into PET chips: While the operating profitability is susceptible to raw material price volatility, the company has been able to keep them range-bound between 8-12% over the last five years, despite strong revenue growth during this period. Diversified product mix, strong customer relationships, savings in raw material and customer freight costs and recent backward integration into PET chips have helped the company maintain high capacity utilization of about 80% and keep its margins less volatile. The company's manufacturing lines (all in Ahmedabad) are located in close proximity to the major west-based suppliers such as Reliance Industries Ltd ('CRISIL AAA/Stable/CRISIL A1+') and Indian Oil Corporation Ltd. ('CRISIL AAA/Stable/CRISIL A1+') and customers (West-India contributed to 62% of revenue in fiscal 2018). Entire requirement of PET chips to manufacture BOPET films is being met in-house from fiscal 2018 onwards, which also mitigates inherent volatility in raw material cost. Going forward, operating profitability is expected to improve to over 10.0% driven by full ramp-up in PET chips (about 65% utilization in fiscal 2018), benefits of high-margin coated films and locational advantage of upcoming BOPP capacity. The company's coated film sales are expected to start in the last quarter of fiscal 2019 while the upcoming BOPP capacity in Telangana will be operational in the second half of fiscal 2020. CPFL will be the first large organized player to have a capacity in South India, post this project. Further, the project has been granted a mega project status and is eligible for certain incentives which will enhance overall operating efficiency.

Weaknesses
* Susceptibility to volatile raw material costs and realizations driven by demand-supply dynamics: The BOPP and BOPET business is cyclical; product realisations have fluctuated in the past depending on demand-supply gap. Further, the industry is highly competition intensive with few large players aggressively expanding capacities over the last few years, resulting in realization pressures. Players have tended to add large capacities whenever there is improvement in prices, leading to a fall in product realisations subsequently. Further, the key raw materials, PP Granules, Pure Terephthalic Acid (PTA) and Mono Ethylene Glycol (MEG) are all derivatives of crude and hence, the profitability is susceptible to volatility in crude prices. However, the extent of fluctuations are not as severe as that in crude given the lower correlation of poly films as compared to other downstream products, with crude prices. Further, players have the flexibility to pass on the raw material price fluctuations to the customers to an extent.

* Average financial risk profile marked by modest leverage and debt protection metrics: The Company has undertaken a cumulative capex of about Rs 1300 crore since fiscal 2012 with a typical debt to equity mix of 2:1. Further, the increase in scale of operations has also increased working capital debt requirements. This has kept debt high (Rs 928 crore as on March 31, 2018- this includes about Rs 150 crore for on-going project), returns on capital employed (RoCE; 8.8% as on March 31, 2018) moderate and key credit metrics modest. Debt to EBITDA (earnings before interest, tax, depreciation and amortisation) has largely remained over 5 times during this period and was 5.5 times as on March 31, 2018. Debt protection metrics are also modest with adjusted interest coverage and net cash accrual to adjusted debt ratios at 2.22 times and 0.10 time, respectively, as on March 31, 2018. While the improved operating profitability and better realisation from the polymer chips plant backed by increased sale of value added products is expected to gradually improve these metrics, the on-going debt funded capex of Rs 600 crore will constrain significant improvement till the end of fiscal 2020.

* Exposure to project risks related to large on-going debt funded capex: CPFL is currently setting up a third BOPP line with capacity of 50600 mtpa in Telangana and a coating film line of 4500 mtpa capacity in Ahmedabad. The total cost of this project is about Rs 600 crore and is being funded at a debt to equity mix of 2:1- of this, Rs 200 crore towards machinery purchases, is already incurred in fiscal 2018 and the remaining Rs 400 crore is expected to be incurred over the next two fiscals. About Rs 135 crore of equity has already been infused by end of fiscal 2018 and the remaining Rs 50 crore is expected to be infused by promoters as inter-corporate deposits over the next two years. The coating film line is expected to be operational in the last quarter of fiscal 2019 while the BOPP plant is expected to commence operations in second half of fiscal 2020. Given the substantial size of the project (almost 85% of company's networth as on March 31, 2018), CPFL is exposed to risks relating to timely implementation, material cost overrun and product offtake. This risks are, however, partially mitigated by the demonstrated track-record in executing and ramping up similar projects in the past. Nevertheless, any delay in ramp-up of these capacities, or any new large, debt-funded capex or acquisition could adversely impact the financial risk profile and hence, will remain a key monitorable.