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Phenol spreads likely to have bottomed out; maintain BUY

Deepak Nitrite’s 1QFY24 earnings print was weaker than anticipated on account of sharp decline in phenolics business profitability primarily on account of supply glut arising from China re-opening. Going forward, we expect improvement in phenolics spreads as the company would benefit from the lower feedstock prices. Further, additional phenol volume (from debottlenecking phenolics capacity by 10%) could partly offset if any sustained weakness in spreads. On the standalone business, outlook looks challenging for the next couple of quarters due to company’s sizeable exposure towards dyes, paper, and textiles segments. However, with the fluorination and photochlorination plants getting commissioned in 2HFY24, standalone business margins are slated to rise. Hence, on a consolidated basis, clear sequential recovery is on the cards for Deepak Nitrite. On the INR 50bn capex, company indicated to spend INR 35bn towards phenol and phenolic derivatives while INR 15bn towards specialty chemicals. Accounting for gradual recovery in phenol spreads and standalone volumes, we cut our FY24/25/26 EBITDA estimates by ~28%/13%/7%. We maintain BUY with a revised Sep’24 TP of INR 2,420/share (from INR 2,660/share earlier) as we believe earnings downgrade cycle for Deepak nitrite likely to have ended while it will continue to maintain its leadership position in upcoming downstream products due to its inherent advantage of in-house basic chemicals’ capacities.

* Phenolics EBIT declined sharply: Deepak Nitrite’s 1QFY24 consolidated gross profit came in 17% below JMFe at INR 5.5bn (down 20%/22% QoQ/YoY) on account of lower-thananticipated gross margins at 31% (vs. JMFe of 35% and consensus estimate of 37%) and revenue miss of 5%/7% over JMFe/Consensus at INR 17.7bn (down 10%/14% QoQ/YoY). This lead to extremely weak EBITDA of INR 2.1bn which was 36%/34% below JMFe/consensus (down 41%/40% QoQ/YoY). Further, PAT came in 32%/28% below JMFe/consensus at INR 1.5bn (down 36% QoQ/YoY). Deepak’s phenolics EBIT was significantly lower-than-anticipated and stood at INR 876mn (vs. INR 1.7bn in 4QFY23) as phenolics EBIT margins corrected to 8.2% (vs. JMFe of 15.8% and 15.1% in 4QFY23) and revenues were also below our estimates at INR 10.6bn (vs. JMFe of INR 11.4bn and INR 11.7bn in 4QFY23).

* Advanced intermediates (AI) business performance weak: Deepak’s advanced intermediates EBIT came in slightly below our expectation at INR 1.1bn (vs. JMFe of INR 1.2bn and INR 1.4bn in 4QFY23) as AI revenues were 2% below JMFe at INR 7.0bn and EBIT margins were also below JMFe at 16.2% (vs. JMFe of 17.3% and 17.1% in 4QFY23).

* Expect 19% EPS CAGR over FY23-26E; maintain BUY: To factor in 1QFY24 results and gradual recovery from here on, we cut our FY24/25/26 EBITDA estimates by ~28%/13%/7% and EPS estimates by ~29%/13%/8%. Hence, our Sep’24 TP has been revised to INR 2,420/share (from INR 2,660 earlier) (based on 25x Sep’25E EPS) as we believe we could be near the end of earnings downgrade cycle for Deepak nitrite. Moreover, Deepak’s phenolics downstream journey would pick up momentum from FY25 onwards with parts of Deepak chem tech projects commencing in 2024-25

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