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In our view, the recent slowdown in the chemicals sector does not bring to an end India’s journey of becoming the next chemicals manufacturing hub. Although we agree that there is imminent risk of earnings downgrades, especially for noncontracted businesses, we highlight that these corrections should be treated as buying opportunities. We recommend two themes a) acceleration of Europe+1 for fluorination players (Navin Fluorine, and SRF); b) continuation of basic chemicals’ import substitution (Deepak Nitrite). Navin Fluorine and SRF are our structural top picks as we believe imminent HFC production cuts in the EU and the US will have a cascading benefit for India’s fluorine-based complex specialty chemicals players while lifetime-low phenol spreads and upcoming capacities for bisphenol-a and other basic chemicals make Deepak Nitrite a good BUY candidate. Within our coverage, there are other differentiated plays such as Clean Science, Aether Industries, and Archean Chemicals where earnings recovery could occur in 2HFY24.

* Acceleration of Europe+1 for fluorination players: In our view, the imminent cut in HFC production would mean that European (and also US) players will have to cut their HF production given that HFC production accounts for ~65-70% of global HF consumption. Further, HFC alternative HFO requires 50-60% lower HF. Over the last 5 years, Europe’s HFC production has declined by almost 60%. Hence, to avoid negative operating leverage for their HF plants, European players seem to have shifted the manufacture of HF-based fluorospecialty chemicals to India. This is clearly visible in Navin and SRF’s Europe exports CAGR of 26% and 46%, respectively. With an incremental opportunity size north of USD 11-12bn for fluorospecialty agrochemical technicals (including generic, about to be generic, and patented) and >USD 25bn for recently launched key fluorospecialty APIs, we expect more orders to come the way of India’s fluorination players.

* HF capacity on the ground – strategic advantage for India’s fluorine players: India’s fluorine players have been aggressively investing in putting up HF capacity since it is a strategic advantage in the race for incremental orders/contracts. For instance, within months of acquiring Tanfac, Anupam started receiving orders for HF based from various MNCs (R&D and approvals would have taken much longer). Post the HF expansion, India’s HF capacity would be ~20% of global HF demand and ~35-40% of China’s capacity. This should further increase India’s fluorine players’ competitiveness compared to China. Moreover, there is limited threat from new entrants (domestic) given that the key barrier for any player is to find customers for HF. For example, in our view, Deepak Nitrite’s entry into fluorination (by importing HF) would be restricted to a limited number of products where it would require lower amounts of HF or where it has existing forward integration. In our view, getting longterm orders for complex molecules (like Navin and SRF) will require HF capacity on the ground for uninterrupted supplies.

* Basic chemicals’ import substitution to continue: Indian players like Deepak Nitrite, Deepak Fertilisers, GNFC, etc. have focused on substituting India’s basic chemicals imports. Deepak Nitrite has had success on the phenol imports front, while Deepak Fertilisers is likely to help curb nitric acid imports. We expect this trend to continue with Deepak Nitrite capturing India’s import market for bisphenol-A, MIBK, and MIBC. In our view, it could also look to manufacture cyclohexanone. Basis these capacities, in future, Deepak could forward integrate to manufacture several downstream products of these basic chemicals where it would have a significant cost advantage compared to any other domestic player.

* Differentiated players could see demand recovery in 2HFY24: Within our specialty chemicals coverage, there are differentiated players like Clean Science, Aether industries, Archean chemicals, etc., who are facing demand headwinds at the moment. However, there is a possibility of these players seeing demand revive in 2HFY24. The first signs of demand recovery in these names will act as a positive trigger for them. We also like PI which is the only name where there is earnings upgrade possibility even in such a slowdown scenario. However, the near-term upside in the name is likely to be limited, in our view.

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