Valuations look very attractive for Dynemic Products Ltd
Dynemic products Ltd (DPL) is in the business of manufacturing Dyes & Dyes Intermediates. It is one of the major producer and exporter of in India, offering complete range of Food Colors, Lake Colors, Blended Colors, FD&C Colors & Dye Intermediates. Company has shown consistent improvement in financial performance over the last few quarters with topline growth (21.3% y-o-y growth in Q2FY18) as wells margin improvements (OPM has increased by 340bps y-o-y to 22.3%). The stock is trading at steep discount (12.5x FY18E earnings) to its comparable peer Vidhi Specialty Food ingredients (26x FY18E Earnings) and we believe with further improvement in performance, the valuation spread will narrow going forward.
A Food Colour is any substance that is added to food or drink to change its colour. Food Colours are basically divided into two categories based on their production process. The Food Colours which are derived from chemical synthesis are termed as Synthetic Food Colours & the one derived through extraction from natural sources are termed as Natural Food Colours. With vibrant colours and tonal hues, food can be more like art. People are basically drawn to foods that appeal and engage their visual senses. The Colours can help correct for colour loss and natural variations in colour; enhance the existing colours in food; and provide colour to colourless foods.
Food coloring is used both in commercial food production and in domestic cooking. Food colorants are also used in a variety of nonfood applications including cosmetics, pharmaceuticals, home craft projects, and medical devices. The primary reasons for adding food coloring include Offsetting colour loss due to light, air, extremes of temperature, moisture, and storage conditions, Masking natural variations in colour, Enhancing naturally occurring colours, Providing identity to foods, Protecting flavors and vitamins from damage by light and Decorating, such as cake icing.
The global food colors market size is projected to reach USD 3.75 Billion by 2022, at a CAGR of 8.40% from 2016. Asia-Pacific is the fastest growing region in the food colors market. Consumers in countries such as India, China, Indonesia, Australia, and Japan are gradually demanding better food products with increased shelf-life, texture, and appearance. The market is expected to be of great potential in the region in the next five years and projected to grow significantly at the highest growth rate between 2016 and 2022.
Dynemic products which is one of the leader in producing food colors globally is expected to outpace industry growth. DPL derives most of its business from exports (66% in FY17) and remaining is from domestic markets (34% in FY17). Along with financial performance, company has shown consistent improvement in operating margins. The revenues have grown 15% CAGR over the last five years from Rs.85.7cr in FY13 to Rs.148.4cr in FY17. The EBITDA margins have improved significantly from 10.8% in FY13 to 16.9% in FY17. During the same period, the net profit has grown at 32.7% CAGR and PAT margin has improved from 5% to 9.1%
Company has strong balance sheet with negligible long term debt and small working capital debt. The debt/equity ratio of the company stood at 0.23x at the end of H1FY18 reduced from 0.37x at the end of FY17. Company is having book value of Rs.72.8. Company also has excellent returns ratios. The RoE and RoCE for FY17 stood at 18% and 22% respectively. Company is also generating consistent positive cash flow from operations.
If we look at the latest financial performance, company has shown good improvement in its numbers for H1FY18. The y-o-y growth in the topline is at 21.28% and for H1FY18, it is at 24.13%. There is good improvement in EBIDA margins q-o-q led by low raw material costs. The EPS is on upward trajectory over the last two quarters expect the same to continue for the next few quarters. We expect the FY18E EPS for the company to be around Rs.15.
The only comparable peer to the company in the listed space is Vidhi specialty Food Ingredients Ltd. Vidhi has same business model with similar products and turnover (Rs.192cr in FY17) of the company is little higher than Dynemic Products. But both have similar profit levels (Vidhi FY17 PAT – Rs.14.5cr and Dynemic FY17 PAT – Rs.13.4Cr). In terms of operating margins Dynemic products has better operating margins (19.4% in H1FY18) than Vidhi (14.5% in H1FY18). But when it comes to valuations Vidhi is trading at much superior valuations with 26x FY18E PE and 7.2x P/B value. Whereas Dynemic Products is trading at 12.5x FY18E earnings which is more than half of the valuations of Vidhi and 2.6x P/B value.
With the same business models and similar fundamentals, we believe the Dynemic products deserves higher valuations. We believe that with further improvement in performance the valuation gap to narrow going forward. The stock looks attractive for the short term we expect 40-50% upside potential over the next three to four quarters led by increase in earnings and valuations.