Tactical Pick - Atul Industries

In this edition, we are suggesting leading integrated chemical manufacturer Atul Industries (CMP: Rs 3,445, market cap: Rs 10,218 crore) as the tactical pick.

During the past three months, the stock has corrected 16 percent on account of market-wide weakness and trades at a reasonable 18 times FY21 estimated earnings. Furthermore, its recent strong set of numbers in Q1 FY20 results, along with high export exposure (~50 percent of sales in FY19), demands investor attention.

We believe that the current scenario of rupee weakness and a relatively steady demand prospects in export markets (as against domestic demand) aid the investment case for Atul Industries.

Note that, in the quarter gone by, the company’s revenue grew 14 percent driven by double digit growth for both life sciences (32 percent of FY19 sales) and specialty chemicals (68 percent). Exceptionally high gross margin (+417 bps) and lower other expenses helped a strong EBITDA margin of 23.1 percent.

Leadership in key product groups: In FY19, growth in key product categories such as aromatics, pharmaceuticals, commodity chemicals and polymers was remarkable. Note that the company is a market leader for aromatic compounds with applications in personal care and fragrance markets.

In the case of pharmaceuticals, Atul is involved in the production of various basic chemicals (amino acids and phosgene derivatives) and APIs (active pharmaceutical ingredients). The major API where the company is a market leader is di-amino di-phenyl sulfone (dapsone) which is used to treat skin disorders like Hansen's disease.

Big capex under way: The company is executing a capex worth Rs 400 crore (fixed asset turnover of 2x) which is expected to conclude by mid-2020. The capex includes 30 percent expansion in the aromatic compound para cresol capacity to 36,000 tonnes. Note that chemical maker holds more than 40 percent market share in para cresol, which has applications for fragrance and anti-oxidant industry.

Phosgene value chain: Recently, the company has expanded phosgene capacity by 5 times and is working towards vertical integration for the related value chain. The management has approved a caustic-chlorine project which will supply chlorine for production of phosgene.

Pls read: Paushak – technology prowess in phosgene-based specialty chemicals

Eye on environment: The firm is deploying about Rs 100 crore for environmental compliance, which would help make a couple of units zero liquid discharge units. It is interesting because in the recent past, the company’s volume growth was impacted by self-imposed pollution compliance norms.

Outlook: While Q1 performance was an outlier, particularly on the margins front, we continue to expect double-digit sales growth for the next three years, aided by the positive outlook in diverse end markets (mainly crop protection, pharma and fragrances). The company has adequate capacity to meet this improving demand.

Any sharp slowdown in domestic and international demand for end markets remains a key risk to monitor. While China is gradually re-building its capabilities in chemicals, we believe that Atul is one of the few in India which has developed competitive strength in the interim. Interestingly, the company is also in talks with Chinese peers for possible manufacturing tie-up.

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