One theme that has managed to outperform the broader market by a significant margin over the past year is agri-inputs. Stocks of many companies that manufacture agri-inputs such as fertilizers and agrochemicals have delivered healthy returns over the last 12 months. Is there still steam left? 

What are the trends driving the sector and stocks in the near-to-medium term? Here’s what investors need to know.

Fertile prospects for fertilizers

India is the second largest consumer of fertilizer in the world, next only to China. However, in India, while demand has seen steady growth over the last two decades, the domestic capacity addition has not kept pace with the demand. This is mainly due to two reasons — one, the stringent Government control on pricing and distribution of fertilizers, and two, dependence on imports for raw materials, particularly for phosphatic fertilizers.

The Government policy on pricing for urea, for instance, necessitates continuous focus on energy improvements to sustain profitability. This is because companies are compensated for the cost of production plus a normative profit, which allows some incentive for energy-efficient urea manufacturing units, as the energy costs make up most of the total production cost.

That said, the first point to note is that, even as the expectation of a favourable long-term policy regime to invest in capacity additions continues, companies have started to pivot their business model to reduce dependence on Government subsidies, to ensure sustainable growth in revenue and profitability.

For instance, Chambal Fertilisers, which initially focused on just own manufacturing of urea and trading of other phosphatic fertilizers, has, over the years, forayed into crop protection chemicals (agro chemicals), nano micro nutrients and other value-added products such as biologic growth stimulants.

Even within the fertilizer basket, the company is diversifying; it is setting up a 0.24-million-tonne-per-annum plant to manufacture TAN (Technical Ammonium Nitrate) and 0.2 million tpa weak nitric acid, at a cost of ₹1,645 crore.

Such initiatives help companies de-risk their subsidy business and also offer a comprehensive solution to farmers. With a fairly largely network of dealers and distributors, expansion into related products enables companies to optimise their distribution franchise. Coromandel International, which has long been in the crop protection space, has added speciality fertilizers and bio-fertilizers as well as bio-products in the crop protection and growth stimulators space.  

Second, the Government’s initiative to use Agri Stack for targeted delivery of fertilizer subsidy will be a big game changer. Currently, there is a lot of skew in urea consumption and there are leakages in distribution due to diversion of urea for non-agricultural purposes, putting pressure on the Government since it bears the subsidy burden.  

The rationalisation of consumption and prevention of diversion may imply reduction in the demand for urea over the long term. There is still a significant import component which will reduce over time, thereby saving precious foreign exchange for the Government. A reduction in the subsidy burden for the Government will mean faster payment of subsidies on their existing sale for companies, and that will go a long way in improving their working capital cycle, further.

Over the last several years, fertiliser companies have benefitted from higher budgetary allocation and digitisation of tracking mechanism, as this has helped in timely receipt of subsidies and cash flows, and working capital, in turn. The receivable days for all fertiliser makers has reduced substantially over the last 5-6 years. For National Fertilizers, receivable days have reduced from 210 days in FY19, to 63 days in FY24. For Chambal Fertilisers, the debtor days has come down drastically, from 175 days in FY19 to four days in FY24.

Third, the Government’s thrust on balanced fertilisation alongside rationalisation is yet another positive, as this will encourage shift towards other products such as micro-nutrients and value-added products such as neem-coated urea. All of these will help fertilizer makers in the long term as their dependence on subsidised fertilizers will reduce over a period as they continue to add innovative and differentiated products.

What to watch

The headwinds for the fertilizer sector stem largely from the availability of raw materials, particularly for phosphatic producers — rock phosphate and phosphoric acid — at reasonable prices, and in adequate quantity. Large phosphatic fertilizer makers have made strategic investment in raw material manufacture to ensure long-term supplies. Coromandel, for instance, holds 14 per cent equity stake in South African integrated phosphate producer, Foskor. However, while tie-ups help with assured supply, pricing of these raw materials is still market-linked and the profitability for these players is thus dependent on the input prices.    

Domestic factors aid agrochemicals

Coming to crop protection chemicals (agro-chemicals), the global agrochemical industry is still grappling with issues such as high inventory in the channel, higher supplies from China and resultant pressure on global prices. But the Indian industry, which was also impacted by the global inventory pile-up last year, is showing resilience now due to three factors.

First, the timely arrival of monsoon rains and good distribution has helped volumes. Barring some exceptional cases such as Kerala, which has seen excessive rains, the monsoon has been on-track thus far. This has helped demand uptick; prices of  products have remained stable in the home market, with some pockets seeing marginal improvement too. Further, the water storage levels are also good and if the rains remain consistent for the rest of the season, the storage should aid in the upcoming Rabi season.

Second, the acreage for key crops such as rice, maize, chilli, has been fairly good in the current season. Government support for crops such as maize by way of higher minimum support prices has also helped the increase in acreage. All these have revved up the demand for the domestic crop protection industry. Further, in the current scenario, the industry expects normal pest infestation and stable demand to continue into August as well.

The domestic market growth is pegged at 9-10 per cent for herbicides in the current year, according to industry sources. The next best growth is expected in fungicides for which the export market for fruits and vegetables has been the big driver. Fungicides consumption in India is expected to grow at 7-8 per cent in the current year. Insecticides, which accounts for nearly half of the total crop protection market, is expected to grow at about 5 per cent.

Three, Indian companies are strategising to move up the value chain by focusing on differentiated products such as biologics, plant stimulators, and have also tied up with innovators for both in-licensing patented products and exploring co-development opportunities. Godrej Agrovet has, for instance, tied up with Japanese innovators to co-develop and in-license molecules. This will help margin improvement in the domestic business.

What to watch

Though the Indian market shows signs of recovery, the global agrochemical industry is still not on the mend. Besides slow demand, the high interest cost environment and falling prices have forced dealers and distributors to cut down on inventory. Global players such as Syngenta have indicated that the inventory de-stocking is still ongoing and will take a few more quarters to normalise.

Further, large expansion in China for starting material, active ingredients and formulations and excessive supply of these products have dampened prices globally. Industry people sounded out by bl.portfolio pointed out that prices of several products are at historic lows and hence the expectation is that large-scale correction from hereon may be limited.

Further, the sharp rise in freight costs due to the Red Sea crisis and non-availability of large containers from China have added to the margin pressure, for exporters catering to the US and Europe market. Sample this: the global freight rate, which measures the cost of a 40-foot long container in US Dollar terms, soared from $2,600 levels in January to almost $5,900 levels by July. However, there has been some moderation in the rates beginning August 2024, say industry sources

So, while the global market will possibly get better from here, slowly, over a period of time, the optimism in the home market is here to stay, unless monsoon plays spoilsport in the near term.

How the stocks fared

Healthy performance by companies in the fertilizer and agrochemicals space and several initiatives to cut costs, improve margins, in addition to expansion plans, have played a role in fuelling the rally in these stocks.

For instance, FACT (Fertilisers and Chemicals Travancore), which increased production of key fertilizer products such as ammonium sulphate and chemicals such as caprolactam is investing over ₹1,000 crore to almost double its production capacity across products, which will result in nearly doubling of revenue by FY25-26. Likewise, Chambal’s expansion initiatives have also helped re-rating of the stock from the earlier single digit price/earnings multiple to early-mid teens now. Coromandel International is investing over ₹1,000 crore to expand sulphuric and phosphoric acid and these will come on stream by FY25-26.

bl.portfolio has a buy rating on Coromandel International, GSFC, GNFC. While GSFC and Coromandel International have had a smart rally since our recommendation, GNFC is yet to catch up. While the sharp recent rally may mean limited upside in the near term, the long-term story is intact. 

For Dhanuka and Godrej Agrovet, strong performance, helped by the domestic market, has aided the sharp rally in the stock prices. Dhanuka Agritech saw its operating profit margin expand by 3 percentage points to 19 per cent in FY24, helped by new launches and healthy growth in existing business, which helped the gross margin improvement.  

Godrej Agrovet also reported a 3-percentage point improvement in its operating profit margin. Godrej Agrovet’s strong domestic business with a robust differentiated pipeline has helped this.

Mixed performance by export-focused players

For companies that are export-focused, the past year was not great. Astec Life Science, which is 65 per cent owned by Godrej Agrovet, and houses the export business, reported loss at the operating level for the first time in the last 10 years. Similarly, UPL, a global agrochemical major, also saw its EBITDA nearly halve in FY24, to ₹4,297 crore and EBITDA margin also halve from 19 per cent in FY23 to 10 per cent in FY24.

However, the impact of this has not been the same across the board. PI Industries, which has substantial export revenue, has managed to weather this well — thanks to its custom synthesis business wherein the company works closely with innovators for patented products across the development life cycle.

The high margins in these products have helped the company overcome the pricing pressure in the generic segment. PI Industries’ operating margin rose 2 per cent in FY24 to 27 per cent, year-on-year. While FY25 is expected to be a tad better for players in the global market, the domestic market looks set to clock higher growth in FY25.

bl.portfolio has a buy rating on agrochemical stocks such as PI Industries, Godrej Agrovet and Insecticides India. While all the stocks have had a good rally over the last few months and hence the near-term upside may be limited, we believe that these stocks still hold potential in the medium term, over a two-three year timeframe.

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