Over the last few years, a global destocking crisis has been weighing hard on the chemical sector, especially specialty chemicals, a segment that had most analysts and experts bearish.
But that seems to be changing even as recovery is not expected in the near term and hints of recovery in the second half of CY2025 are making some analysts optimistic.
In a recent report, global financial major UBS presented a more optimistic view on the sector and stated that investors may be overlooking the long-term potential of Indian specialty chemical companies and their robust niche positions and growth opportunities even amidst a “major” global destocking cycle.
“Subtle signs of a volume recovery have emerged,” stated the UBS report while initiating coverage on PI Industries and Navin Fluorine with buy ratings.
UBS expects a modest recovery in the chemicals cycle in terms of volume and price, based on significant capacity additions in FY2025E that would keep prices pressured along with demand recovery in China.
Incidentally, the report notes that the global destocking crisis, specially in the agrichem space, could be ending.
“We see sequential improvements across regions in both agrichem and chemical end-markets in Q12024. We note these improvements are still contracting in terms of YoY growth. Against this backdrop, we expect a steady recovery over the next two years with potential positive trends from H2FY25,” the report says.
Advantage India?
Indian chemical companies, according to the report, have grown their capex meaningfully over 2010–20 with a 9.3 percent CAGR.
UBS sees the Indian chemical sector at an advantage due to its smaller export size and that Indian companies have scaled up their capex to take advantage of the sector opportunity, supported by multiple drivers such as supply chain diversification and lower research and manufacturing costs.
“This is reflected in the large-scale contracts Indian companies have been getting from global majors,” added the report though a significant price increase is not expected due to substantial capacity additions, modest demand recovery, stable crude prices, normalised inventory levels, and lower crop prices limiting agricultural input spending.
It, however, states that the global chemicals cycle shows signs of recovery and indicators such as improvements in the Purchasing Managers' Index (PMI) and new orders point to a modest volume recovery.
UBS projects a 5–10 percent increase in volumes, with prices remaining subdued due to the surplus capacity though it believes that the Indian chemical companies are favourably positioned within the global chemical space despite representing a small portion of global exports.
It further added that while the sector has underperformed in recent years, trading at a higher-than-average forward P/E ratio; specific growth opportunities exist, driven by structural and cyclical improvements, favourable long-term trends in supply chain diversification, and cost advantages in India.
What do other experts say?
A large section of market experts concur that while there is short-term volatility and recovery may still take a few more quarters than expected, some segments may offer long-term investment opportunities.
Some of this confidence in long-term recovery comes from management guidance of major players like SRF, Aarti Industries, Epigral (Meghmani Finechem) for FY2025.
For example, Elara Capital has an accumulate call on SRF. “The management has guided for a 20 percent growth in the chemicals segment in FY25, although major recovery may only flow in by H2FY25,” the report noted.
Naveen KR, small case manager and senior director at Windmill Capital, highlighted that companies like PI Industries have shown resilience and are expected to perform well in the long term despite the current pricing slump.
“Companies like PI Industries operate in very niche spaces. Regardless of price performance, the company's fundamental performance has been exceptionally good quarter-on-quarter," he said.
Nuvama, in its latest report, stated that chemical players saw quarter-on-quarter growth recovery in Q4 FY24, though year-on-year decline persists.
“Results met our as well as consensus estimates, with notable QoQ EBITDA growth from SRF (+17 percent), Gujarat Fluorochemicals (+14 percent), Fine Organics (+21 percent), and Aarti Industries (+9 percent),” the report noted.
“Improved volumes were partly due to deferred purchases at the end of CY2023. However, recent logistical challenges from the Red Sea crisis impacted some players' volumes, such as Fine Organics, this quarter,” it added.
Meanwhile, Sneha Poddar, AVP - Retail Research, Broking, and Distribution at MOFSL, said that current valuations are fairly high, with no immediate triggers for a significant price run-up.
“From a risk-reward perspective the sector is not favourable,” she adds. She further pointed out that capacity expansion plans have not been cancelled but have been delayed.
If you are looking to invest in the segment, Kumar suggests that one can certainly take a long-term view as over the next one year, there will be many opportunities for investors to “jump in and pick up” some of these stocks.
“I think from a long-term perspective, the sector itself, given what has been happening to India in terms of consumption and the China plus one strategy, are going to present ample opportunities for the sector to grow. This is certainly not the time to exit if you have not exited already,” says Kumar.
In a similar context, UBS and many industry analysts are of the view that while the near-term outlook for the Indian chemicals sector remains challenging; strategic investments and global market positioning will drive long-term growth and recovery.
Meanwhile, Motilal Oswal Financial Services currently has coverage on Viniti Organics and Galaxy Surfactant with a buy rating.
According to analysts at UBS, PI Industries stands out with strong growth prospects, a solid management track record, a less volatile business model, and potential expansion in its pharmaceutical vertical while Navin Fluorine is poised for growth, leveraging opportunities in agrochemicals, contract development and manufacturing (CDMO), and advanced refrigerants.
On the other hand, UBS rated Aarti Industries and Gujarat Fluorochemicals as sells due to Aarti’s cyclical dependency and high debt levels and GFL’s risks from Chinese overcapacity and uncertainties in its nascent EV business.
Disclaimer: The views and investment tips expressed by investment experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.
Discover the latest Business News, Sensex, and Nifty updates. Obtain Personal Finance insights, tax queries, and expert opinions on Moneycontrol or download the Moneycontrol App to stay updated!