The Next Big Theme
A series to learn together
16th December, 2019
W ell, this has been a big question on everyone’s mind all
the time & honestly there is no right answer to this. With
household debt surging to 20% from 2% in 2000 and saving rates
dipping to 8% from 12% in 2008 – constant question is investment
vs consumption or financials?
A great investor taught me that half the battle is won in the equity
markets if someone is able to catch the right trend. Market goes
through various cycles and if you catch the right cycle and was
invested in a good company (High RoCEs, CFO/EBIDTA above 50%
at least, D/E doesn’t increase substantially with capex) – you
could have made tons of money. Importance of cycles: 1996-2000
belonged to TMT (Technology, Media & Telecom), 2003-2007
belonged to Real Estate, Power, Infra, Commodity businesses,
2009-2015 belonged to Pharma, FMCG, Consumption & 2015 –
2018 we saw strong cycle in NBFC, Financials, Auto. Remember
that if you invested in a good IT company in 2000, there were
no returns made for next 10-15 years due to high valuations.
Similarly, if you invested in FMCG in 1995, there were no returns
for the next 10 years. So a good company is not always a good
investment. Understanding cycles remains very important. Big
question is “what next?”
Also, what we have learnt from the past is that in the
mature sectors there will always be 2-3 leaders and don’t
try to find any other company which will take their space is a
futile effort. If you want to invest in private sector banks – it
will always be HDFC Bank, ICICI Bank, Kotak Bank. In paints –
it will always be Asian Paints, Berger Paints. In cement – it will
always be Shree Cement, Ultratech. The beauty about India is
that there are many new sectors which are opening & still not
mature & lots of space to grow. So, if you want to fund the NEW
leader – focus on that segments. Retail saw rise of D-mart.
Exchanges saw rise of MCX. Insurance saw rise HDFC Life, ICICI
Pru Life. Asset management saw HDFC Asset Management.
Wealth management is opening up. Diagnostics space is
opening up. And mind you that all these are spaces which are
still growing and have lots of room to grow with 4-5 players
and many fighting to come into the top 3 club. Basic point is
that we want to focus on new areas where the industry itself
can grow +10%. As Prashant Jain of HDFC MF said “Consumer
stocks trade at life time high. Soaps, Shampoo, Toothpaste are
reasonable mature businesses in India. Per Capital income of
India & China was same in 1990 & now China is 5 times India.
Don’t expect massive return from consumption sector”.
Prashant is clearly betting more on investment outgrowing
consumption going ahead.
Let’s start to learn about 1st theme and focus
on chemicals as a sector
Manufacturing:
Can import substitution be a big theme going ahead &
especially with corporate rate taxes cut by India. Imagine,
India’s manufactured exports is roughly USD 300 billions which
is equivalent to the size of counties like Vietnam, Thailand or
Indonesia & China is USD 1.5 trillion. Our Sensex composition
has no major manufacturing company. Nearly 30% is financial,
20% global cyclicals like IT, Pharma, Oil & Gas, 20% consumer
discretionary. Economies like Japan, Korea, Germany, China all
grew with focus on exports & which led to growth in GDP. We have
been very bullish on import substitution themes like chemicals,
APIs, electronic manufacturing as a disclosure.
Chemicals:
China moved from 6% of Global Chemical Industry in 1990 to
41% in 2018. India moved from 1% to 3% in same time frame.
China’s growth has slowed from 25% CAGR in 2003-2008 to
13% in 2008-20016. India has picked up with 5% share of global
chemical industry from 3%. The global speciality chemical
industry is expected to touch nearly USD 1 trillion by 2022 with
India expected to receive nearly USD 25-30 billion of absolute
demand which means CAGR industry growth of 12-13% annually.
Not surprisingly, astute management in the chemical space
have been building war chest and incurred huge capex since
last 2-3 years. Capital spending is likely to grow ~ Rs 20,000 cr
over FY19-21E as against ~14,600 cr over last 5 years. Change in
gross block of companies like Aarti Ind, Atul Ltd in last 5 years
has been more than previous 15 years put together & without
taking any significant debt. Cos like Aarti Ind (Leader in Benzene
based derivatives with integrated operations), Atul Ltd (integrated
chemical co with focus on life science chemicals (32% of
revenues), performance & other chemicals (68% of revenue) have
grown over 10 times in last 20 years and yet kept RoCE around
20-25% level with no major change in D/E (Atul zero debt) & also
controlled working capital days. Alkyl Amines (market leader in
aliphatic amines), Sudarshan Chemicals (India’s largest (~35%
market share) and world’s fourth largest pigment manufacturer)
have done capex lately and show good growth in last 3-5 years.
Fairchem Speciality (Renewable Speciality Chemicals with focus
on aroma chemicals & oleo chemicals) is a v niche business
with emphasis on renewable feedstocks. We will discuss about
some stocks below for learning purpose. SRF, PI Ind, Vinati, Divis
have crafter the art of entering into complex chemistry (where
synthesis process is above 20 times) and becoming the leaders in
specific products with cost optimization & long-term supply chain
contracts. Because of very strong relationship with the buyers, the
working capital is controlled consistently (last 20 years average
is less than 1.5-2 months & never increased – data in the chart
below) & asset turnover maintained 1.5-2 times, thus enabling
strong cash flows which are re-invested into the business & hence
we don’t see major equity dilution or increase in the debt (Divi’s
has never done equity dilution since listing and remains a debt
free co). As per me, that’s the key for any manufacturing company.
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 The Next Big Theme
A series to learn together
16th December, 2019

Another big learning for us has been to study the past rather focusing on the future projections. Last 20
years data for below mentioned chemical cos teaches us P/L, Cash flows, Balance Sheet together. We can
see that which are the cos which have grown not at the expense of high debt or constantly raising equity
& have kept RoCE maintained in various cycle and controlled working capital cycle.
Sales
Rs crore 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Aarti Inds. 185 230 269 345 483 529 692 790 713 892 1,451 1,297 1,453 1,673 2,096 2,632 2,908 3,007 3,163 3,806 4,706
Alkyl Amines 79 72 69 83 92 92 102 113 131 159 197 215 236 288 366 446 476 484 501 616 846
Atul 456 474 524 558 607 598 710 849 928 1,033 1,210 1,192 1,532 1,792 2,043 2,458 2,656 2,595 2,834 3,514 4,265
Deepak Nitrite 158 175 201 215 252 281 323 350 415 470 572 532 672 790 1,019 1,270 1,327 1,373 1,371 1,651 2,700
Excel Inds. 387 407 369 418 186 183 219 201 199 224 240 235 275 316 384 416 482 448 462 599 825
Fairchem Speci. 18 21 21 11 18 20 23 24 27 31 34 38 57 97 123 152 151 152 597 1,024 1,341
Fine Organic 371 444 496 568 616 660 778 856 1,060
Sudarshan Chem. 220 231 229 270 273 316 369 393 382 394 458 587 724 800 873 1,119 1,218 1,409 1,282 1,329 1,477
Total Debt
Rs crore 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Aarti Inds. 79 88 115 127 157 209 227 307 337 431 484 438 528 628 849 1,039 1,202 1,292 1,564 2,083 2,401
Alkyl Amines 35 75 75 70 67 66 61 85 82 94 133 114 120 123 146 151 135 111 120 181 165
Atul 364 357 327 322 279 300 361 352 372 430 370 295 327 392 370 367 299 316 168 16 55
Deepak Nitrite 65 68 84 85 92 101 130 134 170 135 90 93 62 261 341 508 545 529 724 987 1,187
Excel Inds. 149 174 196 213 111 103 101 106 73 74 75 60 52 75 73 102 95 89 68 10 7
Fairchem Speci. 11 10 8 9 8 7 8 9 12 12 15 13 14 21 18 29 29 34 321 330 491
Fine Organic 93 97 109 112 103 102 40 54 128
Sudarshan Chem. 80 96 90 96 86 80 85 87 95 105 93 116 203 290 437 440 433 430 433 431 367
Debt-Equity Ratio
x 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Aarti Inds. 1.0 1.0 1.1 1.0 1.1 1.2 1.1 1.2 1.2 1.3 1.3 1.1 1.0 1.0 1.1 1.2 1.2 1.2 1.1 1.2 1.1
Alkyl Amines 1.2 1.4 1.9 1.8 1.9 1.9 1.7 1.8 1.7 1.4 1.8 1.8 1.5 1.3 1.3 1.1 0.9 0.6 0.5 0.5 0.5
Atul 1.5 1.4 1.3 1.3 1.2 1.1 1.4 1.6 1.3 1.3 1.2 0.9 0.7 0.7 0.6 0.5 0.4 0.2 0.1 0.0 0.0
Deepak Nitrite 1.5 1.2 1.2 1.3 1.4 1.4 1.6 1.6 1.2 0.9 0.6 0.5 0.3 0.7 1.1 1.5 1.6 1.3 1.1 1.0 1.1
Excel Inds. 1.0 1.0 1.1 1.4 1.3 1.1 1.0 1.0 0.9 0.8 0.8 0.7 0.5 0.5 0.6 0.6 0.6 0.5 0.3 0.1 0.0
Fairchem Speci. 1.8 1.3 0.9 0.7 0.7 0.6 0.6 0.6 0.7 0.8 0.9 1.0 0.9 0.9 0.7 0.6 0.6 0.5 0.7 0.7 0.8
Fine Organic 1.5 1.4 1.2 0.9 0.6 0.4 0.2 0.1 0.2
Sudarshan Chem. 1.2 1.2 1.2 1.3 1.3 1.1 1.0 0.9 0.9 1.0 1.0 0.9 1.0 1.3 1.8 2.1 1.8 1.5 1.2 1.1 0.8
ROCE (%)
% 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Aarti Inds. 21% 23% 16% 19% 19% 19% 19% 19% 11% 14% 26% 18% 15% 15% 18% 16% 17% 19% 20% 17% 18%
Alkyl Amines 32% 15% 0% 12% 14% 11% 10% 10% 14% 14% 11% 15% 12% 17% 20% 27% 25% 25% 24% 24% 28%
Atul 7% 9% 12% 11% 15% 6% 7% 11% 9% 9% 13% 15% 22% 20% 22% 30% 27% 26% 23% 19% 27%
Deepak Nitrite 21% 19% 11% 16% 18% 11% 14% 17% 9% 8% 21% 13% 14% 10% 10% 12% 12% 14% 8% 9% 17%
Excel Inds. 19% 16% 8% 10% 5% 6% 1% 4% 5% 10% 7% 12% 16% 11% 16% 14% 23% 17% 10% 22% 37%
Fairchem Speci. 18% 18% 17% 4% 9% 13% 18% 16% 5% 6% 0% 4% 32% 34% 32% 50% 29% 22% 7% 13% 19%
Fine Organic 26% 12% 22% 44% 33% 35% 35% 38% 43%
Sudarshan Chem. 15% 13% 10% 14% 12% 13% 16% 13% 8% 11% 20% 32% 24% 16% 11% 15% 16% 18% 21% 17% 16%
Days - DSO + DIO - DPO (capitaline)
days 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Aarti Inds. 118 106 101 63 85 104 81 87 111 108 94 123 119 123 118 106 100 108 103 105 110
Alkyl Amines 168 199 188 92 155 165 146 143 187 168 154 148 135 118 111 108 103 91 90 83 67
Atul 201 198 172 108 173 149 138 134 119 105 91 79 69 79 79 83 80 84 80 77 66
Deepak Nitrite 68 68 68 74 80 74 69 85 88 82 68 63 56 52 40 61 64 79 76 45 63
Excel Inds. 131 120 142 60 164 76 87 118 118 97 95 96 84 84 78 74 79 98 79 59 50
Fairchem Speci. 1 45 54 119 102 107 120 111 84 97 99 90 80 69 68 75 76 66 102 117 132
Fine Organic 40 37 56 54 57 42 67 77 68
Sudarshan Chem. 139 143 139 120 129 105 110 82 133 132 110 97 121 139 145 144 141 117 106 98 106

The below charts tells about change in gross block and which are the companies who have been
investing in the business with an eye on the future. Also, it helps to understand the smart management
who saw the big opportunity ahead and started investing in the right time.

Delta- Gro ss b lo c k FY0 0 FY0 1 FY0 2 FY0 3 FY0 4 FY0 5 FY0 6 FY0 7 FY0 8 FY0 9 FY1 0 FY1 1 FY1 2 FY1 3 FY1 4 FY1 5 FY1 6 FY1 7 FY1 8 FY1 9
Aarti Inds. 18 32 64 23 61 43 75 78 36 136 65 53 75 382 240 208 396 573 446 261
Alkyl Amines 36 5 3 2 6 1 2 19 16 23 5 4 33 13 38 8 48 -88 152 43
Atul 6 4 13 34 56 19 20 27 52 79 25 -0 97 118 108 110 -480 372 108 174
Balaji Amines 1 1 3 15 14 8 11 8 16 11 50 48 46 49 135 13 19 4 6 23
Deepak Nitrite 13 14 5 10 52 24 9 60 2 16 17 15 33 153 158 119 82 -247 -11 1,153
Excel Inds. 23 20 37 -68 4 -3 11 1 18 7 0 -2 15 20 15 1 12 -79 35 53
Fairchem Speci. 1 0 2 1 1 3 3 5 0 1 0 2 9 3 8 31 14 475 93 76
Fine Organic 24 7 5 50 38 -5 11 7
Navin Fluo.Intl. 102 6 146 23 -76 61 9 2 15 113 11 14 5 121 40 -111 28
S H Kelkar & Co. -1 10 4 2 4 5 2 8 45 10 48 212 42 20 70 29 -265 76 101 139
Sudarshan Chem. 7 22 37 11 5 -2 8 4 24 -13 14 10 101 116 27 103 72 -213 108 32
Transpek Inds. 8 -29 1 1 7 -9 13 15 7 16 5 51 9 8 2 -16 7 -54 71 71

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 The Next Big Theme
A series to learn together
16th December, 2019
Look at chemicals cos in the sub-sector Outlook:
For Aarti, FY20 should be a year
of consolidation, before growth
accelerates in FY21 given new contract
manufacturing projects (Worth 900 cr
in revenues commissioning in 4QFY20).
RoCE could fall 1-2% in FY20 but should
recover in FY21E post commissioning of
the capex. Management had reiterated
FY20 revenue growth guidance of 15-
20% and PAT growth guidance of 12-
20%. Capex guidance of Rs 1000-1200
cr in FY20 and Rs 500-600 cr in FY21.
The co has additional new 100+ acre
greenfield site in Gujarat in addition
========= to the existing 100 acres available at
Some example for study purpose: cos which are leaders, have complex Jhagadia
chemistry & not banking on single product =======
Aarti Ind: RoCE 18%, D/E: 0.6, trades at 20x FY21e EPS Alkyl Amines: RoCE 28% (which is
not sustainable but anything above
Largest producer of benzene derivatives with market share of various products
23-25% is good), D/E: 0.2x
ranging from 25-40%.
84% of the revenues come from speciality chemicals; 16% from pharma Zero pledge, 74% promoter holding,
no equity dilution since listing,
200+ products, 400+ global customers, 700+ domestic customers, 15 no related party transactions,
manufacturing plants, 11 zero liquid discharged plants, 3 R&D facilities; +170 sold 30.4% stake in Diamines and
engineers & scientists Chemicals to focus on the core
business
Positives
Valuations – 15x on FY21e EPS (HDFC
1. The biggest driver for co has been its ability to maintain market share and Sec expects EPS of Rs 75 in FY21)
leadership in the products it sells due to strong customer base
2. Integrated operations across product chain of Benzene and Toluene India’s 2nd largest organized aliphatic
3. 75% of its specialty chemicals products commanding a position in Top-4 amines manufacturer with nearly 50%
globally in chlorination market share. Revenue contribution
4. Very strong chemistry process – 4th in the world in nitration, globally second from 3 main products: Ethyl Amine:
in ammonolysis, second largest in the world in hydrogenation, and is the first 33%, Methyl Amine: 30%, Acetonitrile:
and only player in India to commercialise manufacture of flouro compounds 27 – 28%
via Halex chemistry
5. No single company/customer accounting for more than 5% revenue. 85% Despite incrementally strong capex in
revenue in FY19 was from customers of over 5 years last few years they have been able to
6. Latest contracts signed: 10-year supply contract with agrochemical co for maintains ROCE
contract value at $ 620 mn (40% EBIDTA margin), 20-year supply contract
with speciality chemical co for contract value at $ 1540 mn (10% PAT margin)
& 10-year supply contract with a new specialty chemical intermediate for
contract value of $125 mn (35% EBIDTA margin)

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 The Next Big Theme
A series to learn together
16th December, 2019

Year FY14 FY15 FY16 FY17 FY18 FY19 EBIDTA Margins

Capex -26.3 -41.0 -35.3 -66.0 -135.6 -69.5
ROCE 27.4 24.9 25.1 23.7 23.9 28.0
Promoters have never diluted equity. Note: Bonus shares of
1:1 was given in the year 1997
Co has successfully been able to maintain tight margin band
Promoter holding: Hold 74.2% and NIL Pledge
Gross Margins

Outlook
The co plans to spend 300 cr to expand its Methyl Amines and Acetonitrile capacity and derivatives of Methyl Amines
over FY20-22E at their Dahej and Kurkumbh facilities. This will support volume growth. Backed by robust demand by the
Pharma industry, enhanced capacity addition of Methyl Amines at Dahej, and Acetonitrile capacity, will help the co garner
market share. Key monitorable: Further ramp-up at Dahej.

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 The Next Big Theme
A series to learn together
16th December, 2019

There are few good reports from Ambit, HDFC Sec on the aliphatic amines industry which one should study for sure
=========
Fairchem Speciality
ROCE: 18%, D/E: 0.75x, Trade at 15x FY21e EPS
Renewable Speciality Chemicals with focus on aroma chemicals & oleo chemicals
The actual story for the co started since 2016 when Prem Watsa came in the picture – sales grew from Rs 152 cr in FY16 to
Rs 1341 cr in FY19. D/E has been less than 1 time since last 10 years
History: Company was called Adi Finechem before Prem Watsa bought 45% in the co. for Rs 145cr and merged with Privi
which he bought in 2016 for 370cr (51% stake). An old presentation to understand the structure: http://www.fairchem.
in/investor-relations/Investor-Presentation/Investor-Presentation-30-Jul-17.pdf

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 The Next Big Theme
A series to learn together
16th December, 2019

Niche: Procures waste from the pulp & paper mills across
the globe to produce aroma chemicals. The co is focused
on Pinene based products. Started with 2 products and has
now 40- 50 products.
1. Leader in Amber Fleur and Dihydromyrcenol - important
ingredients in the manufacture of Fragrances
2. The co’s feed stock is from processing of pulp & paper
waste - this gives them edge over competitors ((largest
single crude sulphate turpentine (CST) processing site in
Asia, which is one of the reasons for survival and growth
under the current volatile situation in respect of raw
materials.).
3. Long term relationship of more than 10 years with
world’s leading companies (Givaudan, Firmenich, IFF,
Symrise, Takasago and in FMCG industry - P&G, Henkel,
Colgate). Recently they added Reckitt Benckiser also
as a customer ((has the potential to contribute to an
approximate topline revenue of USD 40 million going
forward))
4. The co has been spending strongly on R&D. The
members in the R&D team has increased from 10 -15
few years back to 80 members now
Outlook:
The co has guided for at-least 15% CAGR growth with
RoE expected around 18% and margins to improve
16% plus. The co is also going through demerger of Adi
Finechem. The co has been doing aggressive capex in
last 2-3 years.
KEY message from case studies: Above respective cos
are leaders in their own space, RoCE expanding along
with expansion, D/E is manageable or negligible for
all cos, no promoter pledge, margins has been in a
tight band with low fluctuations, long term contracts
with dependable & big buyers who cannot afford
to disturb their supply chain & imp doing complex
chemistry business which requires process innovation
& strong R&D.
DISCLOURE: Our PMS has holding in the cos
discussed above
=======

Some example for study purpose: cos which saw huge rise in stock prices but dependent on single products & hence
leads to HUGE volatility in margins

National peroxide
CMP - 1454
52 week high/low: 4532/1272
Hydrogen peroxide is the key product of the
company and the price of which has fallen from
115/kg in 2018 to 41 currently. EBIDTA margins
have fallen from 65% in Q2FY19 to 11% in Q2 FY20
Last 3 yrs stock chart – stock has fallen from high of
5100 levels to 1450 levels

Sadhna Nitro Chem

Play on nitro benzene
CMP- 107
52-week H/L: 480/78
Sales have fallen from 83 cr in q2 FY19 to 34 cr to
q2 FY20
3 year chart of Sadhna Nitro

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 The Next Big Theme
A series to learn together
16th December, 2019
Gujarat Alkalies Stock has fallen from 890 in Jan 2018 to 380 currently
CMP- 381
52-week H/L – 595/370
Major product of the company has been caustic
soda, prices of which have fallen from 46/kg in
feb 2018 to 24.5 currently. Ebidta margins of the
company have fallen from 42% n Q4Fy18 to 22%
in Q2 FY20.

Excel industries
CMP- 793
52-week H/L: 1510/733
Diethylthiophosphoryl chloride (DETC) is the
main product with a market share of 60%
in India - it’s an agrochemical intermediate.
Although the company tried to diversify
into different products but haven’t received
environment clearance thus continuing with
focus only on DETC thus impacted by fall in price
of the product. Margins have fallen from high of
34% to 22%.

Key Message: It is not that above are not good companies but their over-dependence of single product leads to HUGE
volatility in margins.
Like in any business, the leaders in chemical space will be cos with processes, people & long-term contracts. Smaller
chemical cos may benefit & have benefitted but dare me say that longevity of earnings will be question mark. Cos
which some a niche, promoters’ skin in the game, huge experienced team with focus on chemistry, long term clients
& ability to maintain tight margins with focus on volumes will emerge as leaders. One question I am always asked in
CHINA coming back & impacting the industry. The answer is very simple that I don’t know & nobody knows. We search
for companies who have performed over last 1-2 decades in good & bad cycles whether China or not. Even when China
was growing, these cos grew in the past & have long term clients. Let’s try & invest in a great co as the opportunity size
over next 3-5 years could be $20-25 billion or nearly Rs 1.5 lakh or more. Only 2-3 chemical cos in India have sales above
Rs 5000 cr….so there is a long way to go.
PS: We don’t claim to know all & open for any feedback, criticism which will lead all of us to learn more.

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 The Next Big Theme
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16th December, 2019

Some reading material

Global Business Report on Chemical Ind
https://www.gbreports.com/files/pdf/_2019/India_Chemicals_2019_-_Web_Preview.pdf
Aarti Ind Presentation
https://www.aarti-industries.com/media/investors/presentations/1563453301_Analyst_Presentation-June_2019.pdf
HDFC Sec on Chemical Ind
https://www.hdfcsec.com/hsl.docs//Sector%20Update_Chemical%20Industry_Aug%202019-201908291312319244043.
pdf
JM Fin on Chemical Ind
http://jmflresearch.com/JMnew/JMCRM/analystreports/pdf/Chemical%20Sector%20Report_01March19.pdf
Edelweiss on Chemical Ind
https://www.dsij.in/productAttachment/premarketreports/Market_specialtyChemicals_Edelweiss_26.06.19.pd

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