BASF India: Buy

Recommendation: Buy

Aarati Krishnan

A 51 per cent subsidiary of BASF AG, the largest chemical company in Europe, BASF India is a conglomerate with a strong domestic market position in leather chemicals/auxiliaries, dispersions, crop protection chemicals and specialty plastics.

Over the three years to 1998, the company invested substantially in expanding capacities for the above products.

Contribution from the expanded capacities is just beginning to flow in and depreciation and financing costs, which dented the profit growth until 1998-99, have begun to taper off from 1999-2000. The use of the company's new facilities as the sourcing base for its parent and the resultant jump in export revenues have also helped pep-up growth.

Financially, the company has performed reasonably over the last couple of years despite troubled times and fairly stiff competition from the likes of Clariant, Colour Chem and Ciba Specialty Chemicals. The stock trades at Rs 81 at a price-earnings multiple of 10 times the expected earnings for 2000-01. Given the company's recent performance and growth prospects, this valuation appears to be low even after allowing for a conglomerate discount. Investors with an investment horizon of three years or more can acquire the stock for reasonable capital appreciation.

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In 1999-2000, BASF India derived 27 per cent of its revenues from leather auxiliaries and chemicals, 23 per cent from crop protection chemicals, 19 per cent from dispersions and specialty chemicals, 15 per cent from textile chemicals and the rest from plastics. In the recent years, offtake from the leather and textile industries has been impacted by recessionary conditions. However, BASF India, which manufactures specialty chemicals, auxiliaries and dyes targeted at these industries, registered a 20 per cent sales growth in leather chemicals and a 30 per cent growth in textile dyes respectively. Substantial growth in exports through the parent BASF AG, and a focus on eco-friendly specialty products helped boost BASF India's performance.

Dispersions and specialty chemicals used in paper, construction, and paint industries also managed a healthy business growth of 43 per cent in 1999-2000. Expandable polystyrene, an input for thermocole, a packing material used widely in consumer durables, registered a 34 per cent growth in sales despite surplus capacities for the product and recession in the consumer durables industry. Crop protection chemicals has been the only business to register negative sales growth in 1999-2000 and this could continue to be a volatile business. However, the addition of the insecticides business of Cyanamid Agro (which is complementary to BASF India's fungicides and herbicides), in line with the acquisition at the global level, can be expected to add to BASF's market share in this business.

Despite a steady expansion in turnover since 1997-98, BASF India's profits at net levels have been impacted by interest and depreciation costs. However, with capacity utilisation levels at the expanded facilities touching optimum levels, fixed costs can be expected to dwindle in the coming years. In 1999-2000, BASF India's capacity utilisation on leather chemicals/auxiliaries improved to 87 per cent (78 per cent in 1998-99) and expandable polystyrene to 95 per cent (78 per cent). This has been accompanied by an improvement in interest cover and asset turnover. The company's return on capital employed jumped from 13.41 per cent in 1998-99 to 16.17 per cent in 1999-2000.

A fairly high import content of around 50 per cent and the resultant vulnerability to rupee depreciation, is probably the sole disturbing feature in BASF India's financial profile. But higher export contribution could help compensate for this. In this context, BASF India's performance in the first nine months of 2000-01 was healthy, despite the rupee depreciation. The company managed a 23 per cent growth in pre-tax profits on a 18 per cent growth in sales.

Post-tax profits grew by a mere 17 per cent due to loss of tax shelter at the main Mangalore facility, but this is unlikely to affect future growth rates. With the continued technological and marketing support from its parent, and a higher contribution from newly expanded capacities, the company appears well set to deliver healthy earnings growth over the medium term.