Recovery in chemicals may be delayed until FY25, more downgrades ahead

Further downgrades on the cards as lukewarm demand may weigh on Q3 showing

The chemicals sector's recovery could be delayed until FY25 if the current trends of weak demand and flat pricing continue. Following a subdued September quarter, the revenue and profit performance of listed chemical companies are anticipated to fall short of initial expectations of an improvement. 
 

Despite some price stability, the demand trajectory remains uncertain. A disappointing Q3 and ongoing demand issues could lead to further downgrades for companies in the sector.
 

Specialty chemical majors, after a 17 per cent year-on-year fall in revenues in the September quarter, are expected to report an 18 per cent drop in the top line in the December quarter. The combination of weaker volumes and margin pressure could result in a 34 per cent decrease in operating profit and a 45 per cent decline in net profit. Swarnendu Bhushan of Prabhudas Lilladher Research suggests that while destocking seems to be broadly over, demand remains elusive, raising the possibility of more severe earnings cuts for chemical companies, at least for another year.
 

Other brokerages also underscore the weakness in demand, but note some relief due to stable product prices. Global chemical demand continues to be weak due to the ongoing economic slowdown in Europe (the largest target market for Indian industrial chemicals), inflationary trends in the EU/US (leading to a decline in consumer demand and industry inventory rationalisation), and overall weakness in China (the world’s largest chemical producer). As a result, production levels in these major economies remained below pre-Covid levels during Q3, according to PhillipCapital Research. Given the limited manufacturing and lack of visible Chinese export aggression, along with selective demand recovery, chemical prices have either stabilised or slightly increased, says Surya Patra of the brokerage.

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On-the-ground demand in the chemicals sector remains muted across multiple segments. While there are limited signs of recovery in discretionary spending areas like pigments and polymers, textiles and dyes remain weak. Non-discretionary spending areas like agri and pharma are still weak, with sentiment expected to improve from H1FY25, according to Emkay Research. The brokerage has an “add” rating on SRF and Anupam Rasayan India, a “reduce” rating on Navin Fluorine International, and a “sell” on Gujarat Fluorochemicals.
 

 Among larger listed players, SRF's operating profit is expected to grow by 3 per cent sequentially due to margin improvement in the chemicals and packaging business. SRF’s chemical sales are likely to be down 2 per cent sequentially due to weak sales of refrigerant gases, thus offsetting a slight recovery in specialty chemical sales. Navin Fluorine is expected to grow 7 per cent quarter-on-quarter, mainly due to deferred CDMO sales from Q2FY24 and a gradual improvement in specialty chemicals and HPP sales. JM Financial Research expects Navin’s operating profit margin to be 22.7 per cent (20.8 per cent in Q2FY24) because of the higher contribution of HPP and CDMO sales.
 

The sector's weak performance and near-term outlook may lead to a correction in stock prices. Kotak Institutional Research expects Tata Chemicals, SRF, Navin Fluorine, and Atul to register the sharpest year-on-year declines, and also quarter-on-quarter declines. Given that the stock prices of most chemical companies have risen in anticipation of results, negative surprises on the earnings front could potentially trigger corrections, according to analysts led by Abhijit Akella of the brokerage.
 

PhillipCapital Research maintains a neutral to negative stance on the sector, as the recent sector rally has outpaced earnings recovery and the real recovery in chemical demand could be a protracted process. The brokerage has downgraded SRF to “neutral” based on the visible earnings miss.