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Not all as rosy as it appears to be!

* Despite expectations of a stronger 2H, performance has remained weak, with aggregate revenue, EBITDA, and PAT declining sequentially in FY24 and continuing the trend in FY25. The coverage universe of 12 companies performed worse than the broader sector, with significant YoY and QoQ declines across key financial metrics.

* Despite volume growth, pricing pressure kept margins subdued, with EBITDAM declining 150bp QoQ and 70bp YoY for 63 companies, and 130bp YoY for our coverage universe. Normalized other income led to a PAT margin contraction, with 43% of the companies analyzed experiencing a QoQ decline, and a 200bp drop for the coverage universe.

* EBITDA and PAT for the coverage universe missed estimates in 3QFY25, leading to downward revisions for seven companies in our universe, while three companies saw upward revisions. Management anticipates a demand recovery going forward, with capacity expansions on track. However, competitive pressures and feedstock costs pose risks, and FY26 earnings estimates remain at risk of further downgrades.

Sequential decline a worry

* For the past two years, companies have been projecting that 2H would be better than 1H, but this has not proven to be the case. For instance, in FY24, aggregate revenue was INR897b in 2H vs. INR899b in 1H, with EBITDA at INR108b in 2H vs. INR127b in 1H for the 63 companies we analyzed. EBITDAM was 12.1% vs. 14.1% in 1HFY24. Aggregate revenue/ EBITDA/ PAT for our coverage universe declined 2%/ 14%/22% in 2H vs. 1HFY24.

* A similar story seems to be unfolding in FY25, with all parameters in a declining trend on a sequential basis in 3QFY25. While the performance may seem encouraging on a YoY basis, it is important to recognize that the corresponding period had its own share of challenges, due to which the base effect could make the numbers appear to be on an uptrend. Aggregate revenue/ EBITDA/ PAT was down 2%/12%/7% QoQ for the 63 companies we analyzed.

* Our coverage universe of 12 companies is facing a more challenging situation than the overall sector, with aggregate revenue/EBITDA/PAT declining 5%/12%/24% QoQ. EBITDA/PAT also declined 1%/12% YoY for our coverage universe. In 3QFY25, revenue/EBITDA/PAT for our coverage universe declined 3%/24%/38%, compared to 3QFY23. Revenue/EBITDA/PAT declined for 50%/75%/83% of the companies in our coverage universe w.r.t. 3QFY23.

Margin pressure persists

* While companies have reported sequential volume growth, pricing pressure continues to persist, keeping margins subdued. Among the 63 companies we analyzed in 3QFY25, 48% reported a QoQ decline in EBITDAM, while 52% of companies reported a YoY decline. The aggregate EBITDAM decline was 70bp YoY and 150bp QoQ. For our coverage universe, the decline was 130bp each for YoY and QoQ.

* Other income was also higher than expected in 1HFY25, which led to earnings being slightly on the higher side. However, this has now returned to normalized levels, resulting in a contraction in PAT margin in 3QFY25. Among the 63 companies analyzed, 43% saw a QoQ contraction in their PAT margin, while 44% experienced a YoY decline. The aggregate PAT margin contraction was 40bp QoQ. For our coverage universe, PAT margins contracted 200bp QoQ and 170bp YoY.

Managements optimistic; we remain cautious

* For our coverage universe, revenue was in line with our estimates, while EBITDA and Adj. PAT were below our expectations in 3QFY25. We have revised down our estimates for FINEORG, GALSURF, PI, TTCH, NFIL, NOCIL, and VO after the 3QFY25 earnings. AACL, ATLP, and SRF saw an upward revision in estimates following the 3QFY25 earnings season.

* Managements expect demand recovery going forward, driven by the normalization of both international and domestic markets. Key capacity expansions and greenfield projects are on track, supporting long-term growth across the sector. However, competitive pressures, feedstock costs, and regulatory developments could impact margins and pricing. Capex remains a priority, with investments in new products, technology, and operational efficiency driving future performance.

* The 9MFY25 earnings for our coverage universe declined 12% YoY, while the earnings cut for our coverage universe over 9MFY25 has been to the tune of 18%. At the start of 3Q, our FY26E/27E earnings growth estimates were 34%/22%. However, following the 3Q earnings, the estimates stand at 36%/24%, primarily due to FY25E downgrades after the latest earnings. We believe that our FY26 earnings estimate

Valuation and view

* SRF: The Chemicals business is recovering, with Specialty Chemicals experiencing a demand revival and Fluorochemicals benefiting from export growth, driving an estimated CAGR of ~29% over FY25-27E. Margins are expected to improve due to operating leverage and a higher VAP mix, while the Packaging and Technical Textiles businesses are expected to post ~14% and ~8% CAGR, respectively

* ATLP: End-user demand improved in 9MFY25, and the company is expanding capacities, debottlenecking operations, and increasing its global presence. Key projects, such as the 50ktpa liquid epoxy resins plant and the caustic soda facility, are ramping up, with risks tied to execution delays and margin pressures. We value the stock at 35x Dec’26E EPS to arrive at our TP of INR8,455

* VO: VOPL’s new products (MEHQ, Guaiacol, Anisole, 4- MAP, Iso Amylene) are likely to start in 4QFY25, driving growth. Meanwhile, VO, now India’s only double-integrated AO maker following the VAPL merger, is expected to grow on the back of robust ATBS demand. We value VO at 45x Dec’26E EPS to arrive at our TP of INR2,600. We reiterate our BUY rating on the stock.

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