Contract mfg, exports add to revenue visibility for Sumitomo Chemical

Revenue growth, higher share of specialty products to improve margins going ahead

The Sumitomo Chemical India stock gained about 14 per cent on Wednesday after brokerages upgraded the stock on the back of new order wins, product launches and focus on higher margin segments which is expected to drive revenue and earnings going ahead. The strong March quarter performance also boosted sentiment with some brokerages revising their earnings estimates for FY22 and FY23 by 10-15 per cent.

The key trigger for the stock is the capex plan which will entail setting up toll manufacturing capacities with investment of upto Rs 220 crore over the next couple of years; this is in addition to its regular capex of Rs 70-75 crore per annum.

The company will manufacture five proprietary technical grade active ingredients for the parent Sumitomo Chemical Corporation and its affiliates. The revenue potential of these products are in the Rs 200-250 crore range on an annual basis (9 per cent of FY21 revenues) with gross margins of 37-38 per cent which is in line with the company average.

Given that the products are in demand globally, there is a possibility that additional capacities as well as new products could be added in the medium to long term. This contract manufacturing adds an additional revenue stream to the company and offers revenue visibility over the medium to long term.  

Rising exports to the Latin American (Latam) market is expected to be another revenue growth driver for the company. Revenues from this market grew 68 per cent in FY21 with the Latam market revenue share doubling to 4 per cent of overall revenue. This was aided by the ramping up of existing products and new product registrations. The acquisition of Australian agrichem major Nufarm’s operations in Latin America by Sumitomo Japan gave the latter the leadership position in the Latam generic market.

Analysts at ICICI Direct Research say that the increased capacity of the fungicide tebuconazole along with supply of other molecules will likely aid LatAm growth. The company is planning to nearly double the capacity of tebuconazole from 750 to 1,350 tonnes per annum which coupled with the order from the parent company was the key reasons for Nirmal Bang Research to revise its earnings estimates upwards.  

While its revenue outperformance in the March quarter (up 20 per cent y-o-y) was driven by strong growth across categories, margins expanded about 400 basis points to 13.4 per cent. Margin expansion, according to Sharekhan, was supported by operating leverage (volume growth across products), improved price for some products (gross margin up by 106 bps q-o-q), and synergies from the merger with Excel Crop Care.  

Margins are expected to improve going ahead on the back of specialty product focus with a share of these products rising 300 basis points in FY21 to 32 per cent. Analysts at Antique Stock Broking expect the company to post strong growth and outperform the Indian agrochemical market given its distribution strength, rising share of exports, innovative product launches and gains from the parent’s R&D portfolio.

Given the growth prospects and balance sheet strength (cash of Rs 532 crore), brokerages believe that the stock should trade at a premium to its peers. After the surge in Sumitomo’s stock price, it is trading at 20-30 per cent premium to peers such as Bayer CropScience and BASF India. Investors can consider the stock on dips.