Sudarshan Chemical Industries’ (SCIL) Q1FY23 EBITDA dipped 33% YoY, which was disappointing, due to lower revenue and higher opex. Destocking in plastic segment (India) hurt revenue growth during the quarter and the company anticipates potential slowdown in export markets to pose further headwinds to revenue (slowdown signs are already visible in Europe and US).

Company also faced higher costs at its newly commissioned plants due to teething issues. SCIL expects faster ramp-up in new products and gradual rise in utilisation of the recently expanded capacity for existing products. Utilities are under-used due to high coal prices. We have cut our EPS estimates to 2-13% over FY23E-FY24E, and reduced the target price to Rs510 (from Rs550) as we cut P/E multiple to 17x FY24E EPS (from 18x).

Pigments revenue grew 16.1% YoY (down 5.8% QoQ). Revenue from pigments stood at Rs5.3bn with muted performance across the sub-segments. Plastics segment performance was tepid due to Indian buyers destocking on falling polymer prices, which impacted the company’s pigment sales. Plastic is company’s largest segment in India followed by coating and ink. Domestic revenue dipped 6.6% QoQ to Rs2.7bn while exports were down 5.1% QoQ to Rs2.6bn. Company said exports may be hit due to visible demand weakness, which was initially seen in Europe but is now visible in the US too. Specialty pigments revenue dipped by a sharp 8.1% QoQ to Rs3.5bn while non-specialty was down only 1.1% to Rs1.7bn.

Gross profit per kg recovered; EBITDA hit by higher operating costs. SCIL’s gross profit margin shrank 50bps QoQ to 40.4%, which was optical and due to higher selling prices. SCIL said it has reached normalised gross profit per kg. The risk to margins however could be in steep and sharp fall in raw material prices, which can force the company to liquidate the materials at lower prices. Employee costs increased 7.3% YoY to Rs473mn and ‘other expenses’ jumped 18.7% YoY to Rs1.4bn on higher freight and power costs. Though the company has reached normalised gross profit, it was unable to recover indirect cost increase due to weak demand, which hurt EBITDA (down 33% YoY to Rs414mn). EBITDA margin was at only 7.5%. Net profit slumped 73% YoY to Rs71mn. Performance was also constrained due to teething issues in commercialised expansions, which should stabilise in H2FY23.

Other highlights. 1) SCIL is yet to capitalise Rs2bn of capex, which should complete in H1FY23 with incremental capex outflow of Rs200mn, and this should end the company’s total planned capex of Rs7.5bn. 2) SCIL expects faster ramp-up in sales of new products, but existing products may take more time to recover due to muted demand outlook. Utility payback was hit by higher coal prices. 3) Net debt peaked out in FY22, and COD is 4-4.5% on higher mix of forex loans.