Best Specialty Chemicals Stocks To Buy Now: Motilal Oswal Research Report

Initiating coverage with a positive outlook on the space

Globally, the Specialty Chemicals business accounts for ~20% of the USD4t Chemicals industry. From having an insignificant presence (4.5%) in this segment, India’s share in Specialty Chemicals is expected to double over the next five years – at a ~12% CAGR to USD64b by CY25.

Various factors favor the Specialty Chemicals industry in India, including 1) strong domestic consumption – led by a young population (median age of 28 years), a high percentage (~67%) of which forms the working age group, 2) favorable labor cost (one-third that of China / half that of Vietnam), and 3) government impetus.

In this sector initiation report, we propound our views on eight companies operating in India’s Specialty Chemicals space: Atul (ATLP), Deepak Nitrite (DN), Vinati Organics (VO), Alkyl Amines (AACL), Navin Fluorine (NFIL), Galaxy Surfactants (GALSURF), Fine Organics (FINEORG), and NOCIL.

Capex plans of INR39b over FY22-24E (similar to FY19-21) would result in 52% revenue growth by FY24E (from FY21 levels), making these companies exciting plays. We expect 70bps EBITDAM expansion to 25% by FY24E (FY20/21 was 22.5/24.3%).

We initiate coverage with a positive outlook on the Specialty Chemicals space. DN is our top pick in the sector. We assign a Buy rating to DN, VO, GALSURF, and NOCIL; a Neutral rating to ATLP, AACL, NFIL, and FINEORG.

India Specialty Chemicals market in the right quadrant…

The domestic Specialty Chemicals industry, which clocked double the globalCAGR (11.7%) over CY15-20, is valued at ~USD32b. India’s ranking in specialtychemicals is not available; it is the sixth largest producer of chemicals globally.

The India Specialty Chemicals industry is expected to deliver a 12.4% CAGRover the next five years (on a higher base), reaching USD64b by CY25 – drivenby the aforementioned macro factors. This growth would be led by a strongdemand CAGR of 10–20% in the export / end user industries.

To meet the global demand for specialty chemical products, China has quicklyscaled up its operations by establishing petrochemical hubs across the country.The proposed CY20–35 Petroleum, Chemicals and Petrochemicals InvestmentRegion (PCPIR) policy envisages an INR10t investment by CY25 and an INR20t byCY35 to further boost demand for specialty chemicals.

…benefitting from global supply chain diversification

With 18% market share in global exports, China is the leading specialtychemicals exporter – it exported ~USD35b worth of specialty chemicals in CY19(~4x that of India). As nations look for alternatives away from China, India standsto benefit from lower labor cost and a large consumer base.

Domestic players (such as NFIL, VO, and NOCIL) are benefitting from theChina+1 strategy with new orders and capex plans. The new projects wouldprimarily be export orders, which would enable Indian companies to capture alarger global market share in the Specialty Chemicals space.

Others players (such as DN) have quickly turned around their newlycommissioned plants, in line with the rise in domestic demand, which hasresulted in import substitution.

Capacity expansion to multiply growth…

 Our Coverage Universe has incurred an INR38b capex in the last three years ended FY21, and would spend a similar amount (~INR39b) over the next three years ending FY24E. Along with an increase in the asset turnover rate, we estimate multiplicative growth in revenues (53% over FY21-24E).

 AACL and NOCIL are well-placed to cater to sudden demand after their capex spree over FY19–21; VO and NFIL are likely to commission ongoing projects by end FY22-23, while DN is yet to announce new capex plans for its DPL business.

…translating to better financials

 Its growing niche in this product category and increasing share of exports are likely to aid EBITDAM. DN, VO, and NFIL are venturing into new products, while ATLP is expanding its retail focus. We expect our Coverage Universe EBITDAM to expand by 70bps to 25% by FY24E (FY20/21 was 22.5%/24.3%).

 R&D expenditure is also likely to double to 5–6% of revenue in FY24E (from FY21), driving EBITDAM expansion.

 We expect our Coverage Universe to post EBITDA/PBT CAGR of ~20%, with return ratios of 23–25% over FY22–24E (up from 22% in FY19 and FY21; we exclude FY20 in light of the tax rate revision).

 Our Coverage Universe consists of net debt-free companies (excluding DN and GALSURF, which are expected to turn net debt-free by FY23E) that plan to incur capex through internal accruals only. We expect total FCF generation of INR83b (v/s capex plans of ~INR39b) for our Coverage Universe over FY22–24E.

Initiating coverage with a positive outlook on Specialty Chemicals space

 Atul | Ideogram of integration: We forecast a 13% revenue CAGR over FY21–24E (v/s 8% over FY15–20;-9% YoY in FY21) and a 14% PAT CAGR over FY21–24E.

 Deepak Nitrite | Amoeba of growth: Its valuation is the most attractive in this space. We expect a 19% PAT CAGR (on a higher base) over FY21–24E.

 Vinati Organics | Preacher of purity: Its process efficiencies and market share stand at over 99.5% and 65%. We expect a 33% PAT CAGR over FY21–24E.

 Alkyl Amines | Growing tall: Revenue could double over the next three years to INR21.5b. We expect margins to normalize to ~30% (from FY21 highs of 35%).

 Navin Fluorine | Biggest beneficiary of China+1: It has announced two new projects in the past year. We expect revenue to double by FY23E (39% CAGR).

 Galaxy Surfactants | Pseudo-FMCG company: We expect a ~10% volume CAGR over FY22–24E, with management’s increased focus on high margin products.

 Fine Organics | Stable outlook ahead: Utilization ramp-up would boost growth. We forecast an ~18% revenue CAGR over FY21–24E (v/s 10% over FY15-21).

 NOCIL | Multifold growth ahead: Asset turnover would increase to ~1.0x by FY24E from 0.7x in FY21 (revenue/PAT CAGR of 25%/48% over FY21-24E).

Key risks

 These companies have been on a high growth trajectory and seen margin expansion through backward integration as well as value-added products. Any slowdown in either of the factors may result in the de-rating of the stocks.

 As India improves its environmental norms, this may result in rising production cost, ultimately impacting exports.