PICK OF THE MONTH VOL-5, NO-3 Sudarshan Chemical Industries...

OVERVIEW: Industry: Specialty Chemicals 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. 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. The focus is on value addition to the end product and the

properties or technical specifications of the chemical. This segment is

customised, less competitive and a high-margin business.

Further narrowing down our interest, Colourants are broadly classified into

dyes (Dyes are soluble substances that pass colour to the substrate. Their

end-use industries include textiles, leather, paper, plastics, printing inks and

edibles) and pigments. (Pigments are insoluble substances usually in

powdered or granular form that improve the appearance or impart colour to

the substrate by reflecting only certain light rays due to selective

wavelength absorption).

Pigment Industry: Pigments are solid materials that improve the appearance or impart color to

the substrate on which they are used; they are black, white, and colored.

Pigments are insoluble materials incorporated by physically mixing them

with the medium. They have a high tinting strength as compared to the

material in which they are added. Pigments serve three main functions:

impart color to the medium, hide the substrate, efface the existing color and

enhance the strength of the paint film.

Being one of the key components of the chemical industry; the pigment

industry has been evolving from a low growth to a matured core industry

according to the dynamic needs of the economy. Global colour pigments

market is ~USD10bn with the global organic pigment market expected to

grow at ~3% CAGR over the next 5 years.

CMP: Rs.372 TARGET PRICE: Rs.500 TIME : 12 months

SNAPSHOT

52 week H / L Mcap (INR mn)

633.8/ 291.1 25,773

Face value: 2

BSE Code NSE CODE

506655 SUDARSCHEM

Annual Performance

(Rs mn) FY16 FY17 FY18 *FY19E

Total Revenue 12,073 11,261 13,237 14,521

EBITDA 1,557 1,676 1,973 2,178

EBITDA (%) 12.9 14.9 14.9 15.0

Other Income 129 201 113 77

Interest 264 230 238 203

Depreciation 438 485 582 650

PBT 985 1,162 1,266 1,402

PAT 716 860 858 1,823

Equity ( Rs mn) 138 138 138 138

EPS (INR) 10.3 12.4 12.4 26.3

Ratio Analysis

Parameters (Rs mn) FY16 FY17 FY18 *FY19E

EV/EBITDA (x) 18.4 16.9 14.5 12.9

EV/Net Sales (x) 2.4 2.5 2.2 1.9

M Cap/Sales (x) 2.1 2.3 1.9 1.8

M Cap/EBITDA (x) 16.5 15.4 13.1 11.8

Debt/Equity (x) 1.1 1.1 1.0 0.7

ROCE (%) 23 24 23 21

Price/Book Value (x) 7.9 6.5 5.7 4.2

P/E (x) 36.0 30.0 30.0 27.0

Shareholding Pattern as on 31st December, 2018

Parameters No of Shares %

Promoters 36,616,260.0 52.89

Institutions 6,729,979 9.72

Public 25,881,011 37.39

TOTAL 69,227,250 100.0

Quarterly Performance

Parameters (Rs mn) Mar-18 Jun-18 Sep-18 Dec-18

Sales (Net) 3,842 3,426 3,771 3,477

EBITDA 562 549 562 367

EBITDA (%) 14.6 16.0 14.9 10.5

Other Income -40 41 -15 11

Interest 57 38 23 37

Depreciation 151 159 160 166

PAT 228 *949 296 142

Equity ( Rs mn) 138 138 138 138

Note: All the data is calculated as per Market Price on 08th April, 2019

* June 2018 Qtly and Projections for FY19E include the exceptional items

Page No 1

Sudarshan Chemical Industries Limited

April 08, 2019 PICK OF THE MONTH VOL-5, NO-3

Please Turn Over

BUY

Source: Annual Report

Source: Progressive Research

Exhibit 1: Sub-segments (based on end use and application):




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Pigment Industry (contd.) Over the last 5 years, the Indian pigment industry has witnessed

an exceptional growth with the key end users being cosmetics,

paints and coatings. Majority of the revenue share is constituted

by the inorganic pigments with titanium oxide remaining the most

in demand pigment type in India primarily used in paints and

coatings industry whereas, pigments such as iron oxide, chrome

oxide and others captured the remaining share of total revenues

derived from inorganic pigments. In the organic space,

phthalocyanine pigments top the list by capturing more than half

of the organic pigments market whereas, azo pigments and high

performance pigments capture the remaining revenue share. The

Indian pigments market is further anticipated to reach revenues

worth more than Rs20,000cr by the year ending 2022, thus

growing at a positive CAGR in the forecasted period

2017-2022E. (As per market reports).

Although small in size; the Indian Pigment Industry is a net

exporter. The per capita consumption in each of its industry

segment is very low compared to other countries. However, being

a leader in knowledge power and going by its vast experience in

handling customer demands, strong opportunities exist for rapid

export growth by development of innovative products meeting

high standards of quality (Sudarshan Annual Report).

Key drivers of growth:

Domestic availability of raw materials at competitive

prices

Strong demand growth in the consumer industry and

higher disposable income encouraging ‘premiumisation’

of products

Competitive cost of manufacturing

Investment in R&D

An ecosystem to support the industry and innovation.

Overall, we feel that the capacity expansions and capital expenditures being undertaken by different companies to cater to the

increasing demand in the domestic as well as global markets vouches for the growth expected from the industry going forward as

well.

About the Company: Sudarshan Chemical Industries Limited (Sudarshan) is the fourth largest pigment manufacturing company globally mainly engaged

in the manufacturing of Organic, Inorganic, High Performance and Specialty Pigments for different applications. The company is a

leading provider of organic pigments, pigment preparations used in coatings, paints, printing, plastics and other specialty

applications. The product portfolio meets the demands for key market segments that include automotive, industrial, decorative and

architectural paints and coatings and plastic applications. The company is widely recognized and well respected for its R&D

capabilities globally, especially in the niche domain of High Performance Pigments. It is the market leader in the pigment

manufacturing business in India and also commands a significant global presence. The international locations where business

activity is undertaken are USA, Europe, China and Mexico. Key national locations of business activity are Pune, Ambadvet,

Amralevade (Sutarwadi), Roha, Mahad and Chikli. The company has Mr. Pradeep Rathi as the Chairman and Mr. Rajesh Rathi as

the Managing Director.

Business Snapshot: The company mainly had two business segments namely Pigments and Agro-chemicals. The latter has been discontinued with

Pigments being the focus of business where the company is the leader in the domestic industry having a 35% market share. As the

largest producer of pigments in India, Sudarshan manufactures an extensive range of Organic, Inorganic and Effect Pigments and

dispersions catering to the Coatings, Plastics, Inks and Cosmetics Industries worldwide. The pigment business mainly comprises of

manufacturing of Azos, Blue and Green, High Performance Pigments, Effects, Pigment Preparations and Inorganics. The product

offerings include recognized brands such as Sudaperm, Sudafast, Sudacolor, Sumica and Sumicos. The company’s development

focus is on high performance pigments mainly for automotive coatings and engineering plastics that are produced in state of the art

manufacturing facilities at Roha and Mahad.

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Exhibit 3: Breakup of Indian organic pigment by end user:

Exhibit 2: Classification of Pigments:

Source: Meghmani Organics Ltd Quarterly report




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INVESTMENT RATIONALE: (A) Industry Growth Remains Robust: The overall specialty chemical industry has a strong outlook going forward backed by

the facts that:

Opportunities for the Indian chemicals industry are immense; all large established

players will reap the benefits as 55% of intermediates are still imported.

Global specialty chemicals industry growth will be dominated by innovative

players focusing on R&D as products get increasingly commoditized.

Sustainability, R&D, effective disposal of waste, and appropriate QSHE practices

are of paramount importance and will be critical to success in the long term for

Indian players.

In context to Sudarshan, it is the 4th largest player in pigments globally targeting the next big thing for it to reach No 3, which

means closing a massive USD500-600mn gap in revenues. (It will now be competing with BASF and Clariant). Organic pigments

are USD5bn market while inorganic is USD3bn and Mica USD600mn globally. This is the total addressable market for Sudarshan.

The Global colour pigment market is ~USD10bn, market opportunities open to Sudarshan are ~USD8.6bn. Management believes

growth will be driven by HPP, Azo and specialty pigments for which they have significantly invested in product capabilities. India

is set for strong, sustainable growth in pigment manufacturing with substantial export opportunities and Sudarshan is well placed to

expand market share for all its applications.

(B) Product offerings: The extensive range of products offered includes organic and inorganic pigments, mica-based effect pigments, chemical

intermediates and pesticides.

End User Industries: The key end markets for the pigment industry are paints, coatings, inks and plastics. The company is rightly present in the growing

segments going forward. Growth across these industries that the company caters to would lead to growth of the company going

forward. The triggers for the catered industries keep the momentum for Sudarshan to grow intact.


Source: Company Presentation

Exhibit4: Sudarshan’s Share in Global Pigment Market (USDbn)

Products Key components Brands Customers

Organic Pigment (Classic)

Azo group Sudacolor Paint & coating/plastic/ ink industry

Organic Pigment (Classic)

Phthalocyanine-CPC Sudafast Paint & coating/plastic/ ink industry

Organic Pigments (HPP) Benzimidazolone/Quinacridone/Diketopyrrolo Pyrrole Pigments (DPP)/

Perylene/Isoindolinone & Isoindoline

pigments

Sudaperm High grade paint & coating, cosmetics, specialised inks and plastics

Inorganic pigments (Color)

Iron Oxides Sudadur Ceramic products, rubber, paint, plastics, cosmetics industry

Inorganic pigments (Effect Pigment)

Effect Pigment (pearlescent pigments) Prestige/Sumicos for cosmetics; Sumica/Sumica

NXR for other applications

Premium Paints, Coating and Cosmetics industry

Exhibit 5: Product Range:

Source: Annual Report, Progressive Research

Exhibit 6: Potential in end user Industries: Exhibit 6: Potential in end user Industries:

Source: Company Presentation Source: Company Presentation




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INVESTMENT RATIONALE:

C) Presence Across the Value Chain: The pigment industry has organic and inorganic sub

segments. Most of the players have presence in one or two

segments of these; but Sudarshan has an edge of being

present in most of them. One can say that Sudarshan is

probably the only domestic player to have presence across

all the organic pigment sub-segments. Of the above

mentioned Pigment segments; Sudarshan has presence in

the high performance pigment and effect pigments, where

there is value-add compared to the otherwise commoditized

segments. It has dominance in the value chain placing it in

a leading position in most of the pigment offerings.

D) Tapping the Niche: High Performance Pigments (HPP) and Pearlescent Effect Pigments: High Performance Pigments are characterised by effectiveness and performance excellence (technical performance), economy

(benefits to the customer), ecology (environmental and toxicological safety), persistence in application and higher margin (benefits

to the companies). HPPs are used in automotive and engineering plastics segments. The pigment is resistant to light, heat, humidity,

organic solvents, water and detergents. High pigment prices and volatile raw material prices make it an intensely competitive

market.

Sudarshan markets its organic HPP offerings under the

Sudaperm brand. HPP entail higher realizations compared to

ordinary or commoditized pigments as they require higher

investments and in general have longer customer approval

timelines.

Pursuing a strategy of shifting its product mix in favour of HPP

and effect pigments, which carry higher margins compared to

commoditized pigments, the company is well on track for the

same. Pearlescent Effect Pigments: It is the other segment that the

company has been strongly working for. Pearlescent pigments

combine the properties of absorption and metal effect pigments;

thanks to their particular layered structure, light is reflected at

different levels in the pigment. Natural mineral mica is the most

used inorganic pearlescent pigment. Sudarshan is the sole

domestic producer of effect pigments with none of the Indian

competitors having substantial presence in this segment.

Sudarshan markets effect pigments under Prestige & Sumicos brands for cosmetics and under the Sumica and Sumica NXR brands

for other effect pigment applications. Paints and coatings are the leading application segment followed by automotive and

construction industries. Sudarshan has a strong footing in these segments which are value based segments in the Pigment industry,

which gives an edge to the company with regard to its offerings.

E) Future Outlook- Chalked by the management: The Pigments market is expected to grow due to demand for aesthetic consideration in industries such as paints and coatings,

constructions, automobiles, etc. Moreover, pigments ability to enhance visual attraction and surface finish will generate profitable

scope for pigments business over the next few years. However, major economies continue to face deceleration in growth. Further,

on account of excess capacities, countries like China may resort to dumping of products in Indian markets to the detriment of the

Indian Pigment Industry.

The positive factor for Indian Pigment industry is the demand for its products is largely driven by domestic market and considering

very low per capita consumption ratio holds promise. Sudarshan is gearing itself for sustaining its market position by adjusting to

the market environment through improved service levels and continuous emphasis on cost management. Its globalization plans and

strong base in the Indian Market provides a great opportunity for growth. Also the strategy of focusing among others on High

Performance Pigments and specialized Azo Pigments provides a great future. The company’s strategy of setting up sales offices to

cater to European and North American customers is expected to give further push to pigment exports as the company is better

equipped to understand and comply with customer preferences. It has also set up a Marketing / Sales Office in Shanghai, China to

locally source raw materials and among others to cater to the requirements of Asia Pacific customers.

All of these measures clearly show the vision that the company has in terms of being the leading player in its industry of offerings.


Pigment Group Pigment Type

Black & White Inorganic pigments, Titanium oxide, Carbon Black

Colour Iron oxide, Chrome oxide, Chroma pigments

Effect Pigments High performance inorganic pigments

Low Medium Value Azos, Pthalos

High value High Performance Pigments

Exhibit 7: Potential in End User Industries:


High Performance Pigments (HPP)

Major Organic HPP Major Inorganic HPP

Benzimidazolones Bismuth Canadate

Quinacridones Cadmium Sulfide

Perylenes Mixed Metal Oxides

Diketopyrrolopyrrole (DPP) Bismuth Ferrite

Isoindolinone -

Isoindoline -

Exhibit 8: Segmented into Organic & Inorganic HPPS





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Focussed Strategies: In line with the company’s strategy to focus on its core business, the

company has discontinued the Agro Chemical division since April

2018. The business transfer agreement concluded on 20th Sept 2018 to

transfer Agro Formulation Brand Business on a going concern basis.

The Agro business was low margin and non-strategic for the company.

Also, divestment of master batch business demonstrates commitment

of Pigment business to grow aggressively in plastics industry through

no-conflict approach with customers. Subsidiary business was sold to

Americhem Inc. & transaction concluded on 1st June 2018. This

clearly indicates that the company is pretty clear and convinced with

its single line of business and focuses on the same.

Sudarshan is the 4th largest pigment producer globally. Embarking to

the next level of growth (become the 3rd largest player), the company

has redefined its strategies for the next 5 years.

Financials: A) Sales and Profit Trend: The company has performed decently in terms of revenue growth as well as overall profits over the past few years. With the kind of

business plans chalked by the management and concrete steps been taken to fructify the same, the company has a strong growth

trajectory with years to come. With regard to the future projections, one must note that the FY19E looks good mainly due to the

exceptional item of Rs942mn pertaining to the divestment gain of its subsidiary prescient Color Limited. If one excludes this gain,

the year is expected to be flat at the PAT levels.

B) Strong Margin Improvement: Sudarshan posted 15% volume CAGR in the last 3 years whereas the

industry has grown at 10%. The volume growth (15%) outpaced the industry

even in 9MFY19. The heavy opex cycle in the last 1-2 years to build

capabilities had also affected margins. The management expects that the

Q4FY19 should have better margins as most of the raw material price

increase which had started in Q4FY18 has peaked out and has been passed

on. Also, the 35-40% of sourcing from China is aimed to be brought down to

20-25% through the backward integration undertaken. Overall, the raw

material prices are expected to stabilize and thereby should lead to margin

improvements for Sudarshan going forward.

C) Capex Plans- Growth Ahead: The capex of Rs1000cr at Roha has been chalked till 2023. The company has indicated that it has spent in totality Rs450cr so far.

This capex is for the capacity expansion, adding new product lines as well as backward integration of raw materials. The company

plans to spend around Rs250cr in capex in FY19E of which Rs200cr are under various stages of implementation. The company sees

3-4 years’ payback time for the full capex of Rs10bn. Majority of the capex is expected to be funded by debt with internal accruals

to be utilized for working capital requirements. All of the incremental capex is to be in HPP and Effect pigments space which is

likely to be margin accretive than the normal commoditized Azo and Phthalo pigments.


Exhibit 9: Pillars Of Growth:

Source: Company Presentation

Exhibit 10: Sales Breakup Exhibit 11: Profit After Tax

Source: Company Annual Report Source: Company Annual Report

Exhibit 12: EBITDA & Margins

Source: Company Annual Report




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Page No 6

Exhibit 13: One year forward P/E Exhibit 14: Price vs. Nifty

Source: ACE Equity Source: ACE Equity

Risks and Concerns:

Currency fluctuations, rise in crude oil prices in India and its cascading effect on other inputs is a matter of grave concern as

its negates the key advantage of competitive pricing. There is also a great deal of uncertainty regarding pricing and

availability of key intermediates from China.

Compliance of REACH regulations is time consuming and expensive proposition making penetration of the company’s

pigments in the European market a challenging task.

Sudarshan is operating in a segment dominated by multinational companies with cutting edge technologies in Pigment

manufacturing. This provides an opportunity as well as an operating risk.

Outlook and Recommendations: The China factor has been a big booster to the overall chemical industry, the benefits of which have been seen across the

performance and future built ups by the different companies. The various capacity additions and capex plans stand by the fact that

there is still lot of untapped potential from the industry parse. Sudarshan has been benefitted by the first mover advantage in terms

of capacities being laid down through its aggressive but well executed capex plans. With some gestation yet till the additional

capacities come on stream, the company is ready for the next leg of positive upturn, the first being the rally seen building up the

industry opportunities. We feel that the leading position in the pigment industry gives the company the additional edge and us the

conviction to initiate a BUY on the stock with a target price of Rs500 over a 12 months horizon.

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PICK OF THE MONTH VOL-5, NO-3 Sudarshan Chemical Industries...

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