Detailed Rationale

CRISIL Ratings has reaffirmed its 'CRISIL AA/Stable/CRISIL A1+' ratings on the bank facilities and debt instruments of Aarti Industries Limited (AIL; a part of the Aarti group),

 

The company has maintained its strong business risk profile, which is reflected in market leadership, consistent performance, diversified revenue profile at geography, product, end user industry and customer level. The ratings also factor in sound operating efficiency, supported by a high level of integration as well as a healthy financial risk profile. These strengths are partially offset by the large working capital requirement, risks related to implementation of projects and volatility in raw material prices.

 

Revenue of the group was robust at Rs. 6,620 crore in fiscal 2023, an on-year growth of 21%, backed by healthy volume gains led by strong demand trajectory for company’s products in the key end-user industries and higher input prices. Operating margins contracted by 350 basis points to 16.5% during the fiscal period, on account of weak geographical mix due to slowdown in consumer discretionary spending in key high margin geographies. In addition, with the increase in commodity prices, while the company has pass through, the margins were impacted due to higher base. Furthermore, contract termination under the first long-term contract in fiscal 2022 also weighed on operating margins due to under recovery of fixed overheads owing to low-capacity utilization rates.

 

Revenues during the first nine months ended December 2023 were down by 7% on-year to Rs. 4,600 crores, owing to weak performance during the first half of fiscal 2024, whereby, revenues were down by 13% on-year to Rs. 2,868 crores owing to decline in volumes and realizations due to inventory corrections by leading global agrochemical and other chemical players amidst slowdown in major overseas markets (USA and Europe). The volumes were also impacted by excess supply from Chinese players in export markets following deflationary situation in Chinese economy. The decline in revenue was further attributable to lower realizations emanating from correction in raw material prices (especially crude-linked). That said, a sequential demand recovery was witnessed in the third quarter; revenue increased by around 4% to Rs. 1,732 crore on the back of demand recovery in dyes and pigments and polymer segments, however year-on-year volumes were lower due to continued demand headwinds within the agrochemicals industry segment. Operating margins contracted by 180 basis points to 15.1% during the first nine months ended December 2023 on account of lower fixed overheads absorption owing to overall de-growth in volumes due to the on-going industry-wide demand headwinds.

 

Demand is expected to remain muted during the current fiscal as against previous fiscal; that said, demand during the second half of current fiscal is expected to witness improvement and normalize through to fiscal 2025. Hence, turnover is expected to de-grow by 8-10% during the current fiscal and expected to report mid double-digit growth over the next two fiscals. Operating margins on the other hand is expected to witness contraction of 70-80 basis points in fiscal 2024 owing to y-o-y volume de-growth and realization impact before improving to 16-18% over next two fiscals.

 

The financial risk profile remains healthy driven by strong networth, comfortable capital structure, and healthy debt protection metrics. Capital structure marked by adjusted gearing stood at 0.60 times as on March 31, 2023 and is expected to remain within 0.6-0.8 times over the medium term owing to debt funded capex investments. That said, debt protection metrics are expected to remain healthy over the medium; interest coverage is expected to remain above 5.0 times, thereby providing sufficient buffer to cash flows. 

Analytical Approach

For arriving at the ratings, CRISIL Ratings has combined the business and financial risk profiles of AIL and its subsidiaries, Aarti Corporate Services Ltd, Nascent Chemical Industries Ltd (subsidiary of Aarti Corporate Services Ltd), Shanti Intermediates Pvt Limited (subsidiary of Aarti Corporate Services Ltd), Innovative Envirocare Jhagadia Ltd, Alchemie (Europe) Ltd, Aarti Polychem Pvt Ltd, Aarti Bharuch Ltd, Aarti Spechem Ltd, and Augene Chemical Pvt Ltd. This is because all the companies have significant managerial, operational, and financial linkages and collectively are referred to as the Aarti group.

 

Please refer Annexure - List of entities consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description

Strengths:

Established market position with diversified segmental and geographical revenue contribution

AIL has maintained its dominant market position in the Nitro-chlorobenzene (NCB) and Di-chloro Benzene (DCB)-based specialty chemicals segment. AIL also operates in other chemical value chains such as toluene and Sulphuric acid. It has been gradually ramping up capacity utilization of all product lines. AIL is the largest producer of benzene derivatives in India, and a major player among global manufacturers, with a 25-40% global market share across various products. AIL supplies diverse end-user industries such as polymer additives, pigments, dyes, paints, pharmaceuticals, agrochemicals, fertilizers, and fast-moving consumer goods, and is thereby insulated from downturn in any particular industry. Also, around 48% of fiscal 2023 revenues is from exports, providing geographical diversity.

 

High integration of operations and strong relationship with suppliers enable effective mitigation of supply chain issues

AIL enjoys high economies of scale as it is the largest producer of NCB, DCB and Nitrotoluene in the domestic market and has built up a large and flexible manufacturing capacity. Operating efficiency is also supported by strong research and development (R&D) capability. Integrated operations to manufacture higher-order derivatives of benzene & toluene, along with the ability to change the product mix according to the demand-supply scenario, and continuous process improvement for maximizing the share of value-added benzene derivatives enable AIL to sustain comfortable operating efficiency. AIL has virtually nil dependence on China for its key raw materials due to high level of backward integration and strong relationship with domestic suppliers. In fiscal 2023, the company entered into long term offtake agreement with Deepak Fertilizers and Petrochemicals Corporation Ltd for sourcing of Nitric Acid (supply commencing from April 01, 2023, onwards). The said agreement eliminates the need to invest in backward integration.

 

Healthy financial risk profile

AIL’s financial risk profile remains healthy marked by strong net worth of Rs 4,812 crore as of March 31, 2023, and comfortable capital structure with adjusted gearing of about 0.60 time as of March 31, 2023. The company has planned capital expenditure totaling Rs. 2,500 crore over fiscal 2024-25, which includes a substantial for the Chlorotoluene & downstream project (which has an overall outlay of about Rs. 2,000 crore and would be invested over a three-year period i.e., fiscal 2024-2026). The project shall be commercialized in a phased manner starting from the second half of fiscal 2025, and ramp-up shall be witnessed in fiscal 2027 and beyond. The said capex investments shall be largely funded through debt. Furthermore, since internal accruals net of re-payment obligations is expected to be utilized towards funding of capex requirements along with long-term debt, working capital requirements shall be met through short-term borrowings. Despite continued reliance on external funding requirements, adjusted gearing is expected to remain stable, between 0.6-0.8 time over the medium term, backed by healthy debt protection metrics as indicated by interest coverage which over the medium term is expected to remain above 5.0 times.

 

Weaknesses:

Large working capital requirement

AIL’s operations have remained working capital intensive marked by high gross current assets (GCA) net of cash days ranging between 120-170 days in past five years ended March 31, 2023. The higher working capital requirement is mainly owing to requirement to maintain large inventories as the company maintains around two months of raw material inventory and has large number of products in the portfolio leading to high finished goods inventory requirement. That said, the net working capital cycle to improve over the medium term owing to the import of certain raw materials from global markets which offer higher credit period as against advance payment in domestic markets.

 

Exposure to project risk and risk related to volatility in commodity prices

The company has been carrying out a large capital expansion in the past and will continue to do so over the medium term, thereby increasing capacities in multiple value chains to increase market share as well as for long-term contracts with global MNCs. The company has carried out sizeable capex of over Rs.4,500 Crore during fiscal 2019 through to fiscal 2023; and is expected to incur further capex of Rs. 2,500 crore over fiscal 2024-25. As a result of heavy capex investments, return on capital employed (RoCE) has moderated over the years from 17.2% in fiscal 2019 to 10.6% in fiscal 2023. In addition, termination under the first long-term contract also weighed on RoCE. Ramp up of newly added capacities and offtake of chlorotoluene product value chains leading to an increase in scale of operation and improvement in return metrics, will remain closely monitored.

Although the capex is in similar product segments, ensuring the projects are completed in the stipulated time and within stipulated costs will be critical. In addition, overall ramping up of capacities as envisaged will remain a key monitoring factor.

Additionally, the main raw material, benzene is a crude derivative, prices of which remain susceptible to any sharp volatility in crude prices. While the group has consistently demonstrated its ability to pass on the volatility in raw material prices due to its cost-pass on business model, which has reflected in consistent absolute operating profitability over last 10 fiscals; nevertheless, it remains exposed to the volatility in commodity prices.

Liquidity: Strong

AIL has strong liquidity driven by expected cash accruals of Rs. 600-750 crore per annum, and cash and cash equivalents of Rs 199 crore as on March 31, 2023 (Rs. 433 crore as of September 30, 2023). The utilization of fund based working capital bank limits under consortium stood at 75% on an average over the twelve months ended October 2023. The group has annual long term repayment obligations of around Rs 340-360 crore over the fiscal period 2024 to 2025. CRISIL Ratings expects internal accruals, cash & cash equivalents, and unutilized bank lines to be sufficient to meet the repayment obligations.

Outlook: Stable

The Aarti group’s business risk profile should remain stable over the medium term, backed by a healthy market position, good revenue diversity, pick-up in end-market demand and strong operating efficiencies. The financial risk profile should also remain healthy driven by improving cash accrual and moderate dependence on debt for capex and working capital requirements.

 

ESG Profile

CRISIL Ratings believes that AIL’s Environment, Social, and Governance (ESG) profile supports its already strong credit risk profile.

 

The Chemical sector has a high impact on the environment because of the high greenhouse gas (GHG) emissions, high hazardous waste generation by its core operations. The sector has a social impact because of its large workforce, the impact on the health and wellbeing of its workers and the local community on account of its nature of operations.

 

AIL Ltd has continuously focused on mitigating its environmental and social impact. 

 

AIL Limited’s Key ESG highlights:

• AIL has disclosed qualitive targets pertaining to energy and water consumption in their Business Responsibility and Sustainability Report (BRSR) published along with the annual report. The company’s GHG emission and water consumption has increased on year-on-year basis, however, the company has undertaken initiatives and has set goals to reduce GHG emission by 20% from 2019-20 level. AIL has also set goals to reduce specific energy consumption by 20% from 2019-20 level, increase share of renewable energy to 25% from 2019-20 level, and reduce water consumption by 10% from 2019-20 level. These targets are expected to be attained by fiscal 2028.
• AIL’s percentage of ESG screened vendors improved to 42.85% in fiscal 2023 as against 38.00% in fiscal 2022, and gender diversity marginally improved to 2.93% in fiscal 2023 as against 2.76% in fiscal 2022. The company also reported no fatal injuries during fiscal 2023, and LTFIR also remained stable at 0.15 in fiscal 2023.
• AIL’s governance structure is characterized by 50% of its board comprising independent directors, presence of investor grievance redressal mechanism, and high quality of financial disclosure. 

 

There is growing importance of ESG among investors and lenders. AIL’s commitment to ESG principles will play a key role in enhancing stakeholder confidence, given its medium share of market borrowings in its overall debt and access to both domestic and foreign capital markets.

Rating Sensitivity Factors

Upward factors

• Substantial increase in scale of operations with operating margins above 20% on sustained basis.
• Improvement in financial risk profile and debt metrics, backed by strong cash generation; low gearing and a significant improvement in RoCE.

 

Downward factors

• Any significant impact on operating profitability or sizeable contract terminations leading to weakening of operating margins below 15% on sustained basis.
• Further large, debt-funded capex or acquisitions or sizeable stretch in the working capital cycle, leading to material impact on debt metrics; for instance, gearing increasing beyond 1-1.20 times on a sustained basis.

About the Company

AIL, the flagship company of the Aarti group, manufactures organic and inorganic chemicals at its major facilities in Vapi, Jhagadia, Dahej and Kutch, in Gujarat and in Tarapur in Maharashtra. The company has a strong market position in the NCB-based specialty chemicals segment. The company also commissioned a Greenfield Nitrotoluene facility in Jhagadia in fiscal 2018 and two units for high-value specialty chemicals in Dahej in fiscal 2020. In fiscal 2017, it commenced calcium chloride facilities in Jhagadia and a multipurpose ethylation unit at Dahej. The company also has four full-fledged R&D centers, recognized by the Department of Scientific and Industrial Research, Government of India. In fiscal 2020, it commissioned its flagship research and technology center in Navi Mumbai called the Aarti Research and Technology Centre, which will house about 250 scientists and engineers.

Any other information: Not Applicable

Annexure - Details of Instrument(s)

ISIN	Name of instrument	Date of allotment	Coupon rate (%)	Maturity date	Issue size (Rs.Crore)	Complexity level	Rating assigned with outlook
NA	Commercial paper	NA	NA	7-365 days	400	Simple	CRISIL A1+
NA	Long-Term Borrowing Programme*	NA	NA	NA	100	Simple	CRISIL AA/Stable
NA	Non-Fund Based Limit	NA	NA	NA	674	NA	CRISIL A1+
NA	Non-Fund Based Limit%	NA	NA	NA	70	NA	CRISIL A1+
NA	Fund-Based Facilities	NA	NA	NA	925	NA	CRISIL AA/Stable
NA	Fund-Based Facilities&	NA	NA	NA	250	NA	CRISIL AA/Stable
NA	Fund-Based Facilities^	NA	NA	NA	16	NA	CRISIL AA/Stable
NA	Working Capital Demand Loan	NA	NA	NA	230	NA	CRISIL A1+
NA	Rupee Term Loan	23-Dec-2020	3 Month T-Bill + Spread of 268 bps	Dec-2025	50	NA	CRISIL AA/Stable
NA	Rupee Term Loan	25-Feb-2021	6.25%	Feb-2026	50	NA	CRISIL AA/Stable
NA	Term Loan	01-Nov-2023	1 month T-Bill + Spread of 150 bps	Nov-2029	350	NA	CRISIL AA/Stable
NA	Foreign currency Term loan	15-Sep-2020	6 months SOFR + Spread of 190 bps	June-2025	200	NA	CRISIL AA/Stable
NA	Proposed Long Term Bank Loan Facility	NA	NA	NA	35	NA	CRISIL AA/Stable

*Unallocated

%interchangeable with Bank Guarantee up to Rs. 30 crores

&Interchangeable with cash credit up to Rs. 50 crores; Interchangeable with WCDL / WCDL FX / FCNRB up to Rs.200 crores

^Interchangeable with Letter of Credit up to Rs.16 crores