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Initiating coverage: SRF Limited (Outperformer) - Innovation driven

SRF’s dominance in refrigerants and specialty chemicals highlights the company’s ability to pivot from commodity to specialty businesses since a decade. SRF primarily operates under 1) Technical Textiles, 2) Chemicals and 3) Packaging films, but its growth and investments in specialty chemicals (used as agrochem/pharma intermediates) particularly enthuse us. SRF’s specialty chemicals business is now at a tipping point, with R&D and infrastructure investments (~Rs29bn over FY15-19) set to meet latent demand from global innovators. SRF’s backward-integrated refrigerants business too is expected to post healthy 15% revenue CAGR on nearly doubling of new HFC capacities. SRF seeks to leverage its R&D strengths to enhance presence in the ‘innovation’ part of the value chain, in a bid to cash in on improved outsourcing by global innovators and growing use of fluorine as an intermediate. Growth in packaging films should moderate over FY20-21E, before picking up in FY22E. Technical textiles will remain a cash cow and we expect its share to reduce in the overall pie. We estimate overall 14.2% revenue and 19.5% EBITDA CAGR over FY19-21E, driven by 35% growth in specialty chemicals. We initiate coverage on SRF with an Outperformer rating and target price of Rs3,347 (20x FY21E PER).

Specialty chemicals – key growth driver: Strong R&D capabilities, process efficiencies and ability to develop complex chemistry molecules make SRF a formidable player in India’s chemical industry. We expect the chemicals business to clock 24% revenue CAGR over FY19-21E, led by 35% growth in specialty chemicals and continued growth momentum in the refrigerant business. New product launches, fuelled by rising outsourcing trend by global innovators is expected to drive growth.

Packaging films – steady margins: The business reported healthy 21% revenue CAGR over FY15-19, reinforced by favourable demand-supply. Cost efficiencies and value-addition led to significant 1,000bps margin expansion over FY15-19 to 16% in FY19. We expect growth to moderate in FY20-21E on oversupply and pick up from FY22E, as SRF’s new capacities come on stream. EBIT margin is expected to sustain at ~16%.  

Business momentum set to accelerate: With critical mass in place, we expect SRF to deliver 14.2%/19.5% revenue/EBITDA CAGR over FY19-21E, led by continuous investment and R&D in complex fluorine applications. The resultant improvement in profitability will enable SRF to fund future capex through internal accruals and steadily improve ROCE from 13.7% in FY19 to 16.2% in FY21E. At 16.2x FY21E PER, we see room for upside, given SRF’s strong earnings visibility. We initiate coverage on the stock with an Outperformer rating and a target price of Rs3,347.