One clear winner from the 2021 IPO rush is Ami Organics. The stock doubled from its IPO price and has held on to its highs quite well compared to others. The stock is well-placed in the chemicals sector, with a differentiated presence and visible growth drivers.
We had a positive view on the stock when it came for its IPO. We remain positive on the company’s prospects, its high valuation, (42 times FY24 earnings), bakes in prospects of successful execution.. GIven the balanced risk-reward, existing invstors can continue to hold the stock. New investors need not enter now.
The current set of challenges facing speciality chemicals sector relate to a high channel inventory and deflationary pricing owing to Chinese dumping. Ami Organics, being a supplier of advanced pharma intermediary (AI), is insulated from excessive Chinese competition or dumping for now.
The company’s sales are driven by long-term contracts from innovators/generic formulation makers, whose demand visibility is less volatile than purely commoditised chemicals. The two factors, long-term contracts and pharma end market, should insulate the company in the short term from challenges. In the recent quarter when the sector reported a 8-10 per cent YoY revenue decline, Ami Organics reported a 9 per cent YoY revenue growth.
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But this growth is substantially below growth rates expected for Ami Organics by investors, which are in the high 18-20 per cent range. A decline in chemical raw material costs (impacts pricing at the top line) and sluggish demand in Pharma were reported reasons for lower growth in Q1FY24. The first quarter is also the slow season for the company.
However, the high growth expectation from Ami Organics is actually underlined by other growth drivers.
In FY23, 85 per cent of the revenues were from Pharma AI and rest from speciality chemicals business. The pharma segment supplies intermediaries in antipsychotic, anticoagulant, or anticancer molecules from n-6 to n-1 stage (n being the final formulation). As the company expands within therapy and clients, base business will grow. The company is also adding two new business verticals, which are expected to be substantial — Electrolyte Additive (EA) and a longer-term contract with Fermion, an international API contractor.
Electrolyte additives or EA for lithium ion and other battery applications require a precise formulation. Ami Organics has progressed far in the space, receiving six customer approvals by FY23 and expecting a strong commercial order in the next few quarters. The scope and scale of the end market should add a long-term growth driver for the company. `
The Fermion contract is a multi-year, high-value intermediate contract for an innovator molecule, which is in the commercialisation phase. The company has dedicated a large portion of the new capex (₹200 crore in FY23-24) for this project which shall have a dedicated facility. The capex for EA will be on top of this budget. As the final formulation is registered across regulated and other markets, Ami’s scope for deliveries will increase over the next six to seven years and provides a visible revenue driver. The company has also indicated a scope for increasing its wallet share from the product with additional intermediates supply. Ami Organics will be the exclusive supplier for the intermediate and expects significant revenue from FY25.
The segment accounts for 15 per cent of revenues which has taken off with acquisition of two facilities of Gujarat Organics in 2021. With streamlining of operations, optimising capacity and upgrading processes to flow chemistry from batch process being completed by Q1FY24, Ami reported 25 per cent YoY growth in the quarter. EBITDA margins for the segment at 11 per cent lag the consolidated 21 per cent range and are expected to ramp up as scale and efficiency improve. The company is adding more products to the segment.
Valuation and margins
Ami Organics is a contract manufacturing operator (CMO) which does not have a high degree of development (CDMO) flavour to it. This is reflected in peak EBITDA margins of 23 per cent in pharma AI segment in Q4FY23. Yet, the niche and growing portfolio of Ami has garnered 42 times forward earnings valuation. For comparison, Divi’s, which is the leader in high value CDMO operations with innovators with an established scale, trades at 51 forward earnings with 32-35 per cent expected EBITDA margins.
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In the specialty space, Navin Flourine also with CDMO tag in the speciality chemicals space and longer operational history was trading at 40 multiple before the recent management issues (27 per cent expected EBITDA margins) despite foraying into fluorination space which is most sought after now.
We recommend that investors hold the stock of Ami Organics as earnings growth from new verticals, existing business growth and scale-up of speciality chemicals segment can help tide over any contraction in earnings multiple in the next two years.