Insecticide India - Initiating Coverage 26-08-14

SBICAP Research on Bloomberg SBICAP , www.securities.com Please refer to our disclaimer given at the last page.

Institutional Equity

Research

Financial summaryY/E March (Rs mn) F 13 F 14 F 15e F 16e F 17eSales 6,167 8,641 10,126 11,990 14,367growth (%) 18.2 40.1 17.2 18.4 19.8EBITDA margin (%) 11.2 9.0 10.3 11.2 12.1PAT (mn) 394 478 610 833 1,131EPS (Rs) 31.1 37.7 48.1 65.7 89.1growth (%) 19.4 21.3 27.6 36.5 35.8P/E (x) 12.9 5.8 12.1 8.8 6.5EV/EBIDTA (x) 9.4 5.4 8.4 6.5 5.0Dividend yield (%) 0.9 1.6 0.9 1.3 1.7RoE (%) 20.0 20.8 22.1 24.4 26.4RoCE (%) 12.7 12.9 13.7 15.5 17.3Source: Company, SSLe

FCF gains attest compelling valuation case, Initiate BUY

Insecticides India Ltd., (IIL) has emerged as one of Indias leading agrochemical manufacturer and currently commands 6.7% market share (6th largest amongst listed space). We see a compelling valuation case ahead from a) utilisation scale-up from Dahej, b) broadening of sales in speciality segment, c) RoCE expansion accruing from rising margins and d) a near-complete capex implying improved FCF generation. Our estimates suggest 33% EPS growth over F14-F17e unlike 14% seen over F11-F14. We find IILs reach and B/S strength as ripe enough for strategic tie-ups that can trigger a further upside. The stock on PEG basis trades at 60% discount to peers. Initiate BUY with a 12xP/E target price of Rs898 (55% upside).

Adaptable business model and improving margin trend: We estimate sales to grow at 18% CAGR over F14-F17e largely driven by a) faster growth in herbicides like Hijack and Hakama @ 20% CAGR & technicals at @ 27% CAGR and b) launch of generic Diafenthuron. Increasing revenue share from speciality (2-3x higher margin), herbicides and focus on B2B together with Dahej operation turning profitable augurs well for ~100bps EBITDA expansion per year over next few years.

Larger product basket improving on execution: Our channel check across regions indicates that IIL has shown good traction despite possessing an average portfolio with ~90% of their products having a clutch of ~15 generic competitors.

Capex cycle at an inflection point: Significant investment in manufacturing capability (nearly 85% of F14 total gross block) between F11-F14 led to fall in RoCE (down to 13% from 19%). With signs of stability tests succeeding (for high value products), we expect Dahej scale-up (to 65%/75% by F16e/F17e) and no major capex plans in mid-term to enhance RoCE/RoE back to earlier levels.

Market concerns on cash flow receding: Operating leverage from Dahej, easing liquidity and capex normalising are in our belief likely to positively surprise the street on operating cash flow and FCF in F16e/F17e. As earlier setback at Dahej remains fresh in investor minds only a credible efficiency uptick would ensure greater valuation upside, in our view.

Key risks: Deterioration in B/S (working capital), currency volatility, and a market slowdown

Insecticides India Ltd (IIL) INST IN; ISIL.BO

Initiating Coverage BUY

Current price (25 Aug) RsTarget price RsUpside/(downside) % 55

Market dataMkt capitalisation Rs bn 7.2Average daily vol '000 50.052-week H/L Rs 626 / 200Shares O/S mn 12.7Free float mn 3.2Promotor holding % 74.7Foreign holding % 3.2Face value Rs 10.0

Price performance (%)1m 3m 6m 1yr

Nifty (abs) 1.5 7.4 26.7 44.4Stock (abs) 26.8 90.2 142.2 77.4Relative to Index 25.3 82.8 115.5 33.0

Performance

581 898

-60

-30

0

30

60

0

200

400

600

800

Aug-13 Nov-13 Feb-14 May-14 Aug-14Insecticides (LHS) Rel. to Nifty (RHS)

(%)(Rs)

Source: Bloomberg, SSLe

August 26, 2014Agro | India

Vivek Kumar +91 22 4227 3312 [email protected]

Insecticide India (IIL) Initiating coverage FCF gains attest compelling valuation case, Initiate BUY SBICAP Securities Ltd

[email protected] August 26, 2014 | 2

Contents

FCF gains attest compelling valuation case, Initiate at BUY

Company profile .................................................................................. 03

Investment thesis

What would help narrow the valuation discount vs. peers?......................... 04

Dahej turnaround Key to our investment case 05

Late entrant and aggressive growth .. 06

Growing share of specialty portfolio 07

Larger product basket improving on execution. 07

Inflection point in capex cycle.. 09

Financial summary.. 10

Improving sales and operating margins. 10

Stretched working capital to ease . 10

Market concerns on cash flow receding .................................................. .. 11

Key rating sensitivities.. ..................................................................... 12

Valuation. ............................................................................................. 13

Appendix (Exhibit 25-36). 14-17



Company profile

With a marginal beginning in 2002, Insecticide India has emerged as one of Indias leading agrochemical manufacturer and currently commands 6.7% market share (6th largest amongst listed space). The company has >120 branded products, 15 technicals and roughly derives 63% of sales from insecticides, 24% herbicides and 13% from fungicides/PGR & others. Over a period of time IIL has successfully established Tractor Brand of insecticides for easy recognition. Some of its flagship brands include; Thimet, Victor, Monocil, Pulsar, Hakama.

Recently, IIL joined hands with American Vanguard Corporation (AMVAC) USA and Japanese company Nissan Chemical Industries Ltd., adding some of the leading international brands like Nuvan, Pulsar and Hakama. IIL also has established R&D and technical centre in JV with Japan-based Otsuka AgriTechno Co. Ltd., (OAT) to invent new agro chemical molecules in India.

IIL has 4 formulation manufacturing assets across India and products are distributed through a 4,800-strong distributor network. Over F10-F14, the sales and profits have grown at CAGR of 23% and 14% respectively.

Exhibit 1: Insecticide India: sales mix (F14 Rs9.2bn gross)

Insecticides, 63%

Herbicides , 24%

Fungicides, 7%

PGR & Others, 6%

Source: Company, SSLe

Exhibit 2: Key details of the manufacturing assets

Formulation Commenced operationInvestment

(Rs mn) Comment

1. Chopanki, Rajasthan

F 03 286 Utilisation rate ~50%

2. Samba, J&K F 04 134 30% tax exemption till F16. Fully utilised3. Udhampur, J&K F 12 105 100% tax benefits till F17 and 30%

subsequent to F22. 100% utilised4. Dahej, Gujarat F 12 555 The facility does not have any tax break.

Target is to manufacture high value products

Technicals1. Chopanki F 08 125

2. Dahej F 13 1,105 Sizeable capacity to provide economies of scale. We expect it to be a major growth driver in coming years. Scalable to 10x in asset turnover as per mgmt

Research & DevelopmentChopanki F 06 Successfully registered 27 technicals with

additional 20 technicals in advanced stages of registration

Chopanki (under OAT JV)

In - progress Expected to be operational by Dec'14. Under Oatsuka JV, the center will focus on new molecules for exports market

Others 130 Corporate office and miscellaneous Source: Company, SSLe

IILs sales portfolio is closely aligned with Indian crop protection industry;

Insecticides constitute 65% of sales, herbicides 16%, fungicides 15% and

others at 4%, respectively

Manufacturing infrastructure for both technicals and formulations

New technicals manufacturing facility at Dahej to demonstrate strong scale benefits

going forward



What would help narrow the valuation discount vs. peers?

We expect adaptable business model, superior financial performance (growing size and profitability), strong operating leverage from Dahej facility, broadening sales in high margin patented molecules and near complete capex cycle to drive substantial free cash flows and B/S improvements.

Based on the P/E multiple approach (1-yr forward), we believe a discount of ~50% to comparable peers appears to be on the higher side. On PEG basis, IIL is ~0.5x (F14 P/E to growth F14-F16e) quoting ~60% discount to peers. Hence, we see a compelling valuation re-rating case ahead due to strengthening earnings quality (+30% CAGR) and ramp-up of specialty portfolio. Exhibit 3: Revenue mix - inline with industry Exhibit 4: Operating leverage from Dahej

AP, 18%

Punjab, 18%

Haryana, 12%

Maharashtra, 11%

Rajasthan,8%

Others, 33%

-20.0%

-5.0%

10.0%

25.0%

40.0%

F13 F14e F15e F16e F17e

Sales EBITDA

Exhibit 5: Growing pie in specialty sales Exhibit 6: Inflection point in capex cycle vs. ROCE

0

4

7

11

14

F11 F12 F13 F14 F15e F16e F17e

(%)

363

3,186

594

547475

458250

250

0%

5%

10%

15%

20%

25%

0

720

1,440

2,160

2,880

3,600

F10 F11 F12 F13 F14 F15e F16e F17e

Nearly 85% to grossblock added in last 4 yrs

(Rs mn)

Exhibit 7: Sales and EPS growth Exhibit 8: Valuation comparison

0

20

40

60

80

F11 F12 F13 F14 F15e F16e F17e

(%)

EPS growth Sales growth

pF 14 P/E to

F16e F17e F16e F17e growth (PEG)Dhanuka Agri 21,909 27.0 36.1 16.2x 12.1x 1.0xInsecticide India 7,369 65.7 89.1 8.8x 6.5x 0.5xPI Inds 65,192 22.6 27.5 21.2x 17.4x 1.3xRallis India 45,312 11.9 13.9 19.6x 16.8x 1.4xUPL 139,724 31.9 36.0 10.2x 9.1x 0.8xBayer Crop 87,593 106.5 125.7 22.5x 19.0x 1.8xMonsanto 37,109 120.0 146.0 17.9x 14.7x 1.1xPeer average 404,206 16.7x 14.1x 1.2x(Discount)/Premium to peer 47% 62%

Companies Mkt Cap (Rs mn)EPS P/E multiple

Source: Company, Bloomberg, SSLe



Dahej turnaround key to our investment case

We believe that the recently commercialised Dahej facility can be a game changer as it will materially augment IILs manufacturing capabilities into high value technicals (incrementally adding Diafenthuron, Monocrotophos) which would help vertically integrate its existing brand formulations. With the total manufacturing capacity of 10,000tonnes per annum the facility is spread over 32 acres and has been set up at an investment cost of ~Rs1.7bn. The company has commercialised its formulation block during 4QF12 while the technical synthesis plant was operationalised only in early F14. The facility has incurred EBITDA losses during F13 and F14 respectively due to its underutilisation.

Our base case understanding suggests the revenue contribution from Dahej would add 28%/31%/32% to our growth estimate for F15e/F16e/F17e. Conservatively, it would achieve EBITDA neutral status in F15e (management expects EBITDA to be positive from Dec14) and should significantly start contributing ~14%/20% to overall company EBITDA in F16e/F17e respectively.

We believe augmentation of new capacities will be critical to IILs future growth strategy. The management is looking to supplement the current product portfolio with a robust pipeline of new products (scalable to 10x in asset turnover).

Management is further targeting product registration for international market in coming years which should start contributing to sales from F17e. IIL has already identified a product basket and is under discussion with OAT to tap growing paddy opportunity in Japan.

Backward integration of several existing branded formulations would lead to improvement in margins.

Assuming an average utilisation rate of ~50%/65%/75% in F15e/F16e/F17e from 30% at present, we expect revenues of Rs2.9bn/Rs3.7bn/Rs4.5bn in our base case (Exhibit 10). Exhibit 9: Operating leverage from Dahej in overall financials

-20.0%

-5.0%

10.0%

25.0%

40.0%

F13 F14e F15e F16e F17e

Sales EBITDA


Dahej facility can be a game changer in coming years

Our base case analysis suggest Dahej can add 28%/31%/32% revenues to our growth

estimate for F15e/F16e/F17e

We remain upwardly biased in our Dahej EBITDA contribution estimates of

~14%/20% in F16e/F17e



Exhibit 10: Sales trend we expect 29% CAGR growth

0

1250

2500

3750

5000

F 12 F 13 F 14 F 15e F 16e F 17e

(Rs

mn)


Late entrant and aggressive growth Despite the drawbacks and challenges of being a late entrant into the fast growing agrochemical sector India is growing @10% annually IIL has made up for the lost opportunities to capture steady market share (Exhibit 10). It has taken just over 12 years for IIL since commencement of operations to build a sizeable revenue base which now has surpassed Dhanuka.

In our view, as a long term approach, the company has got its foothold in an intensely competitive market by getting an expanded product basket for multiple crops with irresistible offers and establishing a pan India distribution reach. We also believe this to be a successful and adaptable business model. The company has well marketed flagship brands like Thimet, Lethal, Monocil, Pulsar, Hakama and Nuvan. As a late entrant, we feel IIL can maneuver the industrys learning curve and is lean enough to forward integrate faster. This should strengthen its business model in a manner that would help them outpace pioneers.

Exhibit 10: A comparison of revenue size (F14) vs. establishment history

0 20 40 60 80 100 120

UPL (29Y)

Bayer Crop (56Y)

Rallis (66Y)

PI Inds (68Y)

Insecticides (18Y)

Dhanuka (29Y)

Monsanto (65Y)

(Rs bn) Source: Company, SSLe

Exhibit 11: Asset turnover: IIL vs. sector

1.0x

1.5x

2.0x

2.5x

3.0x

F08 F09 F10 F11 F12 F13 F14

Sector avg Insecticide India

investment phase


We expect revenues of Rs2.9bn/Rs3.7bn/Rs4.5bn in our base

case, assuming pick-up in the utilisation rate

IIL has made up for the lost opportunities to capture steady market share despite a

late entry

IIL is poised to forward integrate faster and strengthen its business model

Past asset turnover rate slated to recover with Dahej picking up in utilisation



Exhibit 12: IILs revenue mix is in-line with industry

18% 18%

12% 11%8%

33%

25%

12%

5%

13%

6%

39%

0%

10%

20%

30%

40%

AP Punjab Haryana Maharashtra Rajasthan Others

IIL Industry Source: Company, SSLe

Growing share of specialty portfolio

IIL relationship with the MNC partners has taken-off recently after collaborating with AMVAC in F07 for its leading brand Thimet (the technical is now manufactured in-house). That relationship spun a further roll-out of Nuvan in F13. Additionally, it has also tied-up with one Japanese company (Nissan) for Pulsar and Hakama brands. The company has started selling these brands only in F13 and which contributed ~6% of total sales in F14. Given the early stage of brand maturity we expect this to rapidly grow at 33% CAGR to reach 13% of sales by F17e (Exhibit 14). The company is further working to register three more products from Nissan (one in herbicide by F15) for Indian market. While IIL will be beefing up its overall distribution network, it will aggressively focus on roll-outs in new specialty molecules through foreign partners. These specialty molecules offer 2-3x higher margin potential compared to IILs composite average.

During Sep12, IIL has signed a JV with Otsuka Agritech of Japan for setting up an R&D center in India with an aim to focus on research in new molecules for international markets. IIL holds 30% voting right in the JV and expects to invent 4-5 such molecules in next five years. IIL and OAT will each have exclusive rights to develop and commercialise the products across the world divided into their specific regions of access. IIL will also have the opportunity to manufacture the products invented by JV for exports market.

Larger product basket improving on execution

While Indian agro chemical companies have largely shifted from plain generics to R&D driven specialty portfolio, the success has largely depended on the ability to get wider market share. We conducted channel checks across regions. This was not exhaustive yet indicative of the fact that IIL has been making strides with its execution in specific crop portfolios as compared to others with larger composite product basket.

IIL has shown good traction despite possessing an average portfolio with ~90% of their products having a clutch of ~15 generic competitors. Overall portfolio market share of IIL compared with the industry at present is 6.7%. Some of the findings also indicate that the credit facility has not been dealer friendly compared to peers (e.g. Hijack in herbicide). In our view, this is region specific and largely a cautious strategy of the management to avoid bad debts.

This is a good execution delivery considering the fact that until F13 the company had limited visibility amongst specialty products.

In our view, IIL's execution should improve in the domestic market as the scale improves on account of Dahej facility and emergence of a high quality portfolio mix through introductions of new molecules. Apart from the near term additional roll-out of specialty portfolio the company is also working towards the development of new molecules through R&D tie-up with Otsuka Agro Japan with a target to bring five molecules in next five years.

Regional distribution of sales is in-line with the industry and IIL continues to expand its

share in AP and Maharashtra

Hakama, Pulsar and Nuvan amongst key specialty brands launched in F13

Given the early stage of brand maturity we expect rapid growth of 33% CAGR through

F17e

Specialty molecules offer 2-3x higher margins potential compared to composite

average

Our channel check suggests improving execution



Exhibit 13: Portfolio market share progress

4

5

6

7

8

F10 F11 F12 F13 F14

(%)


Exhibit 14: Growing proportion of sales from limited competition molecules

0

4

7

11

14

F11 F12 F13 F14 F15e F16e F17e

(%)


Exhibit 15: Large proportion of IILs products has high competition

4% 1% 5%

90%

0%

25%

50%

75%

100%

0-5 player 6-10 11-15 >15


Exhibit 16: Product portfolio and sales achieved per product

0 10 20 30 40 50 60 70 80

0

60

120

180

240

F11 F12 F13 F14 F15e F16e F17e

(Rs

mn)

(no.

)

Product basket (LHS) Sales per product (RHS) Source: Company, SSLe

Fair pick-up in the market share started recently

Uptrending sales from specialty segment; to reach 13% in F17e from 6% in F13

Molecules like Quizalofop-ethyl, Thifluzamide, Dichlorvos andDiafenthuron

will face limited competition

We project 13% growth in the sales realisation per product

Over 14 new launches planned over next three years



Exhibit 17: Top 5 and top 10 accounts for 26% and 36% of sales Brands Molecule Segment Key crops % Sales LaunchThimet Phorate 10% Insecticide Paddy, Sorghum, Sugarcane,

Vegetables7.8% F07

Monocil Monocrotophos 36%

Insecticide Paddy, Pulses, Cotton 5.6% F12

Nuvan* Dichlorvos 76% Insecticide Paddy, Soyabean, Cucurbits, Sugarcane

5.5% F13

Hijack Glyphosate 41% Herbicide Annual and perennial grasses and broad leaf weeds in Tea

3.7% F10

Lethal Dichlorvos 76% Insecticide Cabbage, Onion, Apple, Tobacco

3.6% F06

Victor Imidacloprid 17.8%

Insecticide Cotton, rice, oil seeds and vegetables, chilli, mango

2.5% F06

Hakama* Quizalofop-ethyl 5%

Herbicide Soybean, Cotton, Groundnut, Green gram, Black gram, and all other broad leaf crops and vegetables

2.4% F13

Milquat Paraquat Dichloride 24%

Herbicide Potato, Cotton, Rubber, Wheat, Grapes and Apple

1.8% F07

Racer Pretilachlor 50% Herbicide Paddy 1.5% F05

Pulsor* Thifluzamide 24% Fungicide Paddy 1.5% F13

Top 10 36%

* through MNC partner


Inflection point in capex cycle

IIL has significantly invested into manufacturing capability (nearly 85% of F14 total gross block) between F11-F14 a majority of which was in Dahej. Higher cost absorption for Dahej (commercialised in 4QF12) resulted in RoCE compression from 19% to 13%. However, with successful stability test on few of high value products conducted, it expects to ramp up the production. This should support its overall earnings momentum. Company envisages no major investment plans in next 4-5 years except for maintenance capex which would continue in the region of Rs200-250mn per year. This together with uptrending operating performance at Dahej and shift into a high margin portfolio will enhance RoCE/RoE in coming years.

Exhibit 18: RoE/RoCE to trend upwards

0

7

14

21

28

F11 F12 F13 F14e F15e F16e F17e

(%)

ROCE ROE Source: Company, SSLe

Portfolio concentration evenly spread with top 5 accounting for 26% of the sales

(broadly in-line with industry trend)

We estimate steady improvement in RoE/RoCE to 26%/17% by F17e



Financial Summary

We estimate sales to grow at 18% CAGR over F14-17e driven largely by a) faster growth in herbicides like Hijack and Hakama @ 20% CAGR & technicals at @ 27% CAGR and b) launch of generic Diafenthuron. We foresee increasing revenue share from specialty (2-3x higher margin), herbicides and focus on B2B segments. Together with Dahej operation turning profitable the improved product mix makes IIL poised for 80-100bps EBITDA expansion per year over next few years.

Exhibit 19: Segment sales growth trend

Rs mn F13 F14 F15e F16e F17e CAGR (F14-17e)Insecticides 3,487 4,885 5,720 6,555 7,617 16%Technicals 687 923 1,108 1,440 1,872 27%Herbicides 1,595 2,222 2,608 3,171 3,879 20%Fungicides 380 633 700 826 999 16%PGR & Others 354 562 675 810 972 20%Gross Sales 6,502 9,225 10,810 12,802 15,339 18%

Exhibit 20: EPS growth trend

25.5 26.0 31.1

37.7 48.1

65.7

89.1

0

25

50

75

100

F11 F12 F13 F14 F15e F16e F17e

(Rs)


Exhibit 21: Sales and operating margin trend

4

7

10

13

16

0

4,000

8,000

12,000

16,000

F11 F12 F13 F14 F15e F16e F17e

(%)

(Rs

mn)

Sales (LHS) OPM (RHS) Source: Company, SSLe

Stretched working capital to ease Between F11-13, working capital cycle was stretched for IIL leading to higher interest cost to meet operational cash requirement. The stretch arose from a rise in the inventory holding period from 99 days to 127 days. Going forward, with improving brand perception and enlarged scale benefits, we expect overall liquidity to ease. We do not anticipate any significant increase in the receivables days even though IILs overall size of operation may grow at 18% pace. This is largely from continuance of a strict control over credit facilities extended to dealers. During F14, the net working capital day improved to ~64 days from 78 days in F13.

We estimate revenues and earnings CAGR of 18% and 33%, respectively by

F17e

OPM to expand 80-100bps per year over next few years

During F11-13 WC stress led higher interest cost to meet operation cash

requirement



Exhibit 22: Working capital cycle improving

53 63

78 64 62 60 58

0

35

70

105

140

F11 F12 F13 F14 F15e F16e F17e

Debtors Days Inventory Days Creditors Days WCC Source: Company, SSLe

Market concerns on cash flow receding Operating leverage from Dahej, easing liquidity and capex normalising are in our belief likely to positively surprise the street on operating cash flow and FCF in F16e/F17e. As earlier setback at Dahej remains fresh in investor minds only a credible efficiency uptick would ensure greater valuation upside, in our view. Effective working capital management and rising profits should help the company improve its B/S. We estimate net gearing to reduce to 25% in F17e from a high of 98% in F13. Exhibit 23: Free Cash generation

(1,200)

(800)

(400)

-

400

800

F11 F12 F13 F14 F15e F16e F17e

(Rs

mn)


Exhibit 24: Net debt to equity trend is estimated to soften

0%

30%

60%

90%

120%

F11 F12 F13 F14 F15e F16e F17e


Going forward, with improving brand perception and enlarged scale benefits, we

expect overall liquidity to ease

Operating cash flow and FCF to positively surprise in F16e/F17e

Net gearing to reduce to 25% in F17e from a high of 98% in F13.



Key Risk Deterioration in B/S: 90% of IILs debt is largely locked into working capital resources. Hence any stretch in its overall working capital cycle from F14 level of 67 days would lead to higher interest cost thereby impacting our forecasted earning growth of 30%. Of late the company, to mitigate this risk, has taken a few initiatives like a) effective distribution via retailers to ensure product availability and reducing the distribution cost and b) increasing presence in institutional segment from current 10% share via sales of bulk technical from Dahej. Currency movement: IIL imports ~30% of raw material consumed and have a policy to hedge ~25% at the time of buying the material. Additionally, short-term forex debts account for half of its gross borrowings and are exposed to currency fluctuation. At the F14 numbers, the cumulative foreign currency exposure which was not hedged amounted to Rs2.7bn (Rs2.0bn in F13) or ~30% of sales. While we highlight that any sharp depreciation of INR vs. US$ would have material impact, the company is taking prudent steps to reduce its net exposure. Exhibit 25: Impact from adverse currency movement 8-15% of PBT

(17.0)

(10.5)

(4.0)

2.5

(105.0)

(70.0)

(35.0)

0.0

F11 F12 F13 F14

(%)

(Rs

mn)

Forex loss (LHS) % to PBT (RHS) Source: Company, SSLe

Market slowdown from weather: The crop protection industry faces risks of seasonal weather. With nearly 55% of the area under agriculture being rainfed, its spatial distribution can have a direct impact on pest infestation, choice of crops sown by farmers and total cultivated area. Genetically Modified (GM) seeds: Genetically modified crops possess self-immunity towards natural adversaries which have the potential to negatively impact the business of agrochemicals.

Stretch in working capital, adverse currency fluctuation, market slowdown

remains key risk to our rating



Valuation We believe IILs current valuation does not adequately reflect the emerging business growth dynamics and its adaptable business model. Based on the P/E multiple approach (1-yr forward), we believe a discount of ~50% to comparable peers appears to be on the higher side and that it should progressively narrow in coming years. On PEG basis, IIL is ~0.5x (F14 P/E to growth over F14-F17e). We see the compelling valuation case ahead attributable to: 1. Strengthening earnings quality (+30% CAGR) on improved product mix, 2. Strong operating leverage from scaling up Dahej operation (to contribute

19% to F17e EBITDA from -14.9% in F14), 3. Broadening of sales in specialty segment together with new product line-ups

through existing tie-ups, 4. RoCE expansion from 12.9% to 17.3% by F17e accruing from uptrending

margin performance, 5. Inflection point with near-complete capex implies improved FCF generation.

We expect Rs594mn FCF by F17e from negative Rs195mn in F14. We believe announcement of any future strategic tie-ups and B/S strength could drive greater upside. At a P/E of 8.8x F16e and 6.5x F17e EPS, the stock is trading at a significant, 50-60% discount, to its peers although the company continues to grow in size. We see clear upside in stock and hence initiate coverage on with a BUY rating and price target of Rs898 (12x on 12-months rolling forward EPS), implying 55% potential upside. Exhibit 26: Valuation with respect to peers

F 14 P/E to F16e F17e F16e F17e growth (PEG)

Dhanuka Agri 21,909 27.0 36.1 16.2x 12.1x 1.0x

Insecticide India 7,369 65.7 89.1 8.8x 6.5x 0.5x

PI Inds 65,192 22.6 27.5 21.2x 17.4x 1.3x

Rallis India 45,312 11.9 13.9 19.6x 16.8x 1.4x

UPL 139,724 31.9 36.0 10.2x 9.1x 0.8x

Bayer Crop 87,593 106.5 125.7 22.5x 19.0x 1.8x

Monsanto 37,109 120.0 146.0 17.9x 14.7x 1.1x

Peer average 404,206 16.7x 14.1x 1.2x

(Discount)/Premium to peer 47% 54% 62%

Source: Company, Bloomberg, SSLe

EPSCompanies

P/E multiple Mkt Cap (Rs mn)

Exhibit 27: P/E distribution (1 Yr forward)

02468

1012141618

May

-07

Sep-

07Ja

n-08

May

-08

Sep-

08Ja

n-09

May

-09

Sep-

09Ja

n-10

May

-10

Sep-

10Ja

n-11

May

-11

Sep-

11Ja

n-12

May

-12

Aug-

12D

ec-1

2Ap

r-13

Aug-

13D

ec-1

3Ap

r-14

Aug-

14

(x)

+2SD = 15.69

-2SD = 3.69

Mean = 9.69


Based on the P/E multiple approach (1-yr forward), we believe a discount of ~ 30%

to comparable peers appears to be on the higher side and should narrow

Compelling valuation case as IIL is ~0.5x on PEG basis (F14 P/E to growth over

F14-F17e)

Emerging business dynamics, adaptable business model and clear upside prompts coverage initiation. BUY with price target

of Rs898 (55% upside)



Appendix Exhibit 28: Management details Hari Chand Aggarwal Chairman Rajesh Aggarwal Managing Director Nikunj Aggarwal Whole-time Director Navneet Goel Non-Executive Independent Director Navin Shah Non-Executive Independent Director Gopal Chandra Agarwal Non-Executive Independent Director Anil Kumar Singh Non-Executive Independent Director Virjesh Kumar Gupta Non-Executive Independent Director


Exhibit 29: Indian agro chemical market split Crop wise (US$2.0bn)

Cotton, 15%

Rice, 24%

Veg, 18%Fruits , 9%

Wheat, 7%

Pulses, 7%

Soyabeen+ Oil Seeds, 9%

Other, 11%

Source: Industry, SSLe Exhibit 30: Global trend in pesticide consumption

0.0

4.5

9.0

13.5

18.0

Taiw

an

Japa

n

Kore

a

Fran

ce

Euro

pe US

Ger

man

y

Paki

stan

Indi

a

Wor

ld

(Kg

per h

ecta

re)

Source: Industry, SSLe Exhibit 31: Crop protection market trend

52% 46%

21% 25%

22% 22%

6% 6%

0%

25%

50%

75%

100%

F10 F14Insecticide Herbicide Fungicide PGR and others

Source: Industry, SSLe

Top seven crops contribute to 90% of the market

Under-penetration of agrochemicals in India with pesticide consumption

amongst the lowest globally

Herbicides grew at faster momentum of 10-12% CAGR as labour shortage

continues



Exhibit 32: IIL technical product basket Insecticides Fungicides HerbicidesFipronil Thiophanate Methyl GlyphosateLambdacyhalothrin Sulfosulfuron Imidacloprid Metsulfuron MethylThiamethoxam DichlorvosChlorpyriphosBifenthrin Diafenthiuron Source: Company, SSLe

Exhibit 33: Revenue and profit trend for past 13 quarters

F12 F13 F14 F15 F12 F13 F14 F15Net Sales1Q 1,218 1,488 1,976 2,524 23% 24% 23%2Q 2,097 2,300 3,403 - 40% 37% 39%3Q 1,055 1,188 1,909 - 20% 19% 22%4Q 847 1,190 1,352 - 16% 19% 16%EBITDA 1Q 128 207 248 339 25% 30% 30%2Q 242 293 289 - 47% 42% 35%3Q 79 105 194 - 15% 15% 24%4Q 68 88 86 - 13% 13% 11%Profits1Q 91 117 142 174 27% 35% 35%2Q 164 159 138 - 50% 47% 35%3Q 48 46 68 - 15% 14% 17%4Q 28 16 52 - 8% 5% 13%

Rs mnQuarter financials Quarter composition trend


Exhibit 34: IIL key brands


IIL started the manufacturing of technicals in 2007. Today more than 10

technicals are manufactured.

Established the Tractor Brand of insecticides for easy recognition of all IIL

products



Exhibit 35: IILs transition phase


As a late entrant, we feel IIL is poised to forward integrate faster and strengthen

its business model



Exhibit 36: Pan India Distribution reaches with 25 depots


Over 60,000 dealers 4,800 distributors 25 depots



Financials

Income Statement Balance SheetY/E Mar (Rsmn) F 13 F14 F15e F16e F17e Y/E Mar (Rsmn) F 13 F14 F15e F16e F17eNet sales 6,167 8,641 10,126 11,990 14,367 Cash & Bank balances 47 90 572 1,091 1,816 growth (%) 18.2 40.1 17.2 18.4 19.8 Other Current assets 4,106 5,175 5,303 6,070 7,040 Operating expenses 5,474 7,859 9,078 10,642 12,622 Investments - 111 111 111 111 EBITDA 693 782 1,047 1,348 1,745 growth (%) 23.0 12.8 34.0 28.7 29.4 Net fixed assets 1,852 2,243 2,382 2,506 2,618 Depreciation &amortisation 58 67 112 125 139 Goodwill & intangible assets - - - - - EBIT 635 715 936 1,223 1,606 Other non-current assets 316 294 294 294 294 Other income 2 5 4 14 24 Total assets 6,321 7,914 8,661 10,072 11,878 Interest paid 132 154 168 182 199 Extraordinary/Exceptional ite (41) (79) - - - Current liabilities 1,960 2,886 2,839 3,277 3,821 PBT 464 487 772 1,054 1,431 Borrowings 2,132 2,426 2,639 2,872 3,129 Tax 111 87 162 221 301 Other non-current liabilities 108 136 136 136 136 Effective tax rate (%) 23.9 17.9 21.0 21.0 21.0 Total liabilities 4,199 5,448 5,615 6,286 7,087 Net profit 353 399 610 833 1,131 Minority interest - - - - - Share capital 127 127 127 127 127 Reported Net profit 353 399 610 833 1,131 Reserves & surplus 1,995 2,339 2,920 3,660 4,664 Non-recurring items 41 79 - - - Shareholders' funds 2,122 2,466 3,046 3,787 4,791 Adjusted Net profit 394 478 610 833 1,131 Minority interest - - - - - growth (%) 19.4 21.3 27.6 36.5 35.8 Total equity & liabilities 6,321 7,914 8,661 10,072 11,878

- Key Financials ratios Cash Flow StatementY/E Mar F 13 F14 F15e F16e F17e Y/E Mar (Rsmn) F 13 F14 F15e F16e F17eProfitability and return ratios (%) Pre-tax profit 464 487 772 1,054 1,431 EBITDAM 11.2 9.0 10.3 11.2 12.1 Depreciation 55 67 112 125 139 EBITM 10.3 8.3 9.2 10.2 11.2 Chg in working capital (613) (123) (174) (330) (425) NPM 6.4 5.5 6.0 6.9 7.9 Total tax paid (38) (56) (162) (221) (301) RoE 20.0 20.8 22.1 24.4 26.4 Other operating activities - - - - - RoCE 12.7 12.9 13.7 15.5 17.3 Operating CF (132) 374 548 628 844 RoIC 10.4 10.4 12.2 15.5 19.1 Capital expenditure (475) (458) (250) (250) (250)

Chg in investments - (111) - - - Per share data (Rs) Other investing activities - - - - - O/s shares 12.7 12.7 12.7 12.7 12.7 Investing CF (475) (568) (250) (250) (250) EPS 31.1 37.7 48.1 65.7 89.1 FCF (607) (195) 298 378 594 FDEPS 31.1 37.7 48.1 65.7 89.1 Equity raised/(repaid) - - - - - CEPS 35.6 43.0 56.9 75.5 100.1 Debt raised/(repaid) 529 294 212 234 257 BV 167.3 194.4 240.2 298.6 377.8 Dividend (incl. tax) (45) (45) (68) (93) (126) DPS 3.5 3.5 5.4 7.3 9.9 Other financing activities (8) (12) 39 0 0

Financing CF 476 238 183 141 131 Valuation ratios (x) Net chg in cash & bank bal. (131) 43 481 519 725 PE 12.9 5.8 12.1 8.8 6.5 Closing cash & bank bal 47 90 572 1,091 1,816 P/BV 2.4 1.1 2.4 1.9 1.5 EV/EBITDA 9.4 5.4 8.4 6.5 5.0 EV/Sales 1.1 0.5 0.9 0.7 0.6

Other key ratiosD/E (x) 1.0 1.0 0.9 0.8 0.7 DSO (days) 60.9 51.6 51.6 51.6 51.6

Du Pont Analysis - RoENPM (%) 6.4 5.5 6.0 6.9 7.9 Asset turnover (x) 1.6 1.8 1.9 1.9 1.9 Equity multiplier (x) 2.0 2.0 2.0 1.8 1.7 RoE (%) 20.0 20.8 22.1 24.4 26.4 Source: Company, SSLe



SBICAP Securities Limited

Corporate Office: Mafatlal Chambers, A-Wing, 2nd Floor, N. M. Joshi Marg, Lower Parel, Mumbai -400013. Tel.: 91-22-42273300/01 | Fax: 91-22-42273335 | Email: [email protected] | www.sbismart.com

KEY TO INVESTMENT RATINGS (w.e.f. February 2013) Guide to the expected return over the next 12 months. 1=BUY (expected to give absolute returns of 15 or more percentage points); 2=HOLD (expected to give absolute returns between -10 to 15 percentage points); 3=SELL (expected to give absolute returns less then -10 percentage points)

DISCLAIMER I, Vivek Kumar MBA (Finance) Analyst author of this report, hereby certify that all of the views expressed in this research report accurately reflect our personal views about any and all of the subject issuer(s) or securities. This report has been prepared based upon information available to the public and sources, believed to be reliable. We also certify that no part of our compensation was, is, or will be directly or indirectly related to the specific recommendation(s) or view(s) in this report. SBICAP Securities Limited (SSL),a full service Stock Broking Company and a member of National Stock Exchange of India Ltd. (NSE) and Bombay Stock Exchange Ltd. (BSE). SSL is a wholly owned subsidiary of SBI Capital Markets Limited (SBICAP), which is engaged into the investment banking activities and is registered with the Securities and Exchange Board of India as a Category I Merchant Banker. SBICAP (Singapore) Limited, a fellow subsidiary of SSL, incorporated in Singapore is regulated by the Monetary Authority of Singapore as a holder of a capital markets services license and an exempt financial adviser in Singapore. SBICAP (Singapore) Limiteds services are available only to accredited investors (other than individuals), and institutional investors in Singapore as defined in section 4A of the Securities and Futures Act (Cap. 289) of Singapore. SBICAP (Singapore) is a wholly owned subsidiary of SBICAP. SBICAP (UK) Limited, a fellow subsidiary of SSL, incorporated in United Kingdom is authorised and regulated by the Financial Services Authority. [SBICAP, SBICAP (Singapore) Limited, SBICAP (UK) Limited and SSL are collectively referred to as SBICAP Entities]. Recipients of this report should assume that SBICAP Entities (and/or its Affiliates) is seeking (or may seek or will seek) Investment Banking, advisory, project finance or other businesses and may receive commission, brokerage, fees or other compensation from the company or companies that are the subject of this material/ report. SSL (and/or its Affiliates) and its officers, directors and employees, including the analysts and others involved in the preparation/issuance of this material and their dependant(s), may on the date of this report/from time to time, have long/short positions in, act as principal in, and buy or sell the securities or derivatives thereof of companies mentioned herein. SSLs sales people, dealers, traders and other professionals may provide oral or written market commentary or trading strategies to its clients that reflect opinion that are contrary to the opinions expressed herein, and its proprietary trading and investing businesses may make investment decisions that are inconsistent with the recommendations expressed herein. SSL may have earlier issued or may issue in future reports on the companies covered herein with recommendations/ information inconsistent or different from those made in this report. In reviewing this document, you should be aware that any or all of the foregoing, among other things, may give rise to potential conflicts of interest. Please ensure that you have read Risk Disclosure Document for Capital Market and Derivatives Segments as prescribed by Securities and Exchange Board of India before investing in Indian Securities Market. The projections and forecasts described in this report should be carefully evaluated as these

1. Are based upon a number of estimates and assumptions and are inherently subject to significant uncertainties and contingencies. 2. Can be expected that some of the estimates on which these were based, will not materialize or will vary significantly from actual results, and such

variances may increase over time. 3. Are not prepared with a view towards compliance with published guidelines or generally accepted accounting principles. No independent

accountants have expressed an opinion or any other form of assurance on these. 4. Should not be regarded, by mere inclusion in this report, as a representation or warranty by or on behalf of SSL the authors of this report, or any

other person, that these or their underlying assumptions will be achieved. This report is for information purposes only and SBICAP Entities accept no liabilities for any loss or damage of any kind arising out of the use of this report. Though disseminated to clients simultaneously, not all clients may receive this report at the same time. SSL will not treat recipients as clients by virtue of their receiving this report. It should not be construed as an offer to sell or solicitation of an offer to buy, purchase or subscribe to any securities this report shall not form the basis of or be relied upon in connection with any contract or commitment, whatsoever. This report does not solicit any action based on the material contained herein. It does not constitute a personal recommendation and does not take into account the specific investment objectives, financial situation/circumstances and the particular needs of any specific person who may receive this document. The securities discussed in this report may not be suitable for all the investors. SSL does not provide tax advice to its clients and you should independently evaluate the suitability of this report and all investors are strongly advised to seek professional consultation regarding any potential investment. Nothing in this report is intended by SBICAP Entities to be construed as legal, accounting or tax advice. Certain transactions including those involving futures, options, and other derivatives as well as non-investment grade securities give rise to substantial risk and are not suitable for all investors. Foreign currency denominated securities are subject to fluctuations in exchange rates that could have an adverse effect on the value or price of or income derived from the investment. Investors in securities such as ADRs, the value of which are influenced by foreign currencies effectively assume currency risk. The price, value and income of the investments referred to in this report may fluctuate and investors may realize losses on any investments. Past performance is not a guide for future performance. Actual results may differ materially from those set forth in projections. SSL has reviewed the report and, the current or historical information included here is believed to be reliable, the accuracy and completeness of which is not guaranteed. SSL endeavors to update on a reasonable basis the information discussed in this document/material/ report, but regulatory compliance or other reasons may prevent it from doing so. This report/document has been prepared by SSL based upon information available to the public and sources, believed to be reliable. No representation or warranty, express or implied is made that it is accurate or complete. The opinions expressed in this report are subject to change without notice and have no obligation to tell the clients when opinions or information in this report change. This report has not been approved and will not or may not be reviewed or approved by any statutory or regulatory authority in India, United Kingdom or Singapore or by any Stock Exchange in India, United Kingdom or Singapore. This report may not be all inclusive and may not contain all the information that the recipient may consider material. This report does not constitute or purport to constitute investment advice in publicly accessible media and should not be reproduced, transmitted or published by the recipient. The report is for the use and consumption of the recipient only. This report or any portion hereof may not be printed, sold or distributed without the written consent of SBICAP Entities. The securities described herein may not be eligible for sale in all jurisdictions or to all categories of investors. The countries in which the companies mentioned in this report are organized may have restrictions on investments, voting rights or dealings in securities by nationals of other countries.



Distributing /taking/sending/dispatching/transmitting this document in certain foreign jurisdictions may be restricted by law, and persons into whose possession this document comes should inform themselves about, and observe, any such restrictions. Failure to comply with this restriction may constitute a violation of any foreign jurisdiction laws. Neither SBICAP Entities nor its directors, employees, agents or representatives shall be liable for any damages whether direct or indirect, incidental, special or consequential including lost revenue or lost profits that may arise from or in connection with the use of the information. Further, no representation or warranty, expressed or implied, is made or given by or on behalf of SBICAP Entities, nor any person who controls it or any director, officer, employee, advisor or agent of it, or affiliate of any such person or such persons as to the accuracy, authenticity, completeness or fairness of the information or opinions contained in this report and SBICAP Entities or such persons do not accept any responsibility or liability for any such information or opinions and therefore, any liability or responsibility is expressly disclaimed. Legal Entity Disclosure Singapore: This report may be distributed in Singapore by SBICAP (Singapore) Limited (Registration No. 201026168R), a holder of a capital markets services license and an exempt financial adviser in Singapore and solely to persons who qualify as institutional investors or accredited investors (other than individuals) as defined in section 4A(1) of the Securities and Futures Act, Chapter 289 of Singapore (the SFA) and is not intended to be distributed directly or indirectly to any other class of person. Persons in Singapore should contact SBICAP (Singapore) Limited in respect of any matters arising from, or in connection with this report. United Kingdom: This marketing communication is being solely issued to and directed at persons (i) fall within one of the categories of Investment Professionals as defined in Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the Financial Promotion Order), (ii) fall within any of the categories of persons described in Article 49 of the Financial Promotion Order (High net worth companies, unincorporated associations etc.) or (iii) any other person to whom it may otherwise lawfully be made available (together Relevant Persons) by SSL. The materials are exempt from the general restriction on the communication of invitations or inducements to enter into investment activity on the basis that they are only being made to Relevant Persons and have therefore not been approved by an authorised person as would otherwise be required by section 21 of the Financial Services and Markets Act 2000 (FSMA).

This report is issued and distributed by SBICAP Entities without any liability / undertaking / commitment on the part of itselves or SBI Capital Markets Limited or State Bank of India or any other entity in the State Bank Group. Further, in case of any commitment on behalf of State Bank of India or SBI Capital Markets Limited or any entity in the State Bank Group, such commitment is valid only when separately confirmed by that entity.

Investment thesisWhat would help narrow the valuation discount vs. peers?Exhibit 3: Revenue mix - inline with industryExhibit 4: Operating leverage from DahejExhibit 5: Growing pie in specialty salesExhibit 6: Inflection point in capex cycle vs. ROCEExhibit 7: Sales and EPS growthExhibit 8: Valuation comparison

Dahej turnaround key to our investment caseLate entrant and aggressive growthExhibit 10: A comparison of revenue size (F14) vs. establishment history

Growing share of specialty portfolioLarger product basket improving on executionExhibit 14: Growing proportion of sales from limited competition moleculesExhibit 15: Large proportion of IILs products has high competitionExhibit 17: Top 5 and top 10 accounts for 26% and 36% of sales

Inflection point in capex cycle

Financial SummaryImproving sales and operating marginsStretched working capital to easeMarket concerns on cash flow receding

Key rating sensitivitiesValuationExhibit 26: Valuation with respect to peers

Appendix (Exhibit 25-36)

Insecticide India - Initiating Coverage 26-08-14

Documents

Transcript of Insecticide India - Initiating Coverage 26-08-14