INSTITUTIONAL EQUITY RESEARCH Meghmani Organics Ltd


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INSTITUTIONAL EQUITY RESEARCH

Meghmani Organics Ltd (MEGH IN)
Ignored so far, but not for long
INDIA | SPECIALTY CHEMICALS | Initiating Coverage
One of the leading manufacturers of caustic soda in India through recent expansion MEGH entered caustic soda manufacturing through a 57% JV (Meghmani Finechem Ltd) with International Finance Corporation (IFC) in 2009 with an investment of Rs 5.5bn, for a capacity of 119,000 MTPA at Dahej. In FY15, it expanded capacity by 40% to 167,000 MTPA, making it the fourth‐largest caustic‐chlorine‐flakes capacity in India (after Grasim Industry, Gujarat Alkali, and DCM Shriram).
Expansion in the high‐margin caustic soda business to drive value growth MEGH is already one of the most efficient manufacturers of caustic soda with margins in the 31‐35% range led by its strategic location (in the middle of India’s highest‐consuming region ‐ Gujarat), captive power plant, and its usage of latest ‘membrane‐cell technology’ from Asahi Kasei Chemical Corporation, Japan. It has recently undertaken a brownfield expansion of caustic potash (21,000 tonnes) with a minimal investment of Rs 650mn (internal accruals). The new project is ready to commission in April 2016. With this, we estimate FY15‐18 sale/profits CAGR for its caustic operations (30% of sales) at 16%/27%.
Pigment: Stable price and operating leverage to lead profitable growth MEGH is one of the largest phthalocyanine‐based pigment manufacturers in the world with a global volume market share of ~7%. Its vertically integrated facilities for CPC blue and end products such as pigment green and pigment blue give it a competitive advantage – the pigments are crude derivatives and their prices are relatively stable despite sharp correction in crude. Steady improvement in volumes and improving asset utilisation supplements value growth. We estimate 14% sales CAGR over FY16‐18, which will improve its plant utilisation to 54% (from current 36%) and lead profitable growth.
Agrochemicals: Rising focus on branded business is the key MEGH has vertical integration in its agrochemicals business, which is largely dominated by intermediates and technical‐grade products (these constitute 65% of agrochemical sales). Exports of both technical and branded products in Africa, Brazil, LatAm, US, and European countries account for 70% of these sales. We expect healthy growth in its branded business based on (1) likely recovery in the global agro market, (2) anticipated favourable monsoon in India, and (3) its rapid domestic penetration in difficult times (plans to gain pan‐India presence by expanding its branded distribution chain – at 2,370 stockists and distributors YTD FY16 from 1,000 in FY15). Therefore, we build in 14% revenue CAGR over FY16‐18 to Rs 5.30bn. With lower crude prices, MEGH’s vertically integrated operation and improving asset utilisation will lead to profitable growth in agrochemicals.
No incremental capex; 30% EPS CAGR over FY16‐18 Aggressive capex over the last five years (>Rs 5bn to fund its greenfield agrochemical and pigment plant in Dahej and to expand its caustic plant) has increased its leverage position to 1.2x of equity in FY15 (1.5x in FY14). However, it has no visible capex over the next two years. This, along with improving asset utilisation across all its segments and planned debt repayment (already repaid Rs 1.5bn since FY14 and plans to cut debt by >Rs 2bn), should lead to 30% earnings CAGR over FY15‐18 to Rs 1.01bn in FY18.
Initiate coverage with a BUY and TP of Rs 40, implying upside of 100% Considering its diverse business profile, we value the company on SOTP. Taking into account its strategic positioning, expansion, and superior margin profile of over 30%, we value its caustic operation at 5x FY18 EV/EBITDA and the other two segments at 4x – arriving at a valuation of Rs 40.

29 March 2016

BUY (Maintain)
CMP RS 20 TARGET RS 40 (+100%)

COMPANY DATA O/S SHARES (MN) : MARKET CAP (RSBN) : MARKET CAP (USDBN) : 52 ‐ WK HI/LO (RS) : LIQUIDITY 3M (USDMN) : PAR VALUE (RS) :

254 5
0.1 28 / 14
0.4 1

SHARE HOLDING PATTERN, %

Dec 15

PROMOTERS :

59.6

FII / NRI :

1.0

FI / MF :

0.2

NON PRO :

12.1

PUBLIC & OTHERS :

27.1

Sep 15 50.9 0.9 0.1 6.4 26.7

Jun 14 50.4 0.9 0.1 4.8 28.0

PRICE PERFORMANCE, %

1MTH 3MTH

1YR

ABS

6.3

‐12.9

33.2

REL TO BSE

‐2.0

‐10.9

43.4

PRICE VS. SENSEX

400 350 300 250 200 150 100
50 0 Apr/14 Oct/14 Apr/15
Meghmani

Oct/15 BSE Sensex

Source: Phillip Capital India Research

KEY FINANCIALS

Rs mn

FY16E FY17E

Net Sales EBIDTA Net Profit EPS, Rs PER, x EV/EBIDTA, x P/BV, x ROE, % Debt/Equity (%)

12,605 2,710 733 2.9 6.9 4.0 0.8 12.2 99.6

14,363 2,944 850 3.3 6.0 3.5 0.8 13.0 87.2

Source: PhillipCapital India Research Est.

FY18E 15,725
3,145 1,013
4.0 5.0 3.1 0.7 14.0 68.8

Surya Patra (+ 9122 6667 9968) [email protected]

Mehul Sheth (+ 9122 6667 9996) [email protected]

Page | 1 | PHILLIPCAPITAL INDIA RESEARCH

MEGHMANI ORGANICS LTD INITIATING COVERAGE

About Meghmani
• Almost 30 years old. MEGH began operations in 1986. • It is a leading manufacturer of pigments and pesticides in India. • One of the largest producers of pigment blue in the world, leading producer of
pigment green, and one of the largest producers of pesticides in India. • Proven management team – founders have +100 years collective experience in
pigments and pesticides. • More than 80% of its pigment products and +50% of pesticides are exported. • Four multifunctional production facilities in Gujarat (India) – of which three are
ISO 9001‐2000.

Meghmani’s evolution

80

MEGH started

operations in

70

1986

Converted into a Public Ltd. Co. in 1995

Net Sales (Rs mn)

Got listed in

First Agro plant

India in 2007

60

setup in 1995

Established

Started Blue Pigment

MFL with IFC

New Pigment

production at Panoli

participation in

50

plant setup at

plant in 1996

2007

Panoli in 1996

40 Acquired Agro assets from

Rallis in 2004

Private Equity

30

investment in

MOL in 1997

Got listed in

Singapore in

20

2004

Price

Diversification

New Pigment

into Caustic

Started production in

plant at Dahej SEZ in 2013

Potash in 2015

MFL in 2009

Expansion of

CausticChlorine

Two new sites for

facility in 2014

Agrochem at Panoli

and Dahej in 2009

10

0 Mar‐03

Mar‐04

Mar‐05

Mar‐06

Mar‐07

Mar‐08

Mar‐09

Mar‐10

Mar‐11

Mar‐12

Mar‐13

Mar‐14

Mar‐15

Business model

Meghmani organics

20000 18000 16000 14000 12000 10000 8000 6000 4000 2000 0

Pigment (35% of sales) CPC blue, pigment green, pigment blue
• Market Leadership in blue pigment with ~7% global market share • Global presence with ~80% of pigment revenue from exports • Long‐term client relationships with 90% business from repeat clients • Muted 9% sales CAGR over the last five years
Source: Company, PhillipCapital India Research

Agrochemicals (33% of sales) Leading products Cypermethrin , 2,4‐D
Acid, Permethrin Tech, MPB
• Global client base with ~70% business from exports • Well known brands such as Megastar, Megacyper, Megaban, Synergy, Courage • Muted 1% sales CAGR over the last five years

Basic Chemicals (30% of sales) Caustic soda, chlorine and caustic
potash
• Expanded caustic‐chlorine capacity to 476 TPD from 340 TPD
• Uses fourth generation membrane cell Technology from AKCC (Japan) • Fourth largest caustic chlorine flakes capacity in India • 34% sales CAGR over last the last five

Page | 2 | PHILLIPCAPITAL INDIA RESEARCH

MEGHMANI ORGANICS LTD INITIATING COVERAGE

Investment rationale

Basic chems: High margin + expansion = value growth

One of the leading manufacturers of caustic soda in India MEGH entered the caustic soda manufacturing through a 57% JV (Meghmani Finechem Ltd) with International Finance Corporation (IFC) in 2009 with an investment of Rs 5.5bn for a capacity of 119,000 MTPA at Dahej. It expanded capacity by 40% in FY15 to 167,000 MTPA, making it the fourth largest caustic‐chlorine‐flakes capacity in India (after Grasim Industries, Gujarat Alkali, and DCM Shriram). As a result, its current product portfolio includes caustic soda, chlorine, and hydrogen. Basic chemicals has been the fastest growing segment for MEGH, delivering 34% sales CAGR over the last five years (primarily led by capacity expansion) to touch Rs 3.31bn in FY15; 10% yoy growth YTD FY16.

Basic chemicals has been the fastest growing segment for MEGH

Caustic soda sees expansion led growth

Caustic Soda TPA 175000

Caustic Soda Utilisation Level (%) (rhs) 100

150000

95

125000 90
85 100000
80 75000
75
50000 70

25000

65

0

60

FY10 FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E

Source: Company, PhillipCapital India Research Estimates

MEGH has one of top four caustic capacities in India
800000
600000
400000
200000
0 Grasim Gujarat Alkali DCM Shriram Meghmani Ltd.

Conducive industry scenario supplements growth Caustic soda has a wide range of industrial applications – in pharmaceuticals, soaps and detergents, PVC, chemicals, and textile manufacturing. Steady growth in end‐ user industries ensures demand growth for caustic soda.

With 4mn tonnes of caustic soda capacity, India accounts for just ~5% of the world market. With domestic capacity remaining static, domestic demand has been fed by imports (that saw 15% CAGR over the last five years). Imports of caustic soda account for 12% of domestic demand.

The price of caustic soda has stayed comfortably stable over the last few years – international and domestic market prices move in tandem. Caustic soda price is not linked to crude prices.

Page | 3 | PHILLIPCAPITAL INDIA RESEARCH

India contributes 4% of world capacity
Global Caustic soda production (mn TPA) India (mn TPA), 4

Others (mn TPA), 49

China (mn TPA), 28

MEGHMANI ORGANICS LTD INITIATING COVERAGE

Indian caustic soda capacity is optimally utilised already

Capacity (000'MT) Consumption (000'MT)

Production (000'MT) Capacity Utilization (%) (rhs)

3500

90%

88%

3000

88%

2500 85% 2000 1500 80% 1000

84%

86%

83% 84%

81% 81%

82%

80%

78%

500

76%

0

74%

FY09 FY10 FY11 FY12 FY13 FY14 FY15

Import dependancy of caustic soda is increaseing

Domestic/global prices of causitc soda are comfortably stable

Exports 350

Imports

Import sepandancy (%) (RHS) 50
14%

Domestic Caustic Soda Price (Rs/kg) Global Caustic Soda Price Index (rhs)

2500

300

12% 40

2000

250

10%

30

200

8%

1500

150

6% 20

1000

100

4%

10

500

50

2%

0

0%

FY09 FY10 FY11 FY12 FY13 FY14 FY15

0

0

Aug‐11

Aug‐12

Aug‐13

Aug‐14

Aug‐15

Casustic soda application in different end‐user industries

Others 21%

Caustic soda consumption in India

Pulp & Papers 16%

Water Treatment 3%

Textile 9%

Soaps & Detergents
7%

Inorganics (Sodium silicate,
STPP) 10%

Source: chemicals.nic.in, PhillipCapital India Research

Alumina 17%
Organics (Incl. Pharma,
Polycarbonate) 17%

Page | 4 | PHILLIPCAPITAL INDIA RESEARCH

MEGHMANI ORGANICS LTD INITIATING COVERAGE
High margin due to backward integration and better technology It is one of the most efficient manufacturers of caustic soda with an integrated captive power plant that uses the latest fourth‐generation ‘membrane cell technology’ from Asahi Kasei Chemical Corporation, Japan (one of the most established technology providers for chlor‐alkali products). Strategic location is a big advantage MEGH’ Dahej facility is strategically located within an industrial area that is close to the Dahej port; this eases imports of coal, and more importantly, provides proximity to customers (i.e., chemicals manufacturers). Capability of supplying caustic and chlorine by pipeline to selected buyers helped MEGH to reduce logistics costs substantially. MEGH’s Dahej plant strategically located within an industrial area
Source: PhillipCapital India Research
Capacity expansion to drive value growth Considering the flourishing chemical industry in Gujarat led by the most successful petroleum, chemical and petrochemicals investment region (PCPIR) and rising demand for caustic soda there, MEGH is in the middle of a brownfield caustic potash expansion in Dahej. It has set up a plant with 21,000 tonnes capacity with a minimal investment of Rs 650mn (internal accrual) in FY16. Its captive power plant will meet the electricity requirement. We believe the expansion in this highest‐margin segment would lead to optimal utilisation of existing resources and drive value growth. We estimate basic chemical sales CAGR of 18% over FY15‐18 that would raise its revenue contribution to 30% and would drive value growth for MEGH.
Page | 5 | PHILLIPCAPITAL INDIA RESEARCH

MEGHMANI ORGANICS LTD INITIATING COVERAGE

Enhanced capacity will reach optimum level on strong demand of caustic soda

Caustic Soda TPA

Caustic Soda Utilisation Level (%) (rhs)

175000

100

150000

95

125000 90

85 100000
80 75000
75

50000

70

25000

65

0

60

FY10 FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E

Sees capex led sales growth

6000

Sales (Rs mn)

YoY growth (%) (rhs) 120

5000

100

80 4000
60 3000
40
2000 20

1000

0

0

‐20

FY10 FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E

Source: Company, PhillipCapital India Research Estimates

Causitc soda enjoys operating profit margin >30%

1800 1600 1400 1200 1000
800 600 400 200
0

EBITDA (Rs mn)

EBITDA margin (%) (rhs) 50

45

40

35

30

25

20

15

10

5

0 FY10 FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E

Page | 6 | PHILLIPCAPITAL INDIA RESEARCH

MEGHMANI ORGANICS LTD INITIATING COVERAGE

Pigment: An established global business

Leading global player in phthalocyanine pigments industry MEGH is one of the largest phthalocyanine‐based pigment manufacturers in India and among the top‐three players in the world, with a global market share of ~7% in terms of volume. The global phthlocyanine pigments market is estimated at ~US$ 1‐1.25bn –20% of the total organic pigment market – and it is expected to maintain steady growth.
MEGH’s pigment business is vertically integrated and manufactures and markets various grades of pigment green, pigment blue, and CPC blue – an upstream product sold to other pigment manufacturers.

Largest phthalocyanine‐based pigment manufacturers in India and among the top‐three players in the world

US leads the export market for its pigments business

Pigment Net sales by country mix (%) as FY15

Others 8%

Europe 11%

US 32%

Beta and CPC are MEGH’s leading products
Pigment Net sales by product mix (%) as FY15 Others 2%

Alpha 11%

Beta 39%

South America 14%

Pigment Green 7 20%

Asia 17%

India 18%

CPC 28%

Source: Company, PhillipCapital India Research
These pigment products are used in multiple applications including paints, plastics, and printing inks. Thanks to the steady growth in these sectors (which together account for 90% of end use), pigments is a steady play for MEGH – it has delivered 9% sales CAGR over the last five years to touch Rs 3.68bn in FY15; 6% yoy growth YTD FY16.
The pigment division derives ~80% of its net sales from exports with leading customers including Sun‐DIC, Flint Group, Akzo Nobel, DuPont, and PPG Industries. MEGH’s expertise and high‐degree customisation has helped it to develop long‐term client relationships resulting in 90% business from repeat clients. It has a global network with ~70 distributors. Its direct presence (with subsidiaries in the US, Europe, Indonesia, Dubai and representative office in China) helps it to have a front‐ end presence and ability to work closely with end‐user customers. MEGH also has warehouses in Belgium, Turkey, Russia, USA, and Uruguay.

Stable price and operating leverage to lead profitable growth Pigments are crude derivatives and pigment prices are relatively stable despite sharp correction in crude prices. Additionally, steady improvement in volumes as well as improving asset utilisation supplements value growth.
MEGH has three dedicated manufacturing facilities with a consolidated capacity of 311,000 tonnes in Gujarat, which operated at a utilisation of 33% in FY15 and ~37% in FY16. We see 14% sales CAGR over FY16‐18, which should improve utilisation to 54%, leading to profitable growth.

Page | 7 | PHILLIPCAPITAL INDIA RESEARCH

MEGHMANI ORGANICS LTD INITIATING COVERAGE

MEGH’s leading product phthalocyanine maintained its prices despite crude fall

Phthalocyanine Blue price (Rs/Kg)

Crude oil price

120

100

80

60

40

20

0

Source: PhillipCapital India Research

Pigment capacity utiliation to see gradual ramp‐up

Pigment Capacity (tons) 35000

Pigment Utilisation Level (%) (rhs) 70

30000

60

25000

50

20000

40

15000

30

10000

20

5000

10

0

0

FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E

Pigment sales growth to remain stable over FY15‐18

6000

Pigment Sales (Rs mn) YoY Sales growth (%) (rhs)

Pigment EBITDA (Rs mn) 40

5000

30

4000

20

3000

10

2000

0

1000

‐10

0

‐20

FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E

Source: Company, PhillipCapital India Research Estimates

Page | 8 | PHILLIPCAPITAL INDIA RESEARCH

MEGHMANI ORGANICS LTD INITIATING COVERAGE

Agrochemicals: Integrated; seeing rising branded play
MEGH is one of the leading vertically‐integrated agrochemicals players in India, with product offerings covering the entire value chain – intermediate, technical grade, and formulation (bulk and branded). Its integration allows it to effectively manage raw materials costs and assures a constant and consistent quality supply.
Largely dominated by intermediates and technical‐grade products MEGH’s agrochemical business is largely dominated by intermediates and technical‐ grade products – 65% of its agrochemical sales. It produces commonly used pesticides for crop‐ and non‐crop applications such as public health and in insect control in wood preservation and food‐grain storage. In branded formulations, it has a strong pan‐India presence with about 2,370 stockists, agents, distributors, and dealers (major expansion from 1,000 in 17 states in India in FY15).

Intermediates and technical‐grade products constitute 65% of its agrochemical sales. Major products include 2,4‐D, cypermethrin, permethrin, metaphenoxy benzaldehyde, chlorpyrifos, and profenophos. Key brands include Megastar, Megacyper, Megaban, Synergy, Courag

India still the largest market for MEGH
Agrochemicals Net sales by country mix (%) as FY15 Others 51%

Branded portfolio will drive growth ahead

Agrochemicals Net sales by product mix (%) as FY15

Others 37%

Branded 27%

India 30%

South America 6%
Africa 6%

Europe 7%

Bulk 8%

2,4‐D 8%

Source: Company, PhillipCapital India Research
It has a strong global clientele base with exports contributing to about 70% of its agro‐chemical sales. It exports technicals as well as branded products to Africa, Brazil, LatAm, US, and European countries.

Rising focus on branded business to drive growth MEGH’s agrochemical sales saw moderation in FY16, both domestic and exports. While the on‐going global slowdown impacted international sales, unfavourable climate in India slowed domestic sales.
We expect healthy growth in its branded business based on (1) likely recovery in the global agro market, (2) anticipated favourable monsoon in India, and (3) its rapid domestic penetration in difficult times (plans to gain pan‐India presence by expanding its branded distribution chain – at 2,370 stockiest and distributors YTDFY16 from 1,000 in FY15). Therefore, we build in 14% revenue CAGR over FY16‐18 to Rs 5.3bn. With lower crude prices, MEGH’s vertically integrated operation and improving asset utilisation will lead to profitable growth in agrochemicals.

Cypermethri n Tech‐Z 20%

Page | 9 | PHILLIPCAPITAL INDIA RESEARCH

MEGHMANI ORGANICS LTD INITIATING COVERAGE

Focus on branded portfolio will drive value growth

1800

Branded sales(Rs mn)

YoY Change (%) (RHS)

1500

1200

900

600

300

0 FY12 FY13 FY14 FY15 FY16E FY17E FY18E
Source: Company, PhillipCapital India Research Estimates

EBITDA margin to remain at 18‐19%

30 3500

EBITDA (Rs mn)

EBITDA margin (%) 25

20 3000 20

2500 10

2000

15

0

1500

10

‐10 1000

‐20 500

5

‐30

0

0

FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E

No major capex over FY16‐18; 30% EPS CAGR
MEGH has continuously added capacities across all business verticals in the last five years – it has invested >Rs 5bn (to fund its greenfield agrochemical and pigment plant in Dahej and in expanding its caustic plant), which has increased its leverage position to 1.2x of equity in FY15 (was 1.5x in FY14).

With no visible capex over next two years, improving asset utilisation across all its segments, and planned debt repayment (already repaid Rs 1.5bn since FY14 and targets to cut debt by >Rs 2bn), we estimate 30% earning CAGR over FY15‐18 to Rs 1.01bn in FY18.

Visible sweating of assets

1400

Capex (Rs mn)

Assets turnover (x) (rhs)

1200

1000

800

600

400

200

0 FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E
Source: Company, PhillipCapital India Research Estimates

Financial deleveraging to improve earnings performance

1.5 9000

Debt (Rs mn)

Equity (Rs mn)

Debt/Equity (x) 1.8

8000

1.6

7000

1.4

1.0 6000 1.2

5000

1.0

4000

0.8

0.5 3000

0.6

2000

0.4

1000

0.2

0.0 0

0.0

FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E

Page | 10 | PHILLIPCAPITAL INDIA RESEARCH

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INSTITUTIONAL EQUITY RESEARCH Meghmani Organics Ltd