Table of Content

Speciality Chemical (Introduction)………………………………………….2

PESTEL Analysis…………………………………………………………...5
Global trend of Speciality Chemical………………………………………..12
Indian Trend in Speciality Chemical……………………………………….22
Investment and Innovation in Specialty Chemical Business…………….…32
Financial Analysis of AARTI INDUSTRIES LTD……….………………..42
Business Model of Speciality Chemical……………………………………52
Pricing Strategy of Speciality Chemical…………………………………....66
Forecasting of Speciality Chemical…………………………………………73
Financial Aspect of Speciality Chemical……………………………………81

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 Speciality Chemical

The Chemicals industry can be classified based on various parameters such as

value addition (basic/specialty), end-use (water treatment / construction/
agrochemicals), process (batch/continuous), etc. If we focus on value addition,
the chemicals industry can be classified into two broad segments - basic and
specialty.
Basic chemicals are generally high-volume and low-value products that are sold
to other industries for further processing. Typically, basic chemicals are more
likely to be manufactured in continuous process plants and there is no major
product differentiation among several manufacturers.
On the other hand, specialty chemicals are low-volume and high-value products
sold on the basis of their quality or utility, rather than composition. Thus, they
may be used primarily as additives or to provide a specific attribute to the end
product. The focus is on value addition to the end product and the properties or

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 technical specifications of the chemical.

Speciality chemicals (also called specialties or effect chemicals) are particular

chemical products which provide a wide variety of effects on which many other
industry sectors rely. Some of the categories of speciality chemicals are
adhesives, agrichemicals, cleaning materials, colours, cosmetic additives,
construction chemicals, elastomers, flavours, food additives, fragrances,
industrial gases, lubricants, paints, polymers, surfactants, and textile auxiliaries.
Other industrial sectors such as automotive, aerospace, food, cosmetics,
agriculture, manufacturing, and textiles are highly dependent on such products.

Speciality chemicals are materials used on the basis of their performance or

function. Consequently, in addition to "effect" chemicals they are sometimes
referred to as "performance" chemicals or "formulation" chemicals. They can be
unique molecules or mixtures of molecules known as formulations. The physical
and chemical characteristics of the single molecules or the formulated mixtures
of molecules and the composition of the mixtures influences the performance end
product. In commercial applications the companies providing these products
more often than not provide targeted customer service to innovative individual
technical solutions for their customers. This is a differentiating component of the

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 service provided by speciality chemical producers when they are compared to the
other sub-sectors of the chemical industry such as fine chemicals, commodity
chemicals, petrochemicals and pharmaceuticals

Speciality chemicals are usually manufactured in batch chemical plants using

batch processing techniques. A batch process is one in which a defined quantity
of product is made from a fixed input of raw materials during a measured period
of time. The batch process most often consists of introducing accurately measured
amounts of starting materials into a vessel followed by a series of processes
involving mixing, heating, cooling, making more chemical reactions, distillation,
crystallization, separation, drying, packaging etc., taking place at predetermined
and scheduled intervals. The manufacturing processes are supported by activities
such as the quality testing, storage, warehousing, logistics of the products, and
management by recycling, treatment and disposal of by-products, and waste
streams. For the next “batch” the equipment may be cleaned and the above
processes repeated.

Most speciality chemicals are organic chemicals that are used in a wide range of
every day products used by consumers and industry. It is a consumer driven sector
and as such the specialty chemical industry has to be innovative, entrepreneurial
and consumer-driven. In contrast to the production of commodity chemicals that
are usually made on large scale single product manufacturing units to achieve
economies of scale, specialty manufacturing units are required to be flexible
because the products, raw materials, processes &, operating conditions and
equipment mix may change on a regular basis to respond to the needs of
customers.

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 Pestle Analysis
PEST analysis (political, economic, socio-cultural and technological) describes a
framework of macro-environmental factors used in the environmental scanning
component of strategic management. It is part of an external analysis when
conducting a strategic analysis or doing market research, and gives an overview
of the different macro-environmental factors to be taken into consideration. It is
a strategic tool for understanding market growth or decline, business position,
potential and direction for operations.

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 Political Analysis
Chemicals can enhance the products we use every day at home and at work. While
chemicals contribute significant value to many products, careful management is
required to protect the health of people, animals and the environment. New
chemical laws come into effect every year worldwide to control their potential
health risks. Existing laws are also constantly evolving to keep pace with new
information and scientific advancements in order to minimize any potential
adverse effects on humans, animals, and the environment.

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 Political factors play a significant role in determining the factors that can impact
speciality chemical business. Specialty Chemicals in more than dozen countries
and expose itself to different types of political environment and political system
risks. The achieve success in such a dynamic Specialty Chemicals industry across
various countries is to diversify the systematic risks of political environment. The
following political factors are affecting speciality chemical market

 Political stability and importance of Specialty Chemicals sector in the

country's economy.
 Risk of military invasion
 Level of corruption - especially levels of regulation in Basic Materials
sector.
 Bureaucracy and interference in Specialty Chemicals industry by
government.
 Legal framework for contract enforcement
 Trade regulations & tariffs related to Basic Materials
 Anti-trust laws related to Specialty Chemicals
 Pricing regulations – Are there any pricing regulatory mechanism for Basic
Materials
 Taxation - tax rates and incentives
 Wage legislation - minimum wage and overtime
 Work week regulations in Specialty Chemicals
 Mandatory employee benefits
 Industrial safety regulations in the Basic Materials sector.
 Product labelling and other requirements in Specialty Chemicals

For example changing global trade policies and tax regulations have a
significant impact on the operations of Clariant. Clariant has its presence in

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 significant regions China, US, Austria, Middle East, India. Thus the operations
are subject to change in the US trade policies. Trade protection measures such
as import or export restrictions and requirements, the Imposition of
burdensome tariffs and quotas or revocation or material modification of trade
agreements are some of the parameters which will affect the operations.
Moreover, the trade protection measures are expected to further intensify due
to presidential guidelines. Stringent export laws in China, ban on plastic has
been one of the major factors which will affect the operations in China.
Similarly, GST (Goods and Service tax in India will have a major impact on
the operations of chemical Industries in India.

Economic Analysis
1. Oppositions from activist investor: - One of the major hindrance in
Speciality chemical business in recent times is the continuous interference
of its shareholders in the operations. For example one of the investor group
of Clariant speciality chemical has been active in opposing the functioning
of the organization which affect their cost.

2. Changing prices of raw materials: - Speciality chemical production

depends largely on the procurement of raw materials from their suppliers
located in different countries. Higher oil prices affects the natural resources
procurement to a large extent. The fluctuating prices of raw materials will
save a significant Impact on the speciality chemicals as well.

3. Uncertainty in Foreign Exchange Rates: - The increase political and

economic uncertainty in the geopolitical environment has affected
Speciality Chemical Business. For example Eastman Chemicals has more
than 60% of its revenue accounts from sales outside North America. The
Euro and the Chinese Yuan are two of the Eastman's most exposed

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 currencies and they are expected to weaken against the US dollar over the
next two years in wake on the recent trade protectionist policies which may
lead to trade wars. Further, the recent surge in oil prices will impact the
exchange rates in Asia and European region which in turn could affect
revenue of the companies, to mitigate their risk they hedge it using
derivative and non-derivative Instrument thereby exposing them to
hedging risk.

Social Analysis
This dimension of the general environment represents the demographic
characteristics, norms, customs and values of the population within which the
organization operates. This includes population trends such as the population
growth rate, age distribution, income distribution, career attitudes, safety
emphasis, health consciousness, lifestyle attitudes and cultural barriers. These
factors are especially important for marketers when targeting certain customers.
In addition, it also says something about the local workforce and its willingness
to work under certain conditions. The speciality chemical covers a wide variety
of chemicals which is used by people of different segments, geographical
location, gender, occupations etc. used in crop protection, paints and inks,
colorants (dyes and pigments). It also includes chemicals used by industries as
diverse as textiles, paper and engineering. New products are being created to meet
both customer needs and new environmental regulations. An everyday example
is household paints which have evolved from being organic solvent-based to
being water-based. Another is the latest ink developed for ink-jet printers.

Technological Analysis
As a high margin business, this segment had little need for operational or financial

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 Cost reductions. Globalisation as well as growing usage of Speciality chemicals
has led to a change in business dynamics. Companies today are focussed on
reducing costs of manufacturing Speciality products for competitive advantage.
R&D is increasingly assuming importance for the entire industry but its focus
varies across industry segments. Basic chemicals use R&D for making
manufacturing process improvements to reduce costs and application
development to boost demand, while Speciality and knowledge chemical
companies use R&D for new product development.
R&D spending in Speciality chemicals is on the rise as players seek to maintain
a competitive edge gain revenue growth and extract further value from these
performance chemicals. Increasing competition among the speciality
manufacturers has caused companies to partner extensively with key customers
to deliver value added services along with application development to cater to
changes in the customer's manufacturing process. Industry wide, about 22 per
cent of sales are generated from products introduced in the last five years.

An American Speciality chemicals company manufactures and markets

Speciality chemicals primarily used by the paper industry to improve both
product performance and the manufacturing process although pricing is important
to the company's competitive strategy, the company primarily competes based on
the performance and quality of its products

It strives to continually improve its products by investing sources in technology

and R&D, Such expenditures enable the company to consistently bring to market
products that have improved functional properties or other similar properties it a
lower value the commandment by the company to provide new stills and to tell
product offerings

Environmental Analysis

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 Rising pollution levels in China also has a stringent policies which have affected
the operations of major chemical industries. This had a significant impact on the
supply chain of chemical companies which has resulted in a chance prices of raw
materials from suppliers regulations and policies
Companies like Himadri Speciality chemical is subjected to various
environmental laws and regulations. These laws are applicable to the production,
use and sale of chemicals, emissions into the air, discharges into waterways and
other releases of materials into the environment. Along with these, it is also
applicable to the generation, handling, storage, transportation, treatment and
disposal of waste material.

Their endeavour is to ensure safe and lawful operation of their facilities with
respect to the manufacturing and distribution of products. It ensures control of all
forms of discharge - solid, liquid or gas. The Company also consciously increased
it green cover by planting appox. 5,000 saplings.

They conduct programs for the environmental and occupational safety and health
compliance. They also organise periodic internal and external regulatory audits
that help identify and categorise potential environmental exposure.

Legal Analysis
In number of countries, the legal framework and institutions are not robust
enough to protect the intellectual property rights of an organization. A firm should
carefully evaluate before entering such markets as it can lead to theft of
organization’s secret sauce thus the overall competitive edge. Some of the legal
factors that Speciality Chemical Company should consider while entering a new
market are -

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  Anti-trust law in Chemicals - Major Diversified industry and overall in the
country.
 Discrimination law
 Copyright, patents / Intellectual property law
 Consumer protection and e-commerce
 Employment law
 Health and safety law
 Data Protection

Global trend of Speciality Chemical

Globally, specialty chemicals are driven by extensive product R&D and
innovation, which is a significant differentiator over the commoditized chemical
industry. However, in the Indian context, this line of demarcation is almost non-
existent due to the “genericized” nature of the specialty industry. This also leads
to a visible difference in margin structure of global and Indian specialty chemical
companies.

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 The speciality chemical market is complex and each specialty chemicals business
segment comprises many sub-segments, each with individualized product, market
and competitive profiles. This has given rise to a wide range of business needs
and opportunities, consequently there are a large number of speciality chemical
companies around the world. Many of these companies are SME's with their own
niche products and sometimes technology focus. The common stock of over 400
speciality chemical companies from around the world are identified by
Bloomberg the providers of global business and financial information. There are
many more privately owned speciality chemical companies that are not quoted on
the global stock markets.

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 The 10 largest European speciality chemical companies are BASF, AkzoNobel,
Clariant, Evonik, Cognis, Kemira, Lanxess, Rhodia, Wacker and Croda. By
definition, speciality chemicals are produced in relatively small quantities but
they represent 28 per cent of EU chemical sales. While, The 10 largest USA
Speciality Chemical Companies are The Lubrizol Corporation, Huntsman,
Ashland, Chemtura, Rockwood, Albemarle, Cabot, W. R. Grace, Ferro
Corporation, and Cytec Industries.
Specialty chemicals are produced by a complex, interlinked industry. There is
considerable overlap in this method of characterization. Market-oriented groups
often include numerous functional chemicals used by the same market, while
functional chemicals typically are used by several different markets. This
distinction is made for convenience in discussing strategic aspects of the business
segments rather than because of a real difference in the products.
In 2018, the world’s 5 largest specialty chemicals segments—specialty polymers,
industrial and institutional cleaners, electronic chemicals, surfactants, and flavors
and fragrances—had a market share of 37%; the 10 largest segments accounted
for 63% of total annual specialty chemicals sales. Each specialty chemicals
business segment comprises several sub segments, each with individualized
product, market, and competitive profiles.

The leading market players mainly include-

 Akzo Nobel N.V
 Solvay SA
 BASF SE
 W.R. Grace & Co.
 Dow DuPont

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  Wacker Chemie AG
 Huntsman Corporation
 Clariant AG
 Eastman Chemical Company
 Mitsui Chemicals Inc
In the past, specialty chemical companies sold their products on value. Their
products represented only a small portion of the cost structure of their customers’
products. Advances in supply-chain management, strategic sourcing, and e
Commerce have increased transparency and customer awareness. As a result, the
specialty chemicals industry is becoming more commodity-like in some areas as
companies sell certain products on price rather than on performance. The
specialty chemicals industry is now trying to improve its margins by
implementing price increases to compensate for higher R&D, energy, and raw
material costs.
Some specialty chemical companies are trying to raise barriers to entry into their
markets by becoming more service oriented. They are focusing less on products
and more on support services and specific customers. Providing services
alongside products has long been the way to do business in some specialty
chemical sectors, including automotive coatings, fluid catalytic cracking
catalysts, pharmaceutical ingredients, and water treatment. However, as more
sectors wrestle with slowing growth rates and encroaching commoditization,
more specialty chemical companies have increased the service component of their
portfolios.

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 North America is leading consumer of biocides, catalysts, corrosion inhibitors,
cosmetic chemicals, food additives, industrial and institutional cleaners,
lubricating oil additives, oil field chemicals, printing inks, surfactants, and
synthetic lubricant, while Western Europe is the leading consumer of
nutraceuticals and flavours and fragrances. Japan was the largest consumer of
imaging chemicals, while Other Asia had the highest consumption value for
chemicals used in semiconductor fabrication.

In addition, emerging markets have higher growth rates than North America,
Western Europe, and Japan because they are calculated from a low base, since
their per capita consumption of specialty chemicals is still very low compared
with that of developed regions. As far as the total global market of Speciality
Chemicals industry is concerned, China is having about 25% of the market share.
China is the world’s largest producer and exporter of Speciality Chemicals. China
was the largest consumer of specialty chemicals, accounting for 30–50% of
global consumption in antioxidants, construction, feed additives, printed circuit
board and semiconductor packaging, plastics additives, paper chemicals, rubber-

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 processing chemicals, specialty coatings, specialty polymers, textile chemicals,
and water management chemicals. The country accounted for 50% of the dollar
value of the global textile chemicals market in 2018. Specialty chemicals are
widely used in everything from household items such as detergents, cosmetics
and processed food to high-tech products such as aircraft and mobile phones.
Recently China experienced an 8% to 10% annual growth rate in specialty
chemicals. However, lower GDP and tighter regulations directly impact the
consumption of related specialty chemicals. As a result, we project that China's
specialty chemical growth rate will slow to 6% between 2017 and 2022
Trade friction between the United States and China may indirectly influence
consumption of some specialty chemicals. For example, reduction of plastics
exports to the U.S decreases the consumption of plastic additives in China. As
China is the largest producer of electronic end-use products, a decrease in exports
will reduce consumption of electronics chemicals. Fewer exports will also
negatively affect the Chinese economy, further decreasing domestic consumption
of specialty chemicals.

Many other Asian countries that export large volumes to China are affected by its
economy. For example, Taiwan and South Korea send 30% to 40% of their total
exports to China on value basis. Singapore and the Philippines export 20% to
30%. And Japan, Malaysia, Thailand, and Indonesia export 10% to 20%.
Therefore, any slowdown in the Chinese economy will negatively impact these
countries.

Other Asia excluding China accounts for 23% of the world's specialty chemical
markets. IC chemicals represent the largest market segment, especially in North
Asian countries. Taiwan, Japan, and South Korea are major producers of ICs,
many of which are exported to China. These countries increased their IC exports
to China as the Chinese electronic industry grew. However, IC imports are falling

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 with the Chinese demand for electronics ICs. Chinese imports of ICs from
Taiwan, South Korea and Japan have been decreasing since November 2018. In
December 2018, Chinese imports of ICs decreased from Taiwan by 21%, South
Korea by by14% , and Japan by 9%, compared with December 2017. This trend
will continue for at least the first half of 2019.
The following pie chart shows the specialty chemicals market share held by each
major region on a value basis:

Growth of chemicals and specialty chemicals is dependent upon growth in major

end-user industries such as construction, textiles, automobiles and consumer
durables. Domestic chemicals industry, estimated at Rs 6.3-6.8 lacs crore in fiscal
2019, clocked 7-8% CAGR during fiscals 2014 to 2019.
Specialty chemicals accounts for 20-25% of the overall chemicals industry in
India. Going forward, specialty chemicals is expected to register 12-13% CAGR
over the next five years driven by the growth in the economy.
Specialty chemicals consumption in in the country is low compared with the
global average. This provides enormous scope. Moreover, increasing availability
of basic chemicals is likely to support further investments in the specialty
chemicals segment.

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 The market for specialty chemicals is expected to grow at a CAGR of around
5.17% during the forecast period of 2019 2024. The major factors driving the
growth of the market studied are its robust growth of construction activities,
especially in Asia-Pacific and Middle East and Africa regions, and growth of oil
exploration and production activities. On the flip side, increasing environmental
regulation, and reducing fossil fuel reserves are the restraints hampering the
growth of the studied market.

Major Competitors Globally

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 The specialty chemicals market is highly fragmented, with numerous players
holding a significant share of the market. Some of the noticeable players in the
market include 3M, BASF SE, H.B. Fuller, Huntsman International LLC, and
Henkel AG & Co. KGaA, among others.

Global Market Insights

Market Research Future (MRFR)’s latest study has revealed that the
Global Specialty Chemicals Market is set to thrive at a CAGR of 6.21% during
the forecast period 2018 to 2023. The market is set to grow from USD 710.03 Bn
in 2017 to USD 1000 Bn by the end of 2023. Specialty Chemicals have developed
an application in different industry verticals such as food, textiles, automobiles,
etc. The global market is anticipated to witness a surge in demand in the
forthcoming years.

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 The shift from commodity chemicals to Specialty Chemicals due to the
superiority of Specialty Chemicals has augured well for the market players. The
trend is prognosticated to perpetuate in the foreseeable future.
However, the volatile price of raw materials such as petrochemical derivatives
remain an impediment to the Specialty Chemicals market growth and is expected
to affect pricing policies adversely.

The demand for Specialty Chemicals from the automotive industry is the key
factor responsible for favouring the expansion of the Specialty Chemicals Market.
The growth of the automotive industry directly reflects on the growth of the
Specialty Chemicals Market. These chemicals are widely used in lightweight
vehicle applications. The upsurge in demand for lightweight automobiles is likely
to catapult the market on an upward trajectory.
The Specialty Chemicals Market is entering a maturity phase. However, low
operating costs in the Middle East and the Asia Pacific has opened new avenues
of growth in the Specialty Chemicals Market. Several end-user industry players
are shifting to these regions for establishing manufacturing units. This, in turn, is
expected to intensify demand for Specialty Chemicals in these regions.

By Source, the Global Specialty Chemicals Market is segmented into crude oil,
naphtha, ethane, propane, butane, wood and others. Among these, the naphtha
segment accounts for a major share of the market revenue. It is forecasted to
register a CAGR of 6.19% over the assessment period.

By Type, the Specialty Chemicals Market has been segmented into

agrochemicals, flavour ingredients, fragrance ingredients, dyes & pigments,
water treatment chemicals, personal care active ingredients, construction
chemicals, surfactants, textile chemicals, polymer additives, bio-based chemicals,
and others. Among these, the agrochemicals segment holds the most significant

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 share of the market and is likely to exhibit positive growth in the foreseeable
future.

By Region, the Global Specialty Chemicals Market has been segmented into Asia
Pacific, North America, Europe, the Middle East & Africa, and Latin America.
Asia Pacific is projected to lead the global market and is expected to hold a
significant market share towards the end of 2023. The factors responsible for
aiding market proliferation in the region include thriving agrochemicals industry,
the presence of fast-developing economies, increasing demand from the
automobile industry, etc. Furthermore, the relaxations in regulations by the
governments catalyse the expansion of the regional market.

Europe and North America are important growth pockets and are likely to remain
highly lucrative markets during the forecast period. The presence of key players
in the regions is projected to complement the expansion of the markets.
Meanwhile, Latin America and the Middle East & Africa are estimated to hold
the least share of the specialty chemicals market. However, Middle Eastern
country-level markets such as Qatar, U.A.E, Dubai, etc. and Latin American
country-level markets such as Mexico and Brazil resonate strong growth
opportunities.

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 Indian Trend in Speciality Chemical
India’s chemical industry is poised for strong growth in the future, says a report
by Crisil Research. Going forward, with India’s GDP projected to grow at 7.5 per
cent in the medium term, demand for specialty chemicals from various end-use
industries – textiles, automobiles, construction and consumer durables – is likely
to remain strong.
According to the report, India’s largest independent integrated research house,
penetration of specialty chemicals in India is lower than the global average at
present. Going forward with increased focus on improving products, the intensity
of specialty chemicals in various end-use domestic markets will rise. Therefore,
over the next five years, specialty chemicals is expected to clock 12-13 per cent
CAGR.
Taking advantage of ample opportunities in the domestic specialty chemicals
industry, companies like BPCL has added downstream capacities in certain
chemicals, where India is a net importer. As part of the project, BPCL will
manufacture specialty petrochemicals derived from propylene like acrylic acid,
polyols and butyl acrylates. These will find applications in hygiene products,
adhesives, plasticisers, water-based chemicals and sealants. Others such as
HPCL, Indian Oil and Ratnagiri Refinery and Petrochemicals Ltd are also
planning to replicate BPCL’s method by setting up units.

In the past, growth of the specialty chemicals industry in India has been hampered
by factors such as presence of small/ unorganised players, who could not cater to
the growing demand. However, post demonetisation and implementation of the
Goods and Services Tax (GST), the industry is gradually moving towards
consolidation. Thus, with gradual consolidation in the industry as established
players slowly show interest in downstream specialty and other chemicals
segments, specialty chemical players would be in a better position to achieve

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 economies of scale. For instance in the specialty chemicals segment, players like
SRF, Sudarshan Chemicals, International Flavours & Fragrances and Jay
Chemicals have announced capacity additions. Moreover, transparency in the
industry is increasing with the filing of recent IPOs by Neogen Chemicals,
Hindcon Chemicals, Galaxy Surfactants, Fine Organics, etc. This reflects the
increase in size of operations and showcases the growth potential of the domestic
chemicals industry.

Chemical plants are shutting down globally. Closure of plants in countries such
as EU and China owing to increasing environmental concerns has opened doors
for Indian manufactures to invest further in specialty chemicals. While India also
faces threat from environmental concerns, the threat is limited to smaller players
and shall serve as an opportunity for larger players to capture the market. In fact,
some of the large players have established themselves in global markets like the
EU and US and have active export revenue share, which will help them to seize
the opportunity. At the same time, global players are looking to diversify supply
risk, thereby improving export opportunities for Indian players.

India’s overall chemical production infrastructure continues to be at a nascent

stage. For example, the basic chemicals industry in India is structured around
refineries that have added an ethylene cracker. However, the downstream
specialty chemicals still continues to be unorganised and fragmented. The
government’s initiatives to promote the development of petroleum, chemicals,
petrochemicals investment regions (PCPIRs) across the country, hasn’t been very
fruitful. However, despite this, regions such as GIDC has established themselves
as key chemical manufacturing

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 Leading Speciality Chemical Industries in India
1. Aarti Industries
Manufacturer, supplier and exporter of specialty chemicals and pharmaceuticals,
Aarti Industries has 16 manufacturing units. Ambit Capital is bullish on the stock
as the company is well-positioned in the semi-commodity business where China
is losing its edge. Its focus on growth and the ability to continue with capital
investments could yield around 16% post-tax return on capital employed. Import
substitution opportunities will make it a significant benefits
2. Navin Fluorine International
The company exports to North America, Europe, West Asia and Asia Pacific. It
expects the growth in inorganic fluoride segment to continue amid sustained
demand from the steel and aluminium industries. It has spent Rs 10 crore on a
plant that is likely be operational by the end of 2018-19. JM Financial likes the
company’s focus on high-value products and expects revenue growth of 11.5%
in 2018-19 and Ebitda margin of 23%.
3. Atul Limited
It has subsidiaries in the US, the UK, China, Brazil and the UAE. AnandRathi
expects Atul’s crop protection, bulk chemicals and polymers businesses to
witness growth in the coming months due to better product acceptance, latent
revenue potential and strengthening position in the domestic and international
markets. Most of the company’s segments and products are set for the next phase
of growth due to higher utilisations, Greenfield capex and removing production
bottlenecks.
4. Bodal Chemicals
The company makes products for textile, paper, plastic and leather industries. It
manufactures and exports sulphuric acid, dye intermediates and dyestuff, among
other chemicals. SBI Cap Securities believes that the company’s expansion into
products such as dyestuff and thionyl chloride and its backward integration is

25
 likely to support its growth momentum. The stock is attractively valued and the
brokerage house expects profit after tax CAGR of 21% over the next three years.

5. Himadri Speciality Chemical

The specialty chemicals firm caters to the steel, aluminum, automotive, plastics
and infrastructure sectors. ICICI Direct is bullish on the stock due to its stable
balance sheet—debt-equity ratio in 2017-18 was 0.4. The company has a robust
cash flow and has spent an impressive sum on new-age products. Its debt situation
is likely to be stable as it capex needs will largely be met by internal accruals.
Value-added products, unique proposition and global footprint will drive the
company’s growth

India’s specialty chemical companies are set to invest the highest ever on capacity
expansions in the financial year 2019 and continue capital expenditure to cater to
rising demand from domestic and overseas markets, following plant shutdowns
in China, the world’s largest producer and exporter.

Data compiled by SBICAP Securities showed specialty companies such as Aarti

Industries, Fine Organic Industries, Himandri Specialty Chemicals and Bodal
Chemicals have lined up Rs 9,200 crore for FY20 compared to Rs 1,400 crore for
the previous financial year. These companies have proposed capital expenditure
of Rs 5,000 crore and Rs 6,500 crore for FY20 and FY21 respectively. Most

26
 importantly, these companies have diversified their product portfolios to meet
demands from customers.

Specialty chemical companies in India have witnessed a sharp increase in demand

of their products over the last few years. Thus, profit margins of India’s chemical
companies are likely to remain robust in the next couple of years due to improved
demand.

Specialty chemical companies line up highest ever capex in FY19 Aarti

Industries, for example, diversified its business model and strong execution
capabilities. Expansion in toluene derivatives and new long term contracts are
expected to drive the next leg of growth for the company.

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 With a structural shift from synthetic products to naturally derived products, Fine
Organic Industries is expected to more than double its production capacity to
131,000 tonnes per annum by 2021 to meet demand.

Himandri Specialty Chemicals is well placed to capitalise on the robust recovery

in demand from the aluminium industry for its flagship product coal tar pitch. It
is now diversifying into higher value-added products such as specialty carbon
black with an installed capacity of 20,000 tonnes per annum by FY21. Similarly,
Bodal Chemicals is eyeing synergic expansion into related products such as
dyestuff and thionyl chloride.
Specialty chemical companies line up highest ever capex in FY19. Meanwhile,
cheap labour cost and extensive government support are also set to help the
specialty chemical sector in India. To support the industry, the Centre has allowed
100 per cent foreign direct investment (FDI) in the sector.

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 Specialty chemicals are often customized offerings, based on an in-depth
understanding of customer needs and problems.
While plant capital costs are lower than those for commodity chemicals, the
speciality chemicals business requires significant application development and
R&D investments to stay relevant.
The overall total current market size of chemical industry is about $3 Trillion, out
of which Bulk chemicals holds $2.25 Trillion. While Speciality chemicals’
industry is $750 Billion currently and it is expected to grow to around $1 Trillion
by 2024 with a growth rate of 12%-14%. The Bulk chemicals industry is expected
to grow at a rate of 6%-7% and is estimated to double in market size by 2035.

29
 Speciality Chemicals Industry – India v/s Global Players
“China’s pain is India’s gain”. The decline in supply from China offers immense
opportunity for Indian players to ramp up their supply to the world market and
explore new markets for sustained exports, said Punit Makharia, chairman and
managing director, Shree Pushkar Chemical and Fertilisers Ltd, one of India’s
largest players in specialty chemicals. As far as the total global market of
Speciality Chemicals industry is concerned, China is having about 25% of the
market share. China is the world’s largest producer and exporter of Speciality
Chemicals. But, from last 2-3 years, China has employed a Blue Sky Policy to
control the pollution with respect to the pollutants discharged from these
Speciality chemicals plants.
Strict pollution norms have disrupted in China. Companies are either being
shifted to dedicated areas or restrictions are being placed on production. Either of
these has the potential to increase costs of manufacturing for Chinese firms.
Companies that previously sourced from China are now looking for alternate
supply sources like India.
So India is getting a competitive advantage of China’s pain. The decline in supply
from China offers immense opportunity for Indian players to boost their supply
to the world market and explore new markets for sustained exports.
India’s specialty chemical companies are set to invest the highest ever on capacity
expansions in the financial year 2019 and continue capital expenditure to cater to
rising demand from domestic and overseas markets, following plant shutdowns
in China, .

30
 India is steadily moving up the ranks as a global economic power and a business
magnet for investment. Key drivers for success in the chemical sector include
proximity to strong growth markets, greater ease in doing business, and the
continued development of petroleum, chemicals and petrochemical investment
regions (PCPIRs). Backed by one of the strongest GDP growth rates in the world,
the future looks bright for the Indian chemical industry.
Indian chemical companies support a sizable and highly diversified industry that
includes commodities, specialities, polymers, agrochemicals and a range of other
groups. Total chemical sales are expected to grow from US$139 billion in 2014
to US$214 billion by 2019. By 2025, the Indian chemical industry is projected to
reach US$403 billion.

Since 2014, the government administration headed by Prime Minister Narendra

Modi has supported a number of reforms designed to encourage business growth
by eliminating unnecessary laws and regulations, simplifying bureaucratic
processes, and making the government more transparent, responsive and
accountable.
These reforms and other initiatives have supported a dramatic, even historic, rise
in India’s ranking on the World Bank’s Ease of Doing Business (EoDB) Index--
- a jump of 30 places into the top 100 countries. In fact, India is the first large
country ever to record such an increase in ratings over a single year.

31
 Looking ahead toward the challenges
Major challenges remain for the Indian chemical companies. The chemical
industry is highly fragmented with intense rivalry among companies. Because
100 percent FDI is allowed, domestic players can face stiff competition from
foreign multinationals that have the ability to exert strong price pressures on local
markets. Huge capital requirements, patent protection, R&D costs and personnel
requirements present other challenges.

But for every challenge there is an equal if not greater opportunity. The fact
remains that the centre of gravity for the global chemical industry is moving to
the East, and Indian chemical companies are well-positioned to take advantage of
this transition.

32
 Investment and Innovation in Specialty Chemical Business
 Germany-based speciality chemical company LANXESS has agreed to sell
its chrome chemicals business to Chinese leather chemicals manufacturer
Brother Enterprises. The companies have signed an agreement with the
transaction depending on the approval by the relevant anti-trust authorities.
The chrome chemicals business in recent year no longer fits in with
LANXESS strategic focus on speciality chemicals. LANXESS’ Leather
unit owns the chrome chemicals business, which annually generates around
€100m in sales.
The company owns two sites in South Africa. The Newcastle site
manufactures sodium dichromate (Na₂Cr₂O₇), which is partially processed
into chromic acid. The Mere bank site produces chrome tanning salts from
sodium dichromate. The salts are used in the chrome tanning process for
leather. Under the transaction, Brother Enterprises will acquire the
Newcastle plant that employs 220 people. In addition, LANXESS will
manufacture chrome tanning salts for Brother Enterprises until 2024. The
deal is expected to close by the end of this year.
 Scientists from Stanford University in the US and SLAC National
Accelerator Laboratory have created artificial catalysts that release
chemicals such as enzymes in living organisms. The researchers have
developed a catalyst from precious metal palladium nanocrystals. The
metal is embedded in layers of porous polymers designed with special
catalytic properties. According to scientists, trace metals such as zinc and
iron are included in the core of several protein enzymes found in nature.
During their experiments, researchers were able to observe trace palladium
in their catalysts. The researchers believed their discovery could help in the
creation of industrial catalysts that will be capable of cost-effectively
generating methanol using less energy.

33
  A PhD student from Cornell University noticed the massive waste problem
facing yogurt producers, particularly located in upstate New York. Dr Juan
JL Guzman founded Capro-X in 2017 as a continuation of his academic
work, and pitch to investors at Food Bytes event. The pitch and networking
program took place in Chicago for the first time on September 19 at Revel
Fulton Market and chosen start-ups get three minutes to present to investor.
Many CPG companies are working long-term to improve their
environmental sustainability, like reducing the product shipments through
trucking to cut back on carbon emissions. Greek yogurt companies now
ship more trucks of waste out of their plants than product.

Capro-X wants to be an inexpensive solution to the problem as a

sustainable agriculture biotechnology company. Its model will upgrade the
wastes and by products into valuable chemicals. The Capro-X treatment
system is called Whey Away, and systems can be installed on site. Guzman
said the company charges per gallon of disposed acid whey, which treated
down to sewer discharge, or can be left with the clients to reuse on site if
they want. The process yields bio-oils, a direct alternative to palm oil
chemicals that can be sold in the specialty chemicals industry. Capro-X
says that by treating just 10% of the acid whey produced in New York, the
company can yield 500,000 gallons of bio-oil per year and prevent 1000
tons of greenhouse gas emissions caused by trucking the waste. Capro-X
already has a system installed at a Greek yogurt plant in New York, and
plans to reach 10x growth per year until fully launching to market in 2022.
Guzman said Whey Away is pledging a 20% cheaper rate than current
disposal methods.

34
  Investment firm Altas Partners agreed to acquire speciality chemical
supplier DuBois Chemicals from The Jordan Company for an undisclosed
amount. Established in 1920, DuBois is a provider of customised speciality
chemical solutions and related equipment with more than 15,000 customers
worldwide.
“With Altas’ support, DuBois look forward to continuing the development
of the business through both organic growth and continued selective
acquisition. Subject to customary closing conditions and regulatory
approvals, Altas is expected to complete the deal this year. Earlier this year,
DuBois developed new non-phosphate pre-treatment products called
DuraTEC 600 and DuraTEC 602. They also reduce the environmental and
health impact of traditional pre-treatment chemistries, as well as improve
corrosion resistance on all substrates

 Meridian Adhesives Group (“Meridian”) announced the acquisition of

Epoxies, Etc. (“Epoxies”), a leading resin formulator of epoxies, urethanes
and silicones. Arsenal Capital Partners (“Arsenal”) created Meridian in
2018 as its platform in the global adhesives and sealants sector, focusing
on high-value adhesives technologies.
Epoxies, based in Cranston, Rhode Island and founded in 1988, is a
specialty formulator of epoxy, urethane, silicone, and UV curable resin
systems. The Company manufactures a broad range of adhesives, potting
compounds and coatings for use in the electronics, electrical, construction
and decorative industries. This merger will enable us to continue our rapid
growth in our strategic markets. Their customers and all Epoxies, Etc.
stakeholders will benefit from Meridian’s support. The addition of Epoxies
to Meridian’s growing platform of adhesive and sealant technologies will
create significant opportunities for both companies.

35
  Huntsman Corporation announced to enter in a definitive agreement to sell
its chemical intermediates businesses, which includes PO/MTBE, and its
surfactants businesses to Indorama Ventures in a transaction valued at
$2.076 billion, comprising a cash purchase price of $2.0 billion plus the
transfer of up to approximately $76 million in net underfunded pension and
other post-employment benefit liabilities. The $2.076 billion transaction
value represents an LTM adjusted EBITDA multiple of approximately 8.0
times, which includes retained SG&A costs of about $30 million, a portion
of which Huntsman expects to eliminate over time. Under the terms of the
agreement, Indorama Ventures would acquire Huntsman’s manufacturing
facilities located in Port Neches, Texas; Dayton, Texas; Chocolate Bayou,
Texas; Ankleshwar, India; and Botany, Australia. The transaction is
subject to regulatory approvals and other customary closing conditions and
is expected to close near year-end. This transaction further transforms
Huntsman’s balance sheet and future. It accelerates their ability to expand
more in areas both downstream and complementary to their portfolio.

 Germany-based Styrenics supplier INEOS Styrolution has started

construction of its new 100kt acrylonitrile styrene acrylate (ASA) plant in
Bayport, Texas, US. The site development follows the final investment
decision taken last December and underlines the company’s Triple Shift
growth strategy. The project is a part of the company’s Americas market
expansion plan. It also has plans to increase acrylonitrile butadiene styrene
(ABS) capacity by an additional 70kt at the Altamira site in Mexico. The
ASA production at the Altamira plant in Mexico will move to the new plant
in Bayport. The Bayport facility is close to INEOS Styrolution’s styrene
monomer plant and expected to be operational by 2021. INEOS Styrolution
Americas president Alexander Glueck said: “I am excited to see us
building the most efficient dedicated ASA plant in the world, here in

36
 Bayport. ASA is a versatile high-performance styrenic resin. Its properties
make it the material of choice for numerous outdoor applications. ASA
performs greatly in exterior automotive and construction applications.”

 Aarti Industries, a speciality chemicals and pharmaceuticals company,

plans to invest Rs 700-800 crore in FY19 to improve its scale and drive
sustained improvement in the business. The company also plans to invest
approximately Rs 75 crore in setting up the 4th R&D and scale-up unit at
Navi Mumbai that will facilitate further enhancement of the product
portfolio and also help to further improve our manufacturing processes.
"They continued to invest in building manufacturing capabilities and plan
to invest about Rs 700-800 crore for FY19 to execute a multi-pronged
expansion plan across multiple processes / products in a calibrated
manner," the company had said in its annual note to shareholders for the
year.
"The plan includes speciality chemical complex at Jhagadia in Gujarat,
acid re-concentration plants, API and pharma intermediate de-
bottlenecking and expansions at Vapi & Tarapur. Aarti Industries is India's
leading producer of benzene-based basic and intermediate chemicals. It is
one of the leading suppliers of dyes, pigments, agro-chemicals,
pharmaceuticals and rubber chemicals to global manufacturers. The
speciality chemicals segment accounts for close to 78 per cent of its total
revenues of Rs 3,800 crore, while the pharmaceuticals and home &
personal care (H&PC) division contributes over 15 and 7 per cent
respectively.
They are exploring new growth opportunities beyond benzene derivatives.
Our nitro toluene facility at Jhagadia became operational last year and
reached 40 per cent utilisation. They expect this facility to achieve its peak

37
 utilisation over the next 3-4 years with an estimated revenue visibility of
Rs 350-400 crore per annum.

The chairman noted that globally, the chemicals industry has been
undergoing some tectonic shifts. Indian companies focused on speciality
chemicals with better compliance standards are expected to be the major
beneficiaries of the growing trend of easternisation and reduction of
capacities in China on environmental concerns.
As part of the major growth plans, the company has entered into a 10-year
Rs 4,000 crore contract with a global agriculture company for supply of a
high value intermediates used in the manufacturing of herbicides.
The supplies are expected to commence from second half of FY 2019-20
and would generate expected revenues of approximately Rs 4,000 crore
over the contract term.
The project will entail investment of about Rs 400 crore by the company.
The global chemical conglomerate has also provided the company with the
basic technology package based on which it will build a dedicated
production facility with an investment of approximately USD 35-40
million.
 CRISIL Research suggest that India’s specialty chemicals industry
including dyes and pigments, and agrochemical to log robust growth this
fiscal year as the strong tailwind from China continues. This augurs well
particularly for small and medium enterprises (SMEs), which have a strong
presence in this export-oriented industry. These players are clustered
around Gujarat, Maharashtra and the Delhi-NCR region, with Gujarat
alone housing over 400 chemical units. China’s specialty chemicals market
has seen a downturn in recent years due to various factors, the most
prominent being the introduction of stringent environmental norms, which
have led to the shutdown of several chemical plants. This was a major

38
 reason for the strong growth logged by Indian specialty chemicals
manufacturers in fiscal 2019. The industry also got a fillip from the US-
China trade war, which impacted exports from China and benefited India.
Higher realisations supported a 10-12 per cent year-on-year revenue
growth for the industry, given strong demand from key end-user industries
such as textiles, paints, plywood and personal care.

Chinese slump a godsend for SMEs in chemicals industry. In fiscal 2020,

CRISIL Research expects domestic demand for specialty chemicals to
remain robust, driven by key end-user industries. However, realisations
could be impacted due to lower prices of crude oil and other inputs. Given
stiff competition among SME players in the domestic market, the fall in
input prices will need to be passed on to the end-users. In the export market,
though, India will continue to gain share, supported by the ability to
manufacture at a lower price compared with its western counterparts. All
the same, exchange rate fluctuations, volatility in input prices, increasingly
stringent government regulations relating to environmental pollution, and
aggressive imports would be among the monitories.

39
  For the last 15-20 years, numerous companies have been using various
biotechnology approaches in an attempt to develop economically viable
routes for various bio-based products. These approaches have traditionally
taken a long time and used a significant amount of money to do so. Along
the development path, they have faced a variety of technical barriers,
especially when they have attempted to scale up their processes. Matthew
Lipscomb, CEO and co-founder of DMC Biotechnologies, a US
biotechnology company, says that DMC has found a solution to address
these barriers and revolutionise the way the $1.11 trillion speciality
chemical markets are supplied. Speciality chemicals are currently
produced from three common routes. Derivation from petroleum,
extraction from plants, or fermentation. DMC, which stands for ‘Dynamic
Metabolic Control’, has developed a platform technology that it is now
deploying towards the production of a broad variety of bio-based products
with market applications in human and animal nutrition and flavour and
fragrances, to name a few. Summing up DMC’s advantage, Lipscomb
explains that “the company’s technology enables a significant reduction in
the cost of development and results in a best-in class bioprocess to produce
a desired product”.

Essentially, DMC makes bio-based products using enhanced microbial

fermentation in a standardised, two-stage fermentation process. The
company is able to engineer microbes to be highly efficient producers of
desired products. Lipscomb explains that “the company has developed a
library of more than 800 unique microbial strains, which it uses as
catalysts to make bio-based products. The microbe is grown during the first
stage of the process. During the second stage of the process, the microbe
is no longer growing and its engineered metabolism is dynamically “re-
wired” to convert feedstock into the desired product”.

40
 DMC’s technology effectively prunes away the components of
metabolism that would be detrimental to the highly efficient production of
the product that we are interested in. This approach of dynamically
“pruning” metabolism has the additional benefit of creating microbes that
are robust to the fermentation environment, reducing the challenges that
are commonly associated with scale-up.

Historically, bio-processes have been sensitive to the scale of production,

resulting in long and costly development cycles. “For the first time in the
field, we have been able to demonstrate that our high throughput
approaches are predictive of performance at larger scale. This enables
unparalleled efficiency in our development cost and timelines,” Lipscomb
says.

DMC’s lead product family is the branched chain amino acids, which have
markets in animal and human nutrition. “There is currently strong demand
for these amino acids in these markets, however the incumbent production
routes are not able to provide them at a price point to enable broad adoption
in the market,” according to Lipscomb. “Customer discovery efforts have
indicated that the market will grow rapidly if those amino acids can be
provided at the target price point.

In addition to amino acids, the company is developing a large pipeline of

bio-based product families that includes organic acids, esters, and
terpenoids. One example in the terpenoid family is a compound called
limonene, which is a by-product of the citrus industry and is commonly
used in household cleaning products. The global market is currently
estimated at approximately $500 million per year. However, the citrus
industry has been impacted by a number of challenges in recent years due

41
 to factors such as an increase in severe weather events and a fungal blight
that has reduced citrus crop productivity in both North and South America.
Consequently, citrus costs have increased by around 150%. “Instead of
being subjected to the vagaries of the agricultural cycle, we can produce
limonene in a controlled fermentation environment and provide a greater
reliability in the supply chain.

42
 AARTI INDUSTRIES LIMITED –financial analysis

Aarti Industries Limited (AIL) is an Indian company headquartered in Mumbai,

Maharashtra, India. Aarti Industries owns businesses across India engaged in
large scale production of various chemicals like benzene intermediaries,
pharmaceuticals, surfactants etc. Aarti is one of the leading suppliers to global
manufacturers of Dyes, Pigments, Agrochemicals, Pharmaceuticals & rubber
chemicals. Aarti is amongst the largest producers of Benzene-based basic and
intermediate chemicals in India. It has corporate office in Mumbai along with
representatives in the United States & Europe. The Company operates in four
segments basic chemicals, speciality chemicals, agrochemicals and
pharmaceuticals.
Speciality Chemicals is the major revenue generating segment of Aarti Industries
contributing approximately 78 % of sales. The other segments i.e.
pharmaceuticals and home & personal care contribute approximately 15% and
approximately 7% of sales respectively.
Shares of Aarti Industries hit a new high of Rs 1,714 a piece, gaining 5 per cent
on the BSE in an otherwise weak market after the company posted strong growth
of 47 per cent in net profit at Rs 132 crore in December quarter (Q3FY19). The
company, one of the most competitive benzene‐based speciality chemical
companies in the world, had a profit of Rs 90 crore in the year-ago quarter.
Operational revenue during the quarter review grew 28 per cent at Rs 1,268 crore
against Rs 990 crore in the corresponding quarter of previous fiscal. EBITDA
(Earnings before interest, taxation, depreciation and amortisation) margin
improved 150bp to 19.5 per cent in Q3FY19 from 18 per cent in Q3FY18.

43
 The growth was driven by year-on-year (y-o-y) volume expansion in the
speciality chemicals business, in addition to the positive impact of a higher value-
added product mix. The company is seeing healthy demand from direct exports,
which contributed 40% to revenues during the quarter.
Thus far in current calendar year 2019, the stock has moved up 19 per cent, as
against 0.66 per cent gain in the S&P BSE Sensex. In the past five years, it has
zoomed a massive 1,704 per cent from the Rs 95, as compared to 80 per cent rise
in the benchmark index.
Aarti Industries reported the compound annual growth rate (CAGR) growth of
9.7 per cent in revenue and 19.6 per cent in net profit during the past five years
between the financial year 2013-14 and 2017-18.
The company said the operating revenues have grown on the back of strong
volume growth in key business segments and better product mix.
Aarti Industries, plans to invest Rs 700-800 crore in FY19 to improve its scale
and drive sustained improvement in the business. The company also plans to
invest approximately Rs 75 crore in setting up the 4th R&D and scale-up unit at
Navi Mumbai that will facilitate further enhancement of the product portfolio and
also help to further improve our manufacturing processes.
"They continued to invest in building manufacturing capabilities and plan to
invest about Rs 700-800 crore for FY19 to execute a multi-pronged expansion
plan across multiple processes / products in a calibrated manner," the company
had said in its annual note to shareholders for the year.

44
 Statement of profit and loss of Aarti
------------------- in Rs. Cr. -------------------
Industries
Mar 19 Mar-18 Mar-17 Mar-16 Mar-15

INCOME
Revenue From Operations [Gross] 4,659.49 3,759.33 3,114.63 2,956.21 3,076.07

Less: Excise/Service Tax/Other Levies 0 0 0 0 214.63

Revenue From Operations [Net] 4,659.49 3,759.33 3,114.63 2,956.21 2,861.44

Other Operating Revenues 46.02 46.73 48.83 50.38 46.52

Total Operating Revenues 4,705.51 3,806.06 3,163.46 3,006.59 2,907.96

Other Income 2.1 7.77 1.96 5.94 5.52

Total Revenue 4,707.61 3,813.83 3,165.42 3,012.53 2,913.48

EXPENSES

Cost Of Materials Consumed 2,570.51 2,169.95 1,673.13 1,603.50 1,644.32

Purchase Of Stock-In Trade 183.47 117.46 101.77 114.99 170.59

Operating And Direct Expenses 544.88 499.78 426.92 365.88 327.02

Changes In Inventories Of FG,WIP And Stock-In
-59.4 -105.89 -31.62 49.3 17.22
Trade
Employee Benefit Expenses 242.82 190.14 152.28 120.7 93.65

Finance Costs 182.54 131.65 117.34 116.98 137.97

Depreciation And Amortisation Expenses 162.68 146.23 122.52 98.5 81.98

Other Expenses 258.14 235.5 187.48 179.95 189.47

Total Expenses 4,085.64 3,384.82 2,749.82 2,649.80 2,662.22

Profit/Loss Before Exceptional, Extraordinary

621.97 429.01 415.6 362.73 251.27
Items And Tax

Exceptional Items 0 0 0 0 3.48

Profit/Loss Before Tax 621.97 429.01 415.6 362.73 254.75

Tax Expenses-Continued Operations

Current Tax 136.65 87.81 84.62 74.35 47.5

Less: MAT Credit Entitlement 38.79 26.91 25.15 19.75 4.5

Deferred Tax 21.99 21.97 28.38 18.75 17.99

Tax For Earlier Years -2.05 0.01 0.21 21.28 0.04

Total Tax Expenses 117.8 82.88 88.06 94.63 61.03

Profit/Loss After Tax And Before Extra-Ordinary

504.17 346.13 327.54 268.1 193.72
Items

Profit For The Period 504.17 346.13 327.54 268.1 193.72

45
 Balance Sheet of Aarti Industries ------------------- in Rs. Cr. -------------------

Mar 19 Mar-18 Mar-17 Mar-16 Mar-15

EQUITY
Equity Share Capital 43.33 40.65 41.06 41.66 44.3
Total Share Capital 43.33 40.65 41.06 41.66 44.3
Reserves and Surplus 2,517.08 1,474.52 1,269.03 1,028.44 863.54
Total Reserves and Surplus 2,517.08 1,474.52 1,269.03 1,028.44 863.54
Total Shareholders’ Funds 2,560.41 1,515.17 1,310.09 1,070.10 907.84
Equity Share Application Money 0.22 0 0 0 0
NON-CURRENT LIABILITIES
Long Term Borrowings 807.76 897.43 595.6 525.18 418.92
Deferred Tax Liabilities [Net] 170.98 159.36 141.96 119.46 102.46
Other Long Term Liabilities 203.24 0 0 0.18 0.19
Long Term Provisions 0 0 0 282.46 300.17
Total Non-Current Liabilities 1,181.98 1,056.79 737.56 927.28 821.73
CURRENT LIABILITIES

Short Term Borrowings 1,262.50 986.83 822.34 691.86 647.32

Trade Payables 265.47 346.6 294.87 298.92 252.66

Other Current Liabilities 319.4 184.62 152.25 89.49 156.31

Short Term Provisions 37.89 27.49 23.78 17.58 33.03

Total Current Liabilities 1,885.26 1,545.54 1,293.24 1,097.85 1,089.32

Total Capital And Liabilities 5,627.87 4,117.50 3,340.89 3,095.23 2,818.89

ASSETS
NON-CURRENT ASSETS
Tangible Assets 1,978.56 1,842.97 1,564.87 1,169.70 936.05
Intangible Assets 0.9 1.3 1.7 0 0.04
Capital Work-In-Progress 794.57 431.18 266.79 306.76 187.95
Fixed Assets 2,774.03 2,275.45 1,833.36 1,476.46 1,124.04
Non-Current Investments 33.36 55.9 61.7 32.4 63.24
Long Term Loans And Advances 0 0 0 443.83 429.96

Other Non-Current Assets 296.97 217.01 167.26 0 0

Total Non-Current Assets 3,104.36 2,548.36 2,062.32 1,952.69 1,617.24

CURRENT ASSETS
Inventories 700.91 686.75 546.59 474.24 543.87
Trade Receivables 806.05 639.23 547.37 522.81 466.81
Cash And Cash Equivalents 797.08 23.93 21.64 24.16 26.33

Short Term Loans And Advances 0 0 0 103.29 137.41

Other Current Assets 219.47 219.23 162.97 18.04 27.22

Total Current Assets 2,523.51 1,569.14 1,278.57 1,142.54 1,201.65

Total Assets 5,627.87 4,117.50 3,340.89 3,095.23 2,818.89

46
 Sales Growth of Aarti Industries Ltd

Sales Growth
8000

7000

6000

5000

4000

3000

2000

1000

0
1 2 3 4 5
sales 2,907.96 3,006.59 3,163.46 3,806.06 4,705.51
year 2015 2016 2,017 2018 2,019

year sales

Aarti Industries is a global leader in benzene-based speciality space with a portfolio

of over 200 products and has built deep relationship with over 400 global and 700
domestic customers. The company shares a symbiotic relationship with its customers
and ranks globally among top five suppliers for 75% of its product portfolio. A strong
focus on manufacturing integrated derivatives and significant scale has helped AIL
and gain traction with clients. Also, regular investments (Rs22bn over FY14-18) in
creating newer capacities and fresh product offerings has helped AIL to be a one-stop
solution provider.
The company is well placed to capitalise on opportunities in both domestic and export
markets. Tightening environmental norms in China has disrupted the global supply
chain and opened up opportunities for it. Also rising capex by domestic players in
downstream industries like paints, dyes, agrochemicals etc. will add to growth. Aarti
Industries plays the value/volume game smartly (depending on market conditions).

47
 RATIO ANALYSIS OF AARTI INDUSTRIES

Per Share Ratios Mar-19 Mar-18 Mar-17 Mar-16 Mar-15

Dividend / Share(Rs.) 11 1 1 8.5 5.5

Revenue from Operations/Share
524.79 455.02 371.43 326.09 324.03
(Rs.)
PBDIT/Share (Rs.) 106.3 81.04 74.39 64.79 51.75

PBIT/Share (Rs.) 88.88 64.34 60.41 53.67 42.87

PBT/Share (Rs.) 68.2 48.26 46.12 39.76 27.75

Net Profit/Share (Rs.) 55.54 38.92 37.35 30.3 21.2

Profitability Ratios

PBDIT Margin (%) 20.25 17.81 20.02 19.86 15.96

PBIT Margin (%) 16.93 14.14 16.26 16.45 13.23

PBT Margin (%) 12.99 10.6 12.41 12.19 8.56

Net Profit Margin (%) 10.58 8.55 10.05 9.29 6.54

Return on Net worth / Equity (%) 18.79 20.88 23.4 23.58 20.68

Return on Capital Employed (%) 20.57 20.33 24.22 12.63 10.85

Return on Assets (%) 8.55 7.68 9.17 8.15 6.66

Total Debt/Equity (X) 0.81 1.24 1.08 1.14 1.17

Asset Turnover Ratio (%) 80.8 89.84 91.29 87.78 101.83

Liquidity Ratios

Current Ratio (X) 1.34 1.02 0.99 1.04 1.1

Quick Ratio (X) 0.97 0.57 0.57 0.61 0.6

Inventory Turnover Ratio (X) 6.49 5.39 5.58 5.73 5.28
Valuation Ratios

Enterprise Value (Cr.) 14,905.66 11,162.68 7,684.64 5,503.86 4,164.54

EV/Net Operating Revenue (X) 3.28 3.02 2.52 2.03 1.45

EV/EBITDA (X) 16.18 16.94 12.58 10.2 9.08
Market Cap/Net Operating
3 2.51 2.06 1.59 1.09
Revenue (X)
Retention Ratios (%) 91.17 97.4 0 71.94 74.05

Price/BV (X) 5.32 6.14 4.8 4.03 3.44

Price/Net Operating Revenue 3 2.51 2.06 1.59 1.09

Earnings Yield 0.04 0.03 0.05 0.06 0.06

48
 Ratio Based Analysis
It indicate the profitability of the company. Higher the value of NPS
Net income per
more the profitability of the company. For AIL it is good that it is
share
increasing every year.

A high net profit margin means that AIL is able to control its costs
Net profit that buy goods and services at prices significantly higher than it costs
Margin to produce or provide them over years and it is earning good profit

Since Assets to Liabilities Ratio is greater than 1, there seems to be

Current Ratio
no issue for AIL to pay its liabilities
Inventory The number of days for selling / purchase is approximately 50-60
turnover ratio days which has reduced in 5 years
Larsen & Toubro can recover its trade receivables in 104 days. i.e.,
Receivable Ratio
thrice in a month
An asset turnover ratio of means that every 1 Rs worth of assets
Asset Turnover generated x worth of revenue. In general, the higher the ratio, more
Ratio: the turns. But in AIL it is decreasing in subsequent years since 2015
which is bad for the company.
The EV-to-sales measure can be slightly deceptive. A high EV-to-
sales can be a sign that investors believe the future sales will greatly
EV/Net increase. A lower EV-to-sales can signal that the future sales
Operating prospects are not very attractive. Compare the EV-to-sales to that of
Revenue (X) other companies in the industry, and look deeper into the company
you are analysing. EV-to-sales values are usually between 1 and 3.
For AIL 3.28 is bit higher which it need to control.
Retention ratio indicates the percentage of a company's earnings that
are not paid out in dividends but credited to retained earnings Ideal
Retention Ratio
retention ratio is 100% so if AIL is having 91.4% RR it is good for
the company and they need to sustain it.
The earnings yield shows the percentage of how much a company
Earning Yield earned per share. The yield is a good ROI. For AIL earning yield
is at fluctuating rate which need to grow.

49
 Share Price Analysis of Aarti Industries Ltd

Share Price of Aarti industries for past five year

Aarti Industries shares have had a really impressive month, gaining 102%, after
some slippage. Zooming out, the annual gain of 176% knocks our socks off.

Assuming no other changes, a sharply higher share price makes a stock less
attractive to potential buyers. While the market sentiment towards a stock is very
changeable, in the long run, the share price will tend to move in the same direction
as earnings per share. So some would prefer to hold off buying when there is a
lot of optimism towards a stock. Perhaps the simplest way to get a read on
investors’ expectations of a business is to look at its Price to Earnings Ratio (PE
Ratio). Investors have optimistic expectations of companies with higher P/E
ratios, compared to companies with lower P/E ratios.
Generally the rate of earnings growth has a profound impact on a company’s P/E
multiple. If earnings are growing quickly, then the ‘E’ in the equation will
increase faster than it would otherwise. That means unless the share price
increases, the P/E will reduce in a few years. And as that P/E ratio drops, the
company will look cheap, unless its share price increases.
Notably, Aarti Industries grew EPS by a whopping 39% in the last year. And its
annual EPS growth rate over 5 years is 25%.

50
 How Does Aarti Industries’ P/E Ratio Compare to Its Peers?

The price-to-earnings ratio (P/E ratio) is the ratio for valuing a company that
measures its current share price relative to its per-share earnings (EPS). The price-
to-earnings ratio is also sometimes known as the price multiple or the earnings
multiple. P/E ratios are used by investors and analysts to determine the relative
value of a company's shares in an apples-to-apples comparison. It can also be
used to compare a company against its own historical record or to compare
aggregate markets against one another or over time. From its P/E ratio some
investor optimism about Aarti Industries. Aarti Industries’ P/E tells us that market
participants think the company will perform better than its industry peers, going
forward. Shareholders are clearly optimistic, but the future is always uncertain.

51
 Future Growth of Aarti Industries Ltd

Aarti Industries which has not only revenues, but also profits. Even if the shares
are fully valued today, most capitalists would recognize its profits as the
demonstration of steady value generation. In comparison, loss making companies
act like a sponge for capital. As share price follows earnings per share (EPS).
Therefore, there are plenty of investors who like to buy shares in companies that
are growing EPS. Impressively, Aarti Industries has grown EPS by 23% per year,
compound, in the last three years. If the company can sustain that sort of growth,
it can be expected that shareholders to come away winners.

Revenue growth and earnings before interest and taxation (EBIT) margins can
help inform a view on the sustainability of the recent profit growth. Aarti
Industries shareholders can take confidence from the fact that EBIT margins are
up from 15% to 17%, and revenue is growing.

Aarti Industries insiders own a meaningful share of the business. Actually, with
40% of the company to their names, insiders are profoundly invested in the
business. With this kind of alignment it suggests the business will be run for the
benefit of shareholders. And their holding is extremely valuable at the current
share price, totalling ₹54b.

52
 BUSINESS MODEL OF SPECIALITY CHEMICAL
Commoditization of the specialty-chemical industry is accelerating. While the
history of the chemical sector is one of relentless commoditization as one
generation’s innovations become standard products of the next, the pace is
increasing. There are a number of causes behind the shift.
In some segments, specialty players are struggling to create the innovative products
that offer significant additional value to customers and differentiate themselves
from competitors. Meanwhile, the combination of new, low-cost market
entrants—especially from China—and too much capacity means that the prices of
increasing numbers of products are determined not by the value they deliver to
customers but by their production costs and freight to market.
Chemical companies must recognize that commoditized businesses can earn
attractive returns if they are run in an entirely different way from specialty
businesses. The key is to tailor the new operating model to the business’s
true needs and the costs it can bear.

Our analysis of chemical-industry shareholder-returns performance shows

that commodity-chemical players have captured just as much value as
specialty players. While this performance may be contrary to widely held
assumptions and conventional wisdom in the chemical industry, our data
have consistently shown that over the long term, this pattern holds.
Chemical companies facing these challenges can also take encouragement
from the example of other industries successfully supplying commoditized
offerings. In the airline sector, for example, low-cost carriers have
outperformed their full-service rivals in profitability.

To turn commoditization from a threat into an opportunity, companies

should take three steps. First, they need to spot commoditization coming, so

53
 that they can start to act before they are outpaced by others. Second, they
should design an appropriately tailored operating model for their
commoditized businesses. Third, they must embark on a comprehensive
change effort to put that new model to work. Companies that get this right
can capture significant rewards, with a return-on-sales uplift of as much as
five percentage points

Companies that have built their reputations on innovative, differentiated

products and responsive customer service can be understandably reluctant
to admit that the market has moved on. That’s risky. If the tide of
commoditization has already turned, they can find themselves isolated while
more focused competitors snatch their customers.

Every specialty-chemical player should keep a watchful eye for encroaching

commoditization and systematically look out for the warning signs. Here
are some questions that executives should ask themselves: Does capacity
significantly exceed demand? Have prices been declining steadily despite
attempts to raise them? Have prices been squeezed to maintain market
share? Have new competitors from countries with lower production costs
entered the market, and are their offerings similar to those of the incumbents
but at lower prices? Have we created any innovative products in the last five
years? Are we no longer dealing with our customer’s product-development
unit but just with its purchasing department? Have customers stopped asking
and paying for additional services? Central to the analysis should be a clear
understanding of the price-setting mechanisms in the market. If the price of
a product is close to the costs of a marginal producer, then it is, or soon will
be, a commodity.

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 By analysing these indicators across its product portfolio, a company can
understand how it should shape its operations: as a specialty player, as a
commodity manufacturer, or in a mixed model with pockets of specialty
production alongside a core of commodity products

Designing the right operating model

Once it identifies what products are becoming commodities, a company can

set about designing an operating model that will allow it to manufacture and
sell those products profitably. There is no one-size-fits-all approach here,
but there are certain requirements that must be met. The right combination
of changes will depend on the company’s portfolio mix, on the nature of the
products involved, and on the needs of its commodity customers and
markets. For some organizations, the breadth of this operating model will
extend to the whole company; for others, it will include specific business
units, or lines of business within those units.

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 Business Model
A Business Model is a conceptual structure that supports the viability of a
product or company and explains how the company operates, makes money,
and how it intends to achieve its goals. All the business processes and
policies that a company adopts and follows are part of the business model.

According to management guru Peter Drucker:

“A business model is supposed to answer who your customer is, what value
you can create/add for the customer and how you can do that at
reasonable costs.”

Thus a business model is a description of the rationale of how a company

creates, delivers and captures value for itself as well as the customer.

The widespread use of business models came into existence with the advent
of the personal computer which let people test and model the different
components of a business. Successful business models before that were
mostly created by accident and not by design. It’s different for business
plans and business strategies though.

Every business model intrinsically has three parts –

 Everything related to designing and manufacturing the product

 Everything related to selling the product, from finding the right
customers to distributing the product
 Everything related to how the customer will pay and how the
company will make money.

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 Business Model of Chemical Industry

The chemical industry is one of the largest and most diversified industries
in the world, made up of companies that use raw materials to produce
chemicals used by consumers and other industries. It consists of several
small industries that cover hundreds of segments. Well-known players in
the chemicals industry have different strategies for offering value. Some are
involved only in finding and selling oil and natural gas, while others create
basic chemicals and polymers. Others focus on producing specialty
chemicals.

Speciality Chemicals

This sector is a part of the Indian chemicals sector which comprises of basic
chemicals, speciality chemicals and agrochemicals. Indian speciality
chemicals have end-use in industries such as textile, automotive, personal
care, construction chemicals and agrochemicals, as well as application-
driven segments such as surfactants, paints, coatings and colourants. This
segment began registering double-digit growth figures starting from FY
2012-13 supported by subdued oil prices and a strong domestic and export

57
 demand. Also, India’s proximity to the Middle East, the world’s source of
petrochemicals feedstock, makes for economies of scale.

The industry applies three main business models to create value for its
customers:

 Asset-Driven Business Model

 Integrated Business Model
 Specialties Business Model

 Asset-Driven Business Model:

The players using this business model explore or buy oil/gas and refine it
into petrochemicals and other basic chemicals. Access to the raw materials
is the critical success factor. The asset-driven business model generally
applies to the commodity chemicals sector. This business model revolves
around creating value by refining raw materials into other products, such as
oil and gas into petrochemicals and other basic chemicals.

In petro-chemicals, many of the largest asset-driven players are in the

Middle East. These resource-owners are using their financial and natural
resources to become global petrochemical producers. They have access to
significantly discounted oil and gas reserves, which gives them a
competitive advantage. Basic chemical plants focus on getting the greatest
output from their assets and tend to be at the highest level of operational
excellence to derive value. Similarly, commoditized products need efficient
manufacturing sites that can produce large volumes at low costs. For the
players in chemical industry that deploy asset-driven business model, their
success is highly dependent on access to low-cost feedstock. Edge lies in
ability to manufacture at the lowest possible cost and enabling the

58
 globalization of supply chains capability. Some of the players are exploring
the opportunities to “move up the value chain” into polymers and/or
specialties.

 Integrated Business Model

Players operating under integrated business model go one step further
“downstream” in the value chain into the production of polymers besides
refining oil and providing basic chemicals. Some of them might also have
“specialty” divisions. This integrated business model applies to companies
that provide petrochemicals and basic chemicals, as well as polymers. Under
this business model, value is created by refining oil and gas into
petrochemicals and basic chemicals, as well as using these basic chemicals
to create specialty chemicals that have specific functions.

Integrated players have stake in each part of the chemicals market including
basic chemicals, polymers and specialties. They tend to derive value from
business models comprising of various combinations of basic chemicals,
polymers and specialties. Some critical success factors under this business
model are innovation, customer intimacy, globalization of the supply chain
capability and complexity management.

 Specialties Business Model

These players buy intermediate products (i.e., basic chemicals or polymers)
and process them into specialty products related to specific functionalities.
Some of them are focused on a niche market. Others are more broad-based.
The specialties business model involves using petrochemicals, basic
chemicals, and polymers in order to develop and produce products with
specific functions.

59
 This business model allows companies to create value by developing
petrochemicals and basic chemicals into specialty chemicals. Specialty
products are produced in smaller batches at different locations in order to
meet customer needs in a flexible way. Specialty players are currently
operating in a very fragmented market and a higher level of business
complexity that needs to be managed.

Business Model of Aarti Industries

AARTI Industries have always been diligent and prudent in building a

strong financial discipline in our robust business model at every stage of our
growth and expansion journey

60
 Aarti Industry is cognizant of the fact that in this volatile market, it is crucial
to safeguard the business against external risks. Over the past few years they
have been working on operational efficiencies and scale to prepare ourselves
to be able to cater to the robust global demand for speciality chemicals and
pharmaceuticals. Our business model has been developed on the back of
judicious decision-making in light of the dynamic business environment.
We are now at a critical inflection point in our business. We ensure that we
use capital efficiently and predict our cash flows to continue on the path of
progress. As raw material prices depend on the prices of crude oil, we have
deployed the pass-through mechanism in our business model. This
mechanism helps us pass the variation in the raw material prices to the
customers through a formula-based pricing model. Formula pricing is an
arrangement where a buyer and seller agree in advance on the price to be
paid for a product delivered in the future, based upon a pre-determined
calculation. For example, a packer might agree to pay a hog producer the
average cash market price on the day the hogs will be delivered, plus a 2-
cent per-pound premium.

Such transactions have been used widely in agriculture, particularly for

livestock. Users believe that formula pricing brings efficiency and
predictability to markets transactions. However, as the use of formula
pricing expands, fewer animals are sold in cash markets, where prices are
more widely reported and understood by producers. Some of these
producers believe that formula pricing makes it harder to determine the true
value of their animals in the marketplace, and creates greater opportunity
for buyers to manipulate and pay lower prices. We have also safeguarded
our business against the fluctuations in raw material prices. Our planned

61
 expansions in the speciality chemicals business, along with the
transformation of our pharmaceuticals business, enabled by ‘Partner of
Choice’ relationships have positioned us comfortably in the market. Further,
our diversified product portfolio and lack of dependence on a single
customer has helped us de-risk our business. Their Top 10 customers form
only 27% of revenues and industry-wise exposure is also optimally
balanced.

The resilient business model efficiently leverages on R&D capabilities,

manufacturing strength and scale and enables us in creating a strong value
proposition for our global customers, thereby driving growth and creating
value. The recently raised QIP would help to deleverage the Company while
continuing on its growth trajectory

Creating value at every stage of growth

 Financial
They have invested in setting up our state-of-the-art R&D Centres to focus
on the development of niche value-added products and process chemistries,
and improve product quality and process yields of existing products and
forward integration for downstream products.

 Raw material based pricing model

They pass on the variation in raw material costs to our customers, thereby
maintaining EBITDA and also employ various strategies to improve their
yields and reduce costs to increase savings.

 Diversified portfolio
They have 200+ products across the two business segments wide product
range helps in penetrating new geographies and acquiring new customers

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  Global partner of choice
They supply their products to 60+ countries and globally rank between the
1st and 4th positions for 75% of our portfolio. Their business model is less
vulnerable to external shocks, thus more predictable.

The speciality chemicals industry continued to move from cost

competitiveness to long-term supply, quality and higher Safety Health and
Environment (SHE) compliance model

 Revenues from this segment grew by 33% and reached ₹ 3,980 Crores
 EBIT increased by 41% in the year under review to `820 Crs
comparison to FY 2017-18
 EBIT margins expanded by 110 bps in the year under review in
comparison to FY 2017-18
Business model and value-chain A larger part of the Company’s speciality
chemicals segment comprises benzene derivatives. It is the largest producer
of benzene derivatives in India and one of the leading manufacturers
globally. The Company’s global market share in various products ranges
between 25-40%.

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 Growth Drivers

 Increasing governmental focus on affordable housing, agriculture and

expenditure on infrastructure development is spurring demand for
performance-enhancing speciality chemicals.
 Low per capita consumption of chemicals in India indicates a latent
demand potential of these products in the Indian market. Rapidly
developing economy and rising incomes are expected to act as major
growth drivers for this market. Implementation of strict environmental
norms in China has muted the growth of the Chinese speciality
chemicals industry and acted as a growth driver for the Indian market.
 Gradually rising domestic demand, along with steady feedstock
availability at low prices and ability to comply with regulatory norms
is expected to strengthen the operating profile of the sector.
 Low cost of manufacturing operations and skilled labour, along with
the emergence of established players, bodes well for the sector.
 Improvement in the product mix, ease of exports, rapid investment in
capacities and acceleration of investments in R&D are also providing
a boost to the speciality chemicals sector in the nation.
 Under the Make in India programme, the Government of India has
released a Draft National Chemical Policy, aimed at increasing the
share of chemicals sector in the country’s GDP and increasing
competitiveness in the sector. Some of the measures include setting
up of ‘Speciality Chemicals Forum’ to frame relevant consumer
standards, approved up to 100 per cent FDI in the sector, reducing the
list of reserved chemical items for production in the small scale sector,

64
 thereby assisting greater investments in technology upgradation and
modernization, etc.
The domestic speciality chemical sector is expected to grow by about 12-
13% annually to almost double the market size in coming five years, driven
by growth in end-user industries. The use of these chemicals in industries
such as textile, automotive, personal care, construction chemicals and
agrochemicals along with application-driven segments such as surfactants,
paints, coatings and colourants are expected to experience high growth in
the medium term. The profit margins for companies operating in this sector
are expected to remain robust for the next couple of years due to favourable
demand of speciality chemicals globally coupled with low manufacturing
costs in India which will enhance profits margins.

Diversified product portfolios of Indian speciality chemicals businesses are

expected to be advantageous to enable these companies to cater to this
demand.

65
 The digital revolution will inherently move the chemicals industry toward
new business and operating models, driven by the disintegration of classical
industries and the formation of digital ecosystems that combine products
and services, enabled by technology.

In the new ecosystem world, how you integrate, and which role you play in
which ecosystem, will be more crucial than the size of your assets. Also
important: how dynamically you will be able to change, react and adapt to
new market thinking, and how easy or difficult it will be for your
organization to follow, or even lead.

Recent chemical industry trends — such as digital supply chains, vertical

and horizontal integration with everybody and everything (such as the
Internet of Things), big-scale merger and acquisitions, and the move
downstream toward special chemicals — are important.

However, they’re short-term scale-ups and optimizations for the current

mode of operation. They will not ensure the long-term success of a chemical
company because they stay within their current scope of industry thinking:
seeking new competitive advantages by establishing newer, stronger
market-entry barriers, be it low costs or unique values or services.

We envision 10 ecosystems, which will combine products and services from

today's diverse industries, such as agriculture, health and nutrition, energy
and resources, and more. For instance, consider smart health care: clinic and
medical professionals identify a problem, and the chemicals industry can
provide customized nutrition supply based on the clinical results. Combined
with real-time wearable technology tracking the nutrition supply can be
adopted.

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 PRICING STRATEGY FOR SPECIALITY CHEMICAL

The typical chemical company comprises a portfolio of businesses, with

activities across the value chain. Disaggregating each of the individual
business units into its product line/customer combinations, enables a
segmented approach to pricing and profitability management. Different
pricing strategies can be applied across the value chain to maximise value,
from base

Chemicals to the finished products. The stronger the potential for solid
returns to be captured by a renewed pricing strategy.

Margins for base chemicals are relatively low compared to specialty

chemicals, and approximately 60% (base) and 35% (specialty) of the cost
structure is linked to raw materials and energy costs. In this segment, industry
cycles trigger fluctuating product margins, and margin pressure for the assets

67
 on the less favourable side of the cost curve. This volatility can be hedged by
introducing predictive pricing schemes.

Costing Method in Speciality Chemical

Process costing is the method of costing that is employed by the type of

industries where a product passes through different processes, each distinct
and well defined, it is desired to know the cost of production at each process.

In order to know the cost at each stage or process of production, a separate

account is opened for each process and when the material is transferred from
one process to another, the cost incurred up to that process is also transferred
to the succeeding process.

This kind of costing is used for products that go through different processes.
For example, the manufacturing of clothes involves several processes. The
first process is spinning. The output of that spinning process, yarn, is a
finished product which can either be sold on the market to weavers, or used
as a raw material for a weaving process in the same manufacturing unit. To
find out the cost of the yarn, one needs to determine the cost of the spinning
process. In the second step, the output of the weaving process, cloth, can
also can be sold as a finished product in the market. In this case, the cost of
cloth needs to be evaluated. The third process is converting the cloth to a
finished product, for example a shirt or pair of trousers. Each process that
can result in either a finished good or a raw material for the next process
must be evaluated separately. In such multi-process industries, process
costing is used to ascertain the cost at each stage of production.

This method of costing is most suitable for mass production industries

engaged in continuous production of uniform standard product such as

68
 textiles, Chemicals, paper, sugar, oil, cement, mining, brewery, paints and
varnish, etc.

Process costing includes following methods of costing:

(a) Single output or Unit Costing:

This method of costing is applied where production is continuous and

uniform and the industry is engaged in the production of a single
product or a few grades of the same product. In this method the total
cost is divided by the number of units produced to ascertain cost per
unit and it is applied in industries like collieries, quarries, bricks
works, oil drilling, paper mills, flour mills, cement manufacturing,
textile mills, etc.

(b) Operating Costing:

This method is suitable for the industries which render services rather
than manufacture goods.

(c) Operation Costing:

Operation costing is a further refinement of process costing and is a

system of costing which is used in industries engaged in repetitive
mass production. If the manufacture of a product involves a number
of operations and not processes, the cost is ascertained for each
operation.

A successful implementation of predictive pricing requires three steps:

determine price drivers, proactively manage capacity and develop an
integrated model.

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 1. Determine price drivers – First, the key drivers of the market price need
to be determined. Examples are competitors’ decisions, feedstock
availability, energy cost, consumer market demand, emerging substitutes
and environmental restrictions. Subsequently the main information sources
for forecasting analysis need to be identified.

2. Manage capacity – External as well as internal dynamics create the need

for constant monitoring and adjustment of capacity levels and policies.
Today’s volatility in the key drivers means capacity management becomes
indispensable within every element of the supply chain. Planning tools
allow managers to plan rather than react and to respond more rapidly. These
tools create transparency in the cost structure, which leads to a greater
understanding of the price level and the potential impact on profitability.

3. Develop an integrated model – These insights have to be gathered into

one integrated model that allows more transparency of the market price. By
incorporating all the relevant market information, price setting shifts from a
price set by the market to a manageable price within the constraints of the
market. Based on analytics, companies can set optimal pricing strategies and
benefit from deep insights into spreads. A company identifying that a plant
will be down earlier than its competitors has a significant advantage, as it
usually takes two to three quarters to effectively raise prices. A company
that does not have insights into the relationship between costs and pricing is
probably out of phase, losing money by not charging enough or losing
market share by overcharging.

With an integrated model based on the right drivers and accurate forecasts,
commercial leadership can use predictive pricing as a key differentiator
instead of a threat that should be hedged.

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71
 Compared to base chemicals, specialty chemicals are low-volume and high
value-added products. Additionally, the demand side is quite diverse
customers differ in what they want, when they want it, why they want it, and
how they want it. This is where value-based pricing, an innovative way of
pricing in order to capture more of the value, becomes relevant. Although
value-based pricing is the most powerful lever to profitability, many
companies have difficulties in assessing the maximum value of a product as
perceived by their customers. Achieving this price optimisation can be
difficult because it requires time, effort and relatively sophisticated
analytics.

Value-based pricing starts with a deep understanding of customer value

drivers and value attributes. Next, these attributes should be quantified and
the added value offered should be compared with the next best alternative.
Focus on those value drivers that allow for differentiation from competition
and communicate this incremental value to the customer.

Deep insights into both customers’ needs and the value proposition of the
competition in the market are key to price setting. By using price/value maps
the value components of products will become more comprehensible, which
allows for segmentation of the customer base, necessary to fully exploit
differentiation potential. Once the segmentation is in place, specific pricing
goals per segment can be defined (ideally also per product line, customer,
etc. where possible).

The customer-perceived value of a product can reflect need and use.

1. Need - To price by need, the producer must discover what a customer

considers important (such as pre and post-sale support or a product’s
specific performance); create an offering that addresses the need; and then

72
 price the product according to the customer’s value assessment metrics. The
greater the need, the more the customer is generally willing to pay.

2. Use - To price by use, the producer begins with an understanding of the

customer’s desired preferences. The more urgent or complex the purchase,
the more the customer should be willing to pay. For example, when a
product is used in a hazardous environment, quality expectations are usually
higher and a higher price can be charged than when it is used in a regular
environment. In practice, this simple concept is often complicated by issues
of price transparency and market channels that may make such price
discrimination difficult. In those cases, a good solution might “tier” product
performance to minimize spill over effects; classic examples include
certifications or quality/purity levels.

Understanding how to capture what customers perceive as valuable provides

great opportunities for better performance. Without value-based pricing, the
risk is high that a chemical company will over-serve or underserve a
customer. The penalty is the same for either mistake a loss of margin.

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 FORECASTING OF SPECIALITY CHEMICAL

The global Specialty Chemicals market is predicted to reach 296.2 billion

by 2017 and is projected to grow with a striking growth rate of 4.90 % over
the forecast period 2018-2025, divulges a latest research report presented by
Big Market Research. Rising awareness regarding environmental concerns
along with the growing need for eco-friendly materials and chemicals are
some factors considered as major trend for the specialty chemical market
across the globe over the forecast period. Moreover, growing use of
specialty Chemicals in various end-user industries is expected to create
lucrative growth opportunities for the market during the forecast period.

The rise of the market is backed owing to the growth in manufacturing sector
coupled with the rising applications in various end-user industries.
According to UNIDO estimation, based on the current scenario, global
manufacturing output is anticipated to grow by 4.2% in Q2 2017 as
compared to 1.1% in Q2 2016. Manufacturing output in developing &
emerging economies (at 6% 2017) continues to remain strong and fare better
than that of industrial economies (at 2.7%) for Q2 2017. As specialty
chemicals are used in manufacturing sector to offer special polymers and
chemicals with the capability to improve performance. Thus, growth in
manufacturing sector would supplement the growth of the specialty
chemicals market. As a result, the demand and adoption of specialty
chemicals would increase in manufacturing sector thereby, supplementing
the market growth over the forecast period. Furthermore, the ongoing
research and development activities offers lucrative growth prospects to the
market during the forecast period. However, fluctuating cost of raw
materials is expected to hinder the growth of the market across the globe.

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 If China is the dragon economy of Asia, India is definitely a tiger. With a
GDP growth rate of approximately 7 percent,1 India is currently outpacing
China as the world’s fastest rising major economy. The country is the sixth
largest economy by nominal GDP and the third largest by purchasing power
parity (PPP).2 India is also on track to becoming the world’s third largest
economy by the next decade and the second largest by 2050.

One of the strongest drivers of the nation’s economy is a population that is

rapidly becoming larger, younger, more middle class and more urban.

These demographic trends will support increased demand for appliances,

housing, healthcare items, new automobiles, clothing, and a diet that
includes more protein and less grains. In addition, long-term economic
growth for India is forecast because of proximity of expanding markets in
Asia, healthy savings and investment rates, and increased integration into
the global economy.

Indian chemical companies support a sizable and highly diversified industry

that includes commodities, specialities, polymers, agrochemicals and a
range of other groups. Total chemical sales are expected to grow from
US$139 billion in 2014 to US$214 billion by 2019.5 By 2025, the Indian
chemical industry is projected to reach US$403 billion.

Since 2014, the government administration headed by Prime Minister

Narendra Modi has supported a number of reforms designed to encourage
business growth by eliminating unnecessary laws and regulations,
simplifying bureaucratic processes, and making the government more
transparent, responsive and accountable.

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 These reforms and other initiatives have supported a dramatic, even historic,
rise in India’s ranking on the World Bank’s Ease of Doing Business (EoDB)
Index a jump of 30 places into the top 100 countries. In fact, India is the
first large country ever to record such an increase in ratings over a single
year.

Market Research Future (MRFR)’s latest study has revealed that the Global
Specialty Chemicals Market is set to thrive at a CAGR of 6.21% during the
forecast period 2018 to 2023. The market is set to grow from USD 710.03
Bn in 2017 to USD 1000 Bn by the end of 2023. Specialty Chemicals have
developed an application in different industry verticals such as food,
textiles, automobiles, etc. The global market is anticipated to witness a surge
in demand in the forthcoming years.

The Global Specialty chemical market is anticipated to grow at a CAGR of

5.30% over the forecast period of 2017 and 2025. The market revenue is
expected to grow from $370551 million in 2016 to $589798 million by
2025. The major drivers for the growth of this market are the increasing
popularity of eco-friendly products, economic growth in the APAC regions,
growing focus on sustainability and rising VAS from specialty chemical
manufactures. The rising awareness regarding environmental concerns all
over the word is also aiding to shift the consumer preference towards
environmentally friendly products.

The shift from commodity chemicals to Specialty Chemicals due to the

superiority of Specialty Chemicals has augured well for the market players.
The trend is prognosticated to perpetuate in the foreseeable future.

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 However, the volatile price of raw materials such as petrochemical
derivatives remain an impediment to the Specialty Chemicals market
growth and is expected to affect pricing policies adversely.

The demand for Specialty Chemicals from the automotive industry is the
key factor responsible for favouring the expansion of the Specialty
Chemicals Market. The growth of the automotive industry directly reflects
on the growth of the Specialty Chemicals Market. These chemicals are
widely used in lightweight vehicle applications. The upsurge in demand for
lightweight automobiles is likely to catapult the market on an upward
trajectory.

The Specialty Chemicals Market is entering a maturity phase. However, low

operating costs in the Middle East and the Asia Pacific has opened new
avenues of growth in the Specialty Chemicals Market. Several end-user
industry players are shifting to these regions for establishing manufacturing
units. This, in turn, is expected to intensify demand for Specialty Chemicals
in these regions

Global Specialty Chemicals Market valued approximately USD 202.3

billion in 2017 is anticipated to grow with a healthy growth rate of more
than 4.90 % over the forecast period 2018-2025. Rising awareness regarding
environmental concerns along with the growing need for eco-friendly
materials and chemicals are some factors considered as major trend for the
specialty chemical market across the globe over the forecast period.

The study offers an extensive analysis of key drivers, opportunities, key

segments, regions, and major manufacturers. Additionally, the competitive
scenario in different geographies is outlined to assist new entrants, leading
market players, and investors to determine emerging economies. Insights

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 presented in the report would benefit market players to develop strategies
for the future and gain a strong position in the global market.

 MARKET INSIGHTS
The Global Specialty chemical market segment has a number of
applications. Some of them include Advanced ceramic material, Imaging
chemicals and materials, Cosmetic Chemicals, Mining Chemicals, Rubber
processing chemicals, Oil field chemicals, Synthetic lubricants and
lubricating oil additives, Water management Chemicals, Construction
Chemicals, Electronic chemicals and others. Although this application
segment is quite profitable, the market has to face some challenges as well.
Some of them are due to the need for large monetary investments in R & D
for new chemicals. Also, the initial set- up cost of the chemical plant is quite
high. Other factors like increase in regulatory challenges, high cost of raw
materials, lack of skilled professionals and increasing competition among
vendors are also hindering the market growth.

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  REGIONAL INSIGHTS
The global specialty chemicals market can be divided into four regions.
They are the North America, Asia-Pacific, Europe and the Rest of the world.
The Asia Pacific region which includes countries like China, Japan, India,
Australia, and South Korea is anticipated to hold the largest share of the
market by the year 2025. This is because the demand for specialty chemicals
like construction chemicals, plastic additives, pharmaceutical ingredients,
and agrochemicals is increasing in this region. As a result, there is a
possibility for increased industrialization and growth in the manufacturing
sector in the coming years for this region, which would, in turn, propel the
specialty chemicals market growth.

 COMPETITIVE INSIGHTS
The major market players in the Global Specialty Chemicals market are
Akzonobel Nv, Bayer Ag, Basf Se, Ecolab Inc, and Arkema Sa. AkzoNobel
NV, which was founded in 1911, has business segments in high-
performance materials, industrial specialties, and coating solutions. The
BASF SE Company mainly operates in chemicals, plastics, performance
products, functional materials and solutions, oil and gas, and agricultural
solutions.

The Bayer Healthcare company produces a variety of prescription/non-

prescription pharmaceutical products, dietary supplements, dermatology
products, and medical equipment whereas the ECOLAB INC caters to The
US Cleaning and sanitizing segment, Global Water segment, Global Paper
segment, Global Energy segment and the International Cleaning, Sanitizing
and Other Services segment

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 On the premise of feature, market is segmented into antioxidants, biocides,
catalysts, demulsifier, separation membranes, distinctiveness enzymes,
strong point pigments, area of expertise coatings and surfactant.

The growth of the market is majorly driven by the increasing demand of

specialty chemicals in emerging economies, ongoing technological
advancements, and increasing penetration of end use industries.

Global Speciality Chemicals market size will increase to xx Million US$ by

2025, from xx Million US$ in 2018, at a CAGR of xx% during the forecast
period. In this study, 2018 has been considered as the base year and 2019 to
2025 as the forecast period to estimate the market size for Speciality
Chemicals.

The worldwide Speciality Chemicals market size (value, capacity,

production and consumption) in key regions like United States, Europe,
Asia Pacific (China, Japan) and other regions. the worldwide speciality
chemicals breakdown facts with the aid of manufacturers, area, type and
application, also analyzes the marketplace fame, marketplace percentage,
increase price, future tendencies, market drivers, possibilities and
demanding situations, risks and access limitations, income channels,
distributors and porter’s five forces evaluation.

Looking ahead

Major challenges remain for the Indian chemical companies. The chemical
industry is highly fragmented with intense rivalry among companies.
Because 100 percent FDI is allowed, domestic players can face stiff
competition from foreign multinationals that have the ability to exert strong

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 price pressures on local markets. Huge capital requirements, patent
protection, R&D costs and personnel requirements present other challenges.

But for every challenge there is an equal if not greater opportunity. The fact
remains that the centre of gravity for the global chemical industry is moving
to the East, and Indian chemical companies are well-positioned to take
advantage of this transition.

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 Financial Aspects in Speciality Chemical

Specialty chemicals are produced using a capital- intensive method of

production in which, for safety reasons, production workers are heavily
circumscribed in the modifications they can make in the production process.
Consequently, one route by which learning can occur, namely through
production workers, was largely foreclosed. Nonetheless, for the specialty
chemicals in which there was an incentive to economize on the use of
production equipment, we found conventional patterns relating unit cost and
production experience. Looking across products, we found the strongest
relationship between unit costs and production experience for products
subject to process R&D. Whether a product was subject to pro- cess R&D
had little to do with experience gleaned from production, though. Moreover,
the R&D itself was not generally informed by production experience but
drew upon a well-developed science and engineering knowledge base.
Further analysis suggested, however, a novel link between the most
commonly used measure of production experience, cumulative output, and
cost reduction. Cumulative output was related to expect future output, which
conditioned the expected returns from R&D and in turn the choice of R&D
projects. Consequently, the products with greater cumulative output were
more likely to be subject to R&D and, hence, cost reduction. Thus,
cumulative output was connected to unit costs through its role in conditioning
incentives to engage in process R&D rather than operating as a proxy for
experience in production.
Incentives to invest in process innovation have not been featured in the
literature on the learning curve. The virtue of attention to incentives is that it
casts purposeful R&D and engineering activities in a central role in reducing

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 costs, thus linking learning to the larger literature on R&D and technological
change. Indeed, the major conclusion of our study is that what looks like
learning from production experience may reflect the outcome of an incentive-
driven R&D driven process in which learning from production plays a
minimal role. More generally, to the extent that production experience, in the
form of cumulative output, is related to cost reduction, part of its role may
come from its connection to incentives to conduct R&D rather than learning
per se. These findings suggest that the greater the level of output then the
greater the base over which the knowledge produced from a given R&D
effort can be applied and thus the greater the firm's incentives to invest in
R&D.
The R&D process using the detailed records of the business unit and guidance
from business unit personnel, particularly the technical personnel and
business managers. Of the 32 products in the original group of 221 that had
been subjected to R&D, two types of R&D were conducted. One type focused
on improving the production process while the other involved finding new
applications for existing or new products. The former type to contribute to
greater cost reduction by its very nature, although applications projects
sometimes motivated minor process work. Accordingly, they focused on the
22 products subject to process R&D. Among these 22 products, the estimate
of was negative for 19 of them. For these 19 products where R&D reduced
costs, they investigated how R&D operated and how R&D projects were
picked, concentrating especially on the role played by production experience.
People attempted to discern the effects of R&D on costs by comparing
batches just before and after the initiation of the R&D projects. This was not
generally revealing. One reason was that the bulk of the R&D work was often
performed well after the initiation of the projects, and no record was

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 maintained of the progress of the projects. A second complication was that
R&D did not generate a smooth process of continual improvements in
production from batch to batch. Changes suggested by R&D were often
disruptive because their implementation commonly created other problems
that had to be solved before costs were reduced. For example, in one instance
R&D changes caused unexpected and undesirable changes in the color of
chemicals used in cosmetics. Further R&D then had to be done to restore the
original color of the chemicals. Thus, during the adjustment process, unit
costs of batches might actually rise before they would ultimately fall. The
amount of time before such problems were resolved varied considerably
across R&D projects depending on factors such as how frequently the batches
of a product were produced and whether they were produced with dedicated
equipment. Furthermore, during the adjustment process, R&D personnel
often monitored production carefully. Consequently, production workers
were particularly attentive to the batches, emptying production vessels
immediately and taking other steps that kept down costs. When the R&D was
complete, some of this attentiveness waned, causing costs to drift upward
modestly. As the analysis indicates below, however, the permanent cost
savings realized by R&D were still substantial.
To deal with the complications involving the effect of R&D on costs, we
looked at the first and last batches in the sample of the products subjected to
R&D to assess the impact of the R&D. In all but two of the 19 products the
cost changes between the first and last batch were so sharp that the impact of
the R&D was easily determined. We found that R&D led to three types of
process changes.
The first type of process change involved eliminating the filtering step that
normally followed the reaction step in the manufacturing process. Although

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 the time spent in reaction actually increased for four of the six products, the
hourly cost of reaction was only one-fourth that of filtration, so the
elimination of the filtering step more than compensated for the increased
reaction time. The filtering step was eliminated by making the product with
sufficient purity in the reactor. This was achieved by starting with a higher
purity raw material, changing the catalyst, modifying the rate of reactor heat-
up, changing the operating pressure, and reducing the time needed to analyse
in-process samples. All but the last of these were the result of laboratory work
by chemists running experiments under different conditions to achieve higher
purities. The work principally tapped the general knowledge of the lab
chemists. The batch records provided a benchmark for current practice, but
otherwise neither the production records nor production workers were
consulted.

The second way R&D reduced cost was through the development of auxiliary
equipment to increase the throughput of primary reactors that were
bottlenecks in production. For reactors used to capacity, the business unit
estimated that throughput could be doubled with the addition of auxiliary
equipment to preheat raw materials, premix the raw materials, and unload the
reactor faster The hours spent in the primary reactor for charging raw
materials, reacting raw materials, filtering, and cooling down or packaging
for the first and last batch produced of the seven products for which auxiliary
equipment was developed. It indicates that after the R&D, all the non-
reaction steps that had been performed in the primary reactor were performed
in auxiliary equipment at minimal cost. Much of the development work on
the auxiliary equipment was subcontracted to outside vendors. They designed
and installed the auxiliary equipment based on specifications provided by

85
 engineers of the business unit. In developing these specifications, the
engineers exploited their general expertise but not any particular experience
in the production of the affected products.
The last type of R&D lowered cost by reducing the cycle time of the
manufacturing process. This was achieved by adding computerized control
systems, changing the operating conditions of the reactor, such as increasing
the temperature or pressure, improving the design of the agitators, and
implementing statistical process control. The changes resulted from
laboratory experiments, such as studying the effects of changing temperature
or pressure in different circumstances and experiments with the
manufacturing process itself. The batch records again provided a benchmark
for current practice, but otherwise the projects primarily relied upon
knowledge of fundamental chemical relationships that were explored in the
lab.

The learning curve literature leaves open a number of questions related to the
role of production experience in cost reduction. One concerns the extent to
which cost reduction is the result of process innovation and the role of
production experience in such efforts. Relatedly, if purposeful efforts to
improve the production process plays an important role in cost reduction,
variables that measure these efforts not perform well in statistical studies of
cost reduction. Moreover, even if cost reduction is related to process
innovation, there is such a regular relationship between costs and cumulative
output.
Unlike many learning curve studies, they examined products of different
vintages and produced under different conditions. A majority were produced
using equipment with excess capacity. Judging from the estimates of the

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 learning curve model for these products, they were subject to little cost
reduction. This reflected the absence of any incentive to economize on the
main element of cost, the use of equipment. Thus, among our products there
was nothing automatic about cost reduction. Among the other products, we
found that the conventional learning curve model fit best for the ones subject
to specific initiatives such as R&D, campaigning, and the sampling program.
The analysis on the role of production experience in shaping these initiatives
and in the selection of the products for the initiatives. Focusing particularly
on the R&D products, found that experience gained from production did not
influence the products selected for R&D nor did it generally inform the R&D
itself. R&D operated by overcoming production bottlenecks and reducing the
time for production, both of which contributed to greater manufacturing
throughput. While the key source of knowledge underpinning the cost
reductions was the business unit's R&D personnel, the initiatives behind the
projects typically came from elsewhere. Management played a key role, as in
the case of the sampling initiative. The quality control staff in combination
with management initiated numerous projects when it was learned that
products were not meeting specifications. In other instances, sales and
marketing personnel suggested a strong need for cost reduction on specific
products. Thus, in response to initiatives coming from a number of sources,
costs were reduced through purposeful investment in process innovation,
involving principally the deployment of specialized personnel and related
resources.
Building on their training and broad experience with chemical
manufacturing processes generally, the R&D chemists identified cost
reducing strategies largely by performing experiments in the R&D lab, and
the chemical engineers subsequently figured out how to implement the

87
 changes suggested by R&D. Each exploited a repertoire of solutions to past
problems in performing its task. For example, engineers exploited their past
experience in developing specifications for the specialized kinds of auxiliary
equipment used to overcome bottlenecks. As problems were solved,
repertoires of solutions expanded. Thus, to the degree that cost reduction
benefited from learning from experience, the learning originated from
confronting similar technical problems, which yielded know-how of a rather
generic variety. The knowhow acquired in this learning process is not
principally related to the production of any one product but to the design and
modification of production processes for a broad class of products.
Our finding that considerable cost reduction resulted from R&D and related
efforts contrasts sharply with the statistical learning curve studies that control
for R&D and engineering efforts. The examination of the links between R&D
and cost reduction may help explain the disparity in findings. For specialty
chemicals, the lags between the initiation of R&D, the implementation of
changes based on the R&D, and the correction of problems resulting from the
changes were quite variable. These variable lags obscured the relationship
between unit costs and R&D sufficiently that it was necessary to compare
batches well before and after the R&D to see the effects of the R&D on cost.
If R&D generally operates with a variable lag, it would be difficult for studies
like Adler and Clark that have quantitative measures of R&D to find a clear
statistical relationship between the timing of cost reductions and R&D.
Moreover, if R&D is sufficiently disruptive when first implemented, it may
be positively correlated with cost. Under such circumstances, if R&D and
cumulative output are positively correlated, as we found, then controlling for
R&D will actually increase the estimated effect of cumulative output on unit
costs in conventional learning curve analyses.

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 If the critical knowledge underpinning cost reduction comes from sources
outside manufacturing operations such as R&D. The analysis of the R&D
products demonstrated that it could arise from R&D alone. With cumulative
output rising monotonically and R&D eventually leading to a permanent
reduction in costs, cost and cumulative output will be negatively related. For
our products, R&D involved a single initiative that generally extended over
multiple batches. For products like commodity chemicals or even the war-
time products that are subject to repeated process R&D and engineering
initiatives, it seems likely that the relationship between unit costs and
cumulative output induced by R&D would be even stronger. Our findings
suggest that if cost and cumulative output are related due to periodic
decreases in cost resulting from R&D and related initiatives, there will be
positive serial correlation in the residuals, a common finding in learning
curve studies. We also found that the incentive to perform R&D depended
upon expected future output, which was in turn related to cumulative output.
Many empirical regularities linking firm output and R&D can be explained
by a simple theory in which past output conditions expectations of future
output and in turn the incentives to perform R&D, suggesting that the
relationship we found be- tween the propensity to perform process R&D and
cumulative output might hold widely. For products subject to repeated R&D,
we suspect the connection between past output and R&D incentives will
further strengthen the relationship between cost and cumulative output.
Although we found that production experience did not generally inform
R&D, they suspect that another reason cost and cumulative output are closely
related in many studies is because in many other settings production
experience does inform initiatives to lower cost. This was certainly the case
in study of DuPont's rayon plants. More recently, von Hippel and Tyre have

89
 argued that it may be a sensible strategy to plan on using production
experience to reveal problems that need to be solved to lower cost, and Pisano
(1994) finds that relying on production experience to design a new production
process is more valuable when there is less a priori knowledge to draw upon
to design the production process. Whatever the general role of production
experience in guiding initiatives to lower cost, though, our findings
demonstrate that R&D can induce a conventional relationship between cost
and cumulative output even when learning from production plays little role
in the process. Moreover, our findings suggest a novel way production
experience may be related to cost, namely through its connection with
incentives to undertake initiatives to lower cost.
For one major specialty chemical manufacturer, we developed an
understanding of what stands behind the link between cumulative output and
cost reduction, otherwise known as the learning curve. Using detailed cost
data, information about R&D, and access to company personnel, we found
that for the bulk of the products that experienced progressive cost reduction,
cost reductions were largely the result of small technical changes in
production that were based on R&D and related activities. While the initiative
behind these changes came from a number of sources, the changes were
achieved through process innovations which required the application of
specialized personnel and other resources. The process changes were not
generally motivated or informed by learning from experience in production.
Nevertheless, we found that costs were inversely related to various measures
of experience, including cumulative output and the total time in production.
We also found that cumulative output was related to cost through its
connection with expected future output, which conditioned the incentives to
undertake process innovation. Thus, to the extent that cumulative output was

90
 related to cost at all, it was as a proxy for incentives to reduce cost through
R&D and related initiatives and not as a measure of production experience.
Focusing on one type of production process that associated with specialty
chemicals, for one company offers both advantages and disadvantages. While
surely unique, the batch production process we examined offered a number
of distinctive advantages. First, very little changed over the production period
that might have complicated the analysis. With the exception of investments
in the auxiliary equipment, there were no significant changes in the capital
stock, and we had detailed cost records that enabled us to quantify the effects
of the auxiliary equipment. We were able to study cost reduction without
having to be concerned about changes in the products themselves, as any
product change resulted in the designation of a new product. Finally, unlike
most products we had a natural measure of the scale of production, the size
of the batch, which enabled to distinguish scale from "learning" effects.
Surely our focus on one firm limits the generality of any claims that can be
made for our study. Yet, partly because of that focus, and because we were
provided detailed data and broad access to key personnel, we were able to
probe more deeply than most studies of progressive cost reduction. A pattern
that looked like learning from production experience but was really shaped
by process innovation and the incentives underlying it. It would be valuable
to analyse whether our findings generalize to other set- tings, particularly
products that are produced with more labour and dedicated machinery, have
a less developed knowledge base, and allow production workers more
discretion to adjust production than specialty chemicals. While information
from production may well inform initiatives to reduce cost for such products,
we suspect there is still typically much that needs to be done with such
information and a lot of other expertise that needs to be combined with it to

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 yield process savings. If so, this would leave an important role for incentives
in conditioning cost reduction, suggesting that our findings might help
explain the close empirical relationship commonly found between cost and
measures of production experience.

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