Company Name – Privi Specialty Chemicals Limited (Privi) Current Share Price – INR 1,131 (May 26, 2022) Market Cap – INR 4,417 cr |
1. What is interesting about the stock?
Have you ever wondered how is it that your shampoo smells so good despite you not being able to identify what specific fragrance it is? Or how your soap or any other personal care product can smell like rose or lemon or any other distinct fragrance? It is not like the millions of soaps and products sold each year are being made from lemons or roses, right?
The answer to these questions is aroma chemicals.
Quite obviously, FMCG makers are not willing to go all the way to use real lemons or roses to make their products more fragrant. These companies use specialty chemicals that produce the specific fragrance that they require and are also able to achieve a higher level of customization with the help of these chemicals than using naturally occurring fragrances which can be very expensive to cultivate, harvest and extract.
Except for some of the fragrance and perfume makers who can charge a premium for all the hassle of using naturally occurring aromas, everyone else has to rely on aroma chemicals to enhance their products and make them more palatable for the end customer.
Source: Godrej
But how do these FMCG makers get these aroma chemicals?
This is where specialty chemical makers making aroma chemicals like Privi come into the picture.
Privi Speciality Chemicals is one of the leading aroma chemical makers in India. The Company has been operating in this space for over 2 decades now (as Privi Organics earlier) and has over 65 different products under its portfolio. These products are spread across 4 major chemical categories which are:
The company has been a preferred supplier of bulk fragrance chemicals to FMCG makers & fragrance houses like Firmenich, Symrise, Mane, Givaudan, EFF, P&G, and Reckitt Benckiser, BASF, Akzo Nobel, IFF, Drom, & Colgate Palmolive.
Privi supplies aroma chemicals to the 10 largest fragrance companies in the world that control 2/3rds of the global perfume market. Its products are exported to over 30 countries around the world.
The company has 2 manufacturing plants at Mahad in Maharashtra and Jhagadia in Gujarat. Privi has a total capacity of 37,000 MTPA with a blending capacity of 500 kL per day.
Privi holds a strong market position in 2 key aroma chemicals which are:
Dihydromyrcenol: Known as the "God Molecule" of the Flavors and Fragrance industry and is used in 99% of contemporary perfumes as a freshness molecule.
Amber Fleur: Used for its unique "Velvety" nature.
Both aroma chemicals are derived from pinene. The Pinene category is the biggest revenue generator for Privi with a 72% revenue share and 77% volume share in FY21.
To reduce this dependence on pinene, the company has invested in new plants to make other products like camphor, galaxmusk, and prionyl.
Fairfax India Holdings, an investment platform created by Indian-origin Canadian investor Prem Watsa, sold its 48.8% shareholding in Privi to Mahesh Babani and D B Rao for INR 1,220 cr (USD 163 million). Fairfax India also intended to invest in Non-Convertible Debentures of up to INR 55 cr to be issued by entities affiliated with Mahesh. Based on the news reports, the precursor of the exit was an incident in April 2018 when a major fire broke out at Privi’s Mahad factory and both Mahesh Babani and Fairfax agreed that the company should have a single point of ownership and control.
Industry Overview
The global flavor and fragrance market is currently estimated to be at USD 30.4 billion. Within this market, aroma chemicals are expected to account for an 18% share at nearly USD 5.5 billion. This aroma chemicals segment is expected to grow at a CAGR of around 6% from 2020 to 2027.
The major drivers for this market are:
Rising focus on cleanliness and hygiene after COVID-19
Increased demand for the non-food FMCG market
Rising income and consumption patterns
Rise of niche players in the personal care and grooming industry
The only listed direct competitor of Privi Speciality Chemicals in India is Oriental Aromatics Limited.
Key MOATs
Company has strong backward integration. Pinene is sourced from 2 main sources: Gum Turpentine Oil (GTO) & Crude Sulphate Turpentine (CST). GTO is obtained from the sap of pine trees while CST is produced as a waste product of processing pine trees at paper mills. Privi has the largest CST refinery in Asia. This provides Privi with a cost advantage through its backward integration as CST can be sourced much more easily and cheaply than GTO.
Strong position in the Dihydromyrcenol market, where it is one of the world leaders.
Company has strong R&D capability and a long association with both suppliers and customers
2. Key Historical Financials
The major jump in revenues in FY20 is mainly due to the business re-organization. Company revenue has been broadly flat since FY20 with EBITDA margins falling from 17% in FY20 to 14% in FY22. Net profit has also been on a downward trend since FY20.
Privi revenue increased by 7% in Q4FY22 vs Q4FY21. EBITDA margin has come down in Q4FY22 vs Q4FY21 mainly due to a rise in raw material, freight and fuel costs leading to a 50% decline in net profit.
In terms of cash flows, the company saw a big drop in its CFO from INR 172 cr in FY21 to INR 5 cr in FY22. This was primarily on account of an increase of INR 246 cr in inventories during the year. According to the management, inventories piled up in FY22 mainly due to the delay in completion of the 3 new plants and continued freight problems. Company did a capex of ~ INR 300 cr in FY22 which was funded by debt.
ROCE/ROE have been falling since FY20 to the current level of 10/13% in FY22.
3. What is my view on Company valuation?
Privi Speciality Chemicals’ share price has seen a rise of around 110% in the last 5 years. Nifty50 has risen by around 65% in the same period. It is also part of the S&P BSE Smallcap Index, which has risen around 65% in the same period.
This shows that the Company has outperformed the general market and the small-cap sector in India.
The Company trades at a P/E (TTM) of 45x vs 33x for Oriental Aromatics and EV/EBITDA (TTM) of 23x vs 20x for Oriental Aromatics.
Based on the expected future growth of the FMCG industry, particularly the personal and home care segments, Privi’s strong backward integration advantage, and the parallel expansion plans for the Company, I expect Privi to have a steady growth momentum going forward of around 10% revenue CAGR for the next few years.
Fairfax exited the company in April 2021 at a valuation of INR 2,500 cr vs the current market cap of ~ INR 4,400 cr. The profitability of the Company has been down since then. Privi’s market cap around the time of the transaction was ~ INR 3,400 cr.
The current valuation of the Company looks expensive given the expected growth rate, falling profitability, and return ratios in FY22.
4. What are the risks to the investment analysis?
The major risks here are:
The biggest risk for Privi arises from its high dependence on imports. Although the forex risk due to raw material imports for Privi is mitigated by the high export sales, the high dependence on imports for raw material requirements makes it vulnerable to disruption in global shipping and supply chains
The Company has high inventory days which have gotten larger due to supply disruptions recently. This means that a significant amount of the Company’s capital remains always stuck in inventory
Mahad is a flood-prone area in Maharashtra which saw water levels rise to 25 feet in the Maharashtra flood last year. This risk from floods forms a significant threat to Privi’s operations in its Mahad plant
About the Author
I have over 6 years of experience in the Investment sector and have been an active prop trader in European Bond Futures in the past. Currently, I am working as head of Research at Smart Sync Services where we are working on simplifying and expanding financial and investment knowledge to make the investment world as accessible for everyday investors as much as possible.
I graduated from the Master of Finance Program at Cambridge University in 2016 after completing my Bachelor of Engineering program at Jadavpur University, Kolkata in 2011.
I am an insignificant public investor & have an avid interest in following emerging trends both in technology and other fast-evolving sectors. I am also a lifelong learner and relish the chance to learn something new all the time.
Disclosure
I have no stock, option, or similar derivative position in any of the companies mentioned in the last 30 days, and shall not initiate any such positions within the next 5 days. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from SocInvest). I have no business relationship with any company whose stock is mentioned in this article.
I am not a SEBI registered advisor. This article is purely for educational purposes and not to be construed as investment advice. Please consult your financial advisor before acting on it.
I have used publicly available information while writing this article.