Aarti Ind CD Eqity

CD Equisearch Pvt Ltd June 9,2015

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Aarti Industries Ltd (AIL)

No. of shares (crore) 8.9

Mkt cap (Rs crs) 2814

Current price (09/06/2015) 318

Price target (Rs)

396

52 week H/L (Rs.) 381/172

Book Value (Rs.) (fv:5) 115

P/BV (16e/17e)

2.4/2.0

P/E (16e/17e) 12.6/9.6

EPS growth (FY15/16e/17e) 30.2/10.5/30.8

ROE (FY15/FY16e/FY17e) 21.5/20.4/22.6

Beta 1.1

Daily volume (avg. monthly) 76396

BSE Code 524208

NSE Code AARTIIND

Bloomberg ARTO IN

Reuters ARTI.BO

Shareholding pattern % Promoters 59.2

MFs / Banks / FIs 12.3

Foreign 1.1

Non-Promoter Corp. 1.4

Public & others 25.9

Total 100.0

As on Mar 31, 2015

Recommendation

BUY

Analyst

KISHAN GUPTA, CFA, FRM

Phone: + 91 (33) 4488 0043

E- mail: [email protected]

Consolidated figures (Rs crs)

FY13 FY14 FY15 FY16e FY17e

Income from operations 2096.25 2632.49 2907.96 2916.22 3602.48

Other Income 3.76 10.97 9.01 5.44 5.84

EBITDA (other income included) 364.96 412.45 474.70 507.23 610.01

Net Profit after MI & EO item 134.05 155.51 202.40 223.68 292.60

EPS (Rs) 16.94 17.55 22.84 25.25 33.02

EPS growth (%) 32.1 3.6 30.2 10.5 30.8

Company Brief AIL is one of India's leading manufacturers of chemicals and

pharmaceutical intermediates: dyestuff; pigment; agro chemicals; speciality

chemicals; active pharmaceutical ingredient (API); intermediates of API.

Quarterly Highlights

� Thanks to relentless decline in crude oil prices, Aarti’s standalone sales

tumbled 9% last quarter, the first downtick in at least eight quarters.

Sale of speciality chemicals slid 12% to Rs 554 crs, while that of

pharmaceuticals’ advanced by 26.8% to Rs 82 crs; hpc’s also fell by

16.2%. EBIT margins of speciality chemicals though rose to 19% ( up

420 bps), the best quarterly showing in at least three years, helped by

its business model of pricing contracts on absolute EBITDA; margins

got a bump up as prices of finished products declined. Other

businesses showed much less gyration in margins - pharmaceutical’s at

10.2% (+10bps); that of home & personal care chemicals(hpc) at 2.1% (-

90 bps).

� Windfall gains in margins buoyed operating profit by 12.3% and post

tax profit by 5.2% last quarter. For the full year, standalone sales

jumped 9% precipitated by solid growth in both pharmaceuticals

(+21.8%) and hpc (+24%), whereas the speciality chemicals reported a

mere 6.5% growth. Higher EBIT margins in speciality chemicals (16.7%

vs 15%) - the flagship business - helped save the blushes for it still

accounts for over 90% of total allocable EBIT. EBIT margins in

pharmaceuticals have started to stabilize at 12%, thus providing

stability to earnings. Net profit grew by eye-popping 29.8% not least

due to combined effect of higher operating margins and lower

depreciation and taxes.

� Despite meltdown in crude oil prices, Aarti is going full hog to

commence new projects. For instance, the second phase of nitro chloro

benzne (ncb) expansion at Vapi (from 66000 tpa to 75000 tpa) would

get over by Q3FY16, while the second phase of phenylene di amine

(pda) would finish by H2FY16.

� The stock currently trades at 12.6x FY16e EPS of Rs 25.25 and FY17e

EPS of Rs 33.02. We reiterate our buy rating on the stock with revised

target of Rs 396 (previous target of Rs 355) based on 12x FY17e

earnings over a period of 9-12 months.

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CD Equisearch Pvt Ltd


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Outlook & Recommendation

Speciality chemicals outlook

If the forecast of The American Chemistry Council is anything to go by, then the speciality chemicals market appears to be one

of the most promising globally. It predicts this market to grow by 3.6% annually over the next five years (see chart). In fact, the

growth would peak to as high as 4.4% in 2016 before settling at 2.6% in year 2019. It reckons that the production of speciality

chemicals, particularly in US, will be driven by strong demand from end-use markets, most notably light vehicles and housing.

According to FICCI, the Indian speciality chemical industry is expected to reach $42 bn by 2018 from $23 bn in 2013 (average

growth of 13%), driven by fast growth in end-user industries such as paints & coatings, speciality polymers and home care

surfactants. Export opportunities abound not least because of Indian chemical industry's global regulation compliance and

manufacturing competitiveness - global chemical majors' strategy to reduce dependence on China has also helped. Emergence

of new technologies in electronics, food, textiles and tools has the potential to boost demand for speciality chemicals. Further,

the Indian industry would get fillip from a host of government induced initiatives: port based chemical parks in SEZ; duty

structure rationalization; relaxation in FDI.

Speciality chemicals sales shriveled

For Aarti, the decline in crude oil prices has played havoc as it has trimmed realizations for its benzene based finished

products - benzene prices for instance has tumbled from Rs 85/kg in Q2FY15 to Rs 50/kg in the fourth quarter. Volumes also

took a knock - just 5-7% growth in Q3FY15- as its customers cut down on their inventories, fearing losses. Revenues as a result

slid 5.5% in the second half of last fiscal.

Although crude oil prices appear to have scraped the bottom, high base of last year - particularly of the first half - would keep

Aarti's speciality chemicals sales in check; benzene prices are still down more than 35% (y-o-y). Yet strong export demand

especially in end user industries such as engineering polymers and agrochemicals would keep producers of speciality

chemicals busy; Aarti's FY15 exports bettered domestic market growth (10.9% vs 5.3%).

For all its plans to add new products - hydrogenated products; toulene derivatives; ethylene compounds - and boost capacities

of nitro chloro benzene (ncb), nitro toulene and others, sales growth seems elusive at least for next one year. We estimate the

base effect to start kicking in by the fourth quarter of current fiscal which together with volume growth of 12-13% would

propel revenue growth to 26% in FY17. Margins expansion though would somewhat soothe nerves - EBIT margin estimated to

jump 100 bps in FY16.

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Pharma business – racing ahead

Backwardly integrated facilities for most APIs and developed markets'

regulatory approvals for steroids and anti-cancer products (sort of

narrow economic moat) manifest themselves in its Aarti's double digit

revenue growth in pharmaceuticals business. Volumes have zoomed

not least due to debottlenecking and expansion at its existing plants.

Growth over the next two years would be led by exports, which grew

by a third last fiscal. It is working on developing a dozen new APIs

and exploring API intermediates opportunities with innovators to

boost exports.

Capex

Despite meltdown in crude oil prices, Aarti is going full hog to

commence new projects. For instance, the second phase of ncb

expansion at Vapi (from 66000 tpa to 75000 tpa) would get over by

Q3FY16, while the second phase of phenylene di amine (pda) would

finish by H2FY16. The current fisacl could also see commencement of

nitration unit (nitro toulene & downstreams) and calcium chloride

granulation at Jhagadia. It also commissioned a new unit for caffeine

dedicated to meet the demand for cola / energy drinks manufacturers

last fiscal.

Restructuring proposed

To simplify the promoters' shareholding structure, Aarti proposes to merge four companies - two associates (Anushakti

Holdings Ltd and Anushakti Chemical And Drugs Ltd) and two promoter companies (Gorgi & Sons Investments Pvt. Ltd

and Alchemie Leasing And Financing Pvt. Ltd ) with itself; the merger scheme has been cleared by stock exchanges, RBI

and CCI and is now awaiting High Court approval. Upon the scheme becoming effective, Aarti Industries paid up capital

would reduce by 5.95% resulting in 83.32 m fully paid shares; we have not yet considered the merger effect in our

financials.

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Cross Sectional Analysis

Company Equity* CMP Mcap* Sales* Profit* OPM NPM

Int.

coverage ROE

Mcap

/ sales P/BV P/E

Aarti Industries 44 318 2814 2908 202 16.0 7.0 2.8 21.5 1.0 2.8 13.9

Atul Ltd 30 1149 3408 2656 226 15.1 8.5 13.7 24.1 1.3 3.3 15.1

BASF India 43 1079 4673 4706 -96 2.8 -2.0 0.3 - 1.0 4.0 -

Sudarshan Chem 14 90 624 1218 54 10.6 4.5 2.9 20.4 0.5 2.4 11.5

TTM P/E; * Figures in Rs crs;

Companies in the exhibit not exactly comparable as their product portfolios are dissimilar.

Financials & valuation

Despite all odds - related to lower sales realization and inventory mark downs- the company would still manage earnings

growth of 10.5% in the current year. Sparked by combined effect of base effect and double digit volume growth (though in low

teens), earning is estimated to climb by 31%in FY17. Both working capital and asset turnover ratios would improve with

commissioning of ncb, pda, nitration and chlorination units. Yet intense volatility in crude oil markets pose colossal risks for

Aati's speciality chemical business still accounts for over eight -tenths of revenues and nine -tenths to allocable EBIT.

But the current valuation of 12.6x FY16earnings and 9.6xFY17e EPS of Rs 33.02 deserves attention. Factoring in less brutal fall

in sales of speciality chemicals, we have upped our current year earning estimates by 6.6%. Notwithstanding high

susceptibility of earnings to external factors - crude oil prices; regulatory approvals for pharmaceuticals; emerging benefits

from geographical diversification cannot be by any means gainsaid. We, therefore, retain our buy rating on the stock with

target of Rs 396 (implying peg ratio of 0.6 on average earnings growth of 21%; previous target: Rs 355) based on 12xFY17e

earnings over a period of 9-12 months. (For more info, refer to our dated Jan 22, 2015)

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Financials

Standalone Quarterly Results Figures in Rs crs

Q4FY15 Q4FY14 % chg. FY15 FY14 % chg.

Income from operations 677.48 744.14 -9.0 2870.65 2632.78 9.0

Other Income 3.83 4.36 -12.2 5.45 10.42 -47.7

Total Income 681.31 748.50 -9.0 2876.10 2643.20 8.8

Total Expenditure 558.94 638.57 -12.5 2414.17 2237.29 7.9

PBIDT (other income included) 122.37 109.93 11.3 461.93 405.91 13.8

Interest 32.00 31.65 1.1 137.48 117.53 17.0

Depreciation 20.86 23.19 -10.0 78.65 87.44 -10.1

PBT 69.51 55.09 26.2 245.80 200.94 22.3

Tax 16.75 8.25 103.0 58.00 52.25 11.0

PAT 52.76 46.84 12.6 187.80 148.69 26.3

Extraordinary Item 3.48 0.00 - 3.48 6.65 -47.7

Adjusted Net Profit 49.28 46.84 5.2 184.32 142.04 29.8 EPS (F.V. 5) 5.56 5.29 5.2 20.80 16.03 29.8

Segment Results Figures in Rs crs

Q4FY15 Q4FY14 % chg. FY15 FY14 % chg.

Segment Revenue

Speciality Chemicals 553.85 629.70 -12.0 2360.65 2216.96 6.5

Pharmaceuticals 81.75 64.48 26.8 303.20 248.98 21.8

Home & Personal Care Chemicals 41.88 49.96 -16.2 206.80 166.83 24.0

Total 677.48 744.14 -9.0 2870.65 2632.77 9.0

Segment EBIT

Speciality Chemicals 105.14 93.04 13.0 395.16 332.62 18.8

Pharmaceuticals 8.30 6.50 27.7 35.81 29.75 20.4

Home & Personal Care Chemicals 0.89 1.52 -41.4 3.27 4.11 -20.4

Total 114.33 101.06 13.1 434.24 366.48 18.5

Interest 32.00 31.65 1.1 137.48 117.53 17.0

Other Unallocable Exp. (net of income) 12.82 14.32 -10.5 50.96 48.01 6.1

PBT 69.51 55.09 26.2 245.80 200.94 22.3

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Consolidated Income Statement Figures in Rs crs


Income from operations 2096.25 2632.49 2907.96 2916.22 3602.48

Growth (%) 25.3 25.6 10.5 0.3 23.5

Other Income 3.76 10.97 9.01 5.44 5.84

Total Income 2100.01 2643.46 2916.97 2921.66 3608.32

Total Expenditure 1735.05 2231.01 2442.27 2414.42 2998.31

EBITDA (other income included) 364.96 412.45 474.70 507.23 610.01

Interest 95.37 117.84 137.97 139.53 136.55

EBDT 269.59 294.61 336.73 367.70 473.46

Depreciation 82.84 88.52 81.98 93.94 107.17

Tax 53.75 54.03 61.03 60.23 84.25

Net profit 133.00 152.06 193.72 213.53 282.04

Minority interest 1.00 0.51 1.74 1.25 1.25

Profit/loss of associate 2.41 10.88 13.90 14.60 15.32

Net profit after MI 134.41 162.43 205.88 226.88 296.12

Extraordinary item 0.36 6.92 3.48 3.20 3.52

Adjusted Net Profit 134.05 155.51 202.40 223.68 292.60

EPS (Rs.) 16.94 17.55 22.84 25.25 33.02

Segment Results Figures in Rs crs


Segment Revenue

Speciality Chemicals 1757.79 2216.67 2397.96 2314.56 2906.93

Pharmaceuticals 186.84 248.98 303.20 363.84 422.054

Home & Personal Care Chemicals 151.62 166.84 206.80 237.82 273.493

Net sales 2096.25 2632.49 2907.96 2916.22 3602.48

Segment EBIT

Speciality Chemicals 318.95 332.62 408.09 416.62 508.71

Pharmaceuticals 9.45 29.75 35.81 43.66 51.70

Home & Personal Care Chemicals 5.03 4.11 3.27 4.04 5.47

Sub Total 333.43 366.48 447.17 464.32 565.88

Interest 95.37 117.84 137.97 139.53 136.55

Other Unallocable Exp. (net of income) 51.30 42.55 54.45 51.03 63.04

PBT 186.76 206.09 254.75 273.76 366.29

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Balance Sheet Figures in Rs crs

FY13 FY14 FY15e FY16e FY17e

SOURCES OF FUNDS

Share Capital 39.56 44.30 44.30 44.30 44.30

Reserves 716.70 826.46 972.11 1132.87 1362.87

Total Shareholders Funds 756.26 870.76 1016.41 1177.17 1407.17

Minority Interest 4.26 4.26 5.86 7.11 8.36

Long term debt 117.27 255.25 419.06 387.27 402.27

Total Liabilities 877.79 1130.27 1441.33 1571.55 1817.80

APPLICATION OF FUNDS

Gross Block 1236.79 1477.03 1782.67 1922.67 2142.67

Less: Accumulated Depreciation 563.14 650.80 732.77 826.72 933.88

Net Block 673.65 826.23 1049.90 1095.96 1208.79

Capital Work in Progress 68.69 117.44 110.00 110.00 40.00

Investments 95.42 117.24 139.20 153.79 169.12

Current Assets, Loans & Advances

Inventory 462.15 606.12 551.73 579.32 695.18

Sundry Debtors 429.01 443.21 438.98 447.76 483.58

Cash and Bank 12.42 14.85 33.71 49.00 26.85

Other Assets 116.01 160.66 173.24 175.88 216.12

Total CA & LA 1019.59 1224.84 1197.66 1251.96 1421.73

Current liabilities 978.86 1157.41 1053.75 971.69 956.91

Provisions 27.71 29.90 34.05 36.71 36.71

Total Current Liabilities 1006.57 1187.31 1087.80 1008.41 993.62

Net Current Assets 13.02 37.53 109.86 243.55 428.10

Net Deferred Tax (net of liability) -70.89 -84.66 -102.66 -121.81 -142.61

Other Assets (Net of liabilities) 97.89 116.49 135.03 90.06 114.39

Total Assets 877.79 1130.28 1441.33 1571.55 1817.80

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Cash Flow Statement Figures in Rs crs


Net Income (a) 133.00 152.06 193.72 213.53 282.04

Non cash exp. & others (b) 97.61 92.05 95.03 108.23 122.70

Depreciation 82.84 88.52 81.98 93.94 107.17

Profit / loss on sale of assets / inv 0.50 -9.38 -4.09 -4.00 -4.40

Dividend income -0.63 -0.56 -0.56 -0.56 -0.56

Lease income -0.36 -0.30 -0.30 -0.30 -0.30

Deferred tax & others 15.27 13.77 18.00 19.15 20.80

(Increase) / decrease in NWC (c) -90.03 -77.62 -73.00 30.85 -156.04

Inventory -82.82 -143.97 54.39 -27.59 -115.86

Debtors -22.03 -14.20 4.23 -8.78 -35.82

Other assets & liabilities 14.83 80.55 -131.62 67.21 -4.36

Operating cash flow (a+b+c) 140.59 166.50 215.75 352.61 248.71

Capex -231.39 -287.85 -298.43 -139.59 -149.78

Associate & other investments 0.97 -3.83 -3.97 4.00 4.40

Dividend income 0.63 0.56 0.56 0.56 0.56

Lease income 0.36 0.30 0.30 0.30 0.30

Investing cash flow (d) -229.42 -290.83 -301.54 -134.73 -144.51

Net borrowings 127.08 177.27 160.95 -139.14 -60.23

Dividends & others -36.38 -50.52 -56.31 -63.45 -66.12

Financing cash flow (e) 90.70 126.76 104.64 -202.59 -126.34

Net change (a+b+c+d+e) 1.86 2.43 18.86 15.29 -22.15

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Key Financial Ratios


Growth Ratios

Revenue (%) 25.3 25.6 10.5 0.3 23.5

EBIDTA (%) 45.5 10.6 16.9 6.8 20.3

Net Profit (%) 32.1 16.0 30.2 10.5 30.8

EPS (%) 32.1 3.6 30.2 10.5 30.8

Margins

Operating Profit Margin (%) 17.2 15.3 16.0 17.2 16.8

Gross Profit Margin (%) 12.8 10.8 11.5 12.5 13.0

Net Profit Margin (%) 6.3 5.5 6.5 7.2 7.7

Return

ROCE (%) 14.3 13.6 14.8 14.8 17.0

RONW (%) 19.9 19.1 21.5 20.4 22.6

Valuations

Market Cap / Sales 0.3 0.4 1.1 1.0 0.8

EV/EBIDTA 4.1 5.2 9.1 7.9 6.6

P/E 4.8 7.0 15.4 12.6 9.6

P/BV 0.9 1.2 3.1 2.4 2.0

Other Ratios

Interest Coverage 3.0 2.7 2.8 2.9 3.7

Debt-Equity Ratio 1.1 1.2 1.2 0.9 0.7

Current Ratio 1.0 1.0 1.1 1.2 1.4

Turnover Ratios

Fixed Asset Turnover 3.8 3.5 3.1 2.7 3.1

Total Asset Turnover 2.7 2.6 2.3 1.9 2.1

Debtors Turnover 5.0 6.0 6.6 6.6 7.7

Inventory Turnover 4.4 4.2 4.2 4.3 4.7

Creditors Turnover 8.6 7.5 7.9 9.2 9.9

WC Ratios

Debtor Days 72.8 60.5 55.4 55.5 47.2

Inventory Days 82.9 87.4 86.5 85.5 77.6

Creditor Days 42.6 48.8 46.2 39.5 37.0

Cash Conversion Cycle 113.1 99.1 95.7 101.5 87.8

Cash Flows (Rs crs)

Operating Cash Flow 140.6 166.5 215.8 352.6 248.7

FCFF -18.3 -32.1 21.7 318.5 202.2

FCFE 37.3 56.8 79.1 74.7 39.6

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Disclosure& Disclaimer CD Equisearch Private Limited (hereinafter referred to as ‘CD Equi’) is a Member registered with National Stock Exchange of India Limited,

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engaged in market making activity of the company covered by analysts.

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