CSAN - Cosan: A Highly Diversified Business Gaining Ground

2023-06-27 05:39:14 ET

Summary

• Cosan is a diversified Brazilian company with exposure to sugar, ethanol, retail fueling, rail operations, natural gas distribution, and land development.
• The company has shown growth in its top and bottom lines but faces risks due to volatility in commodity markets and its investment in mining company Vale S.A.
• CSAN is a hold. The company needs to showcase stability in its bottom line and further market stabilization before considering a buy rating.

Investment Summary

The Brazilian company that is Cosan S.A. ( CSAN ) is very interesting. They have built up their business to have exposure to several commodities, including sugar, ethanol, and retail fueling. But apart from this they also engage in rail operations and offer natural gas distribution and land development.

Where some of the risks facing the company recently are the volatility that has occurred in many of the commodity markets they are in, like sugar, ethanol, and energy. The last report from the company did show strength however in terms of raising margins and growing the top line on a YoY basis. Over the last several years the company has been able to grow both its top and bottom line, but in the face of this new volatility that seems somewhat persistent, I view CSAN as more of a hold right now. Until there is further stabilization in the market where they operate I think it's very hard to assess the value of the company extremely accurately to give a buy rating. The company has exposure to so many parts and until they can showcase they can maintain the bottom line positively I don't think it's a strong enough buy here, not after the recent run-up of the share price either. Rating CSAN a hold.

The Benefit Of A Diversified Business

As mentioned previously, the business of CSAN is very diversified, and looking at one of the primary stakes for the company, Raizen portrays the same image. Right now making a significant improvement across all its segments. EBITDA increased 232% on a YoY basis, a consequence of the marketing and service segment making significant improvements. As for CSAN, its stake in Raizen has been a major reason for the growing EBITDA, as Raizen made up more than 50% of the total amount as seen in the last report . The joint venture between Cosan and Shell that resulted in Raizen seems to have been a major success. I think going forward this is where a lot of the growth will come from as the demand for bioenergy is increasing at a strong rate.

Looking at Q1 2022 then the Raizen stake didn't make up as much of the EBITDA as it is now, instead, it was second place as the rail business Rumo was responsible for the largest amount. Since then we can see a significant shift in these two as the demand for energy in Brazil has helped fuel growth for Raizen.

Where I find some comfort going forward is all parts that CSAN is invested in have made decent or significant growth on a YoY basis, which highlights some of the recoveries the different industries are having. Over the long-term, this seems to be a benefit to CSAN as seasonality in the different industries will help offset losses or decreases in others. The rail industry for example aren't in its high season now but will likely recover, leading to stronger earnings going forward. Strong and meaningful earnings from across several segments help create a solid foundation of earnings they can tap into and either strengthen their stakes or make investments in other companies.

Risks

Where I think CSAN is going a little too aggressive in terms of diversifying itself by buying into mining companies like Vale S.A. ( VALE ). As they are acquiring a 4.9% stake in the company they are exposing themselves to yet more commodity fluctuations. Right now with VALE valued at $61 billion, the stake in the company would come out to be around $3 billion. At the time when CSAN made the investment it looked incredibly good, as the share price rose from $14.5 to $19.3 in the span of just a few months, but has since come down to around the same valuation.

Where I see some of the risks is that VALE is expected to see some significant declines in terms of earnings in the coming years. I think the estimate that VALE would go from $2.4 in EPS to around $1.46 is perhaps a bit extreme, but the mining industry in Brazil does seem a little shaky. The current valuation of VALE might need to come down to properly correlate with the decrease in earnings, and that would of course mean that CSAN has made a pretty significant loss on their investment. This additional exposure I don't think was necessary for CSAN and view it as more of a risk than a potential right now.

Financials

As for the financials of CSAN they have in my opinion made strong progress over the last few years and the cash position now sits at $2.2 billion and can help pay off a significant portion of the long-term debts that are currently at $9.4 billion.

Looking at the debt profile however for CSAN, the average term sits at 4.9 years, which gives them ample time to make solid investments now and still build and maintain a cash position that can cover any incoming debt they need to pay. The reduction of the net debt the company has had over the last few years, in correlation with growing their cash position has helped them reach a net debt/EBITDA ratio of 2.6 right now. I think this shows that CSAN sits in a decent position financially and I am not that worried debt will become an issue in the short-medium term. All in all, I view CSAN as a safe bet based on its financials right now. The cash position sits at a decent amount and the debts aren't maturing until a fair bit out, which positions CSAN well to continue making meaningful investments.

Valuation & Wrap Up

As stated before in the article, I think that CSAN is a hold at these prices. The company has had a fantastic start to the year with strong growth seen across most of its investments and stakes in different industries. But I think the coming quarters will help tell a better story about how the future might look for CSAN and I am rating them a hold as I wish to see the result and development before considering a buy rating. I recognize that CSAN is a highly diversified business and has some solid potential in certain parts. Coming Q2 2023 I think the maintenance of margins is my key point to look at, paired with the development of its VALE stake. For now, CSAN is a hold from me.

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