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Demand outlook remains robust; supply chain frail

* Galaxy Surfactants (GALSURF) reported a mixed set of numbers – with higherthan-estimated revenue (+36% YoY / +5% QoQ), amid improved realization, in line with higher raw material costs. However, higher RM and international freight costs impacted EBITDA – which came in below estimates (+20% YoY / - 8% QoQ), translating to gross margins of INR43.8/kg – with the EBITDA margin at INR18.1/kg.

* In 1QFY22, volumes (Performance Surfactants +7% YoY / -7% QoQ; Specialty Products +36% YoY / -1% QoQ) were lower on the back of a key raw material supply crunch due to supply chain disruption internationally. The management believes the international logistics scenario is likely to remain challenging for the remaining months of FY22 as well.

* That said, demand for performance surfactants remains strong, and the opening up of developing economies would aid higher growth in the Specialty segment as well.

* COVID has resulted in a huge delay (of more than 18 months) in setting up new capacities for specialty products (at Tarapur and Jhagadia), which are now expected to get commissioned by Dec’21. Higher capacity for specialty products, coupled with moderation in the logistics scenario by end-FY22, would result in better margins and volumes growth.

* Although, being conservative, we keep our estimates unchanged, with revenue and EPS CAGR of 12% and 11%, respectively, over FY21–24E. The EBITDA margin would normalize at around INR20/kg. However, the aforementioned capacity additions, along with higher focus on green products and greener processes (Galaxy Hearth was launched recently on the fundamental premise of sustainable chemistry), could result in an upside risk to our estimates.

* The company has posted a ~8% volume CAGR in the last five years. We expect the company to deliver a ~10% CAGR over FY21–24E, in line with industry growth for surfactants. Valuing the company at 33x Sep’23E EPS, we arrive at TP of INR3,620. Maintain Buy.

Gross margin compression results in miss

* Revenue came in higher than estimated at INR8.3b (+36% YoY / +5% QoQ).

* Revenue for Performance Surfactants was up 16% YoY / 4% QoQ at INR5.2b.

* Revenue for Specialty Products was up 94% YoY and 8% QoQ at INR3.1b.

* EBITDA was below our estimate at INR1.1b (+20% YoY / -8% QoQ), primarily weighed by compression in gross margins to 32%. The EBITDA margin stood at 13.1%, led by better operating efficiencies.

* PAT came in at INR768m (+36% YoY / -2% QoQ).

Valuation and view – maintain Buy

* The management guided that higher innovation and the launch of newer products, in line with evolving trends such as safety and wellness, have aided higher-than industry growth in specialty products (which would continue in the future as well). The emergence of private labels (and e-commerce) in India would further support growth.

* The Performance segment still has headroom in terms of growth in developing regions (such as India, Africa, and the Middle East), for which the company already has capacity in place.

* The company has bought additional land at Jhagadia and is in the process of announcing a capex plan for the same. Any significant capex announced over the next 1–2 years could further result in a re-rating of the stock.

* GALSURF has reduced its debt considerably from FY14 levels. We expect it to turn net cash by FY23E despite capex plans of INR3b over FY22–24E.

* The management has shared its growth vision. It would focus on high-margin products, with continued focus on R&D and increased wallet share from existing customers. This is likely to support EBITDAM at current levels, if not increase it. The stock is trading at 30x FY23E EPS of INR104 and 19x FY23E EV/EBITDA. We maintain a Buy rating.

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