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Indian Specialty Chemicals - Growth Catalysts
Indian Specialty Chemicals - Growth Catalysts
INDIAN
SPECIALTY
CHEMICALS
GROWTH
CATALYSTS
USA
Indian Specialty Chemicals 28 September 2017
Table of Contents
Contents Page No.
Indian Specialty Chemicals
Specialty Chemicals – Distilling the common into the special 4
Unveiling the key catalysts behind specialty chemicals 5
Where does India’s specialty chemicals industry stand? 6
Confluence of identified drivers suggests high growth potential 8
Specialty chemicals – An aggregate of distinct segments 20
Agrochemicals 23
Navin Fluorine (Buy, TP INR 700) 29
PI Industries (Hold, TP INR 750) 32
SRF (Buy, TP INR 1670) 35
UPL (Buy, TP INR 950) 38
Colourants 41
Aarti Industries (Not Rated) 51
Surfactants 65
Sunshield chemicals (Not Rated) 74
Appendix
Specialty chemicals – A special segment within chemicals 88
Specialty chemicals – Transitions, worth looking at 89
Oleochemicals – Driving consumers toward GREENER products 96
Commodities Pseudo-commodities
Another useful way to look at chemicals is based on the value chain (Exhibit 2).
Chemistry Production of molecule Development of molecule Modification of molecule Specialty chemicals are
Focus Economy of scale Operations Customer/market characterised by low capital
Structure Centralised Somewhat decentralised Decentralised
intensity and high product
Process & product Product & application
technology
Technology Process technology
technology know-how
Capital Intensity High Moderate Low
Source: Kline & Company, Inc., JM Financial
Appendix 1 analyses the basic and specialty chemical companies in more details.
In this report, we focus on specialty chemicals. Since specialty chemicals are mainly used to
add value to the finished product, they are primarily sold on a B2B basis. Specialty chemicals
can be further divided into various sub-segments on the basis of end-use and application. In
this report, we have classified specialty chemicals into ten sub-segments. These sub-segments
are 1) Agrochemicals, 2) Colourants, 3) Construction chemicals, 4) Flavours & Fragrances, 5)
Paints & Coatings, 6) Personal care, 7) Polymer additives, 8) Surfactants, 9) Textile chemicals
and 10) Water treatment chemicals. Of these, we have discussed the important sub-segments
with most growth potential in detail in later sections of this report.
Exhibit 3. Global basic and specialty chemicals market size (USD bn)
6000
5000 1100
4000 829
Global specialty chemicals are
3000 expected to increase at a CAGR of
4496 5.8% per annum
2000
3471
1000
0
FY15 FY20
Basic Specialty
Exhibit 4. Indian basic and specialty chemical’s market size (USD bn)
250
200 52
150
28
100
174
15
119
50
65
0
FY10 FY15 FY20
Basic Specialty
40
20
10
0
FY15 FY20 - Base FY20 - Most likely FY20 - Optimistic
If India’s specialty chemicals industry grows at 13% as estimated above, against the global
growth rate of c.6%, India’s share in the specialty chemicals global market could increase to
c.5% by end-FY20 from c.3.4% in FY15.
JM Financial Institutional Securities Limited Page 6
Indian Specialty Chemicals 28 September 2017
100%
80%
Indian specialty chemicals will
account for 5% of global specialty
60%
chemicals by end-FY20
97% 95%
40%
20%
3% 5%
0%
FY15 FY20
India ROW
Source: JM Financial
In the next section, we try to understand if India has the drivers identified previously to
become a global leader in specialty chemicals.
Strong demand growth in the consumer industry and higher disposable income
encouraging ‘premiumisation’ of products,
Exhibit 7. Worldwide chemical production data CY15 (in USD bn) - India at 6th position
1800 1690
1600
1400
1200
1000
800
622
600
400
163 177
200 138
89 93
0
France India South Korea Japan Germany USA China
This large industry base provides cost-effective expertise for handling, production, storage
and transportation of various types of chemicals. This can easily be leveraged for specialty
chemicals.
Strong demographic potential and
It is interesting to note from the above that all countries ahead of India (except China) are increasing penetration will support
developed countries with populations lower than India’s. Therefore, there is significant market growth
potential upside to the Indian chemicals industry if demand grows, as we analyse in the next
sub-section.
4.2 Strong domestic demand growth in the consumer industry and a move
towards premiumisation
India also is the 6th largest market (Exhibit 8) for chemicals. Despite this, we believe there is
still significant potential for growth in chemicals industry based on 1) rapid growth in the
Indian economy and 2) increased penetration of specialty chemicals on the back of up-
trading.
th
Exhibit 8. Global sales of chemical in CY15 (EUR bn) – India at 6 position
1600
1409
1400
1200
1000
800
600 519
400
I. Rapid growth in the Indian economy: During the past 6 years (FY10-FY16), the Indian
economy grew c.6.85%, but industry research indicates that the growth rate over the next 5
years will be moderately higher, with India likely to become one of the fastest growing (if not
the fastest growing) major economies in the world. Since chemicals are used across various
industries, demand for chemicals is directly linked to economic growth. If economic growth in
the next 5 years is stronger than the previous 5, demand growth for chemicals in the next 5
years will also be higher than the last 5 years. This is corroborated by studies by government
trusts such as IBEF that said major industries consuming specialty chemicals will grow at a
higher rate during FY15-FY20 compared with the growth rate during FY10-FY15 (Exhibit 9
below).
4% 2.95%
2%
0%
Textile Real estate Packaged personal care Household Automobiles Consumer Construction
industry food care durables
FY10-15 FY15-20
II.Surpassing China in terms of growth in the specialty chemicals industry: Although India’s
specialty chemicals industry’s growth rate was only marginally better than China’s over FY10-
FY15, over the next 5 years (FY15-FY20), India (CAGR 13%) is slated to grow c.2x China
(CAGR 7%). The slowdown in China’s specialty chemicals industry is mainly attributed to its
transition phase. It has recorded a slowdown in economic growth and a shift to the
production of personal goods/services vs. industrial goods. Exhibit 10 illustrates the slowing
growth of key end-use industries. Additionally, the Chinese chemicals industry has over-
capacity in commodity chemicals with heavy reliance on imported specialty chemicals. There
has been an increased emphasis on environment protection, which has affected production,
leading to increased exports from India. In the next section, we discuss in detail the
attractiveness of India’s specialty chemicals industry.
Semiconductors
Rubber products
Plastic products
Motor Vehicles
Personal care
Health & Social Services
2010-15 2015-20
160
143.7
140
120
100
40
20
0
2008 2016 2020
40
30 28
India’s specialty chemicals industry
20
to grow 2x China’s
10
0
FY15 FY20 - Base FY20 - Most likely FY20 - Optimistic
III.Increased penetration of specialty chemicals on the back of up-trading: Over and above
faster end-use industry growth, low penetration (ratio of domestic per capita consumption in The construction industry will drive
USD to global per capita consumption in USD) of specialty chemicals in India will support demand for construction
growth. For example, the polymer additives sub-segment is likely to grow 10% over FY15- chemicals, polymer additives and
FY20, on account of growth in end-use industries and lower per capita consumption (Indian paints and coating
per capita consumption is less than 10% vs. global per capita consumption - Exhibit 13).
0.70
Domestic penetration to global penetration
Colourants
0.60
Surfactants
0.50
-0.10
5% 7% 9% 11% 13% 15% 17%
Domestic growth rate
Among specialty chemicals sub-segments, water treatment, polymer additives, flavours &
fragrances and construction chemicals have a lower penetration ratio (<0.15). Our analysis
indicates that polymer additives’ consumption in China/EU/USA is 2.4x/13x/18x that of
3
India’s. In construction chemicals, India spends around USD 1.5/m on concrete admixtures Per capita consumption of polymer
3 3
vs. USD 3/m and USD 4.5/m in China and the US, respectively. With increased focus on additives/construction chemicals in
th rd
improving the quality of construction, per capita consumption of specialty chemicals in India India is 1/18 / 1/3 of US
could grow faster than the industry rate.
Thus, a rapidly expanding end-use industry, coupled with low penetration, would help
specialty chemicals grow faster than the end-use industry.
Japan 0.2
nd
India ranked 2 in terms of STEM
Indonesia 0.2
graduates in 2016; the Indian
Iran 0.3 chemicals industry will benefit from
a strong base of engineering
Russia 0.6 graduates
USA 0.6
India 2.6
China 4.7
0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0 4.5 5.0
India is also among the top 10 globally in number of scientific publications (Exhibit 15).
4 958
5 000
20.0
19.2 19.4
18.6
4 000 16.4 16.6 16.5
16.1 15.7 15.4 15.1 14.6 15.4 15.5 15.0
14.1
13.2 13.3
3 000 12.2 12.3
2 434 12.0
10.0 10.0
2 000 8.8 8.3
16.7
3491 244 6.8 6.7 6.9 7.1
1 192 6.1
895 5.0
1 000 730 699 595 4.1
585 520 478
396 386 368 288 266 258 257
225 158 155 150 142 135 131 128 122 116
0 0.0
However, while India has been ranked among the top 10 in the number of scientific papers
India is among the top 10
published, it rates fairly low (about 6%) in terms of citations among the world’s 10% most
countries in terms of the number
cited articles. This is in line with the perception that there is a need to improve the quality of
of publications
education in the country.
Consequently, we note that while there is a strong base for the Indian chemicals industry to
grow on, there is a need to focus on innovation if India wants to become a global leader in
specialty chemicals. At this point, it would be worth noting that India’s IT and Pharma
industries have both benefitted from a strong base provided by the large number of STEM
students in the country. Therefore, the Indian specialty chemicals industry can also benefit
from this large pool.
II. Labour costs are among the lowest: While having a technically qualified pool is
imperative, competitive labour costs are as important. Again, India and China have the lowest
labour costs among major countries producing specialty chemicals (Exhibit 16).
50
40
Dollar per hour
10
0
India China South Korea Japan United States Germany
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Source: The conference board, BLS-US, National Bureau of Statistics of China, Labour bureau India, OECD, Company, JM Financial
*Countries ranked by chemical sales as of FY15 *India – For year 2013 to 15, labour cost per hour derived from index provided by labour
bureau, **China – For year 2014 & 15, labour cost is derived from cost given in CNY by National bureau of Statistics in China
Since India and China have the lowest labour cost, it would be relevant to focus only on
these two countries (Exhibit 17). From the Exhibit, it is clear that Chinese labour costs have
been rising at a much faster rate than India’s (Exhibit 17).
4.93
5
4
Dollar per hour
0.95 0.95
1
0
India China
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Source: The conference board, BLS-US, National Bureau of Statistics of China, Labour bureau India, OECD, Company, JM Financial
In order to analyse the manufacturing competitiveness of India and China, we have also
accounted for the difference in productivity between the two countries. Exhibit 18 (below)
provides the productivity data for India and China taking into account GDP per person
employed. We note that GDP per person employed measures productivity of all sectors
(including manufacturing) and therefore may only be representative.
We also note that if we adjust for the higher productivity in China, Indian labour costs are still
competitive (Exhibit 19 below).
Exhibit 18. Productivity (GDP/person employed) – India Vs. China Exhibit 19. Hourly labour cost (productivity adjusted) – India Vs. China
30000 3.5 3.24
25000 23846 3
2.5
20000
5000 0.5
0 0
India China India China
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Source: World Bank, JM Financial, constant 2011 PPP $ Source: The conference board , World Bank, JM Financial
It is interesting to note from the above graph that Chinese labour costs have increased c.5x
over a period of 10 years. In our view, despite this sharp increase in labour costs, Chinese
chemical companies remained competitive owing to rapid sales growth.
In order to further understand this aspect, we analysed in detail the labour costs in 22 Indian,
30 Chinese and 27 European specialty chemicals companies (Exhibits 20, 21, 22 and 23
below).
Exhibit 20. Increase in employee costs (YoY%) for companies Exhibit 21. Increase in employee cost (CAGR %, FY11-FY16)
60% 35%
50% 52%
29%
50% 30%
Exhibit 22. Increase in the number of employees (FY11-FY16) Exhibit 23. Employee cost as a % of sales
8% 16% 15%
14% 15%
7% 14% 14% 14%
7% 14%
6% 12%
5% 10%
4%
4% 8% 7% 7%
7% 7%
3% 6% 6%
3% 6% 5%
4%
3% 4% 4%
2% 4% 2%
1% 2%
0% 0%
India China Europe FY11 FY12 FY13 FY14 FY15 FY16
3.5%
3.0%
3.0%
2.5%
2.0%
1.5% 1.3%
1.0%
0.5%
0.0%
India China Europe USA
Exhibit 25. Increase in R&D expense India vs. developed countries – FY11-FY16
18% 17%
16%
14%
12% 11%
10%
8% 7%
6%
4%
2%
0%
India US EUR
This includes rules and infrastructure for effluent treatment since the chemicals industry
can pollute air/water
Protecting and incentivising innovation since the specialty chemicals industry depends on
R&D
Plastic parks scheme: Along similar lines, India’s government plans to set up plastic parks and
provide grant funding up to 50% of the project cost with a ceiling of USD 5.97mn per
project. Nearly 10 parks have been approved by the central government.
State governments are also trying to support the chemical industry. Gujarat and Maharashtra
already have a large chemical industry base, while the Telangana government is planning to
set up exclusive clusters for the manufacture of plastics.
These government efforts have already yielded results. There has been a significant increase
in foreign direct investment (FDI) in the Indian chemical industry. During FY13-FY17, FDI
equity flows recorded a CAGR of 56%.
Source: Company, JM Financial
Exhibit 26. FDI equity inflows in the Indian chemical sector (In USD mn,FY13-FY17)
12000
10000 9664
9397
CAGR - 56%
8000
4000
2000 1596
0
FY13 FY14 FY15 FY16 FY17
Exhibit 27. Impact of China’s EPA crackdown – reduced chemical exports index
114
112
112
110
reduced production
104 103
102
102
100
98
96
2013 2014 2015
We have assessed the environment compliance cost by analysing the annual reports of 30
Chinese specialty chemicals companies. We observed that only few of these companies were
explicitly stating the effluent treatment cost, while others provided only environment
protection fee (c.0.18% of sales) and sewage charges (c.1% of sales). Some key observations
are that none of the Chinese companies stated the effluent treatment costs prior to FY13.
This possibly highlights the lack of focus on environment/safety amongst Chinese specialty
chemicals companies. There were several punitive actions by environment agencies – e.g.
Zhejiang Longs, a Chinese specialty chemicals company, had to pay an environment damage
fee of c.CNY 24mn in CY15 and also necessitated an investment of c.CNY 624mn in capital
expenditure towards environment protection facility.
This resulted into an increase in effluent treatment costs for Chinese companies (those that
started reporting effluent treatment costs explicitly) to 4-6% of their net sales in FY15-FY16.
In comparison, Indian chemicals companies were broadly adhering to environmental norms
by using either separate effluent treatment plants (ETPs) or common effluent treatment
plants (widely used in Gujarat). The opex of ETPs would depend on the sub-sector; polluting
sub-sectors such as colourants and textile chemicals would incur the highest costs. According
to Dyestuff Manufacturers Association (DMAI), on an average, Indian companies were
spending 5%-6% of the revenue and incurring capex of 8%-10% of the chemical plant,
resulting in lower relative competitiveness. Exhibit 28 below compares effluent treatment
costs for dyestuff companies in India and China.
Exhibit 28. ETP opex cost as a % of sales incurred by Chinese vs Indian companies*
5.2%
5.1%
5.00% 5.00%
5.0%
4.8%
4.6%
4.4%
4.4%
4.2%
4.0%
FY15 FY16
China India
Source: Company, JM Financial *companies – Tsaker Chemical, Zhejiang Longs, Zhejiang Runtu Co, Lianhe chemical technology, Lier
chemical, Jiangsu Chango
It is interesting to note that over FY11-FY14, the EBITDA margins of Chinese chemical
companies grew from 16% to 21%, but fell c.5% over FY14-FY16 (Exhibit 29 below). We
have previously analysed that during FY14-FY16, employee costs of Chinese companies
increased only c.1%. Therefore, some of this compression in EBIDTA margin is likely due to Chinese chemicals companies are
increased investment in effluent treatment plants and compliance with EPA norms. Indian investing in ETPs incurring capex
companies were the biggest beneficiary of this as their EBITDA margins improved 5% during and 4%-6% opex
the same period. Lower EBIDTA margins also impacted Chinese companies’ ROCE and ROE as
both return ratios declined c.7% each (Exhibit 30).
Exhibit 29. Effect of environmental impact on companies’ EBITDA % - China vs. India
25%
21%
20% 19%
20% 19%
17% 16%
16% 16%
15%
15% 14% 14% Indian companies gained EBITDA
12%
margins at the cost of Chinese
10% companies
5%
0%
FY11 FY12 FY13 FY14 FY15 FY16
India China
Exhibit 30. Effect of environmental impact on Chinese companies ROCE and ROE
25
22
21
20 19
20
17 17 17
16
15 14
13 13 12
ROCE ROE
India’s cost of production for specialty chemicals is now lower (EBIDTA margins for FY16 and
FY17 are higher) than China’s (FY16: Exhibit 29).
60 61
59
60 56 55 54
52 52
48
50 46
20 17 17
15 15 14
10
0
2013 2014 2015 2016 2017
India China US
This would potentially help Indian companies explore global opportunities and branch out
beyond domestic markets, as discussed previously.
We now dive deeper into the specialty chemicals segment to first understand the various sub-
segments of specialty chemicals and then analyse each sub-segment.
JM Financial Institutional Securities Limited Page 19
Indian Specialty Chemicals 28 September 2017
The following table lists the major specialty chemicals segments, their domestic and global
market sizes, growth rates as well as other key characteristics.
Textiles,
Colourant 5400 19.3% 11% 9100 45.2 5% Leather, High
Paper
Construction Infrastructure,
610 2.2% 15% 1075 27.16 5.6% Medium
Chemicals Real estate
Food
Flavours &
700 2.5% 14% 6354 23.6* 5.1%* processing, High
Fragrances
Personal care
Personal
care 700 2.5% 14% 1348 13 4.3% FMCG High
ingredients
Pipes, White
Polymer
477 1.7% 10.7% 793 50.6 5% goods Medium
Additives
automotive
Laundry care,
Surfactants 3000 10.7% 13% 5527 29.2 5.4% Medium
Dishwashing
Apparel,
Textile
1250 4.5% 12% 2203 21.8 3.4% Technical Medium
Chemicals
textiles
Industrial &
Water
458 1.6% 14% 882 24.5 4.5% Municipal High
Treatment
water
Source: UPL.TSMG and FICCI, Global Market Insights, Allied market research, MarketsandMarkets, Globe news wire, IAL consultants, Company, JM Financial *Based on CY
The Indian specialty chemicals market is smaller than global peers’ in most of the sub-
segments. However, in some sub-segments (such as agrochemicals, colourants, paints &
coatings) India accounts of 5%-10% of the respective global market sizes. India is also one of Agrochemicals, Colorants, Paints &
the largest exporting countries for agrochemicals and colourants, and has significantly Coatings and Surfactants have
boosted its market share over the years. grown to a sizeable market size
Exhibit 33 illustrates the expected growth rate comparison of the domestic vs. global specialty
chemicals segments.
Exhibit 33. Specialty chemical segments’ growth rate - India vs. Global
16%
14% 14% 14%
14% 13%
12% 12%
12% 11% 11%
10%
10%
8%
8%
6% 5%
6% 5% 5% 5%
4% 5%
4% 3% 3%
3%
2%
0%
Agrochemicals Colourant Construction Flavours & Paints & Personal Care Polymer Surfactants Textile Cemicals Water Treatment
Chemicals Fragrances Coatings Additives
India Global
Exhibit 34 indicates the major drivers that would boost growth rates in the specialty
chemicals segment. Apart from the key drivers mentioned above, other notable factors
Flavours & Fragrances, Personal
common to most of the segments are increasing urbanisation, increasing per capita income,
care, Surfactants and Construction
growing middle class population (NCAER projected 267 million mid-income population in
chemicals are the most attractive
2016 vs. 50 million in 2005), lower penetration ratio, increasing consumerism and
segments
premiumisation. However, there are other specific factors driving these segments. For
instance, agrochemicals’ growth rate will also be affected by volatile weather (including the El
Nino phenomenon and prolonged weak rainfall) as well as low agri-commodity prices.
JM Financial Institutional Securities Limited Page 21
Indian Specialty Chemicals 28 September 2017
The following exhibit 35 provides a summary of major players in each specialty chemicals
segment, with relevant financial parameters.
Atul industries VAT, Acid and Direct Dyes 14% 8% 22% 19%
Ultramarine & pigments Ltd. Surfactants and Pigments 18% 11% 22% 19%
Segments such as construction chemicals, flavours & fragrances, personal care, polymer
additives and textile chemicals do not have many listed B2B companies and therefore, we are
not covering these sub-segments. Additionally, paints and flavours & fragrances sub-
segments are primarily driven by consumer preferences and are not covered in this report We
now analyse the remaining sub-segments (agrochemicals, colourants, surfactants and water
treatment) covering the global and domestic demand drivers, key domestic and global
players, competitive scenario and long-term outlook for the remaining sub-sectors .
Agrochemicals
Growing need for innovation
The agrochemicals sub-sector can be attractive to investors given India’s large rural economy Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
and the need to improve yields. The global crop protection market is currently valued at
Pramod Krishna
c.USD 57bn, of which revenue of c.USD 43bn came from proprietary off-patent and generic pramod.krishna@jmfl.com | Tel: (91 22) 61781074
products. India’s agrochemical companies saw a 10% CAGR over FY13-FY17E, to record Alok Ranjan
revenue of INR 296bn (USD 4.42bn) in FY17E. Almost 50% of this came from exports, while alok.ranjan@jmfl.com | (+91 22) 6630 3073
the remaining was from India. We believe that Indian agrochemical companies can continue
to grow 8%-9% domestically over the next few years based on factors such as an increase in
rural spending, a consistent monsoon and improving farmer sentiment. Likewise, in exports,
Indian companies can continue to grow c.10% due to lower research and manufacturing
costs, a rise in technically skilled manpower and products going off-patent. Therefore, while
agrochemicals may not be the fastest growth sub-segment in specialty chemicals, a relatively
large domestic manufacturing and market base provides it technically skilled manpower and
an opportunity to grow.
Exports to witness CAGR of c.8%-9%: The global market for agrochemical products was
valued at c.USD 63bn in CY14 (+13% since CY12). However, after CY14, the market
began contracting due to a global slowdown caused by low commodity prices, significant
currency headwinds, high channel inventories and a shift towards generics. Therefore, at
end-CY16, the market stood at USD 57bn. In coming years, we believe Indian companies
catering to the export market are well placed since the rising development costs for new
molecules are benefitting low-cost research destinations; there is also a significant
opportunity in manufacturing products that are going off-patent. Companies such as PI
and SRF are already focusing on these opportunities.
And Indian market could support at 8%-9% CAGR: In India, the primary source of water
is rainfall, with only c.46% of cultivated land being irrigated. Hence, the monsoon plays a
very important role in agrochemical sales. Over the past few years, monsoon in India has
been below normal, resulting in inventory backlog in the channel. While this inventory
backlog could take some time to clear, we believe the outlook is broadly positive based
on a) a likely normal monsoon in FY18, which could help clear inventory, b) increased
government spending on rural India aimed at doubling farmers’ income over a 5-year
period, c) improving farmer awareness on pesticide use and d) higher labour costs leading
to increased use of herbicides to remove weeds. We elaborate on these factors in the
following pages.
Exhibit 37. Domestic industry to record 8%-9% CAGR (INR bn) Exhibit 38. Export industry growth forecasts (INR bn)
- Rising costs of developing new molecules resulting in fewer product launches: Every
crop protection product that reaches the market currently costs USD 286mn and
takes 11 years (vs. 8 years in 1995) (Phillip Mcdougall) of research and development
to ensure its safety and efficacy. Development costs have increased c.55% over the
past decade. Additionally, the number molecules needed to be synthesised to
launch one agrochemical product in the market has increased 3x over the past
couple of decades.
Exhibit 39. Discovery and development costs of a new crop protection product
16
14
12
10
0
1951-1955
1956-1960
1961-1965
1966-1970
1971-1975
1976-1980
1981-1985
1986-1990
1991-1995
1996-2000
2001-2005
2006-2010
2011
Source: Data - Agronova, JM Financial
Exhibit 41. Number of weeds with herbicide resistance to the respective modes of action
Source: UPL
Source: JM Financial
- Creating huge opportunities for Indian contract research companies: One of the key
alternatives adopted by global innovators to reduce the research cost is to outsource
part of the R&D to countries like India that have low-cost high-quality manpower.
Indian companies such as SRF, PI, Navin Fluorine and Aarti are already catering to
this niche demand.
JM Financial Institutional Securities Limited Page 25
Agrochemicals 28 September 2017
Also, branded generic sales by Indian companies to continue doing well: The rising
potential in the proprietary off-patent and generic categories augurs well for revenue
growth. In CY16, the global sales mix of patented, proprietary off-patent and generic
pesticides were 25%, 30% and 45%, respectively. This implies that of the total sales
value of USD 57bn in CY16, c.USD 43bn was driven by proprietary off-patent and generic
pesticides. Also, another USD 3bn worth of patents are slated to expire by 2020. This
provides non-research-oriented pesticide enterprises in countries such as India and China
with a large amount of opportunities and market potential.
Long term outlook of the domestic business also remains strong due to:
a) Increased government focus towards rural India…: India’s Prime Minister has targeted
to double farmer incomes by 2022 and sharply 24% increased (to INR 1.8trn) allocation
to the rural, agriculture and allied sector in the FY18 budget. The Government of India
has targeted increased spends on (a) Irrigation - capex spending up 25% in FY17 and
21% in FY18E and an increase in the fund for irrigation from INR 200bn to INR 400bn,
(b) Housing - PMAY targets to build over 5 million rural houses in FY18, almost 2x the run
rate of 2-3 million annually and has increased the construction amount provided from INR
70,000 to INR 120,000 for the beneficiary household, (c) Crop insurance – The
government plans to expand crop coverage from 30% of gross cropped area in FY17
(25% in FY16) to 40% in FY18 and 50% in FY19. These will also help improve farm
incomes.
c)… and rising share of fungicides and herbicides: India has a tropical climate resulting in
higher pest incidences. Therefore, insecticides form the largest segment of crop
protection, market followed by fungicides and herbicides. However, the share of
insecticides saw a marginal decline from 58%/55% in FY13/FY14 to 54% in FY17. While
insecticides are expected to continue to dominate the overall mix, the share of herbicides
and fungicides could increase owing to rising labour costs, a shift in agriculture from cash
crops to fruits and vegetables and government support for fruit and vegetable exports.
Though CY16 monsoon turned out to be normal after two years of poor rains, there
were a number of headwinds that impacted agrochemical companies in FY17 such as (i)
high channel inventories, (ii) scattered and uneven rainfall, (iii) low pest infestation and (iv)
nd
demonetization. With monsoon in CY17 also turning out to be deficient (-5.3% as of 22
September), with poor distribution and untimely rains across India, the near term outlook
of agrochemical appears to be weak. We expect flat to mid-single digit growth for key
domestic agrochemical companies for FY18.
Exhibit 44. Correlation between rainfall and agrochemical companies’ top-line growth
UP low low
Source: JM Financial
Some other challenges persist, which if addressed could act as drivers: (i)
Overdependence on rainfall: In India, rainfall is the primary source of water and only
c.46% of land under cultivation is irrigated. Therefore, the fate of Indian agriculture is
subject to the vagaries of the monsoon and so is the fate of agrochemical companies’
top-line growth, (ii) low farmer awareness on the right dosage of pesticide usage and
quality of pesticides and low purchasing power and (iii) low agricultural yields due to poor
soil quality, poor irrigation, etc. have discouraged farmers from using quality agri-inputs.
Exhibit 46. Per hectare agrochemical usage is lowest in India (kg/ha) Exhibit 47. India has one of the lowest agricultural yields (tonnes/ha)
Import of formulated pesticides where the formulation is already registered for indigenous Companies importing formulations into India will be negatively
manufacturing, shall be restricted to 75% of the average of three years of import from the impacted. However, most key listed players either formulate in-
date of application. In case the Certificate of Registration of molecule of any registrant is house or import formulations under the in-licensed model. Hence
less than three years old, import of pesticides shall be restricted to 75% on the basis of the impact of the same on key players is expected to limited to a
data provided by the registrant for such period. smaller percentage of the portfolio.
No Certificate of Registration shall be issued to any company for import, if the applicant Not material
possesses the Certificate of Registration of that product under indigenous manufacturing
category. In case where registrant has registration certificate of indigenous manufacturing
and import category the certificate of registration of import category shall be
withdrawn.
Globally, fluorine has become a leading choice to carry active ingredients in pharma and Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
agrochemical applications, leading to rising interest in fluorine research. Navin Fluorine (I) Ltd
Pramod Krishna
(NFIL) is one of India’s largest manufacturers of fluorochemicals with over five decades of pramod.krishna@jmfl.com | Tel: (91 22) 61781074
experience in the fluorine chain and a portfolio of over 60 fluorine-based products. NFIL is Alok Ranjan
also the only Indian fluorochemical company to provide end-to-end services, from early-stage alok.ranjan@jmfl.com | Tel: (91 22) 6630
research to building India’s first high-pressure, cGMP-compliant production facility. This gives
NFIL a unique advantage to partner global companies. NFIL has consistently focused on
moving up the value chain. We have a BUY rating on NFIL with a TP of INR 700. We estimate
FY17-19 earnings CAGR of 20% and value NFIL at 20x (1XPEG and DCF) FY19E EPS.
NFIL operates in a resuscitating industry: Globally, the use of fluorine was frowned upon Recommendation and Price Target
Current Reco. BUY
due to the ban on certain refrigeration gases (it was actually on chlorine and carbon in
Previous Reco. BUY
the gas and not on fluorine). However, currently, 3 of 10 blockbuster drugs contain Current Price Target (12M) 700
fluorine and therefore, the use of fluorine in pharma and agrochemical has gained a lot Upside/(Downside) 6.0%
of interest. A recent report by Solvay states that 40%-50% of new molecules being Previous Price Target 700
Change 0.0%
researched (for use in agrochemicals/pharma) contain some form of fluorine, since
fluorine is 1) inert and 2) much more lipophilic (fat soluble) than hydrogen. Therefore, if Key Data – NFIL IN
one replaces hydrogen with fluorine as an inert carrier, fluorine can enter membranes Current Market Price INR 660
much more easily, improving bio-availability of the active ingredient carried by fluorine. Market cap (bn) INR32.6/US$0.5
Free Float 55%
A unique industry position: NFIL, one of the 4 listed fluorine-based companies in India, is Shares in issue (mn) 48.9
uniquely positioned to benefit from rising interest in the segment. It acquired Manchester Diluted share (mn) 48.9
3-mon avg daily val (mn) INR89.7/US$1.4
organics (which was engaged in theoretical research and gram-scale production) and is 52-week range 799/430
making an investment of c.INR 0.6bn in India’s first high-pressure fluorine-based plant in Sensex/Nifty 31,160/9,736
Dahej for multi-ton batch size. Thus, backward and forward integration would help NFIL INR/US$ 65.7
offer a unique advantage of offering end-to-end solutions.
Price Performance
Focus on high-value businesses such as CRAMS and specialty chemicals: NFIL has % 1M 6M 12M
focussed on high-margin segments such as CRAMS and specialty chemicals, directing Absolute -0.3 11.4 41.7
most of its capex there. This led to the low-margin inorganic fluoride segment Relative* 1.1 4.6 28.3
* To the BSE Sensex
contributing only c.17% to its FY17 revenue, while the high-margin specialty
fluorochemicals and CRAMS segments contributed c.33% and 20%, respectively. We
estimate this trend to continue, with CRAMS revenues currently recording a CAGR of
42% and remaining the fastest growing segment for NFIL, followed by specialty
chemicals, with a growth rate of 13%. NFIL has also signed a JV with Piramal for the
manufacture of fluorine-based molecules; this is likely to further add revenues of c.INR
1bn annually.
BUY and TP of INR 700: We forecast FY17-20 revenue/EBITDA/earnings CAGR of
18%/19%/20% and factor in a 40bps improvement in margins by FY19. We value NFIL at
20x FY19E EPS. Key risks to our call are a continued slowdown in agrochemicals and a
rise in fluorspar prices (please refer to our initiating coverage note Navin Fluorine |
Fluorinating across the value chain for more details).
Free Cash Flow 399 374 986 621 993 ROIC 13.8% 17.1% 17.5% 22.0% 24.2%
Inc (-) / Dec in Investments 14 -184 -500 -500 -500 ROE 13.5% 16.7% 15.8% 18.5% 18.8%
Others -468 0 0 0 0 Net Debt/Equity (x) 0.0 -0.1 -0.1 -0.1 -0.2
Investing Cash Flow -795 -1,878 380 -1,100 -1,100 P/E (x) 37.6 26.7 24.4 18.3 15.7
Inc / Dec (-) in Capital 0 0 0 0 0 P/B (x) 4.9 4.1 3.7 3.2 2.8
Dividend + Tax thereon 29 -34 15 -48 -82 EV/EBITDA (x) 26.8 19.6 16.4 13.3 11.1
Inc / Dec (-) in Loans 204 -113 -100 -100 -100 EV/Sales (x) 4.6 4.1 3.5 2.9 2.4
Opening Cash Balance 281 287 481 916 973 Source: Company, JM Financial
PI Industries | HOLD
Robust business model but near-term headwinds persist
After strong growth until mid-FY17 with CAGR of 43% over FY12-16, PI Industries’ CSM Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
business started slowing down due to the weak global agrochemical environment. This led to
Pramod Krishna
order deferrals by some key customers. In the domestic segment, weak monsoons in FY16 pramod.krishna@jmfl.com | Tel: (91 22) 61781074
and FY17 as well as price erosion for one of its key products hurt revenues. Going forward, Alok Ranjan
our long-term view of the stock remains positive backed by (i) the company’s strong order Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
book of USD 1bn in the CSM business with execution visibility of 3-4 years and (ii) a strong
product portfolio in the domestic business with new product launches lined up, including the
recent tie-up with BASF. However, there is near-term weakness due to the following: (i) while
management has guided for a revival in CSM from 2HFY18, strong positive commentary is
yet to come from key global innovators and (ii) the monsoon is missing expectations in India, Recommendation and Price Target
with significant deficits key states and an overall uneven distribution of rainfall. Therefore, we Current Reco. HOLD
maintain a HOLD rating on the stock with a TP of INR 750. We highlight that indications of Previous Reco. HOLD
Current Price Target (12M) 750
revival in either of its segments would be key monitorables and positive triggers for the stock. Upside/(Downside) 0.0%
CSM order book to help sustain growth momentum: Growth in the CSM segment Previous Price Target 750
Change 0.0%
entirely depends on the company’s relationships with global innovators and respect for
IPR. PI has developed relationships over the years, and so, we expect PI to record a growth Key Data – PI IN
rate of 18-20% from FY19-21 (assuming there will be a revival in this segment) and its Current Market Price INR750
market share in global agrochemical CRAMS to increase from 4% currently to 6-8% by Market cap (bn) INR103.2/$1.6
FY25. The CSM business has a fragmented market and over the years, several new players Free Float 41.7%
have entered this segment. Hence, we believe very few companies in CSM will reach Shares in issue (mn) 137.59
Diluted share (mn) 137.59
double-digit market share. PI has also announced that it is evaluating its entry in the 3-mon avg daily val (mn) INR167.7/US$2.6
pharma CSM segment; however, given the limited visibility, we do not include any 52-week range 964/674
potential revenue from the pharma CSM segment in our model. We note that a Sensex/Nifty 31,160/9,736
INR/US$ 65.7
successful pharma CSM entry could provide a potential upside.
New product launches to determine growth outlook for domestic business: With Price Performance
% 1M 6M 12M
increasing competition for the herbicide Nominee Gold, PI’s future growth will be
Absolute 3.0 -12.3 -9.9
determined by new launches. PI already has a strong portfolio of in-licenced molecules, Relative* 4.3 -18.9 -20.3
wherein it collaborates with global agrochemical companies for the manufacture and * To the BSE Sensex
distribution of proprietary products in PI’s brand name. PI has further strengthened this
with a tie-up with BASF for the launch of 4 new 9(3) molecules in India, of which 3 were
launched in 1Q18. CIBRC recently announced new guidelines, under which if a molecule
has already been registered for indigenous manufacturing in formulation, its import will
be subject to specific quantity permissions (SQPs). Bispyribac Sodium is the chemical name
for PI’s blockbuster product Nominee Gold and PI used to import the formulation and
could have been subject to SQP. However, it has now tied up with Kumiai Chemicals for
the manufacture of Nominee Gold India, thus mitigating the risk.
Free Cash Flow 220 1,758 3,026 3,498 4,201 ROIC 26.3% 31.7% 27.1% 28.6% 30.5%
Inc (-) / Dec in Investments 10 -824 -1,000 -2,000 -3,000 ROE 30.4% 33.1% 24.9% 23.4% 22.6%
Others 484 989 364 416 630 Net Debt/Equity (x) 0.1 0.0 -0.1 -0.1 -0.1
Investing Cash Flow -1,153 -1,313 -2,136 -3,084 -3,870 P/E (x) 33.5 22.6 23.2 20.5 17.7
Inc / Dec (-) in Capital 0 0 0 0 0 P/B (x) 8.9 6.4 5.3 4.4 3.7
Dividend + Tax thereon -511 -663 -912 -1,161 -1,057 EV/EBITDA (x) 24.3 18.8 17.0 14.4 12.5
Inc / Dec (-) in Loans 1 -487 -848 0 0 EV/Sales (x) 5.0 4.5 4.1 3.5 3.0
Financing Cash Flow -510 -1,150 -1,761 -1,161 -1,057 Inventory days 69 69 71 71 71
Inc / Dec (-) in Cash 203 773 629 753 774 Creditor days 80 61 76 76 76
Opening Cash Balance 239 439 1,212 1,841 2,594 Source: Company, JM Financial
SRF, a multi-business entity, has evolved from manufacturing tyre cord fabrics to developing Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
advanced fluorine-based intermediates and refrigerant gases (HFC-134a). This business shift,
Pramod Krishna
coupled with increased capital allocation to fluoro-specialties, has led to renewed revenue pramod.krishna@jmfl.com | Tel: (91 22) 61781074
potential. Over the past few quarters, the weak global agrochemicals scenario led to lower- Alok Ranjan
than-estimated growth in the specialty chemicals segment. However, recent management Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
guidance indicates a revival in the segment by end-FY18 on the back of reduced global
inventory levels and new molecule developments. We therefore believe that the substantial
capex incurred by SRF in its specialty chemicals segment would now start yielding results. This
will also lead to margin expansions, aided by operating leverage and higher revenue
contribution of the high-margin specialty chemicals business. In the interim, we expect SRF’s Recommendation and Price Target
R-134a (in which it is the market leader) and technical textile businesses (key player in NTCF) Current Reco. BUY
to provide growth support. We have a BUY rating on the stock with a TP of INR 1670. Previous Reco. BUY
Current Price Target (12M) 1,670
New capex to drive growth: The Company has increasingly focused on expanding its Upside/(Downside) 9.7%
specialty chemicals segment and for FY18, of the INR 10bn capex announced, c.70% has Previous Price Target 1,670
Change 0.0%
been allocated towards specialty chemicals. Of this, SRF expects to spend INR 700mn on
its CGMP pharma plant, INR 1.8bn on a multi-purpose plant for the manufacture of Key Data – SRF IN
agrochemicals AI for a specific customer and INR 850mn for the production of a molecule Current Market Price INR1522
(P-33) for the agrochemical industry in FY18. This focus on the specialty chemicals Market cap (bn) INR87.4/$1.3
segment, despite a challenging environment, will pay off when the environment Free Float 32.4%
improves. It also indicates management’s strong confidence of a revival in the segment. Shares in issue (mn) 57.42
Diluted share (mn) 57.42
SRF has announced a capex of c.INR 2.5bn to set up a 35,000MT BOPP film 3-mon avg daily val (mn) INR272.3/US$4.1
manufacturing plant in Indore. The plant is likely to be commissioned in 4QFY18 and 52-week range 1970/1351
generate 1.0x-1.3x asset turnover at full capacity utilisation. Sensex/Nifty 31,160/9,736
INR/US$ 65.7
Ref-gas to continue providing support; TTB remains a cash cow: SRF is the only domestic
manufacturer of 1,1,1,2-tetrafluoroethane (HFC-134a), a refrigerant gas with significantly
Price Performance
lower ozone depletion potential vs. other similar gases and no immediate commercially % 1M 6M 12M
viable substitute visible. SRF increased its production capacity of HFC-134a from 5,000MT Absolute 4.9 -5.0 -13.8
to 12,500MT. Current demand for HFC-134a in India is c.8000MT, but export potential is Relative* 6.3 -11.6 -24.2
* To the BSE Sensex
significantly high. In 2015, SRF acquired the brand ‘DYMEL’ and the process to make
pharma-grade HFC-134a, which offers higher realisations at USD8/kg compared with
USD5/kg for industrial grade. Therefore, not only will the refrigeration gas volume
increase, but the realisation will also improve. SRF is also engaged in the manufacture of
technical textiles (TTB), which primarily comprises tyre cord, belting, coated and laminated
fabrics. The TTB segment has been generating FCF of INR2.0-2.5bn annually and will help
invest into growing the businesses.
BUY with TP of INR 1670: We forecast revenue/EBITDA/PAT CAGR of 13%/15%/19% for
FY17-20 and value the specialty chemicals business at 10x, refrigerant gases at 8x and the
remaining business at 6x EV/EBITDA to arrive at a TP of INR 1670. Key risks to our call are
(i) a continued slowdown in agrochemicals and (ii) INR appreciation (management has
indicated that a 1 INR appreciation against the USD would negatively impact SRF by
c.INR150-200mn).
Financial Summary (INR mn)
Y/E March FY16A FY17A FY18E FY19E FY20E
Net Sales 45,234 47,394 51,439 58,688 67,737
Sales Growth (%) 0.7 4.8 8.5 14.1 15.4
EBITDA 9,728 9,694 9,810 12,656 14,790
EBITDA Margin (%) 21.2 20.1 18.8 21.2 21.5 JM Financial Research is also available on:
Adjusted Net Profit 4,299 5,150 4,753 6,857 8,686 Bloomberg - JMFR <GO>,
Diluted EPS (INR) 74.9 89.7 82.8 119.4 151.3 Thomson Publisher & Reuters
Diluted EPS Growth (%) 42.0 19.8 -7.7 44.2 26.7
S&P Capital IQ and FactSet
ROIC (%) 11.6 11.7 10.6 15.2 18.7
ROE (%) 17.0 17.3 14.0 17.7 19.1
P/E (x) 20.5 17.1 18.5 12.8 10.1 Please see Appendix I at the end of this
P/B (x) 3.2 2.8 2.5 2.1 1.8 report for Important Disclosures and
EV/EBITDA (x) 10.6 10.8 9.9 7.0 5.8 Disclaimers and Research Analyst
Dividend Yield (%) 0.6 0.7 0.6 0.9 1.2
Source: Company data, JM Financial. Note: Valuations as of 27/Sep/2017
Certification.
Free Cash Flow 6,957 84 7,679 6,097 6,249 ROIC 11.6% 11.7% 10.6% 15.2% 18.7%
Inc (-) / Dec in Investments -1,076 -1,276 -607 3,000 0 ROE 17.0% 17.3% 14.0% 17.7% 19.1%
Others -553 7 0 0 -3,000 Net Debt/Equity (x) 0.6 0.5 0.3 0.0 0.0
Investing Cash Flow -6,354 -7,162 -4,607 0 -7,000 P/E (x) 20.5 17.1 18.5 12.8 10.1
Inc / Dec (-) in Capital 1,045 -209 0 0 0 P/B (x) 3.2 2.8 2.5 2.1 1.8
Dividend + Tax thereon -678 -744 -687 -990 -1,255 EV/EBITDA (x) 10.6 10.8 9.9 7.0 5.8
Inc / Dec (-) in Loans -3,052 -1,523 -2,000 -5,000 -4,000 EV/Sales (x) 2.2 2.2 1.9 1.5 1.2
Financing Cash Flow -2,509 -1,746 -2,127 -5,229 -4,106 Inventory days 53 63 44 44 44
Inc / Dec (-) in Cash 2,819 -2,931 4,946 3,868 -857 Creditor days 72 77 86 89 87
Opening Cash Balance 1,073 3,892 961 5,907 9,775 Source: Company, JM Financial
0
Sep-14 Mar-15 Sep-15 Mar-16 Sep-16 Mar-17 Sep-17
UPL has seen significant revenue growth over the past few years, making it outperform its Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
global peers, owing to 1) its balanced presence across geographies, product segments and
Pramod Krishna
crops; 2) its robust presence in high-growth countries such as Brazil and India (totalling 40% pramod.krishna@jmfl.com | Tel: (91 22) 61781074
of revenues); 3) its presence across the value chain (R&D, registrations, manufacturing and Alok Ranjan
marketing) with minimal dependence on outsourcing and 4) leveraging its global marketing Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
potential by launching the right products at the right time in a falling commodity price
scenario. With global agrochemical players continuing to guide for near-term weakness, we
expect UPL to continue outperforming the market. We highlight that UPL is in for a number
of tailwinds in the coming quarter due to reversal of GST destocking, higher cotton acreages,
a normal monsoon in India, improvement in agri-commodity prices in Brazil, higher sugar Recommendation and Price Target
beet acreages in Europe, higher cotton acreages in North America and increased acceptance Current Reco. BUY
of Glufosinate globally. We value UPL at 16x P/E and have a BUY rating on the stock, with a Previous Reco. BUY
Current Price Target (12M) 950
TP of INR 950. Upside/(Downside) 23.4%
Key growth triggers and strengths: (i) UPL has the approval and registration to Previous Price Target 950
Change 0.0%
indigenously manufacture 2 new products in the market (both combination products)
named Mancozeb and Azoxystrobin; this could be a driver for revenue growth. (ii) The Key Data – UPLL IN
company entered the biologicals segment in India, Africa, RO Asia and plans to introduce Current Market Price INR770
this in LATAM in FY18. For this, UPL will partner existing smaller players that manufacture Market cap (bn) INR391.2/$6.0
products with strong sales potential. Biologicals is the fastest-growing segment within Free Float 70.7%
agrochemicals and is expected to reach USD 10bn in market size by 2020 (from USD 4bn Shares in issue (mn) 508.04
Diluted share (mn) 508.04
currently). (iii) Herbicides became the largest segment for UPL (32% of revenues) in FY17. 3-mon avg daily val (mn) INR968.1/US$14.7
With growing weed resistance globally (weeds have developed resistance to 23 of 26 52-week range 903/584
known herbicide sites of action), the need for quality herbicides is increasing. UPL has a Sensex/Nifty 31,160/9,736
INR/US$ 65.7
strong herbicide portfolio with products such as Lifeline and Interline in the US (weeds
have become resistant to Paraquat and these UPL products are a substitute for Paraquat)
Price Performance
and Shagun in India (targeting Phalaris minor in wheat). % 1M 6M 12M
Absolute -7.6 6.1 12.6
Recent management commentary: (i) Management gave guidance of 12-15% revenue Relative* -6.2 -0.5 2.2
growth, 50-75bps improvement in margins, 20-22% tax rate, 90-110 days working * To the BSE Sensex
capital and INR10bn of capex for the full-year FY18. Revenue growth is likely to be driven
by increased sugar beet acreages in Europe, the replacement of Paraquat with
Glufosinate globally and an increase in cotton acreage in India and USA. (ii) Management
expects commodity prices to remain depressed in FY18, thereby continuing to benefit
generics companies. (iii) Global industry consolidation could result in merged companies
focusing on consolidation/restructuring over the next 2-3 years, which could benefit
companies such as UPL and allow it to capture further market share.
Revise TP to INR 950; maintain BUY: We value UPL at 16x FY19E EPS (peer average) and
forecast FY17-19 revenue/earnings CAGR of 16%/22%. We roll forward to Sep’18 to
arrive at a TP of INR 950. Key risks to our call are (i) currency fluctuations, especially a fall
in the BRL, (ii) a rise in crude prices/technical prices and (iii) climatic vagaries.
Free Cash Flow 6,765 13,195 13,056 17,053 23,288 ROIC 17.6% 21.1% 23.3% 24.4% 26.5%
Inc (-) / Dec in Investments 332 -447 0 0 0 ROE 17.9% 27.3% 25.8% 26.3% 26.2%
Others -7,405 1,480 1,500 2,174 2,602 Net Debt/Equity (x) 0.6 0.4 0.3 0.2 0.0
Investing Cash Flow -16,610 -10,838 -6,803 -9,807 -8,914 P/E (x) 38.0 22.2 18.9 14.9 11.9
Inc / Dec (-) in Capital 0 157 0 0 0 P/B (x) 5.7 5.4 4.4 3.5 2.8
Dividend + Tax thereon -2,134 -3,153 -3,665 -3,970 -3,970 EV/EBITDA (x) 18.2 14.5 11.5 9.5 7.6
Inc / Dec (-) in Loans 9,568 13,168 -4,998 -2,500 2,500 EV/Sales (x) 3.1 2.6 2.3 1.9 1.6
Others -5,333 -7,351 -7,309 -6,844 -6,844 Debtor days 133 127 125 125 125
Financing Cash Flow 2,101 2,821 -15,972 -13,314 -8,314 Inventory days 98 93 100 100 100
Inc / Dec (-) in Cash 1,794 17,049 -1,416 5,913 17,577 Creditor days 124 134 136 137 138
Opening Cash Balance 10,098 11,892 28,940 27,525 33,438 Source: Company, JM Financial
Colourants
Selective focus to add colour to business
The colourants industry has seen a notable transition globally with the manufacturing base Mehul Thanawala
shifting from developed countries to Asia. Among Asian economies, India and China’s mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
colourants industries have been major beneficies of this transition, becoming preferred Alok Ranjan
Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
suppliers to the global market. The transition was driven by the favourable factors such as
low labour, energy and regulation costs in these countries. In the last decade, we also saw a Pramod Krishna
pramod.krishna@jmfl.com | Tel: (91 22) 61781074
gradual transition from basic to specialty colourants chemicals on account of better margins
and differentiation index of specialty colourants. The colourants industry is one of most
polluting specialty chemicals industries, and thus, with reduced environmental arbitrage
between India and China, and skilled employee costs favouring India in the long term, we
believe the Indian specialty colourants industry looks stronger in the medium-to-long term. In
this section, we present a detailed analysis on the Indian dyes and pigments industry and
identify the high-value product groups (high-performance pigments and effect pigments)
driving industry growth and enhancing overall margins.
Growth in end-use industries boosting Indian colourants: Dyes and pigments are
predominantly used in paints, coatings and textiles. The paints, coatings and textiles
industries are expanding, with oders from rapidly-growing end-use industries such as
automobiles, construction and fashion. We believe the govt.’s increased focus on housing
will drive organic and inorganic pigments as these pigments (used in paints & coatings)
are intrinsically linked to the growth of construction industry. End-use industries will
benefit from strong economic growth and rising per capita income as well as increased
discretionary spending.
Exports another key driver: India’s colourants industry is highly fragmented, with several
small companies in the commodities segment resulting in low profit margins. This has led
to increased focus on high-performance pigments for value-added applications, largely
catering to international markets. The industry has been a net exporter of dyes and
pigments with exports constituting c.80% of domestic consumption. Despite the positive
trade balance, the import value (INR/kg) for nearly 14 of 17 product groups is higher than
the export. Thus, with increased penetration of new technology and focus on R&D, we
believe there is enough room for Indian companies to foray into high-value colourants.
Reduced environmental arbitrage between India and China: The colourants industry is the
most polluting among speciality chemicals. Environmental crackdowns in China led to the
shutdown of 375 polluting facilities in 2014, across manufacturing segments including
dyes and textiles. Increasing regulatory compliance in China has forced small players out
of the market. With excess capacity (67% utilisation) and compliance with international
quality and environmental standards, we believe the Indian dyes and pigments industry
will benefit in the short and long term. Import substitution between India and China will
drive short-term benefits and increased sourcing diversification by importers will drive
long-term benefits.
Focus on high-margin HPPs & effect pigments to boost margins: HPPs and effect
pigments lead to better performance, high margins and low environment impact. Indian
pigment companies are moving from commodity pigments such as azo, blue and green
pigments to HPPs and effect pigments, which is leading to improved margins. Sudarshan
Chemicals is the only Indian company to operate in both these high-value pigments.
Increased R&D focus: Indian specialty chemicals companies are focussing on providing
colour solutions rather than merely supplying colourants. This is leading to an increased
focus towards providing integrated solutions to customers. Since structural factors favour JM Financial Research is also available on:
Bloomberg - JMFR <GO>,
India, we believe there will soon be newer technologies in the Indian market along with
Thomson Publisher & Reuters
increased R&D investments by domestic firms. S&P Capital IQ and FactSet
Key concerns: The key concerns faced by players in the colourants segment are 1)
increasing commoditisation, which is eroding margins, 2) poor availability of feedstock Please see Appendix I at the end of this
report for Important Disclosures and
such as naphthalene and toluene, 3) Low spending on R&D to alleviate environmental
Disclaimers and Research Analyst
concerns and 4) high compliance costs related to the REACH registration. Certification.
1. Colourants
1.1Introduction
It is difficult to say when colour itself was first developed, since even pre-historic caves have
colour paintings; however, those were natural colours. The first synthetic colour was
developed in 1856, when Perkin’s developed the first synthetic dye. This led to the birth of
the European dyestuff industry, with these dyes being used as textile substrates.
Colours add aesthetics to a variety of products (textiles, leather, paper, food, paints,
cosmetics, data storage, medical diagnostics, etc.) and make them look attractive, increasing
their ‘perceived’ value. While dyes and pigments per-se are basic chemicals, there are niches
such as environment-friendly colourants and high-performance pigments, which give certain
characteristics or performance enhancements and can be classified as specialty chemicals. In
this report, we provide broad coverage of the colourants industry with special focus on
specialty chemicals. Paints companies such Asian Paints are outside the purview of this report
and the focus is only on dyes and pigments that are used to make masterbatches.
1.2Types of Colourants
Colourants are broadly classified into dyes and pigments.
Dyes: Dyes are aromatic organic compounds made primarily from Benzene, Toluene,
Textiles, a major end-use industry,
Naphthalene, Anthracene and Cyanuric chloride. Dyes are soluble substances that pass
constitutes c.75% of the demand
colour to the substrate. Their end-use industries include textiles, leather, paper, plastics,
for dyes
printing inks and edibles.
can be further classified based on various criteria but the one used by the International Trade
Commission (ITA) is the most followed. According to ITA, there are nearly 12 types of dyes.
Among them, some are considered toxic/harmful and have been banned. Exhibit 50 Exhibit b.Pigments and its categories
illustrates the major types of dyes and its applications. Types Categories
Pigments: Pigments are insoluble substances usually in powdered or granular form that
Organic Quinacridone, Phthalocyanine, and
improve the appearance or impart colour to the substrate by reflecting only certain light Azo
rays due to selective wavelength absorption. Pigments are used to impart colour, hide the
substrate, efface the existing colour and enhance the strength of the paint film. Pigments Inorganic Chromium oxide, Carbon black,
Cadmium pigments, Iron oxide &
are mainly used in industries such as paints & coatings (c.43%), plastics (c.27%) and
Titanium pigments
others such as inks, automobiles, emulsion paints and distempers (30%). Specialty Thermochromic, Fluorescent, Metallic
& Light interference pigments
Exhibit 51. Classification of pigments
Source: Company, Industry, JM Financial
5%
15%
20% 60%
Inorganic Pigments: Inorganic pigments are resistant to sunlight and chemical exposure
and are more durable than organic pigments. Despite the durability, inorganic pigments
are cheaper than organic pigments due to higher toxicity, duller colour and low tinting
strength. For instance, export values of organic/inorganic pigments are c. INR
700/Kg/c.INR 100/Kg. (source: MoC&F).
Global colourants market expected to grow at a moderate pace: The global market for
colourants (comprising dyes, pigments and intermediates) was estimated at USD 45.2bn in
FY15 and is expected to grow at a moderate pace of c.5% CAGR over FY15-FY20 to reach Global growth rate will remain
USD 57.7bn. Growth has picked up marginally from an average CAGR of c.4.2% during moderate at c.5% CAGR over
FY10-FY15. Of the USD 45.2bn, the pigment industry’s market size was c.USD 23bn. Growth FY15-20
in colourants will be led by the increasing use of specialty colourants, especially food
colourants and hair colourants, and by the increasing demand for environment-friendly
colourants. (source: markets&markets, PR Newswire, Meghmani annual reports).
High-performance colourants and niche products to drive future: Globally, textiles and
construction industries will remain the major end-use industries for colourants, but demand
for high-performance/environment-friendly colourants could grow faster. HPPs include both
organic high-performance pigments and inorganic effect pigments. The global HPP demand
was estimated at 162.8 kilo tons in 2015 with a market size of USD 4.56bn (Source: Globally, Food and hair colour will
Sudarshan chemicals). The market is expected to post 3.81% CAGR in value terms and record high growth rate of 9%
volume CAGR of 5.2% over FY15-FY21. Certain segments such as food colours and hair and 21% over FY17-FY21
colour could record CAGR of c.9% and 21% over FY17-FY21. Apart from that, the use of
colourants in electronics (in LCDs, LEDs, solar cells and laser dyes) could also be an interesting
niche. Therefore, companies that focus on high-performance/environment-friendly products
could grow at a faster rate.
JM Financial Institutional Securities Limited Page 44
Colourants 28 September 2017
Exhibit 54. Indian dyes and pigments - Capacity and production (In 000’MT)
Low per capita consumption & high growth in end-use industries key strengths: The per
capita consumption of dyes in India/Europe/Japan is 50/400/300 grams, highlighting a
domestic opportunity. Textiles is the largest consumer of dyestuffs and Asia is the fastest-
growing textile market, with a CAGR of c.4% over FY10-15, followed by North America,
Latin America and Western Europe. Therefore, it is not surprising that Asia leads dyestuff
production both in terms of volume and value with a 42% share in global production;
US/Europe contribute c.24% and 22%, respectively. Apart from textiles, printing inks, paints
and plastics are the other segments driving growth in dyes/dye intermediates.
On the pigments side, growth will be mainly driven by rising demand for paints and coatings
from the construction industry, which is expected to grow at c.6% over FY15-20. Other
segments driving demand for pigments are plastics, inks and cosmetics, which are expected
to post low-double-digit growth in the domestic market and high-single-digit growth globally
over FY15-20.
Source: JM Financial
Exhibit 57. Indian dyes and pigments – Exports and Imports (‘000 'MT)
Will lead to import substitution: During CY13-CY16, we imports rose by a meagre 1% YoY
due to import substitution through a reduction in exports from a CAGR of 9% YoY (CY09-
CY16) to 5% YoY (CY13-CY16). The major reason is environmental crackdowns in China
that led to a shutdown of several domestic dye and pigment companies. This drove increased Indian colourants industry saw
domestic sales by Indian companies, leading to a modest reduction in exports. The import substitution due to reduced
implementation of stricter environmental laws in China could provide Indian manufacturers Chinese exports
an opportunity to increase exports and gain global market share. Additionally, the export and
import data (Source: Ministry of Chemicals & Fertilisers) of 17 dye and pigment product
groups highlights that in the past 3 years, the growth rate of only two exported products is
lower in comparison with 12 imported product groups, highlighting the reduction in imports.
Increased focus on high-margin HPPs and effect pigments to drive margins: Since 80% of
dyestuffs are commodities, duplication is easy and leads to reduced margins. However, in
recent years, we have seen increasing attempts by major global manufacturers to move Companies with presence in HPPs
towards the manufacture of specialised VAT dyes, HPPs, etc., which functions as specialty and effect pigments will be the
products. Gradually, companies are focussing on the higher end of other dyes (eg. reactive most attractive
dyes segment). The overall trend leans towards innovation, production range, quality and
environment-friendly products.
Major domestic dyes and pigment companies are Atul Limited, Aarti Industries, Bodal
chemicals, Kiri dyes, Clariant India, Sudarshan Chemicals, Meghmani Organics Ltd, Clariant
India, Golchha pigments and Heubach India. Major global players are BASF SE (Germany),
Clariant AG (Switzerland), Huntsman corporation (US), Lanxess AG (Germany) and Solvay SA
(Belgium).
The following table provides a snapshot of the major domestic and global colourants
companies in India.
Among Indian companies engaged in the manufactur of dyes (Exhibit 58), Aksharchem is the
leader in terms of superior financials compared to its competitiors. Aksharchem is the largest Aksharchem is a true colourant
exporter of Vinyl Sulphone in India with c.45% share in exports of this product. However, it is company with presence in both
also the largest player globally for CPC green pigments, with a global market share of c.10%. dyes (60%) and pigments (40%)
Within the pigments segment, we have tried to identify the companies present in the high-
margin organic pigment segment vs. inorganic. Companies with a product-mix tilted towards
high-margin organic pigments such as high-performance pigments and effect pigments will
see better margins. There is an excess capacity for the manufacture of pigments worldwide,
resulting in lower margins, and thus companies that manufacture and trade in high-margin
organic pigments such as high-performance pigments and inorganic effect pigments will be
highly attractive. HPP’s and effect pigments are specialty pigments that can be used in
automobiles and cosmetics.
Inorganic Pigments
Titanium Dioxide
Black & White Sudarshan Chemicals is the only
Carbon Black
Indian company making both
Iron Oxide Sudarshan Chemicals high-performance pigments and
Colour Chrome Oxide effect pigments
Chroma Pigments
High performance inorganic
Effect Pigments Sudarshan Chemicals
pigments
Organic Pigments
Exhibit 59 and 60 highlight the dominance of Sudarshan Chemicals in the pigments value
chain. It is the only company that operates across various categories of organic pigments.
Sudarshan Chemicals is the only Indian company to manufacture and sell effect pigments,
which are specialty pigments used in cosmetics. Sudarshan Chemicals garnered c.90% of its
revenue from pigments in FY17. Other notable companies are Meghmani Organics, Asahi
Songwon and Clariant India.
Exhibit 61 highlights the companies with high average revenue growth and EBITDA margins
(%), namely Aarti, Atul, Sudarshan Chemicals and Aksharchem.
The valuation chart of Indian colourant companies, along with their global peers, indicates
that barring Aarti and Atul, others are still trading at a discount. Aksharchem, Bodal and
Meghmani have the lowest valuation multiples.
5. Outlook
With tremendous manufacturing capacity and sustained demand for high-performance
products, the colourants segment is an attractive proposition for investors. Moreover, with
reduced regulatory arbitrage, Indian companies will be favoured over their global peers. The
key challenge for the industry will be to continuously innovate as product duplication is easy.
Thus, companies focusing on new product development or improving product mix by
through HPP’s and effect pigments will be successful in the long run.
Aarti Industries (Aarti) is a leading benzene-based integrated specialty chemicals Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
manufacturer with over 200 products, several clients globally and c.50% of revenue coming
Alok Ranjan
from exports. It is a highly diversified chemicals player with 3 business segments: specialty Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
chemicals (c.82% of FY17 revenue), pharmaceuticals (c.14% of FY17 revenue) and home & Pramod Krishna
personal care (c.6% of FY17 revenue). The key end-use industries for its products are pramod.krishna@jmfl.com | Tel: (91 22) 61781074
polymers additives (composite materials), dyes & pigments, pharma intermediates and agro
chemicals, with revenue contribution of 15%-25%. Aarti’s business model is based on raw
material prices plus margins, but it has consistently improved its margins with improving
isomer balancing and product mix. It has also continuously increased the capacity of high-
value-add processes, resulting in an improved product mix, and thus, better financial results.
Management has guided for moderate volume and earnings growth of 10% in FY18.
Unique positioning in India’s chemicals space: Aarti has a unique advantage vs. peers as
its specialty chemicals segment is completely based on benzene and its derivatives. As a
result of its expertise in the benzene value chain, it ranks among top3/top4/top2/top2
globally in chlorination/nitration/ammonolysis/hydrogenation and is the only player in
India with Halex chemistry, leading to a 25%-40% market share across products.
High focus on specialty chemicals and improving product mix enhancing margins: The Key Data – ARTO IN
Current Market Price INR875
company is focussed on improving its product mix by enhancing the capacity of high-
Market cap (bn) INR71.9/$1.1
value-add processes with a mix of debottlenecking and greenfield capex. Its gross block
Free Float 43.7%
expanded 3x over FY12-17, resulting in increased capacities of high-value-add processes Shares in issue (mn) 82.12
such as hydrogenation (700 TPM in FY10 to 3000 TPM in FY17), PDA (250 TPM in FY15 Diluted share (mn) 82.12
to 1000 TPM in FY17), nitrochlorobenzene (60,000 TPA to 75,000 TPM), chlorination 3-mon avg daily val (mn) INR46.6/US$0.7
52-week range 1040/582
(65,000 TPA to 110,000 TPA). The resulting effect of this capex resulted in improved Sensex/Nifty 31,160/9,736
EBITDA/PAT margin (15%/5% in FY12 to 20%/10% in FY17). INR/US$ 65.7
Ethylation unit and Toluene value chain to drive revenue growth – high focus on Price Performance
agrochemicals: Aarti commenced commercial production of ethylation, which is used in % 1M 6M 12M
herbicides and other agrochemicals. The company plans to diversify into the toluene Absolute 4.0 13.4 43.5
product chain (nitro toluene and derivatives) through a greenfield facility at Jhagadia. Relative* 5.4 6.8 33.1
* To the BSE Sensex
Aarti will leverage its existing customer relationships to cross-sell toluene derivatives for
their downstream use in the products serviced by the company (optical brighteners,
agrochemicals, pigments and pharmaceuticals). Management has guided for a similar
product margin as its benzene chain of products.
Multi-year contract with global agrochemicals company will improve margins: Aarti will
supply a high-value agrochemical intermediary from FY20 to a global agrochemicals
company. The project is expected to generate revenues of c.INR 40bn equally spread out
over the contract term of 10 years. Aarti will invest c.INR 4bn in this project, driving both
revenue growth and improved EBITDA margin as this project will have a higher EBITDA
margin of c.40% compared with its current EBITDA margin of c.20%.
Aksharchem (India) Ltd (Aksharchem) is one of India’s key players in the colourants industry. Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
It operates across 20 countries and has been one of the prime beneficiaries of the slowdown
Alok Ranjan
in China’s chemical industry. Aksharchem primarily manufactures two products: Vinyl Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
Suphone, a dye intermediate used to make dyes for the textile industry (c.60% of revenues) Pramod Krishna
and CPC Green, a pigment used to make green colour used in the paint and automobile pramod.krishna@jmfl.com | Tel: (91 22) 61781074
industries (c.40% of revenues). In Dec’16, Aksharchem announced a capex plan of INR
1.75bn to expand its current CPC Green facilities and add H-Acid and specialty chemicals.
Management expects these projects to be commissioned in 12-18 months from the date of
announcement. We do not have a rating on stock.
CPC Green (c.40% of revenues): In FY15, Aksharchem acquired the CPC Green business
Key Data – ADCH IN
of Asahi Songwan; CPC Green is a product that generates steady margins of 15-20% Current Market Price INR732
annually and does not face competition from China. Aksharchem recently expanded its Market cap (bn) INR6.0/$0.1
capacity from 120TPM to 160TPM and, as per management, has 8% of the global market Free Float 32.5%
share. The company intends to expand this capacity to 200TPM through a brownfield Shares in issue (mn) 8.20
Diluted share (mn) 8.20
project and add another 150TPM at a new greenfield site at Dahej. 3-mon avg daily val (mn) INR16.0/US$0.2
52-week range 945/443
Expansion plans going forward: Aksharchem recently announced capex of INR 1.75bn
Sensex/Nifty 31,160/9,736
for: (i) the expansion of its CPC Green facility from 160TPM to 200TPM in Phase I and to INR/US$ 65.7
350TPM in Phase II as well as backward integration into CPC Blue – Capex of INR 850mn;
(ii) the manufacture of H Acid – a dye intermediary – for INR 250mn and (iii) the Price Performance
manufacture of value-added precipitated silica (as part of specialty chemicals) for INR % 1M 6M 12M
Absolute 3.6 -0.2 57.0
650mn. Management expects a timeline of 12-18 months from the date of Relative* 5.0 -6.7 46.6
announcement (Dec’16) to execute these projects. * To the BSE Sensex
Asahi Songwon (Asahi) is a key player in the pigments industry and one of the largest Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
producers of CPC Blue crude (60% of revenues) and its derivatives in India with a combined
Alok Ranjan
capacity of 11,400TPA. Over the years, Asahi has increased focussed on the development of
Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
high-performance pigments through forward integration and enhancing productivity to
Pramod Krishna
become more competitive and earn higher margins. Asahi’s pigment portfolio consists of 4
pramod.krishna@jmfl.com | Tel: (91 22) 61781074
derivatives of CPC Blue Crude: Beta Blue 15.3 and 15.4, and Alpha Blue 15.0 and 15.1. The
company has recently developed four new products (Phthalocyanine Blue 15.0 and 15.1,
Orange 64 and Yellow 12) which it expects to commercialise in FY18. We do not have a
rating on the stock.
CPC Blue Crude (60% of revenues): The global pigments market is valued c.USD 26bn
and is forecast to record a CAGR of 3.8% until 2023 (Research and Markets). Within the
organic pigments space, India has emerged as a global hub for Phthalo pigments (green
and blue). Pthalocyanine pigments are mainly used in the printing inks industry (around
40%) while the rest finds application across paints, plastics, textiles and paper industries.
Asahi, with c.5% of the world’s organic pigment production, has evolved as one of the
leading manufacturers of blue pigments in India. Asahi earns nearly 72% of its revenue
from exports. In FY17, the company commenced debottlenecking of its CPC Blue Key Data – ASAH IN
capacity, which led to an increase in capacities by 13% and additional revenue generation Current Market Price INR305
of INR 330mn for FY17. The company aims to increase capacity utilisation going forward. Market cap (bn) INR3.7/$0.1
Free Float 26.4%
Shares in issue (mn) 12.27
Forward integration to blue pigments: Asahi’s production process is vertically integrated,
Diluted share (mn) 12.27
wherein CPC Blue Crude is the primary raw material for the production of blue pigments.
3-mon avg daily val (mn) INR11.2/US$0.2
The company’s product portfolio primarily consists of 2 variants of Beta Blue (15.3 and 52-week range 366/191
15.4) primarily used in the printing ink industry, and in FY16, the company added Alpha Sensex/Nifty 31,160/9,736
Blue to its portfolio. In FY17, the company developed 2 new variants of Beta Blue - 15.0 INR/US$ 65.7
for water based applications (inks, paint and textiles) and 15.1 for plastic applications. In
addition to pthalocyanines, the company recently forayed into the Azo pigment space
Price Performance
(wherein China is the global leader) with the development of Orange 64 and Yellow 12.
% 1M 6M 12M
Financials: Asahi reported revenue/EBITDA/PAT of INR 2.5bn/INR 463mn/INR 250mn in Absolute -2.9 15.7 33.2
FY17 and has recorded a CAGR of 4%/14%/20% over FY15-FY17. The company’s focus Relative* -1.6 9.1 22.8
* To the BSE Sensex
towards increasing the share of value-added products (pigments), cost efficiencies and
higher utilisations has resulted in strong margin expansion from 13% in FY14 to 18% in
FY17. Key risk to its growth: (i) a slowdown in end-user industries such as plastics,
housing and FMCG, (ii) crude price fluctuations – partly mitigated by vertical integration
and (iii) exchange rate fluctuations (72% of revenues generated from exports).
Atul limited (Atul) is a well-diversified chemical company with products falling under two Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
broad segments: life science chemicals (30% of FY17 revenue) and performance & other
Alok Ranjan
chemicals (70% of FY17 revenue). These two broad segments cater to several end-use Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
industries such as agriculture, textiles, construction, tyres, fragrances and pharmaceuticals. Pramod Krishna
The major sub-segments (c.85% of FY17 revenue) driving Atul’s growth are aromatics (FY17 pramod.krishna@jmfl.com | Tel: (91 22) 61781074
value/volume growth: 16%/23%), colours (FY17 value/volume growth: 3%/7%), crop
protection (FY17 value/volume growth: 8%/23%) and polymers (FY17 value/volume growth:
7%/18%). The aromatics segment is one of Atul’s strongest segments on account of its
market leadership in its 3 flagship products. Polymers is another major sub-segment driven by
high growth in end-use industries. In this report, we will focus on the two major sub-
segments – aromatics and polymers – which contributed c.29%/26% to FY17 revenue.
Key Data – ATLP IN
Highly-diversified business model: Atul is a highly-diversified chemical company with Current Market Price INR2239
about 900 products and 450 formulations, 6000 customers across 68 countries and 27 Market cap (bn) INR66.4/$1.0
end-use industries. The life science chemicals segment (c.30% of FY17 revenue) consists Free Float 57.0%
Shares in issue (mn) 29.66
of 3 sub-segments (aromatics-I, crop protection, APIs/API Intermediates and floras) and
Diluted share (mn) 29.66
caters to the pharmaceutical and agriculture industries. Performance and other chemicals 3-mon avg daily val (mn) INR58.4/US$0.9
(c.69% of FY17 revenue) consists of four sub-segments, (aromatics-II, bulk intermediates, 52-week range 2588/1880
colours and polymers) and caters to end-use industries such as fragrance and personal Sensex/Nifty 31,160/9,736
INR/US$ 65.7
care, cosmetic, dyes and tyres (growing 6% annually). Management plans to augment
growth by (i) deepening its presence in Africa and South America and (ii) introducing new Price Performance
products and formulations. % 1M 6M 12M
Absolute 10.5 -1.7 -3.0
Product market leadership a key driver for the aromatics segment: The aromatics segment Relative* 11.9 -8.2 -13.4
mainly caters to fragrance and personal care industries. The aromatics segment’s * To the BSE Sensex
sustained growth has taken place on the back of market leadership of its three flagship
products, p-cresol, p-AA & p-AA1 that have 42%/75%/90% domestic market share, and
the opportunity to participate in the global fragrance and personal care market valued at
c.USD 34bn with a 4% growth rate. Management is focussing on (i) increasing
manufacturing efficiencies, (ii) establishing capacity for fragrance intermediates and (iii)
introducing new products through its Kilo lab.
High growth in end-use industries and brand focus will drive the polymers business: The
polymers sub-segment (96 products and 300 formulations) accounted for 26% of FY17
revenue and expanded (7%/18% in value/volume) on account of c.6% growth in the
domestic epoxy market, which was driven by (i) 20% growth in paints & coatings (40%
of epoxy applications) and (ii) high growth in other end-use industries - 12% in civil &
construction, 8% in adhesives). Additionally, growth will be supported by (i) emerging
segments such as defence, wind and recreation, (ii) conversion of commodity capacity to
specialty, (iii) expansion plans of specialty resins and intermediates for sulphones and (iv)
brand (Lapox) leveraging.
Clariant Chemicals (India) Ltd (CCL) is a part of the Swiss-based Clariant Group, which is Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
globally one of the largest specialty chemicals companies (second largest pigments company)
Alok Ranjan
with sales of USD 6bn in CY16. CCL primarily operates in two segments: (i) Plastics and Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
coatings (93% of revenues) which include pigments, additives and masterbatches and (ii) Pramod Krishna
specialty chemicals (7%) which include dyes, synthetic resins and coatings. Over the past few pramod.krishna@jmfl.com | Tel: (91 22) 61781074
years, CCL has strategically reorganised its portfolio through divestment of low-margin
businesses such as (i) textiles, paper and emulsion (TPE), (ii) leather services and (iii) industrial
and consumer specialties (ICS), and instead focused on expanding inorganically (through the
acquisition of M/s Plastichemix’s masterbatch business and Lanxess India’s carbon black
business) and organically. We do not have a rating on the stock.
Plastics and coatings segment - P&C (93% of revenues): Under this segment, CCL
primarily operates in pigments (58% of P&C), masterbatches (40% of P&C) and additives.
It is one of the world’s leading providers of organic pigments that are used in paints,
Key Data – CLRC IN
plastics, fibres, detergents and cosmetics. The key innovative variants of pigments that
Current Market Price INR573
Clariant manufactures are (i) dissolver dispersible pigments for paints, (ii) halogen-free Market cap (bn) INR13.2/$0.2
pigments for plastics, (iii) guaranteed limits of halogen in pigments for the electronic Free Float 15.8%
industry and (iv) pigments with higher brightness and contrast for LCD and W-OLED Shares in issue (mn) 23.08
displays. The company’s masterbatch portfolio is a concentrated mixture of pigments Diluted share (mn) 23.08
3-mon avg daily val (mn) INR16.7/US$0.3
and/or additives dispersed in a polymer medium. In FY15, the company acquired M/s 52-week range 840/560
Plastichemix Industries’ masterbach business which helped it improve its customer base Sensex/Nifty 31,160/9,736
and product portfolio in the segment. CCL has 4 manufacturing facilities in India for the INR/US$ 65.7
manufacture of masterbatches and has tie-ups with players in the fibre, consumer
Price Performance
durables, packaging and healthcare industries. CCL is also a leading provider of non-
% 1M 6M 12M
halogenated flame retardants, waxes and polymer additives. Absolute -2.1 -15.4 -24.3
Relative* -0.7 -22.0 -34.7
Specialty chemicals segment (7% of revenues): This segment includes performance * To the BSE Sensex
chemicals for personal care and industrial applications, oil and mining services and
products that are used in textile, paper, emulsion and leather industries. CCL has entered
supply agreements with Archroma India Pvt Ltd and Stahl India Pvt Ltd to manufacture
and supply products for textile and leather industries. In FY16, the company sold its low-
margin Industrial and Consumer Specialties business (ICS) to Clariant India Ltd, and
subsequently entered a job work agreement to process and supply job-work products.
Meghmani Organics Limited (MOL) operates in three major segments: pigments (8% global Mehul Thanawala
th
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
market share in Pthalocyanine), agrochemicals and basic chemicals (4 largest caustic chlorine
Alok Ranjan
player in India). MOL has vertically integrated facilities manufacturing CPC blue (upstream Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
product, also sold to other manufacturers) and final products (pigment blue and green). It Pramod Krishna
has a strong presence in exports with c.69%/61% of pigments/agrochemicals (227 exports pramod.krishna@jmfl.com | Tel: (91 22) 61781074
registrations in FY17 vs. 183 in FY16 in agrochemicals) revenue in FY17 coming from exports
to c.75 countries. MOL expects its pigment business to do well on the back of its improving
product mix and ramped-up Beta Blue plant. The domestic market will be driven by better Key Data – MEGH IN
Current Market Price INR78
monsoons, which will drive the agrochemicals segment. Overall, MOL expects to deliver
Market cap (bn) INR19.9/$0.3
better financial performance on the back of capacity expansion in high-margin businesses
Free Float 31.0%
coupled with improving capacity utilisation, a strong product base, improved demand Shares in issue (mn) 254.31
conditions and widening distribution channels. Diluted share (mn) 254.31
3-mon avg daily val (mn) INR344.8/US$5.2
Vertically integrated in pigment segment (c.34% of FY17 revenue): MOL is a global scale 52-week range 89/34
producer of Phthalocyanines pigments, with capacity of 31,000 MTPA (c.8% of global Sensex/Nifty 31,160/9,736
capacity). MOL’s product (pigment blue/green) is an organic pigment with better INR/US$ 65.7
performance and lower toxicity compared with inorganic pigments. Pigment
Price Performance
blue/pigment green (derived from CPC blue) have important properties: crystallising
% 1M 6M 12M
(brilliance and brightness) and non-crystallising non-flocculating (spread evenly)/non- Absolute 7.6 109.4 70.8
crystallising (maintain colour) and non-crystallising non-flocculating (spread evenly). These Relative* 8.9 102.8 60.4
are the three main properties required from a pigment and thus MOL can cater to a wide * To the BSE Sensex
range of applications. MOL has signed some long-term contracts recently. This coupled
with growth in end-use industries could improve utilisation, with management guiding
for better capacity utilisation (80% in FY18 vs. 65% in FY17). Additionally, the company
has c.70 overseas distributors leading to direct presence in export markets (US, Europe,
Indonesia and Dubai), which allows it to work closely with end-use customers.
Revenue growth to be driven by ongoing INR 5.4bn capex: MOL has undertaken capex of
INR 5.4bn, which will be completed over 2-3 years. Of the INR 5.4bn, c.INR 4bn will be
used to 1) set up a hydrogen peroxide project (25,000 TPA capacity), 2) expand its caustic
soda plant (increase by 50% to 240,000 TPA) and 3) increase its captive power plant
capacity from 60 MW to 90 MW. According to MOL, the first two projects are expected
to add INR 3bn by FY21. The remaining INR 1.4bn will be used in its CMS
(chloromethane) project, which is expected to add INR 1.2bn of revenue by FY19. The
end-products of these projects are used in pharma and agrochemicals industries.
th
5 largest global pigment producer and domestic market leader: During the past 7 years,
th th
Sudarshan has improved its global rank in pigment producers from 20 to 5 and has also
become the domestic market leader (35% market share). It evolved from a local player in
the 1990s to a global player as a result of its 4-phase strategy. In Phase-III (2008-20), it is
th
targeting to become 4 largest global pigment producer. This transformation took place
on back of globalisation efforts (39% exports share in FY11 vs. 45% in FY16), continuous
investments in pigments resulting in the introduction of new products and a gradual shift
from classical azo pigments to HPP and effect pigments. To boost its exports market
share, it operates across Europe, North America, and China with sales teams and stocking
points to enable faster service. Thus, in Phase IV (after 2020), it aims to become the Key Data – SCHI IN
global market leader in pigments. Current Market Price INR365
Market cap (bn) INR25.3/$0.4
Free Float 29.4%
Focus on high-realisation HPPs and effect pigments: The Company’s R&D team (located in
Shares in issue (mn) 69.23
Sutarwadi, Pune) has nearly 50 scientists who have developed over 100 new products (in Diluted share (mn) 69.23
the past 7 years). These mainly include high-performance pigments, effect pigments and 3-mon avg daily val (mn) INR56.1/US$0.9
specialised azo pigments catering to automobile, engineering plastics, paints and 52-week range 459/261
Sensex/Nifty 31,160/9,736
cosmetics segments. This has led to Sudarshan becoming the only pearlescent effect INR/US$ 65.7
pigment producer in India (used in cosmetics). Management has focussed on high-value
products and improved exports share, which has supported improvement in its EBITDA Price Performance
margin (from c.8% in FY13 to c.13% in FY17), EPS (from c.INR 3 in FY13 to c.INR 15 in % 1M 6M 12M
Absolute -1.6 5.5 -5.0
FY17) and ROCE (from c.8% in FY13 to c.19% in FY17).
Relative* -0.2 -1.1 -15.4
Implementation of REACH Phase III will result in consolidation: REACH Phase III will be * To the BSE Sensex
implemented by June 2018, which will regulate all chemicals imported into the EU in
quantities of over 1 ton per annum (TPA). This will result in an increase in compliance
costs and may prevent smaller companies from supplying to the EU.
Key risks: A significant portion of Sudarshan’s revenue comes from exports. Therefore, a
strengthening INR is a key risk to its performance.
Surfactants
Increasing focus on “GREEN” solutions
Surfactants are application-driven segment and widely used in home and personal care Mehul Thanawala
products. According to Assocham, the size of India’s beauty, cosmetics and grooming market mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
will touch USD 20bn by FY25 from USD 6.5bn in FY15. On the back of such high growth, the Alok Ranjan
Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
Indian specialty surfactants market is expected to grow 13% over FY15-FY20. This will be
Pramod Krishna
driven mainly by the increased consumption of high-end home and personal care products, pramod.krishna@jmfl.com | Tel: (91 22) 61781074
which will be further driven by (1) rising standards of living and changing consumer
preferences, (2) increasing adoption of surfactants in a wide range of personal care products,
(3) increasing adoption of new-age surfactants and bio-surfactants and (4) other drivers
discussed in detail in this section. Upon analysing the competitive landscape of domestic and
global players, we observe that the domestic market is largely fragmented, leading to low
EBITDA margins. We therefore expect it to see some consolidation in the near-to-medium
term. We believe that the Indian surfactants market will post low-teen growth in the near-to-
medium term. However, long-term growth will be driven largely by increased adoption of
sustainable ingredients such as bio-surfactants.
Growing personal and household care market and increasing adoption in other end-use
industries: According to Euromonitor, household cleaning and personal care products’
value of sales grew 8.3% in CY15 to reach INR 1trn, due to increasing consumerism. The
market size of rapidly-growing segments such as men’s grooming products expanded
from USD 660mn in FY10 to USD 1,179mn in FY15, and is expected to grow 17% by
FY20 (source: Techsci Research). On the back of the high growth in the personal and
household care segments, the personal care surfactants market grew mid-to-high teens
during FY13-FY17; this growth is expected to sustain and drive the specialty surfactants
market. Surfactants-based face washes, hair creams and gels are increasingly gaining
traction due to the ease of using the product, the ease of customising it and its cleansing
ability. Additionally, surfactants are used in other end-use industries such as
agrochemicals, textiles, water treatment and oil-field chemicals.
Increasing use of premium products: Premium products not only use high-price
surfactants but also a higher percentage of surfactants (36.5%) compared with economy
products (23.5%) (source: Stepan Company). The rising standard of living due to
globalisation and the increase in per capita income (c.9.7% over FY16-FY17) is driving
growth in the premium home and personal care segment. The men’s grooming segment
(which falls under personal care) is expected to grow c.17% YoY and continue such
growth momentum over FY17-FY21. Additionally, increased willingness to pay for the
best brands and quality is driving growth in the surfactants market.
New age surfactants are replacing traditional ones: Methyl Ether Sulfonate (MES) is a
natural (oleochemical) replacement for Linear Alkyl Benzene Sulfonate (LABS). On the
back of excellent characteristics such as high purity, activeness, low volatile organic
compound (VOC), gentleness on skin, low percentage of di-salt, suitability in both
liquid/powder detergents, MES is becoming more popular than LABS. According to TSMG
global report, MES market size will be c.1.2 MMT, which will be nearly one-third of LABS
(c.3 MMT in FY14) market size in FY20.
Growing demand for bio-surfactants and fluoro-surfactants: Stringent environmental
regulations (REACH) and demand for sustainable solutions are driving the demand for less
toxic bio-surfactants and short-chain fluoro-surfactants globally. Demand for fluoro-
surfactants is driven by its better performance in various application areas such as paints,
coatings and specialty detergents. However, the Indian market is still at a nascent stage
for products using natural surfactants. JM Financial Research is also available on:
Bloomberg - JMFR <GO>,
Key challenges: Although the Indian specialty surfactants market is currently growing Thomson Publisher & Reuters
13%, it faces challenges on account of (1) margin pressures due to increased raw S&P Capital IQ and FactSet
material (coconut and palm oil, alpha olefin, petroleum) prices, (2) margin pressure as
brand owners do not pass on any margin reduction by big retailers to manufacturers and Please see Appendix I at the end of this
(3) environmental concerns related to synthetic surfactants. report for Important Disclosures and
Disclaimers and Research Analyst
Certification.
JM Financial Institutional Securities Limited
Surfactants 28 September 2017
1. Surfactants
Surfactant chemicals help break up stains and separate dirt from the surface being cleansed – Exhibit a. Surfactants
be it cloth, hair or skin – and keep the dirt in a water solution to prevent it from being
redeposited onto the surface it was removed from. In this report, we cover surfactant
chemicals used in industries such as home care, personal care, health care, crop care,
industrial and institutional cleaning. Surfactants are either derived from oleochemicals
(natural vegetable oil) or petrochemicals (synthetic) raw material. Within the oleochemicals
space, palm and coconut oil are the major sources. Exhibit 64 shows the difference between
synthetic and bio-surfactants.
Surfactants are broadly classified as anionic, cationic, non-ionic and amphoteric. The structure
Source: JM Financial
of the surfactants determines its functionality. Owing to their ionic properties, the four
different types of surfactants have different applications, as discussed below:
Anionic surfactants: Have a negatively charged hydrophilic group. They are widely used in
shampoos as well as laundry and dishwashing detergents. Exhibit b. Surfactants type – by substrate
Cationic surfactants: This is the smallest surfactants category in terms of volume and
value and is used mainly in rinsing products and hair conditioners.
Non-ionic surfactants: Mainly used for grease removal as they do not carry an electrical
charge, making them resistant to deactivation in water with high mineral content.
Amphoteric surfactants: The charge depends on the pH balance of water and is well-
suited for personal care and household cleaning products. It has excellent dermatological
properties and is frequently used in shampoos, skin cleansers and other cosmetics.
Asia-Pacific leading surfactants demand: Accounting for 37% of global consumption, the
Asia-Pacific region is the largest surfactants consumer, followed by North America (22%) and
Europe (25%) owing to the presence of a large consumer base, growing economies and Asia-Pacific is a key market.
changing consumer preferences towards beauty products. The Asia Pacific market is expected Account for 37% of global
to post a CAGR of 6.1%, compared with sub-3% growth in developed countries over FY15- consumption and expected to post
FY20. This is reflected in the increased investments in Asia by MNCs. For instance, Solvay 6.1% CAGR over FY15-FY20
(Belgium) is expanding its business in India and Singapore, Kao (Japan) now has surfactant
and detergent plants in Indonesia and Clariant (Switzerland) has established a new facility in
Indonesia.
Exhibit 67. Surfactants consumption by region – Asia Pacific leading Exhibit 68. Surfactants business growth rate by volume (%)
Source: IHS Markit, Industry, JM Financial Source: IHS Markit, GCIS, JM Financial
Rising use of bio-surfactants will augment growth: High biodegradability and low toxicity,
apart from strict govt. regulations, is driving the bio-surfactants market. Among bio-
surfactant products, MES’ market size was c.USD 580mn in FY15. It is used in laundry
detergents due to its biodegradability and tolerance for rigidity. APG bio-surfactants are
expected to grow 4% over FY15-FY20 and are used in household-based detergents due to
their dampness and superior foaming properties. Other bio-surfactants such as rhamnolipids,
sophorolipids, and monoglycerides are also increasingly gaining market share. Some of green
specialty surfactants available in the market include alkylpolyglucosides, glutamates and
pentosides; however, they are more expensive than competing materials.
Other specialty surfactants (fluoro-surfactants) becoming popular: The global fluoro-
surfactants market was valued at c.USD 383mn in CY15 and is expected to reach c.USD
668mn by CY21 at a CAGR of 9.8% (source: Markets and Markets). Growth will be driven by
its superior performance vs. other surfactants in various application areas such as paints, Fluoro-surfactants offer better
coatings and specialty detergents. Moreover, stringent environmental regulations are wettability than normal surfactants
increasing demand for less toxic, short chain fluoro-surfactants. Paints and coatings segment
is the largest fluoro-surfactants application segment, since fluoro-surfactants have strong
wetting and levelling properties. On the basis of product, the anionic segment is projected to
record the highest CAGR during FY15-FY21. Among fluoro-surfactants product types, anionic
surfactants have excellent wettability and permeability, besides better levelling. As a result, it
is the preferred choice for paints and coatings.
Source: JM Financial
Increasing use of personal and household care products a key driver: According to
ASSOCHAM, the beauty, cosmetics and grooming market will touch USD 20bn by FY25E Increasing usage of cosmetics will
from USD 6.5 bn in FY15, on the back of factors such as the middle class’ rising disposable drive growth of high value
income, the emergence of an aspirational class, a young population and increasing women’s surfactants
participation in the workforce. The consumption of cosmetics among teenagers is also rising
(c.68% of young adults feel that using grooming products boosts their confidence).
Surfactants’ demand is additionally being driven by the increased use of high-value personal
care products, since premium products use not only higher-priced surfactants but also a
higher percentage of them.
The toiletries and household care market in India is expected to record a CAGR of 16-18%
over FY15-FY20. Dish washing and floor cleaning liquids are the fastest growing segments in
this category.
Growing demand for new age surfactants, bio-surfactants and fluoro-surfactants: High
biodegradability and low toxicity – apart from strict govt. regulations – are driving the bio-
surfactants market. Stringent environmental regulations (REACH) and demand for sustainable
solutions are driving the use of less toxic bio-surfactants and short-chain fluoro-surfactants.
The demand for fluoro-surfactants is driven by its better performance in various application
areas such as paints, coatings and specialty detergents.
Exhibit 73. Valuation metrics for water treatment companies – based on consensus
EPS P/E EV/EBITDA
Company Country
FY16 FY17 FY18E FY19E FY16 FY17 FY18E FY19E FY16 FY17 FY18E FY19E
Sunshield Chemicals Ltd. India -1 -7 NA NA NA NA NA NA NA 34x NA NA
Ultramarine & Pigments Ltd. India 9 11 NA NA 12x 17x NA NA 8x 10x NA NA
Stepan Company US 3.78 4.58 5.17 NA 21.3x 17.6x 15.6x NA 9.54x NA NA NA
Croda International PLC UK 1 2 2 2 22x 21x 20x 19x 14x 14x 13x 12x
KAO Corp Japan 253 280 301 323 21.8x 24x 22x 25x 11x 12x 11x 10x
Guangzhou Tinci Materials China 1.23 1.43 1.9 2.4 34.3x 37.8x 28.6x 22.7x 27.4x 29.2x 22.8x 18.7x
Source: Bloomberg, Company, JM Financial
Source: Bloomberg, Company, JM Financial Aarti home and personal care* is a segment of Aarti Industries. Galaxy surfactants* is a private
company
Exhibit 74 classifies the selected domestic specialty surfactant chemicals into four segments
namely: performance segment (high growth %, high EBITDA %), growth segment (high
growth %, low EBITDA %), laggard segment (low growth %, low EBITDA %) and mature
segment (low growth % and high EBITDA %). The size of the bubbles indicates the
companies’ FY16 revenues.
Among the three companies analysed, Ultramarine & pigments falls in the performance
segment as it has displayed high revenue CAGR of 14% and average EBITDA margin of 18%
over FY11-FY16. Galaxy Surfactants recorded a high average EBITDA margin of 11% owing
to strong operating performance, but lagged in terms of growth.
A comparative analysis of surfactants companies globally (including in india) indicates that
foreign companies are fairly diversified and operate on a higher scale vs. their Indian
counterparts and have thus delivered high EBITDA margins. Among all the companies,
Guangzhou Tinci Materials, Ultramarine & Pigments, Croda International and Kao Corp have
delivered superior performance over the past five years.
We believe that scale plays an important role in this segment and thus Indian surfactants
need large investments for capacity expansion. Further, in the near-to-medium term, MNCs
will be looking to enter the Indian market either through JVs or acquisitions.
Acquisition by Solvay in Dec’12: The Indian surfactants market was valued at c.USD 3bn
in FY15 and gew low-double digits to mid-teens over FY10-FY15. This attracted several
global players such as BASF, CRODA, and Solvay to India. After acquiring Rhodia Specialty
Chemicals in 2010, Solvay consolidated its position in the Indian specialty surfactants
market by acquiring a controlling stake in SCL in 2012. This has given SCL improved
technical skills and a global distribution channel to export its products.
Dependence on a single or few suppliers is a key risk: SCL depends on ethylene oxide
(EO), one of the key components of ethylene oxide condensates (EOC). EO is sourced only
from one supplier currently – Reliance Industries Limited. However, EO produced by RIL’s
petrochemical complex is also used for captive consumption by RIL to manufacture
monoethylene glycol (MEG) for polyester fibres. This can lead to procurement risks for
SCL. EO is not easy to import through sea/air due to its low boiling point and explosive
nature. To mitigate this risk, SCL sources EO from multiple sites of RIL and has recently
increased its storage facility by 40% to counter procurement risks.
Ultramarine & Pigments Ltd (U&PL) specialises in the manufacture of inorganic pigments, Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
organic surfactants and dry mix detergents. It operates under 3 major verticals: (i) surfactants
Alok Ranjan
(62% of revenues), produced in various concentrations and forms, including alpha olefin Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
sulphonates and lauryl and lauryl ether sulphates; (ii) pigments (30% of revenues), with U&PL Pramod Krishna
being one of the world’s largest manufacturers of ultramarine blue; and (iii) IT-enabled pramod.krishna@jmfl.com | Tel: (91 22) 61781074
services (ITES) (12% of revenues), which includes its digital publishing and BPO businesses.
Management aims to add more verticals, either in the existing businesses or new divisions,
and double revenues over the next 5 years. We do not have a rating on the stock.
Surfactants (62% of revenues): The key products manufactured in this segment are (i)
Linear Alkyl Benzene Sulphonic Acid (LABSA), surfactants used for laundry products that
UP&L manufactures with high active content of 90% and 96% concentrations; (ii) Alpha
olefin sulphonates (AOS), surfactants with high detergency, high dampness/foaming
properties and compatible with hard water in India; U&PL specialises in the manufacture
of ready-to-use liquid, paste or noodle surfactants depending on customer requirements;
(iii) Sodium Lauryl Sulphate (SLS), surfactants that act as strong degreasers and hence are
found in several industrial surfactant formulations including floor cleaners and (iv) Sodium
Lauryl Ether sulphates (SLES), anionic surfactants used in personal care products such as
shampoos, hand washes and body washes. In FY17, the company undertook a
debottlenecking of its surfactants plant, leading to a 20% increase in capacity. U&PL’s
sulphonation segment has registered a CAGR of 23% over the past 5 years. Key Data – UMP IN
Current Market Price INR225
Pigments (30% of revenues): UP&L manufactures a variety of inorganic pigments with Market cap (bn) INR6.6/$0.1
end use in the paints, plastics, inks, laundries and cosmetics industries. Its key products Free Float 37.4%
are (i) Ultramarine Blue, which has variety of applications, from chairs for the Beijing Shares in issue (mn) 29.18
Olympics to professional artist colours in Europe; it is widely used to make whites whiter, Diluted share (mn) 29.18
3-mon avg daily val (mn) INR4.6/US$0.1
to make greys and blacks more attractive and is a unique and attractive reddish blue; (ii) 52-week range 245/146
Ultramarine Violet, a variant of Ultramarine blue; (iii) Bismuth Vanadate Yellow, a non- Sensex/Nifty 31,160/9,736
toxic metal oxide alternative to lead and chromium based yellow pigments and (iv) mixed INR/US$ 65.7
metal based oxides (pigment green 50), cobalt blue (pigment blue 28) and titan brown
Price Performance
(pigment brown 24). UP&L’s pigments segment has posted a CAGR of 9% over the past % 1M 6M 12M
5 years Absolute 15.7 32.3 34.7
Relative* 17.1 25.7 24.3
Financials: UP&L saw revenue/EBITDA/PAT CAGR of 22%/30%/32% over FY15-FY17. * To the BSE Sensex
Increased focus on higher value-added segments enabled UP&L to improve margins by
c.250 bps over the last 2 years to 20%. Key risks to its business are rising competition
from the unorganised sector, shrinking demand for laundry and white washing
applications and shortages in the availability of alpha olefin.
Net sales (Net of excise) 1,402 1,502 1,722 2,202 2,554 Share capital 58 58 58 58 58
Growth (%) 3.0 7.2 14.6 27.9 16.0 Other capital
Other operational income Reserves and surplus 805 863 936 1,087 1,411
Raw material (or COGS) 588 604 732 1,067 1,267 Networth 863 922 995 1,145 1,469
Personnel cost 253 279 323 362 333 Total loans 23 2 0 0 0
Other expenses (or SG&A) 351 369 373 400 453 Minority interest
EBITDA 209 251 294 374 501 Sources of funds 886 924 995 1,145 1,469
EBITDA (%) 14.9 16.7 17.1 17.0 19.6 Intangible assets 4 3 2 2 3
Growth (%) -10.2 20.0 17.3 26.9 34.2 Fixed assets 933 977 994 1,167 1,279
Other non-op. income 38 31 17 50 22 Less: Depn. and amort. 531 571 614 644 683
Depreciation and amort. 58 56 32 32 41 Net block 405 408 381 525 598
EBIT 189 225 280 391 482 Capital WIP 24 13 16 21 2
Add: Net interest income -16 -10 -5 -1 -3 Investments 132 132 132 149 384
Pre tax profit 174 216 275 390 479 Def tax assets/- liability -54 -50 -58 -79 -101
Taxes 52 72 88 117 155 Current assets 629 718 856 835 940
Add: Extraordinary items 0 0 0 0 0 Inventories 116 182 204 207 254
Less: Minority interest Sundry debtors 239 219 219 266 341
Reported net profit 121 144 188 274 324 Cash & bank balances 112 127 164 119 155
Adjusted net profit 121 144 188 274 324 Other current assets 6 4 7 8 9
Margin (%) 8.7 9.6 10.9 12.4 12.7 Loans & advances 156 186 261 234 181
Diluted share cap. (mn) 29.25 29.19 29.21 29.19 29.19 Current liabilities & prov. 250 298 332 305 354
Diluted EPS (`.) 4.15 4.93 6.42 9.37 11.10 Current liabilities 37 75 109 166 225
Growth (%) -11.5 18.8 30.2 46.0 18.5 Provisions and others 214 223 224 139 130
Total Dividend + Tax 79 88 105 123 140 Net current assets 378 420 523 530 586
Source: Company, JM Financial Others (net) 0 0 0 0 0
Application of funds 886 924 995 1,145 1,469
Source: Company, JM Financial
Rapid growth in the Indian economy has driven increased industrialisation across sectors and Mehul Thanawala
mehul.thanawala@jmfl.com | Tel: (91 22) 66303063
thus led to growing urbanisation. A direct consequence of industrialisation is the increased
Alok Ranjan
need for the effective disposal of effluents. With strict environmental regulations, companies Alok.Ranjan@jmfl.com | (+91 22) 6630 3073
have realised the urgent need for efficient water treatment solutions. Additionally, growing Pramod Krishna
urbanisation has increased the need for municipal water and thus driven demand for water pramod.krishna@jmfl.com | Tel: (91 22) 61781074
treatment chemicals. As a result, the Indian water treatment market recorded a 12% CAGR
over FY10-FY15 and is likely to record c.14% CAGR over FY15-FY20. Demand will be mainly
driven by industrial usage in the short term, but increased awareness on water safety as well
as urbanisation will be key long-term growth drivers. We believe this segment will witness
sustainable high growth rates in the medium-to-long term.
Industrial demand will remain the key driver in the near-to-medium term: Within the
industrial sector, growth will be driven by water-intensive segments, like pulp, paper, oil
and gas, chemical processing, mining, bio refining, power and municipal markets. Rapid
industrialisation is leading to the increased chemicals demand for running manufacturing
plants and their corresponding effluent treatment facilities resulting in to c.15% increase
in capex (FY10-FY15) by the industry on water and waste water treatment.
Growing urbanisation, rising income levels/living standards & increased awareness will be
the long-term driver: India’s urban population has increased c.2% in the last five years
(CY11-CY16), leading to growing demand for municipal water supply. The penetration of
municipal water supply is higher in the urban region and thus increased urbanisation will
lead to increased demand for municipal water and therefore the use of water chemicals.
Further, increased awareness about the quality of drinking water and health impact will
lead to increased demand for and usage of water treatment chemicals. Additionally, rise
in sales of packaged drinking water has driven demand.
Shift to advanced products: There has been increasing shift in the water treatment
market towards more advanced products such as coagulants and flocculants from
traditional products such as alum. Similarly, in the corrosion and scale inhibitor market,
there is an ongoing shift from traditionally used heavy-metal-based products to ones that
are more environment-friendly. Manufacturers are increasingly producing patented
formulations with exclusive rights that offer customised solutions in a particular market.
Environment safety a priority: Stringent environmental regulations on the tapping of
water and the discharge of effluents across industries are boosting the water treatment
chemicals market. In the past two years, we have seen increased environmental
regulations on polluting industries in China and other parts of world. Thus, water
treatment chemicals would be widely used either in chemical processes or during
discharge into receiving bodies. Changes in the regulatory environment such as the
implementation of stricter effluent discharge norms have created significant hope for
demand from industries as they adopt environment-friendly effluent treatment practices.
Integrated and sustainable water treatment solutions are the key: Majority of water
treatment players are integrated and end to end water solutions providers. Companies
providing water treatment solutions ranging from designing and building a water
treatment plant to running and maintaining it (including supply of water chemicals) will
be highly attractive. Sustainable solutions will further boost the segments as increased
awareness among end users about the benefits of recycling water in the longer term will
outweigh the capex incurred in the near term. JM Financial Research is also available on:
Key challenges: (1) Poor infrastructure for water and effluent treatments, (2) poor Bloomberg - JMFR <GO>,
legislation and lax enforcement by various agencies, (3) some industries such as Thomson Publisher & Reuters
pharmaceuticals not adopting recycling schemes owing to fear over the quality of S&P Capital IQ and FactSet
recycled water, (4) economics of recycling not being compelling as savings realised are
not enough and (5) greater adoption of desalination, leading to reduced usage of water Please see Appendix I at the end of this
report for Important Disclosures and
treatment chemicals.
Disclaimers and Research Analyst
Certification.
JM Financial Institutional Securities Limited
Water Treatment Chemicals 28 September 2017
Coagulants and flocculants are the largest segment with 38% market share. They are
used for waste water management and are replacing traditional products such as alum.
Common coagulants and flocculants used for water clarification include aluminium
sulphate, ferric chlorite, and polyaluminium salts. Driven by high growth in industrial and
municipal water treatment, coagulants and flocculants are likely to grow at the fastest
rate within this space.
Biocides and disinfectants are the second largest segment with a 19% market share.
Biocides such as chlorine, sodium hypochlorite, calcium hypochlorite and chlorine dioxide
are used as disinfecting agents. Biocides can be classified into specialty and commodity
JM Financial Institutional Securities Limited Page 79
Water Treatment Chemicals 28 September 2017
biocides. Biodegradable biocides are available these days in accordance with demand for
the use of green, environment-friendly chemicals.
Defoaming agents form the third largest segment, with a 7% market share. Chemicals
used are the polymers of acrylic acid and silicone oils and their derivatives.
pH adjusters form 5% of water treatment chemicals. These include alkalis, acids, lime,
and caustic soda that are used for water softening.
Corrosion and scale inhibitors such as chromates, nitrates, molybdates and other specialty
chemicals are used in boiler and cooling water systems.
Water treatment chemicals can also be classified on the basis of end use. The key end-use
segments can be divided into industrial usage, institutional usage, commercial and private
applications. Industrial and bulk applications include waste water management, cleaning of
rivers and enhancing the efficiency of industrial equipment. The end-use industries are large
power plants, refineries and fertiliser factories to pharmaceuticals, food and beverages,
electronic and automobile companies. Within the industry, water treatment chemicals are
mainly used for the treatment of water in boilers, cooling towers and effluents from
industries and sewage treatment plants.
Coagulation and flocculation: Floating particles, which do not settle of their own accord,
can be made to do so by neutralising their electric charge. Colloidal particles have a
negative charge of the metal ions of iron and aluminium. As a result, the particles
coagulate to form flocs, which are large enough to settle. The entire process is a
combination of the right metal salts, the precise dosage and the pH of the water.
Asia Pacific leads growth, especially China and India: The Asia Pacific region occupied the
highest share of c.31% of the total water treatment chemicals market, with China (expected
CAGR of 10% over FY15-FY20) and India (expected CAGR of 13.8% over FY15-FY20) being
major countries contributing to growth. Rapid industrialisation and population growth,
coupled with scarcity in pure and clean drinking water, are significant factors responsible for
Asia-Pacific accounts for 31% of
the growth of the water treatment chemicals market in the Asia Pacific region. Companies
global market and is expected to
have forayed into the Asia Pacific region due to the increasing use of water treatment
grow at c.6%
chemicals for industrials as well as municipal water. The Asia Pacific market was valued at
c.USD 7.6bn in 2015 and is expected to post a CAGR of 5.6% over FY15-FY22. North
America is the second most lucrative market for new entrants. Increasing demand for water
treatment chemicals from the industrial sector and growing government regulations for
water recycling are the key factors fuelling the growth of the water treatment chemicals
market in this region.
CAGR 12%
Industries to drive short-term growth: The customer base of water treatment chemicals is
widespread across diverse industries, from large power plants, refineries and fertiliser
factories to pharmaceuticals, food and beverages, electronic and automobile companies. Five
key industrial sectors (Pulp & paper, Distillery, Sugar and Textile and Tannery) contribute 118 Pulp and paper sector contributes
tonnes per day of pollution load. Most of the sewage and industrial effluents remain highest quantity of BOD load
untreated in India. Also, various industries operating in the country are expected to come up (65%) and effluent discharge
with a number of brownfield and greenfield expansions over the next five years. The (55%) to rivers
Petroleum, Chemical and Petrochemicals Investment Region (PCPIR) and Delhi-Mumbai
corridor are expected to boost investments in the country’s industrial sector over the next
decade, which would augment the demand for water treatment, thereby boosting the water
treatment chemicals market.
(CPCB) has been expressing its concerns about the rising pollution in ground water and major
rivers in India. All these factors culminate in presenting a very positive future for the water
treatment industry in India. The market is also expected to be driven by export-oriented
industries such as mining, food processing, chemicals, petrochemicals and textiles.
Additionally, China’s EPA crackdown on its polluting industries has presented an opportunity
to Indian water treatment companies to provide end-to-end effluent treatment solutions or
to export water treatment chemicals.
Growing urbanisation, increasing awareness and rising living standards to drive long-term
demand: India’s urban population has increased c.2% over CY11-CY16 to reach c.412 mn
people, leading to growing demand for municipal water. Emphasis of the Govt. on creating
100 smart cities will also lead to huge anticipated demand of water. Overall, India is expected
to add c.404mn new urban dwellers between CY15-CY50. For the past ten years, the quality
of water has also been deteriorating across the country owing to the rapid urbanisation.
Additionally, there has been increased awareness among urban users about recycling water.
These factors have led to increasing demand for water treatment chemicals. However, there
is increasing demand for the low-quantity use of chemicals for treatment purposes. Thus, we
will see increased demand for specialty water treatment chemicals vs. traditional chemicals
such as alum and ferric chloride.
In developing countries like India, chemical water purification is conducted at the household
level to provide safe drinking water. However, in urban areas of developing countries, this is
generally done at the municipal level by civic authorities or by water management
organisations. Thus, we believe that urbanisation will be a key long-term growth driver.
Exhibit 83. Valuation metrics for water treatment companies – based on consensus
EPS P/E EV/EBITDA
Company Country
FY16 FY17 FY18E FY19E FY16 FY17 FY18E FY19E FY16 FY17 FY18E FY19E
Chembond Chemicals India 115 6 10 11 2x 32x 23x 20x 16x 9x NA NA
Ecolab Inc USA 4 5 5 6 27x 28x 24x 22x 15x NA 14x 13x
5. Outlook
Despite the presence of several global players in the water chemicals space, Indian companies
have also grown and are exporting innovative solutions across the world. Unlike certain other
specialty chemicals segments in India, water treatment chemicals largely form an organised
market with integrated players. With water projects and solutions providers having
established in-house water chemical manufacturing capabilities, it would be imperative for
pure-play companies to either integrate forward or develop strong partnerships with
solutions providers.
Key trends such as the shift from traditional (alum) to technically advanced products
(coagulants and flocculants), followed by rising demand for environment-friendly chemicals in
the wake of stricter government regulations and growing urbanisation indicates a positive
outlook for the water treatment chemicals segment. Thus, the high projected growth rate of
c.14% over FY15-FY20 can be easily achievable and even surpassed. While growing scarcity
of usable water is limiting industry growth, this situation has offered a lucrative opportunity
to water treatment companies.
Overall, companies that manufacture and supply water treatment chemicals will be best
served by transforming from pure-play chemical manufacturers to end-to-end service
providers. They could capitalise on the opportunity offered by urban bodies in India that are
moving to the “Build-Own-Operate-Transfer” model for water treatment management,
either by building their own capabilities or through partnerships. Another critical success
factor could be working closely with regulatory bodies such as pollution boards to
understand and implement evolving environmental regulations governing water safety.
Consumer business – revival on the cards: IEIL’s water management solutions extend
beyond industries to homes, hotels and hospitals under the brand name Zero B, which is
positioned towards the premium end of the market as the company does not want to
enter the highly-competitive economy segment. Although the consumer segment has lost
ground over the past few years, management is planning to revive the business by
focussing on the expansion of ground water treatment solutions by tailoring products to
meet the requirements of specific markets.
Industry outlook favours IEIL: According to Central Pollution Control Board, India does not
have the capacity to treat c.63% of sewage. Thus, the Indian waste water management
industry is expected to record a CAGR of c.8-10% over FY15-FY20. With increasing
environment-related concerns, capex on water and waste water infrastructure is going to
increase, resulting in a significant opportunity for integrated players such as IEIL.
Financial Summary (INR mn)
Y/E March FY13A FY14A FY15A FY16A FY17A
Net sales 8,573 7,930 8,005 8,711 10,241
Sales growth (%) 18.6 -7.5 0.9 8.8 17.6
EBITDA 492 341 466 556 776
EBITDA (%) 5.7 4.3 5.8 6.4 7.6 JM Financial Research is also available on:
Adjusted net profit 141 46 98 153 284 Bloomberg - JMFR <GO>,
EPS (Rs) 10.9 3.2 6.9 10.8 19.9 Thomson Publisher & Reuters
EPS growth (%) 22.7 -70.3 114.3 56.4 83.7 S&P Capital IQ and FactSet
ROIC (%) 12.4 4.4 8.0 10.7 21.9
ROE (%) 9.8 3.0 6.3 9.4 15.4
PE (x) 44.3 NA 69.7 44.5 24.2 Please see Appendix I at the end of this
Price/Book value (x) 41.6 44.7 43.6 40.1 34.7 report for Important Disclosures and
EV/EBITDA (x) 13.6 21.8 15.6 13.0 7.8 Disclaimers and Research Analyst
Source: Company data, JM Financial. Note: Valuations as of 27/Sep/2017
Certification.
Appendix 1
Specialty Chemicals – A special segment within chemicals
Specialty chemicals companies play in niche areas; they target a particular functional
performance and are thus difficult to be replaced by other competitors. On the other hand, Specialty chemicals segment is
the commodity chemical products of one supplier can be easily changed with another’s. increasingly attracting the
Therefore, basic chemicals companies use cost-competitiveness and scale as their strategy attention of investors worldwide
tool, whereas pure play specialty companies use innovation as a competitive strategy. The
result of these strategies is evident in the comparative analysis of these two segments.
In order to represent each segment of basic and specialty chemicals in the comparative
analysis, we analysed 22 basic and 22 specialty companies. The 22 specialty companies
includes various segments of specialty chemicals such as dyes and pigments, agro and Basic chemicals focus on cost
pharma intermediates, agrochemicals, rubber chemicals, colourants, fluoro-chemicals, etc. competitiveness and scale;
We analyse these companies on qualitative and quantitative parameters (based on financial specialty chemicals focus on R&D,
data between FY11-FY16) to highlight differences between basic and specialty chemicals. new product launches
Exhibit 84. Basic chemicals vs. Specialty chemicals – An analytical comparison
Parameters Basic Chemicals Specialty Chemicals
Qualitative
Product type Specification based Performance/functional product
Exhibit 84 clearly illustrates the financial superiority of specialty chemicals when compared
with basic/diversified chemicals. On average, raw material costs as a percentage of sales are
8-9% lower compared with specialty chemicals, mainly on account of high value addition
leading to higher realisations. For example, in the fluorine value chain, price of PTFA powder
ranges at INR 700-1300/kg, nearly 35x-65x the price of raw material, fluorspar which is sold
at INR 20/kg. Gross margins of specialty chemicals companies are typically higher but get
partially offset by higher R&D and employee expenses due to higher focus on new product
development. Also, EBITDA and profit margins are higher in the specialty chemicals segment
owing to higher gross margins and lower power and fuel costs. Overall, specialty chemicals
can be characterised as a sector which exhibits high growth, high margins and delivers better
returns on capital employed and equity.
Appendix 2
Specialty chemicals – Transitions, worth looking at
Introduction
Over the past 4-5 decades, at various stages, various countries have led the specialty
chemicals business. US led the industry after World War II until the late 1980s, manufacturing
chemicals for use in oil field services, electronics, plastics, etc. Gradually, Europe took over
and dominated the business mainly through exports, while the US and Japan remained key
producers. However, with trade liberalisation, technology transfer, reducing economic
barriers and rapid economic growth in developing countries, the specialty chemicals industry
expanded rapidly in China, especially after it joined the WTO in Dec’01. The high growth The industry initially saw a
seen in China’s specialty chemicals industry may be attributed to low labour costs, low energy leadership change from the US to
and regulatory costs (compared with developed markets) and a highly-developed basic Europe
chemicals segment. Although China has seen strong growth in the specialty chemicals
US/Europe/Japan remained major
segment, recent structural changes have reduced its competitiveness and gradually, India
players until the 2000s
maybe able to emerge as a fast-growing specialty chemicals hub.
In this Appendix, we try and understand what drove this change – why did the US become
the leader and why then did the industry move to other regions? We analysed the cycle of
the specialty chemicals industry in developed countries such as the US and Japan as well as
Europe (comprising 8 large exporters: Germany, France, Italy, the UK, Spain, Netherlands,
Belgium and Poland). We also highlight its gradual shift towards growing Asian countries
such as China and India.
The following exhibit illustrates the trade balance, demand and production data and the
specialty chemicals segments contributing to high growth rates.
Exhibit 86. US demand, trade and production data of specialty chemicals - 1983 (in USD bn)
Source: JM Financial
It is pertinent to note from the above exhibit that the US was not importing specialty
chemicals but was largely manufacturing them. This provided a strong demand base for US
producers of specialty chemicals. Thus, the second factor (domestic demand) also supported US specialty chemicals industry
the US’ specialty chemicals industry. Moreover, the average growth rate for the US speciality posted 5% CAGR in 1983
chemicals industry was c.5% during 1983, one of the highest among major manufacturers.
The US also enjoyed the remaining 3 factors: innovation, strong IPR and relatively low focus
on environment (leading to lower compliance costs).
Exhibit 87. US net imports of crude oil and petroleum products (1000 barrels per day)
16000
14000
12000
10000
8000
6000
4000
2000
0
Jan-1981
Jan-2001
Jan-1973
Jan-1977
Jan-1985
Sep-1987
Jan-1989
Jan-1993
Jan-1997
Jan-2005
Jan-2009
Jan-2013
Jan-2017
May-1974
Sep-1975
May-1978
Sep-1979
May-1982
Sep-1983
May-1986
May-1990
Sep-1991
May-1994
Sep-1995
May-1998
Sep-1999
May-2002
Sep-2003
May-2006
Sep-2007
May-2010
Sep-2011
May-2014
Sep-2015
Source: JM Financial
These three factors led to: 1) increased cost of raw material for US companies, thus making
the US lose the strategic advantage to Europe and 2) increased regulatory/effluent treatment
costs for US companies. Therefore, by by late-1980s and early-1990s, the US lost its
leadership in specialty chemicals, while European firms emerged as major specialty chemicals
players, especially in terms of exports.
Europe – despite some hiccups – maintained the lead for the next decade: By 1991, Europe
was the largest producer of specialty chemicals (38% of the global export market share).
However, its market share declined sharply by c.7% during 1991-1995 (Exhibit 88) due to
factors such as the disintegration of the Soviet Union and reunification of Germany.
However, its strengthening trade links with Eastern Europe’s low cost (wage and production)
countries such as Poland and Czech Republic helped recover the falling exports market share.
The global economy also did well in the late 1990s with the US economy growing 5.1%
during 1995-2000. The weakening of the EUR further helped Europe gain global market
share in the early 2000s. Hence, Europe broadly maintained a share of >30% till about 2005.
China’s WTO entry and other factors led to a sharp decline in Europe’s market share: China
was granted the permanent most favoured nation status by the US in 2000 and this was
shortly followed by its entry into the WTO. This opened up a vast market with cheap labour
and much less regulatory and compliance costs, resulting in Europe/US losing nearly 6%/2%
of the world’s export market share at the expense of China/India, who gained c.6%/c.1.5%,
a trend expected to continue over the years. Among developed countries, US/Europe were
losing exports market share, but Japan kept its market share intact as it benefitted from the
geographical proximity to fast-growing markets such as China, leading to strategic benefits
of reduced transportation costs and time.
Among the three developed regions, Europe lost significant market share not due to the slow
growth in its destination market, but mainly due to the deterioration of its competitiveness.
Europe’s declining competitiveness trend was seen not only in the specialty chemicals
segment but also in the overall chemicals sector. Exhibits 89-91 show that Europe lost its
domestic and ROW market share.
Exhibit 89. EU losing share in the domestic chemicals market (EUR bn)
81%
As shown in exhibit 91, Europe’s share of global chemical sales decreased significantly from
32% in CY93 to 17% in CY13, mainly due to the dilution effect, which continued over a
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Indian Specialty Chemicals 28 September 2017
period of time. Growth in post-recession Europe remains slow, mainly due to its mature
markets and ageing population. Exhibit 92 also illustrates the increase in the consumption of
chemicals in emerging markets compared with Europe. The resulting market share loss in
domestic and export sales points at Europe’s declining competitiveness and China’s increased
penetration in Europe and the US markets.
Exhibit 92. Chemicals consumption - emerging economies saw fastest growth (2003-2013)
Labour costs: Labour costs have been instrumental in driving the specialty chemicals
industry’s transition from the West to the East. Labour data reveals that Europe’s chemical
sector wages are significantly higher than the US’. While the gap with Japan has all but
disappeared, the gap with the US has been widening since 2010. China’s labour costs
have rapidly risen, but on a very low base vs. Europe and the US. This made China
increasingly attractive to global players.
demonstrated higher R&D intensity than others. However, China increased its R&D
spending dramatically in the early 2000s as it entered the WTO. Moreover, R&D spending
in absolute terms is growing more rapidly in China than it is in developed countries.
Regulatory costs: Among major specialty chemicals producing countries, China has the
lowest regulatory burden and Europe the highest. Over the past 7 years, the US’
regulatory burden has also risen. A further granular analysis indicates that within Europe’s Compared with China, US and
chemicals industry, agrochemicals (c.16% of value added) and specialty chemicals (c.23% Japan, Europe had the highest
of value added) have the highest regulatory burdens. During CY03-CY13, compliance regulatory burden in 2013
costs were driven by the introduction of REACH regulations in CY07 and CLP in CY08.
Energy legislations also contributed to the rising costs, especially after CY12. This led to
doubling of regulatory costs.
We believe the decline in Europe’s competitiveness vs. the US and China was led by the
multiple parameters discussed above. Despite decreasing cost competitiveness, Europe could
have maintained its exports market share had it continued on the path of innovation.
Therefore, product and process innovation are critical factors for Europe/US to deliver
maximum value to customers and compensate for cost disadvantages vs. China and India.
China rising as a growth leader: During the end of the 1990-2013 period, China emerged as
one of the fastest growing specialty chemicals manufacturers. This was driven by the growth
JM Financial Institutional Securities Limited Page 94
Indian Specialty Chemicals 28 September 2017
in its basic chemicals industry, its entry in to the WTO in CY01 and the gradual shift from
basic to specialty chemicals. China grew c.13% over CY08-CY16.
The parameters discussed above will remain critical, helping identify the next leader in the
specialty chemicals segment. Overall, this period saw a decline in Europe’s competitiveness
and the emergence of China as the next leader.
Exhibit 96. Europe regulatory cost – Specialty, Agrochemicals & basic chemical sector
In summary, Asian economies will drive growth in the specialty chemicals industry. In order
to participate in the growth of emerging markets, the US and Europe should either have
export competitiveness or thorough investments in these growing markets. We observe
that the second route has been most productive and favourable for these US/European
companies.
Appendix 3
Oleochemicals: Driving consumers towards GREENER products
Oleochemicals are derived from natural oils and fats taken from animals and plants. Growing
demand for green products and sustainable solutions, coupled with regulatory changes in
recent times, has brought oleochemicals into focus. Oleochemical-based products are Exhibit a. Expected increase in oleochemical
becoming popular across specialty chemicals segments owing to their advantages including production (2016-2025)
their eco-friendly image, low toxicity and fine dermatological compatibility. Oleochemicals are
mainly used in personal and household care products, pharmaceuticals, food and beverages.
With constant growth of raw material availability and emerging end use in areas such as bio-
lubricants and surfactants, the global oleochemicals market is expected to reach c.USD 26bn
by end-CY19, with a c.4.2% CAGR over CY14-CY19. By region, Asia-Pacific is the
production leader and the fastest growing market. We believe oleochemicals will continue to
grow at a faster rate but may face challenges such as feedstock unavailability and growing
number of alternative uses for its raw materials
Asia-Pacific to be the production leader – India emerges as a frontrunner: Asia-Pacific will
remain the major manufacturer of oleochemicals due to widespread availability of raw Source: JM Financial
material and consequent up-stream integration for all major companies. Apart from
production, Asia-Pacific is the fastest growing oleochemicals market, with consumption
recording c.5.1% CAGR during CY14-CY19. Within Asia-Pacific, India is a key market Exhibit b. Oleochemcial route
with market size of c.USD 1.6bn in FY15, expected to grow at c.5% over FY15-FY20 due
to increasing consumption of oleochemical-based products such as personal care items
and detergents. Therefore, there is also potential for new installed capacities for the
manufacture of oleochemcials in India.
Higher crude oil prices will boost oleochemicals capacity: In CY15, fatty acids and alcohols
ranked #1 and #2 in terms of market share by type in the global oleochemicals segment.
The production capacity for fatty alcohols and fatty acids was only 4.5 million and 11.5
million tonnes, respectively in CY15. A capacity increase for both will be strongly
influenced by crude oil prices (synthetic alcohols). Higher crude oil prices will drive the
demand for alternate sources of raw materials for personal and household care products,
leading to a focus on increasing oleochemicals’ capacity. Additionally, major capacity
additions are likely in the Asia-Pacific region owing to high dependence on crude oil Source: JM Financial
imports and the expanding market for oleochemicals-based products.
Challenges ahead: The key challenge for the oleochemicals segment is linked to the
affordability of oleochemical-based products. Oleochemical prices are affected by: (1)
Feedstock availability – Feedstock availability is a key concern for companies operating in the
oleochemicals segment or those planning to enter it. Historically, 12%-14% of the world’s
vegetable oil production has been used to manufacture oleochemicals. Oleochemicals’
production depends on favourable climatic conditions and only geographies such as India,
Malaysia and Indonesia offer climates suitable for palm tree plantations. (2) Alternative uses
of vegetable oil: Increased requirement of biodiesels (derived from vegetable oils) could push
price of vegetable oil. Thus, manufacturers of chemicals may find it less attractive to use
oleochemicals vs. petroleum feedstocks.
APPENDIX I
Definition of ratings
Rating Meaning
Buy Total expected returns of more than 15%. Total expected return includes dividend yields.
Hold Price expected to move in the range of 10% downside to 15% upside from the current market price.
Sell Price expected to move downwards by more than 10%
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No part of his or her or their compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed in this research
report.
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