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Focus on advance/high value products intensifies

Deepak Nitrite (DN) is an intermediate chemical company, with a diversified business of Basic Chemicals, Fine and Specialty Chemicals, and Performance Products. It manufactures phenol, acetone and isopropyl alcohol (IPA) through its subsidiary, Deepak Phenolics (DPL).

Achieved huge success with DPL: To substitute imports, DN started commercial production of phenol, acetone, and IPA in CY18 through DPL. It has established itself as the most reliable player, with a domestic market share of ~65% in the first year itself. Huge opportunities lie ahead for DPL as phenol plants in the US are facing challenges. China has also started importing phenols. Imports into India are seeing strong growth due to lack of supply and higher freight rates (expect domestic demand CAGR of 10- 12%). We believe debottlenecking capex or additional expansion would lead to huge growth in this segment. Further, with objective of moving into value-added downstream products, with captive raw material consumption, DPL is doubling its IPA manufacturing plant capacity to 60ktpa (likely to commission in 1HFY22), which would result in further import substitution.

Fine and Specialty Chemicals to drive growth for DN: Backed by a diversified portfolio mix, DN continues to leverage export demand for Fine and Specialty Chemicals as large global customers shift to high-quality products and diversify away from China. It recently launched two products in Pharma and Agrochemicals, respectively. The management expects this segment to deliver stellar performance in coming years, realizing the solid gains accruing from further integration initiatives and capacity expansion in established products. In Basic Chemicals, it would continue leveraging its cost leadership position to drive market share gains.

Transition to an advanced products company:

DN aims to transition from a chemical intermediates company to an advanced products one (it is leaning towards Life Sciences, which is the need of the hour). It would continue to focus on launching more products under the Fine and Specialty segment and close the gaps in its production value chain. Around 125 acres of land at Dahej (called Dahej-II) would be developed to focus primarily on advance specialty/intermediates in the Life Sciences segment, especially in Fluorination. In addition to an annual capex plan of INR4b in DN, the board has approved further investments in DPL: a) INR3.5b in specialty intermediates, and b) INR7b in downstream products (for higher production of Solvents). It aims to be the largest player in Solvents and capitalize on import substitution. The increased focus on advance/high value products would aid margin expansion, sustainability and may even command a higher valuation multiple.

Valuation and view:

DN has the most lucrative profile in the entire Specialty Chemicals space. The management said it would facilitate import substitution, with further integration in current processes. The commissioning of IPA expansion and the captive power plant are expected by the end of 1HFY22. The captive power plant would increase DPL’s competitiveness in this segment. A recovery in demand in OBA and DASDA (i.e. Performance Chemicals) is expected over FY22, while demand for Agrochemical and Personal Care products continue to remain robust. Despite a capex plan of INR18b over the next three years, it is expected to turn net cash positive by FY23E, with an FCF generation of INR17.4b over FY22-24E. We maintain our Buy rating, with one of the best RoE profiles in our coverage universe.

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