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Industrials August 16, 2013

Supreme Industries
Accounting: GREEN
Bloomberg: SI IN EQUITY Predictability: GREEN
Reuters: SUPI NS BUY Earnings momentum: GREEN

The snowball… INITIATING COVERAGE

Supreme’s competitive advantages in the fast-growing plastic piping Nitin Bhasin


and packaging industry stem from its unmatched manufacturing and Tel: +91 22 3043 3241
nitinbhasin@ambitcapital.com
distribution reach, consistent new product launches (including value-
added products) and technological tie-ups. This is validated by its FCF Tanuj Mukhija
generation and increasing RoCEs (FY13: 26% vs FY11: 20%). Its Tel: +91 22 3043 3203
competitive advantages and surging CFO (36% CAGR in FY10-13) will tanujmukhija@ambitcapital.com
provide further support to this platform (`9bn capex in FY13-16) which
will in turn lead to higher volume/revenue growth (14%/17% CAGR in Recommendation
FY13-16) and higher CFO for further product/capacity expansions. CMP: `350
Current valuations (13x FY14E EPS) do not reflect its superior plastics
Target Price (12 Months): `442
business, unrivaled financial profile and top-quality management. We
initiate coverage with a BUY and a TP of `442 (`420 for core business). Upside (%) 27
EPS (FY14): `28.1
Competitive position: STRONG Change to this position: POSITIVE
Variance from consensus (%) 6.1
Well-built competitive advantages key: Supreme has delivered superlative
adjusted RoCEs (average 22.3% in FY09-13) in a capital-intensive industry,
Stock Information
owing to its strong competitive advantages built through: (a) unmatched
manufacturing (22 manufacturing plants) and distribution reach, (b) Mkt cap: `44bn/US$721mn
technology tie-ups with renowned international players (Wavin, RPD 52-wk H/L: `380/264
Rasmussen), and (c) diverse products servicing multiple industries. These 3M ADV: `19mn/US$0.3mn
advantages are helping it gain market share from unorganised players.
Beta: 1.2
Snowball gathering momentum on a solid platform: Supreme has
BSE Sensex: 19,368
created a solid platform (sales of `34bn in FY13 vs `13bn in FY08) by: (a)
consistent modifications in its product portfolio mix to increase VAP share Nifty: 5,742
(31.7% in FY13 vs 22% in FY09), and (b) capacity expansion without putting
stress on the balance sheet. Supreme is well placed to increase its reach and Stock Performance (%)
size in the fast-growing piping and packaging segments through mega capex 1M 3M 12M YTD
(`12.3bn in FY13-16) funded by internal accruals (`21.2bn in FY13-16). 1 (1) 27 17
Absolute
Strong operating cash flow generation to fund mega capex: Revenue Rel. to Sensex 4 1 18 18
CAGR of 17% in FY13-16 would be due to capacity additions in the piping and
packaging segment. Adjusted RoCEs of ~25% would sustain thanks to the Shareholding pattern (%)
strong 14% volume CAGR in FY13-16 and stable EBIT margins of ~13%.
Operating working capital will deteriorate by 5 days in FY14 due to higher
Others,
sundry creditors. Overall, Supreme will generate CFO of `21.2bn in FY13-16 30%
(~10% FY14E CFO yield), which would be sufficient to fund its growth plans.
Promoters
Attractive valuation with limited downside risks, BUY, TP 442: We use , 50%
the SOTP method for our target price of `442—Plastic business: `420 (DCF),
implying 16.8X FY14E EPS and 13.7X FY15E EPS; real estate and Supreme DII, 10%
Petrochem: `22. Current valuations at 13.1x FY14E core EPS are not FII, 10%
representative of its superior competitive advantages, balance sheet capacity
and high return ratios. The stock trades at an unjustified 10% discount to Source: BSE, Ambit Capital research
Astral despite its larger size, higher RoEs and better liquidity. Key risks: Entry
of large global players and lower-than-expected volume growth. One-year forward P/E chart
Key consolidated financials (` mn, unless specified) 15
Year to June FY12 FY13 FY14E FY15E FY16E 13
11
Operating income 29,279 34,040 40,413 48,758 56,288 9
7
EBITDA 4,719 5,356 6,408 8,291 9,273 5
EBITDA (%) 16.1% 15.7% 15.9% 17.0% 16.5%
Aug-11

Dec-11

Apr-12

Aug-12

Dec-12

Apr-13

Aug-13

Adjusted EPS (`) 16.6 22.3 26.7 32.3 39.2


RoE (%) 33.9% 36.0% 34.3% 32.8% 31.5%
22.8% 25.6% 24.7% 24.6% 24.7% 1 yea r fo r w a r d P E
RoCE excluding real estate (%)
A ver a g e 1 yea r fw d P E ( x )
P/E (x) 21.0 15.6 13.0 10.8 8.9
Source: Company, Ambit Capital research Source: Bloomberg, Ambit Capital research
Ambit Capital and / or its affiliates do and seek to do business including investment banking with companies covered in its research reports. As a result, investors should be aware that Ambit
Capital may have a conflict of interest that could affect the objectivity of this report. Investors should not consider this report as the only factor in making their investment decision.

Please refer to the Disclaimers at the end of this Report.


Supreme Industries

CONTENTS

Supreme Industries: Multi-industry plastic processing leader……..……….. 3

Indian plastics sector: Poised for growth……………………………………..… 5

Mapping Supreme’s well-built competitive advantages………………………7

Snowball effect to gain momentum…………………………………………… 15

Mega capex to drive growth with stable RoCEs……………………………… 19

Valuations not reflective of supreme plastic business……………………… 22

Accounting analysis: Clean chit……………………………………………….. 29

Ambit Capital Pvt Ltd 2


Supreme Industries

Supreme Industries: Multi-industry


plastic processing leader
Exhibit 1: Business overview - multi-industry servicing business segments
FY13
Application/ Sales Share of
Segments Sub-segments/ Products Revenue Revenue EBIT
customers volumes VAP in
share growth share
(MT) segment
uPVC Pipes, injection moulded fittings &
Plastics handmade fittings, polypropylene random Potable water supply,
piping copolymer pipes & fittings, HDPE and CPVC irrigation, drainage and 52% 29% 52% 24%
180,746
system Pipes Systems, LLDPE Tube and Inspection sanitation, housing
Chambers, manholes
Packaging films Construction,
automobiles and other
Protective packaging products: Non-
Packaging industries for insulation
cross-linked foam packaging, cross-linked PE 21% -2% 27% 53%
products applications; CLF films 41,307
foam packaging
for covering purposes in
Cross laminated films multiple sectors
Industrial components: Customised plastic
Auto sector, consumer
parts for the automobile sector (e.g. cockpit
durable products, water
assembly) and the consumer durable sector
purification
(plastic body for washing machines)
Casing pipes for oil and
Industrial Composite products: Cylinders and pipes
gas industry, cylinders 18% 12% 14% ~16%
products (under development) 40,033
for household use
Material handling: Heavy duty industrial
crates, fabrication facility to manufacture Soft drink companies,
customised crates, roto moulded items, agriculture and fisheries
plastic pallets
Consumer Furniture (tested for ergonomic comfort, Retail stores,
9% -3% 7% ~40%
products resilience and environmental resistance) educational institutions 19,366
Total 281,452 100% 17% 100% 31.0%

Source: Company, Ambit Capital research, Note: VAP= Value added products.

Technological collaborations across segments


Supreme Industries does not have its own R&D division to create new products.
Hence, it has entered into technological tie-ups with renowned international
players across all product categories at very low royalty and license fees. Through
technological collaborations, the company has launched new products whilst
keeping product quality ahead of unorganised players. Supreme would not have
created products such as Silpaulin and CPVC pipes without technological
assistance from other players. It is creating a new segment (composite products)
with the help of European and South African technology (Lomold) partners.
Exhibit 2: Technology partnerships
Segments Sub-segments/ Products Technology partner/ collaborator
Wavin Overseas B.V., Netherlands is a subsidiary of Mexichem. It is a
uPVC pipes and fittings, PPRC Pipes & Fittings leading player in above and below ground pipe systems for hot and
Plastics piping
cold water applications in Europe.
system
The technology partner is not known but competitors highlight
CPVC pipes (currently, a `8bn-10bn market)
that it is a European company. Raw material sourced from Kaneka.
Protective packaging (two-stage cross link foam for Sanwa Kako of Japan, the largest makers and patent holders of
insulation purposes) polyethylene block foam in the world.
Packaging
Cross laminated films (cross line bonded film and
products RPD Rasmussen Polymer Development AG, Switzerland, is the patent
cross plastics film, the next generation with
holder of cross-laminated film. Supreme’s patent is valid until 2023.
superior properties)
Names not disclosed. Supreme currently has a tie up with a
Composite LPG cylinders German Equipment manufacturer. Apart from this German company,
Industrial there are two other companies which provide the technology.
products Lomold, South Africa is the first company to manufacture plastic
Composite drill pipes commingled with long glass-fiber into a closed mould in a cost
effective way.
Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 3


Supreme Industries

SWOT analysis
Exhibit 3: SWOT analysis of Supreme Industries
Strengths Weaknesses
 Diversified product portfolio across segments such as pipes,
packaging and industrial products.
 An unmatched distribution and production network—22  Our primary checks suggest that Supreme’s products are not
manufacturing plants and more than 1,250 dealers across available due to capacity constraints especially in Chennai. We
India, with a strong presence in south and east India. believe this is a lost opportunity for Supreme.
 Market leader in the fast growing PVC pipes segment for  PVC pipes of any company are easily replaceable by a competitor
buildings and has a monopoly in cross-laminated films in India. due to the standard nature of the product.
 Technical tie-ups in all segments with reputed international  The company has to continuously update technology through
players. international collaborations.
 Higher EBIT margins through focus on value-added products  The business is capital-intensive and requires continuous
(VAP) such as pipe fittings and its cross laminated film, reinvestment in gross block.
Silpaulin, (22% in FY09 vs 31.7% in FY13).
 Strong balance sheet (FY13 gross debt:equity of 0.5x) vs other
organised competitors like Jain Irrigation (1.6x) and Finolex
Industries (0.99x).

Opportunities Threats
 Organised PVC pipes account for only 50% of the market.
 Increase in competition from international players: For example: the
Supreme, with a better quality product and a renowned brand,
Belgian firm, Aliaxis, acquired a majority stake in the unlisted,
is well placed to capture the structural shift to organised
Ashirvad Pipes. Other large international players like Tessenderlo
players.
Group and JM Eagle may also follow Aliaxis’ example.
 Per capita plastic consumption of India is only 7kg, significantly
 Weak monsoon and low GDP growth may affect PVC pipe demand
below the global average (of 28kg) especially in the agriculture
from agriculture (30% of total PVC pipe sales for Supreme).
and infrastructure sector.
 Unavailability of raw material for PVC pipes and CPVC pipes can
 Higher plastic pipe demand through PVC (replacement of GI)
probably reduce growth.
and better technology pipes such as CPVC
 Supreme’s competitive advantage would be reduced if competitors
 Supreme’s technology tie-ups with global players provides an
start innovating new products or improve distribution reach.
opportunity to add new products.
 INR depreciation can increase the product price, thereby reducing
 Recent entry into composite products especially composite
demand.
cylinder can be huge opportunity in India and the Middle East.

Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 4


Supreme Industries

Indian plastics sector: Poised for growth


Plastics industry: Fastest-growing industry in India
The plastics industry has expanded at a volume CAGR of 9.2% over the last six
years to reach 8.5mn tonnes by FY12. Plastics can be classified based as
commodity, engineering and specialty products. Commodity products such as
Polyethylene (PE), Polypropylene (PP), and Poly Vinyl Chloride (PVC) account for the
bulk of plastic demand. Engineered and specialty plastics are derivatives of styrene
which exhibits superior mechanical and thermal properties. Further, plastics can
also be classified on the basis of the manufacturing process (as shown below).

Exhibit 4: FY11 demand break-up of plastics by type Exhibit 5: Classification of plastics by manufacturing
process
Consumption Market
Market FY06-11 Moulding Products
volume share
share CAGR growth
(mn tonnes) Films and sheets, fibre and filaments pipes,
Polyethylene (PE) 36% 2.8 8% Extrusion 68% conduits and profiles, miscellaneous
applications
Polypropylene (PP) 34% 2.6 12% Industrial injection moulding, household
Injection 25% injection moulding and thermoware/
Poly Vinyl Chloride (PVC) 24% 1.9 10% moulded luggage
Blow 5% Bottles, containers, toys and houseware
Others 6% 0.6 3%
Roto 1% Large circular tanks such as water tanks
Total 7.9 9.2%
Source: Report of the Sub-group on Petrochemicals Source: CIPET

The Department of Chemicals and Petrochemicals, India expects a more than 10%
demand CAGR for commodity plastics and 10.7% demand CAGR for PVC pipes in
FY12-17. The competitive intensity is very high in the plastic processing industry,
due to the existence of more than 23,000 plastic processing units in India. The
industry is highly fragmented and has a large number of unorganised players. In
FY06-11, plastic processing capacity in India increased at a CAGR of 15%. The
Department of Chemicals and Petrochemicals expects capacity addition of 8.25mt
by FY17. We believe a large portion of this capacity addition will be from
organised players which will have better technology and higher applications.
Exhibit 6: Supreme’s key competitors in plastic processing industry
Segment Companies
Supreme, Finolex Industries, Jain Irrigation, Astral Polytechnik, Ashirvad Pipes,
Plastic piping system
Prince
Packaging products Supreme, Polyplex, Jindal Poly, Uflex ltd, SKF
Consumer products Supreme, Neelkamal Plastics, National Plastics
Industrial products Supreme, Motherson Sumi, Tata Autocomp, Sintex Industries, Time Technoplast
Source: Company, Ambit Capital research

Key demand drivers for plastic products


Low per capita consumption of plastics in India (7kg vs global average of 28kg),
increase in disposable income and urbanisation will lead to higher demand for
plastics in healthcare, packaging, consumer durables, automobiles, retail etc.
Plastics have several advantages over other competing materials in:
 Packaged goods: Consumption of packaged goods is increasing due to
lifestyle changes, price advantage of plastic vs competing packaging material
and wide use in segments like drinking water and milk supply.
 Construction sector: Plastic PVC pipes are replacing galvanised pipes, as PVC
pipes are easy to install and have a longer life.
 Agriculture sector: Use of plastics in agriculture (like surface cover cultivation
using plastic films) can conserve soil moisture and a provide favourable micro
climate, leading to improvements in crop yields.

Ambit Capital Pvt Ltd 5


Supreme Industries

 Auto industry: Replacement of iron and steel parts by relatively lower weight
plastics helps to improve fuel efficiency of the automobile.
We expect blue-collar wage growth in rural India to drive demand for entry-level
consumption products like PVC pipes for housing, plastic furniture etc. The wages
of blue-collar workers have recorded a 15% CAGR in FY10-12 despite GDP growth
slowing down by 550bps due to reverse migration, pursuit of education and
withdrawal of women from the labour force.

PVC pipes industry: Replacing the traditional metal


PVC applications by sector Plastic pipes are the second-highest selling plastic product in India. Further, PVC
(%) pipes are the largest-selling plastic pipes in the world. PVC pipes have replaced
Flexible Others, galvanised steel pipes, as PVC pipes are easy to install and have a longer life.
Plumbing
,4
, 10 1 Water Supreme is a market leader in PVC pipes followed by Finolex Industries. The PVC
Supply, pipes industry is highly competitive and dominated by unorganised players.
Sewage 29
Industry participants estimate total PVC pipes demand in India is 1.6mn tonnes.
, 12
Supreme’s main target segment is the plumbing and sewage sector unlike the
general industry.
Irrigation
, 45 Growth avenues for Indian plastic piping sector
Source: Finolex Industries
We believe that there is a strong growth potential for plastic pipes in the housing
sector due to housing shortage and strong replacement demand for galvanised
iron (GI) pipes. In India, there is shortage of 22 million urban units and 54 million
rural units. The penetration of PVC pipes in industrial and sanitation applications is
low. Thus, we believe that the plastic piping industry will upgrade to higher
technology, and HDPE, PP-R and PE pipes will be used in underpenetrated sectors.
Continuing shift to PVC from GI; absorption of new technology: In India,
galvanised iron (GI) pipes were mainly used for hot and cold water applications in
agriculture and construction. However, in the last 15 years, PVC pipes are
substituting GI pipes because PVC pipes are easy to install, have longer life and
If the price differential between are one-fifth the weight of GI pipes at similar costs. We expect this trend of
PVC pipes and other superior adopting new plastic pipe technology to continue, such as CPVC pipes in housing
plastic pipes were to decrease and other upcoming new technologies such as HDPE and composite pipes.
then demand for new
The developed countries in Europe have started adopting more advanced
technologies would increase
technologies such as PP-R pipes and HDPE pipes. The advantage of PP-R over PVC
pipes is that they are environmentally friendly, as they do not contain chlorine.
HDPE pipes have higher tensile strength, and thus they can remain bent for a
longer period of time. Also, HDPE pipes unlike PVC pipes do not crack near plastic
and steel joints. The next generation of pipes after HDPE pipes is polystyrene
pipes. Polystyrene pipes have superior tensile strength than other common plastic
pipes. However, their use in India is limited, as they are expensive. The key
demand driver for PVC pipes is superior performance at a lower price as compared
to GI pipes.
Higher demand in underpenetrated industrial and sanitation sector: India
has adopted PVC pipes at a rapid pace in the housing and agriculture sector (as a
substitution for GI pipes). However, the penetration of plastic pipes is low in the
According to UNICEF, India’s
sanitation industry owing to low government spending. Thus, an increase in
urban sanitation penetration is
government spending to improve India’s sanitation could lead to strong demand
50% and rural penetration is
for PVC pipes. In the developed European and North American markets, PVC pipes
even lower at 21%
are extensively used in various industries such as chemical processing, textiles,
pharmaceutical, paper mills, steel wire plants and battery manufacturing. This
shows that there is a large untapped opportunity for PVC pipes and newer
technologies in the Indian industrial sector.

Ambit Capital Pvt Ltd 6


Supreme Industries

Mapping Supreme’s well-built


competitive advantages
The plastic processing industry is generally viewed as a commodity industry.
However, in our opinion, Supreme Industries has built strong competitive
advantages through an extensive manufacturing and distribution network, creating
a unique feedback loop that allows the company to consistently modify its products
to meet consumer needs. Supreme has consistently increased its plastic piping
product portfolio to 5,682 products through an unmatched distribution network
which translates into higher-than-industry growth and margins. In cross-laminated
films, Supreme has a monopoly by creating a new segment in tarpaulins. In our
opinion, Supreme is an average player in the other two existing segments—
Industrial and Consumer products segments.
We have done a competitive mapping of Supreme’s segments namely:
(a) Plastic pipe segment—PVC pipes and CPVC pipes
(b) Packaging segment
(c) Industrial segment
(d) Consumer products segment
(e) Composites segment

(a) Plastic pipe: Supreme is the best placed


The PVC pipes industry has consistently recorded 14% sales CAGR in FY06-11
especially for housing applications. The penetration of PVC pipes has increased
due to the replacement of galvanised pipes, urbanisation and growth in the
construction sector. In our opinion, the industry faces stiff competition from
unorganised players
Exhibit 7: Porter’s five forces analysis for the PVC pipes industry

Bargaining power of suppliers HIGH Competition HIGH Bargaining power of buyers


 The main raw material for PVC pipes is  More than 25,000 plastic MEDIUM
PVC resin which is in shortage in India. pipe processing companies in  The company and its peers pass
PVC prices are positively correlated to India, leading to stiff through raw material cost
crude prices. So, all PVC pipe competition in commodity increase to customers within 2-5
manufactures are price takers for PVC plastics industry days. This highlights strong
resin.  Organised players are better demand for PVC pipes and high
 The raw material for CPVC is supplied by placed than unorganised bargaining power of the
only two companies—Lubrizol and players in the VAP segment industry.
Kaneka. The demand for raw materials is due to better product quality  However, consumers can easily
higher than supply, consequently and better brand recognition. switch between companies
increasing the bargaining power of CPVC  Since VAP demand is high, (brands), thereby limiting the
resin suppliers. organised players are not bargaining power of individual
focusing on market share companies.
gain
Barriers to entry MEDIUM
 Shortage of CPVC pipes in
the market implies that each Threat of substitution LOW
 Whilst it may be easy to set up a PVC pipe
manufacturing plant, we believe it is player has the potential to  Threat of PVC pipe substitution
difficult for a new player to set up a fully utilize capacity without by other product like galvanised
distribution network. worrying about competition. steel is low because PVC pipes
are easy to install and have a
 In case of CPVC pipes, shortage of raw Unchanged longer life. New technology
material is a major entry barrier for any products will substitute but will
new entrant. Deteriorating
take time
Improving

Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 7


Supreme Industries

Supreme: Know your plastic pipe competitors


Supreme is a market leader in the highly fragmented PVC pipes industry
dominated by unorganised players. Supreme’s closest pan-India competitor is
Finolex in the PVC pipes segment and Astral Pipes is the largest competitor in the
CPVC pipes segment. Although Jain Irrigation is a large company, it caters largely
to the agricultural segment. We have identified four other important unlisted
players in the PVC pipes industry—Ashirvad Pipes, Ajay Pipes, Nandi Pipes and
Prince Pipes.
Exhibit 8: Know your competitors in the plastic piping business segment
PVC pipe and Pipe
Mcap related segment volume Segment EBIT
Companies Brief business description and products
(US$mn) revenues sales margin
(` mn) (MT)
Supreme manufactures a number of plastic compound pipes
(PPRC, PPR, HDPE, LLDPE). The company has recently
16,502
Supreme launched products like CPVC pipe systems, Nu Drain
715 (50% of company 180,745
Industries 16% systems which are finding increasing acceptance amongst
revenues)
institutional buyers (infra, residential developers). Nearly 20-
25% of this segment’s sales come from plastic pipe fittings.
With a market share of 15%, it is one of the three major PVC
players in the organised market and a leader in the rural
EBIT margin of 8% water & irrigation markets, but lagging in the building &
11,300
Jain Irrigation 406 NA for PVC pipe construction sector. It sells PE pipes in the gas and cable duct
segments and for sewage & effluent disposal. This segment
will be a major beneficiary of infra capex spending. It is
developing its CPVC pipe offering.
Finolex is the largest pan-India competitor of Supreme
Industries. Finolex’s main target segment is the agriculture
sector which accounts for 70% of its PVC pipes sales. Finolex
has in-house manufacturing of PVC yet its margins are more
13,778 than 900bps below Supreme’s. We believe this is due to two
Finolex
273 (55% of company 170,000 factors: (1) focus on highly competitive irrigation pipes
Industries 5.2%
revenues) segment vs fast-growing housing segment and (2) high
margin fittings as a percentage of PVC pipe sales are less
than 10%, whereas fittings account for more than 20% of
Supreme’s sales. Finolex mainly has a presence in west and
south India.
One of the fastest-growing pipe companies in India (~44%
CAGR over last four years) with the highest realisation. The
company manufactures PVC and CPVC pipe systems. The
8,254
company has increased focus on CPVC pipes (60% of FY13
Astral Poly 208 (100% of company 49,495 12%
sales) as their margins are better than PVC pipes. The
revenues)
company has a tie-up with Lubrizol for CPVC raw material
sourcing. Astral’s distribution network is mainly in west India
and is now building in South India.
Four-decade-old firm (mainly present in South/West India)
manufacturing UPVC, CPVC, SWR pipes/fittings. One of the
three Indian partners of Lubrizol for FlowGuard pipes.
Ashirvad Pipes Unlisted 6,759* NA NA Leading player in the Borewell segment (a `8bn market).
Aliaxis, a large global plastic pipes company, acquired
a majority stake in Ashirvad Pipes for US$150mn in Feb,
2013.
Ajay Group is a diversified engineered plastic products
manufacturer with a presence across refrigeration sealing,
Ajay Pipes Unlisted NA NA 12.5% water/irrigation, automotive parts and extruded products.
Apart from UPVC pipes, the company also manufactures
CPVC pipe systems using the technology of Lubrizol.
Company manufactures PVC, HDPE, UPVC pipes sells across
irrigation, construction and infra segments. It offers CPVC
Nandi Pipes Unlisted NA NA NA
pipe systems in a technological collaboration with Sekusui
Chemical Ltd, a Japanese chemical company.
Prince pipes established in 1973 manufactures uPVC, CPVC
pipes and fittings catering to housing, agricultural and
Prince Pipes Unlisted 5,190* NA NA
infrastructure clients. Based on our dealer checks, Prince has
a strong presence in western India.
Source: Company, Industry, Ambit Capital research; Note: * FY12 revenues for Ashirvad Pipes and Prince Pipes

Ambit Capital Pvt Ltd 8


Supreme Industries

(1) PVC pipes - competitive mapping scorecard


We have built a scorecard to evaluate the competitive positioning of six large
organised PVC pipe players in India. We have selected five parameters that we
believe are the key to their performance—three-year average RoIC, revenue size
and growth, financial leverage, product diversity, and distribution network. Based
on our scorecard, Supreme is the best player in the industry followed by
Astral Polytechnik. In our opinion, Jain Irrigation and Prince Pipes are laggards.

Exhibit 9: Supreme best ranked amongst peers (based on Exhibit 10)


3-year Piping
Financial Product Distribution Overall
average revenue size
Leverage diversity network Rank
RoIC and growth
Supreme 2 1 2 1 1 1
Astral Polytechnik 3 2 1 2 2 2
Finolex 4 3 3 5 4 4
Jain Irrigation 5 5 5 6 5 6
Ashirvad Pipes 1 4 4 4 6 3
Prince Pipes 6 6 6 3 3 5
Source: Company, Ambit Capital research; Note: Rank 1 indicates the best player on each parameter in the
industry whilst rank 6 implies the worst-placed player. We have assigned equal weightages to each of the five
parameters.

Exhibit 10: Numbers behind our scorecard


3-year FY13 pipe 3-year pipes FY13 Net Pipe
Company Product Line Most important
average revenue revenue debt/Equity manufacturing Distributors
name beyond uPVC client
RoIC (` bn) CAGR (x) plants
CPVC, PE, PP-R North, Central
Supreme 23.5 16.9 24.7% 0.44 Housing 700+
pipes and fittings and West India
CPVC pipes and North and West
Astral 18.0 8.3 41.2% 0.22 Housing 400+
fittings India
Finolex 8.6 13.8 18.4% 0.65 Fittings Agriculture West India 500+
Jain PE pipes and 2 West and South
8.4 11.3 10.0% 1.48 Agriculture 3000+
Irrigation fitting products India
Ashirvad 4000
31.8* 6.7* 39.3%* 0.84* CPVC and fittings Housing South India
Pipes retailers
CPVC, PP-R and Housing and West and North
Prince Pipes 7.0* 5.2* 16.4%* 2.37*
fittings agriculture India
Source: Company, Industry, Ambit Capital research; Note: *For the unlisted players, Ashirvad Pipes and Prince Pipes, we have taken only FY12
numbers from the Ministry of Corporate Affairs’ website to evaluate financial performance.

Result: Domestic PVC pipe players are not a threat to Supreme


Our competitive mapping report card implies that there is no material threat to
Supreme’s market leadership in PVC pipes from domestic players. Finolex is
focusing on the agriculture sector, which accounts for 70% of its PVC pipes sales.
Astral Polytechnik is building its distribution reach in the niche CPVC product. Jain
Irrigation is not in direct competition with Supreme Industries as it sells entire
irrigation systems wherein PVC pipe is a component. Other organised players like
Prince Pipes and Ajay Group are currently too small in size to compete on a pan-
India scale.
Now, a large global player with deep pockets like Aliaxis (acquired a majority
stake in Ashirvad Pipes) can be a strong competitor by quickly scaling up its
capacity and distribution reach. We believe that several other large international
players like Huliot plastic pipes and the Tessenderlo Group would like to enter the
fast-growing Indian markets. In fact, Huliot conducted a feasibility study to enter
the Indian markets in 2009.
 Three-year average Return on Invested Capital: Supreme has the second-
highest three-year average RoIC due to efficient capital allocation in fast-
growing products. Finolex and Jain Irrigation despite larger turnover than
Supreme have allocated capital in the less-profitable agriculture and micro

Ambit Capital Pvt Ltd 9


Supreme Industries

irrigation sector, resulting in lower RoIC. Astral Polytechnik has improved its
RoIC on a small base due to strong demand of CPVC pipes. Ashirvad Pipes has
the highest RoIC on a small base whereas Prince Pipes is the worst placed.
 Piping revenue size and growth: In our opinion, growth on a large base
creates a platform for growth through internal accruals. Our rank is based on
the average of piping revenue size and piping revenue growth. Thus, Supreme
with market leadership and second-best growth is ranked 1. Astral has the
highest growth but due to its smaller size, it is ranked 3.
 Financial leverage: We believe stronger balance sheet will enable the
company to expand through capacity expansion and acquisitions. Astral has
the best net debt:equity (0.22x) whilst Jain Irrigation (net debt:equity of 1.5x)
and Price Pipes (net debt/equity of 2.3x) are highly leveraged.
 Product diversity: In our opinion, products catering to multiple industries
provide numerous growth avenues in the fast-penetrating engineered plastics
segment. Fittings account for 20-25% of sales for Supreme vs 35% for Astral
and only 10% for Finolex. We rank Supreme as rank 1 because it has a largest
product portfolio with 5,682 products in the plastic piping segments alone.
Also, Supreme has consistently increased its VAP contribution to the plastic
piping segment revenues in the past six years by launching new fittings and
PVC pipe products like CPVC, leading to higher-than-peer EBIT margin.
Supreme has products for multiple industries such as building, agriculture and
infrastructure.

Exhibit 11: VAP drives plastic piping revenue growth Exhibit 12: Fittings growth driven by consistent new
launches

220 30% 5,800 200


5,600 175
170 25%
5,400 150
120 20% 5,200 125
5,000 100
70 15%
4,800 75
20 10% 4,600 50
FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY10 FY11 FY12 FY13

Pipe mtrs sold (metres) Pipe products (nos)


VAP % share in piping revenues (RHS) Pipe fittings (mn pcs, RHS)

Source: Company, Ambit Capital research Source: Company, Ambit Capital research

 Distribution network: A strong distribution network allows a company to


increase the penetration of its products. Supreme has 22 manufacturing plants
spread across India whereas other players are concentrated in west and south
India. As a result, Supreme has developed a strong presence in the less-
Fast growing CPVC pipes
competitive north and east India markets with minimum delivery time and
6 without additional freight charges.
4
(2) CPVC: Prime example of Supreme’s product launches strategy
2
Supreme launched CPVC pipes (used for hot and cold water applications) in 2008,
0 with a modest capacity. The demand for CPVC pipes has recorded a CAGR of
FY11 FY12 FY13 more than 40% in the last four years. In our opinion, raw material sourcing for
CPVC is the main barrier for new entrants, as there are only two manufactures of
Astral (Rs.bn) Supreme (Rs.bn)
CPVC resin in the world—Lubrizol and Kaneka. Supreme has an exclusive tie-up
Source: Company with Kaneka for CPVC resin supply in India. Lubrizol supplies CPVC resin to three

Ambit Capital Pvt Ltd 10


Supreme Industries

players in India—Astral, Ajay Pipes and Ashirvad Pipes. Supreme is planning to


launch CPVC pipes for industrial and fire sprinkler applications and so is Astral.

Comparing Supreme’s cost structure with Astral Polytechnik


Supreme has higher gross margins as compared to Astral Polytechnik because
Supreme gets cash discount on purchase of PVC resin from domestic
manufacturers and better product mix (high margin Silpaulin and fittings products).
Supreme has higher power and fuel cost due to use of expensive captive power in
Southern states such as Tamil Nadu. Further, Astral has higher advertising costs
because of its national media advertising v/s low cost local media marketing
strategy of Supreme Industries. Hence, Supreme has higher EBITDA/EBIT margins.
Whilst Astral has significantly reduced its net-debt-to-equity in FY13 (0.22x v/s
0.85x in FY12) resulting in lower interest costs, Astral’s interest expense as % of
sales are still higher than Supreme. However, Supreme’s PAT margins are similar
to Astral due to higher tax expense as Astral got MAT credit entitlement in FY13.

Exhibit 13: Comparison of Supreme cost structure with Astral Polytechnik


FY11 FY12 FY13
% of revenues unless otherwise specified
Supreme Astral Supreme Astral Supreme Astral
Net Income (` mn) 24,297 4,113 28,587 5,827 33,880 8,254
Cost of materials consumed 67.0% 71.7% 67.8% 71.7% 67.7% 71.5%
Gross margin 33.0% 28.3% 32.2% 28.3% 32.3% 28.5%
Employee cost 4.0% 2.6% 3.9% 2.6% 3.8% 2.5%
Power and Fuel cost 4.2% 2.4% 4.1% 2.5% 4.1% 2.3%
Freight and Forwarding charges 1.7% 2.5% 1.5% 1.5% 1.4% 1.6%
Commissions and discounts 3.1% 2.7% 1.7% 3.3% 1.3% 2.9%
Advertising and Publicity Expense 0.7% 1.4% 0.7% 1.0% 0.6% 2.0%
Labour charges 2.1% 0.0% 2.2% 0.0% 2.3% 0.0%
Repair Expenses 0.7% 0.7% 0.5% 0.5% 0.5% 0.3%
Other SG&A 2.9% 2.5% 2.7% 2.7% 2.7% 2.9%
EBITDA margin 13.7% 13.4% 14.9% 14.2% 15.5% 14.0%
Depreciation 2.5% 2.6% 2.5% 2.4% 2.4% 2.2%
EBIT margin 11.1% 10.8% 12.4% 11.8% 13.1% 11.8%
Interest Expense 1.8% 1.1% 2.0% 3.9% 1.6% 2.3%
Interest received 0.1% 0.1% 0.1% 0.1% 0.1% 0.0%
Other income 0.2% 0.2% 0.1% 0.5% 0.0% 0.2%
PBT margin 9.6% 10.1% 10.5% 8.6% 11.6% 9.7%
Tax expense 3.3% 2.1% 3.5% 1.8% 3.8% 2.3%
PAT margin 6.3% 8.0% 7.0% 6.8% 7.7% 7.4%
Source: Company, Ambit Capital research

(b) Packaging: Silpaulin created new segment


Supreme Industries has created a new segment in the tarpaulin industry through
its highly successful product, Silpaulin. The company has an exclusive patent with
RPD Rasmussen Polymer for selling it in India and SAARC countries until 2023.
Supreme got this patent through the merger of group company Siltap Chemicals in
2003. We believe Silpaulin’s product placement is perfect between HDPE and
Nylon.

Ambit Capital Pvt Ltd 11


Supreme Industries

Exhibit 14: Silpaulin has a unique positioning - high quality and value for money

High Price
Nylon

Low Quality Silpaulin High Quality


PE films

Cotton
Low Price

Source: Company, Ambit Capital research

Silpaulin is three times cheaper than nylon films, thus limiting competition from
nylon films from price-sensitive buyers. Although Silpaulin is twice as expensive as
HDPE films, Silpaulin’s price range for small-ticket buyers like farmers is between
`150- `500, making it highly affordable. Also, Silpaulin has a longer life than
HDPE. Overall, our dealer checks also suggest that Supreme has created a brand
for Silpaulin and the demand is quite strong in India, except in/near Chennai

(c) Industrial: Supreme is an average player


The industrial segment services the auto industry, bottling crates and consumer
durable appliances. Competition in the industrial products segment is intense and
fragmented. Supreme has the lowest three-year revenue CAGR amongst peers
and its three-year average EBIT margins at 12.7% are above Machino Plastics and
Plastiblend but below Time Technoplast. In our opinion, the advantage of
operating in this segment is sales visibility but the disadvantage is limited pricing
power and client concentration risk. Overall, our analysis suggests that Supreme
does not have a competitive advantage over its peers.

Exhibit 15: Industrial plastic products overview Exhibit 16: Supreme is an average player in the
industrial segment
Important % of
Industry Key Competitors
Clients sales
Motherson Sumi, Machino 30% 20%
Tata Motors,
Plastics, Sintex Industries, 25%
Auto Maruti Suzuki, 30%
Precision Pipes, Time 15%
Piaggio 20%
Technoplast
15% 10%
10%
Consumer 5%
Whirlpool 30% Precision Pipes, Plastiblends 5%
Durables
0% 0%
Supreme: Machino Time Plastiblend
Industrial Plastics Technoplast
Bottling Coca Cola, Nilkamal, Time Technoplast,
40%
Crates Pepsi Tulsi Extrusions 3 year CAGR sales growth
3 year average EBIT margin (RHS)

Source: Company, Ambit Capital research Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 12


Supreme Industries

(d) Supreme shedding consumer products weight


Over the last decade, Supreme Industries has exited several low-margin consumer
plastic products like mats (FY11-12), food serviceware and embossed sheets in
Exiting competitive consumer FY07. As a result, the revenue contribution of consumer products to overall
products
revenues has more than halved from 21% in FY04 vs 8.4% in FY13. The plastic
furniture industry has high competition intensity from unorganised players. We
20 20%
15 15%
have compared Supreme with Nilkamal (largest plastic furniture manufacturer) to
10 10% identify Supreme’s competitive positioning in this segment. Nilkamal, although
5 5% larger in size, has lower margins than Supreme. Supreme is focusing on VAP
0 0% products for higher margins at the expense of lower topline growth. Although
FY10 FY11 FY12 FY13 Supreme has increased its VAP share in the consumer segment to 40% vs 31.6%,
Supreme Sales (Rs. bn)
Nilkamal Sales (Rs. bn) yet the margins are lower than the overall company margins. This discrepancy
Supreme EBIT margin(RHS)
Nilkamal EBIT margin(RHS)
highlights that the standard furniture business is not very profitable.

Source: Company
(e) Composites: High potential, high uncertainty
Supreme will create a new segment in FY15 through composite products such as
composite cylinders, composite pipes, composite pallet and composite auto
components. To start off, the company will focus on export of composite cylinders
to the Middle East. We believe the market has underestimated the risks involved in
the composite products of Supreme Industries. We agree that composite cylinders
(the main focus in Supreme’s composite portfolio) have a large untapped potential
market in the Middle East and India. However, it will not be easy for Supreme to
enter the composites cylinder market because:
 Supreme is a step behind competitors in product development: Supreme
has not yet developed composite cylinders whereas large international players
such as Hexagon Composites and Luxfer Gas Cylinders have been selling
composite cylinders for more than a decade. Even the local competitor, Time
Techoplast, has access to the composite cylinder product through the
acquisition of Kompozit-Praha for US$5.2mn in 2009.
 Composite cylinders to be priced more than twice as much as current
steel LPG cylinders: Supreme’s composite cylinders will be priced around
`3,000/cylinder. In our opinion, the end consumer will have to bear the extra
cost of replacing the steel cylinder. Thus, price-sensitive consumers could
potentially avoid the lightweight advanced composite cylinders.
 Composite drill pipes can be used in short radius oil drilling applications.
Their main advantage over steel pipes is that they can remain bent for a long
time without stress fatigue and can be used in multiple drills. However, the use
of composite drill pipes has been limited, as they break near the plastic and
steel joints due to stress. We are not very bullish on composite drill pipes due
to limited success of this product in other regions.
In order to account for the risks involved in the composite business, we expect
composite revenues of only `750mn in FY15 vs management guidance of `2bn.
Further, we have estimated long-term gross block turnover of 1.0x-1.5x for
composites, significantly below the gross block turnover of Supreme’s other plastic
products (2.3x-2.5x). In our opinion, EBIT margins will consistently increase from
15% in FY15 to 18% in FY17 due to economies of scale.

Ambit Capital Pvt Ltd 13


Supreme Industries

Competitive advantages verified through dealer


checks
We conducted dealer checks across India to understand: (1) why customers buy
Supreme’s products, and (2) the competitive advantage of Supreme in PVC pipes,
CPVC pipes and cross-laminated films.

PVC pipes: Supreme has unmatched reach across India


Competitive edge over  Customers and dealers believe that Supreme has built a moderate brand
peers: Supreme has a through a better quality product and hence it charges a marginal premium
presence in all the regions: to its competitors. The product quality of organised players is better than
south, north, east, west and unorganised players wherein some sell their products without ISI approval.
central, whilst its competitors
do not have national reach  A dealer mentioned that customers can compromise on outside drainage pipes
but the customers are not price sensitive for bathroom fittings as they
are visible and used every day. Supreme has the widest range of fittings
products and this makes Supreme popular with customers.
 There are no supply-side constraints in the PVC pipes market. Also, the
PVC pipes of one company can be easily substituted by those of any other
company, reducing the pricing power of the PVC pipe manufacturer.
 The dealer margins are almost the same for each company.

CPVC pipes: Strong demand but capacity constraints


 The demand for CPVC pipes is very strong across India. Astral and Supreme
have better quality products than Prince and other unorganised players.
 According to the dealers in Mumbai, Supreme’s products are not easily
available as compared to those of Prince and Astral. The management
confirmed that they are not very strong in Mumbai but they have a good
network in the rest of Maharashtra.
 The dealers have to pay for Supreme’s products in advance in Chennai,
as there are only two distributors in Chennai.

Silpaulin: Created a unique segment with a strong brand name


 Silpaulin has been available in the Indian market for the last 27 years. The
buyers of Silpaulin can be classified into three segments—industries, truck
Competitive advantage of owners and farmers.
Silpaulin: Cheaper than nylon
and can substitute nylon  Silpaulin is placed between competitive tarpaulin products made from nylon
tarpaulin applications; better and HDPE. Silpaulin is sold at about `300/kg whereas HDPE is sold at
quality than HDPE films but `120/kg. Nylon is more than three times more expensive than Silpaulin. Also,
Silpaulin is not very expensive Silpaulin’s product life is 2-3 years which is in the middle range of the product
as compared to HDPE life of nylon (10-15 years) and HDPE (1 year).
 It has built a strong brand name in the market due to its value-for-money
product positioning and good product quality.

Ambit Capital Pvt Ltd 14


Supreme Industries

Snowball effect to gain momentum


We analysed Supreme’s business performance over the last 15 years and found
three markedly different phases of evolution. The next phase from hereon will be a
high-growth phase (on a high revenue base) driven by mega capex plans.
Exhibit 17: Evolution to a great business model – part 1

Phase1: First Phase2: Planted seeds for Phase3: Bore fruit from Phase4: Mega Capex
80 to drive growth with
failed attempt to high growth and RoE ideal product placement 19%
stable RoCE
70 improve business strategy Total Revenue
17%
Revenues (Rs. bn)

model
60
Composites
15%
50
13% Consumer
40
11% Industrial
30
20 9% Packaging

10 7% Plastic Piping
0 5% EBIT margin
FY98

FY99

FY00

FY01

FY02

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

FY14E

FY15E

FY16E
Source: Company, Ambit Capital research

Exhibit 18: Evolution to a great business model – part 2

Phase1:
60% Phase2: Planted seeds Phase3: Bore fruit Phase4: 3.5
First failed
for high grow th and from ideal product MegaCapex to
attempt to 3.0 RoE
50% RoE placement strategy drive grow th
improve (LHS,%)
w ith stable RoE
business 2.5
40%
2.0
30% Capex-
1.5 to-CFO
20% (x) (RHS)
1.0
10% 0.5 Debt-to-
Equity (x)
0% 0.0
(RHS)
FY14E

FY15E

FY16E
FY98

FY99

FY00

FY01

FY02

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

Source: Company, Ambit Capital research

Phase 1 (FY1998-FY2001): First attempt (failed) to improve business model


 In FY98, Supreme’s interest cost was 10% of turnover, leading to lower RoE.
Hence, the new strategy by the management in FY98 was to achieve pre-tax
RoE of 20% by reducing interest costs to 5% of turnover by repaying debt.
This was the first signal by the management for improving returns for
shareholders. During this period, the management not only restructured the
group but also reduced capex to repay debt.
Exhibit 19: Restructuring measures during phase 1 to improve RoE
Year Disposal/restructuring loss-making asset/subsidiary
FY2000 Disposed off loss-making Premier Lighting Industries
FY2000 Turnaround of Supreme Vinyl Films Limited from loss-making
FY2001 Closed down Supreme Capital Management
FY2001 Shut down Huntsman Supreme
Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 15


Supreme Industries

 However, the company failed to deliver on its promises. Supreme’s RoEs


did not improve in FY1998-FY2001. To add to its troubles, Supreme had a
huge capital expenditure in FY01 (2.2x of CFO) which it funded through
borrowings, leading to an increase in the gross debt:equity again to 2.0x in
FY2001 from 1.5x in FY2000. At the end of FY2001, the company again
targeted a debt-to-equity ratio of 1.0x by FY04 through consolidation of its
existing business and sale of idle assets.
Phase 2 (FY01-06): Planted seeds for high growth and RoEs through
deleveraging and product mix change
 Over FY01-04, Supreme Industries reduced its debt by `720m through
operating cash flow and cutback on expansion capital expenditure in consumer
products segment. The company achieved its targeted D/E of 1.0x in FY04.
 After deleveraging, Supreme changed its product mix (increased exposure to
cross-laminated films and pipes at the expense of consumer products), which
laid the foundation for a fourfold jump in the phase 3 post-tax RoE (10.6% in
FY06 vs 41.7% in FY12).
 In FY03, Supreme Industries merged Siltap Chemicals to get exclusive patent
rights of its future blockbuster product—cross-laminated film. Also, in FY04-06,
Supreme had a cumulative capital expenditure of more than `1,491mn,
mainly to increase the capacity of PVC pipes and fittings, thereby laying the
foundation for a strong revenue CAGR of 19% in phase 3.
Phase 3 (FY07-12): Bore fruits of the ideal product placement strategy
 The management’s product placement strategy to avoid competition with
exports and to focus on fast-growing freight-intensive plastic products such as
PVC pipes and Silpaulin paid rich dividends in phase 3. The company recorded
sales CAGR of 19% in FY06-12.
 Their VAP focused product strategy led to improvement in EBIT margins
(782bps during FY06-12) and debt reduction resulted in lower interest costs.
As a result, RoCEs improved from 8.0% in FY06 to 23.4% in FY12.
 Strong revenue growth and lower raw material prices due to decline in crude
prices led to 33% EBIT CAGR. This along with an improvement in working
capital days (31 days in FY12 vs 52 days in FY08) helped the company
generate a cumulative operating cash flow of ` 11.4bn.
 Supreme reduced its gross debt:equity from 1.1x in FY06 to 0.5x in FY12 and
tripled its capital expenditure (`8.1bn in FY07-12 vs `2.4bn in FY01-06)
through internal accruals.
Phase 4 (FY13-FY16E): Mega capex to drive growth with stable RoCEs
 In our opinion, Supreme got its product portfolio right in the previous phase.
Now, we expect Supreme to increase the capacity of its high-demand
products, such as PVC, CPVC pipes and Silpaulin, through a capex of `13.0bn
in FY13-16 vs ` 5.9bn in FY09-12. The company plans to increase the PVC
pipes capacity from 200,000 tonnes in FY12 to 325,000 tonnes by FY15.
 We believe Supreme’s strong EBIT CAGR of 17% in FY12-17 will generate a
cumulative operating cash flow of `20.9bn in FY13-16, which would be
sufficient to fund its mega capex plans and repay debt of `1.0bn by FY16.
 Also, during this phase, the company will introduce a new product segment—
composite products (such as composite cylinders and composite pipes).
Composite products have a huge potential but with business risks.
 Overall, we believe the RoCEs, excluding real estate assets, at ~25% and EBIT
margins of 13-14% will remain stable in FY13-17 as capex in the existing
products will supplement revenue growth.

Ambit Capital Pvt Ltd 16


Supreme Industries

Reaping rewards of efficient capital allocation


We believe efficient capital allocation is the crux to building a successful plastic
processing business. Supreme’s management has thoughtfully designed its product
mix over the last 10 years by exiting commodity plastics and increasing its share of
VAP (31.7% as on June 2013 vs 22% in FY09). During this period, Supreme has
consistently increased the capacity of high demand products like plastic pipes and
cross-laminated films without losing balance sheet strength. Supreme is reaping
the benefits of efficient capital allocation in the following two areas:
(1) Expansion of the distribution feedback loop: Supreme has strategically
built 22 manufacturing plants to penetrate all the five regions in India. As a result,
Supreme has the most cost-efficient distribution network in the industry. The
company has built a successful feedback loop system through distributors to
understand the customer’s needs and the structural changes in the industry. This
unique feedback loop has helped Supreme make minor modifications to its
existing product line without significant additional freight costs. As a result, value-
added products (with EBIT margins higher than 17%) constitute 31.7% of total
sales, leading to higher-than-industry-average EBIT margins.
An example of gains from the distribution feedback loop is consistent new
launches in high-margin fittings products. The company plans to launch 30 new
fitting products in the next quarter alone. According to the management, fitting
products account for more than 20% of its plastic piping segment vs 10% for its
largest peer, Finolex Industries. In sync with its product modification strategy,
Supreme plans to launch a new CPVC product for industrial applications and
noise-free PVC pipes for high-rise towers.
Exhibit 20: Rising share of VAP in piping and Exhibit 21: … consistently high revenue growth and
packaging system led to…. steadily increasing RoCE

35 Rsbn 40%
30% 30%
30 Consumer EBIT
durables 25% 25%
margin
25
30% Industrial 20% 20% (RHS)
20 products
15% 15% RoCE
Packaging (RHS)
15
products
20% 10% 10%
10 Plastic piping
5% 5% Revenue
5 Growth
VAP revenue 0% 0%
- 10% share (RHS)
FY09

FY10

FY11

FY12

FY13
FY09

FY10

FY11

FY12

FY13

Source: Company, Ambit Capital research Source: Company, Ambit Capital research

(2) Achievement of an ideal product portfolio: In the last decade, Supreme


has moved out of low-margin commodity products such as food serviceware and
BOPP film. Supreme shut down its two consumer product manufacturing plants in
Malanpur and Daman. On the other hand, the company has pro-actively
increased its focus on PVC pipes and cross-laminated films (as can be seen from
the table below). It has launched highly successful products in the piping segment
such as CPVC, fittings products, and uPVC pipes. Supreme added its blockbuster
product—cross-laminated films—through a merger of Siltap Chemicals in 2003.

Ambit Capital Pvt Ltd 17


Supreme Industries

Exhibit 22: Changes in product/ revenue mix towards piping and packaging systems
Year Plastic Piping System Consumer Products Industrial products Packaging Products
(+) Rigid PVC film and BOPP
2002
film.
(+) Cross laminated film, Wide
2003
Width film
(+) Polypropylene random Co-polymer
2004 (-) BOPP Film
pipes and fittings
2006 (-) Wide width film
(-) Food Service ware and (+) material handling
2007
embossed sheets pallets
(+) HDPE Pipe Systems, CPVC Pipe
2008
systems
(+) uPVC Pipes, LLDPE Tube and
2009
Inspection Chambers
2012 (+) Manholes (-) Mats
Source: Company, Ambit Capital research, Note: (+): new product addition, (-) product deletion from portfolio

Rewards of efficient capital allocation: Supreme has recorded revenue CAGR


of 21% in FY08-13 and its EBIT margins have increased by 820bps in FY08-13. As
a result, Supreme has the highest RoIC amongst the listed plastic pipe
manufacturers. RoICs above 25% and efficient working capital management have
meant that Supreme has generated strong operating cash flows which are again
reinvested in the business, thereby creating a snowball effect. As a result, Supreme
has funded its capacity expansions without stretching its balance sheet.

Exhibit 23: Supreme has the highest RoIC amongst Exhibit 24: Supreme achieved 25% sales CAGR in
peers FY09-13 without stretching its balance sheet

30
60%
25
50%
20 40%
RoIC (%)

15 30%
10 20%
5 10%

0 0%
FY10 FY11 FY12 FY13 -10% FY10 FY11 FY12 FY13

Supreme Industries Finolex Supreme Industries Finolex


Jain Irrigation Astral Polytechnik Jain Irrigation Astral Polytechnik

Source: Company, Ambit Capital research Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 18


Supreme Industries

Mega capex to drive growth with


stable RoCEs
We expect Supreme to increase the capacity of high-demand products such as
PVC, CPVC pipes and Silpaulin through a capex of `13.0bn in FY13-16 vs `5.9bn
in FY09-12. Supreme has already incurred a capex of `3.75bn in FY13. The
company plans to further increase the PVC pipes capacity to 325,000 tonnes by
FY15. We believe that Supreme will generate cumulative operating cash flow of
`20.9bn, which would be sufficient to fund its mega capex plans and repay debt of
`1.0bn in FY13-16. Overall, we believe the RoCEs, excluding real estate, ~25%
and EBIT margins (between 13% and 14%) will remain stable in FY13-17 as capex
will supplement revenue growth.

Exhibit 25: Key assumptions (` mn, unless specified)


Particulars FY12 FY13 FY14E FY15E FY16E Comments
Revenues 29,279 34,040 40,413 48,758 56,288
YoY growth (%) 19% 16% 19% 21% 15% Revenue CAGR of 18% in FY13-16 to be driven by
mega capex plans in plastic piping and packaging
Plastic Piping Segment 13,148 16,910 20,909 25,872 31,139 products segments.
YoY growth (%) 25% 29% 24% 24% 20%
The company plans to increase PVC pipes capacity
Packaging Products 7,146 7,000 8,478 9,787 11,073 cumulatively by 47% in the next three years.
YoY growth (%) 24% -2% 21% 15% 13%
Also, Supreme has increased capacity of Silpaulin by
Industrial products 5,431 6,070 6,501 7,232 8,504 40% in FY13.
YoY growth (%) 8% 12% 7% 11% 18%
In our opinion, high-potential composites segment will
Consumer products 2,858 2,760 2,985 3,228 3,491 contribute only 2% of overall sales in FY16.
YoY growth (%) 8% -3% 8% 8% 8%
Adjusted plastics EBIT 3,532 4,439 5,119 6,096 7,277
We expect margins to remain steady at ~13.0% in
Adjusted plastics EBIT margin 12.4% 13.1% 12.8% 12.9% 13.1% FY13-16, as increase in the share of the high-margin
piping segment will be offset by a decline in margins in
Plastic Piping Segment 13.0% 16.0% 14.7% 14.2% 14.0% the consumer and piping segment.

Packaging Products 20.0% 20.0% 20.0% 20.0% 20.0% We believe the piping segment’s EBIT margin of 16% in
FY13 are unsustainable and will decline to 14.7% in
Industrial products 13.0% 12.0% 10.0% 11.0% 12.0% FY14.

Consumer products 14.0% 12.4% 12.8% 11.5% 11.5%


Net depreciation 725 817 1,021 1,190 1,366
Net interest expense to decrease due to decrease in
Net Interest Expense 548 523 452 382 283
debt.
Average interest rate 13.2% 14.5% 11.5% 11.0% 10.5%
PBT before EO 3,474 4,014 4,965 6,751 7,657
Adjusted consolidated PAT 2,107 2,834 3,394 4,108 4,980 Strong 14% volume CAGR in FY13-16 will drive growth
in net profit. Lower interest costs will lead to marginal
Consolidated PAT margin 7.4% 8.4% 8.5% 8.7% 9.0% improvement in margins.
Adjusted plastic business EPS
15.9 20.6 25.0 30.5 37.3
(`.)
Average Working capital days We expect working capital cycle days to increase due
31 19 24 26 28
excluding cash & real estate to decline in trade payables.
Capital Employed turnover Capital employed turnover to remain steady as mega
2.76 2.92 2.86 2.83 2.78
excluding real estate capex will be complemented by sales growth.
CFO 3,519 4,046 4,365 6,102 6,448
Strong operating free cash will be sufficient to fund
Capex (762) (3,698) (2,500) (3,250) (3,500) capex and repay debt, producing surplus cash for
Free Cash Flow 2,736 561 1,865 2,852 2,948 reinvestment in business. Hence, net debt to equity will
reduce to 0.1x by FY16E.
Net Debt to Equity 0.48 0.44 0.33 0.17 0.09
Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 19


Supreme Industries

Financial performance—‘greatness’ depicted


Exhibit 26: Mega capex of `13.0bn in FY13-16 to drive Exhibit 27: Product portfolio shift towards piping and
revenue growth, resulting in steady capital turnover packaging segment at the expense of consumers

4.0 4,000 60 30%


3,500 Rsbn
3.5 3,000 50 Consumer
24%
2,500 durables
3.0 40
2,000 18% Industrial
2.5 1,500 products
30
2.0 1,000 Packaging
12%
500 20 products
1.5 0 Plastic piping
10 6%
FY11

FY12

FY13

FY14E

FY15E

FY16E systems
0 0% Total sales
growth (RHS)

FY11
FY12
FY13
FY14E
FY15E
FY16E
Capex (Rsmn, RHS)
Capital employed turnover ex. real estate (x) (LHS)
Source: Company, Ambit Capital research
Source: Company, Ambit Capital research

Exhibit 28: We expect 17% revenue CAGR in FY13-16 at Exhibit 29: Rising share of EBITDA from the Piping and
steady EBIT margins of ~13% Packaging products segment

24% 18% 9,000 16%


Rsmn
16% 8,000
Consumer
7,000
18% 14% durables
6,000 15% Industrial
12%
5,000 products
12% 10% 4,000 Packaging
8% 3,000 14% products
6% 6% Plastic Piping
2,000
Systems
FY14E

FY15E

FY16E
FY11

FY12

FY13

1,000
Total EBIT
0 13% margin(RHS)
FY11
FY12
FY13
FY14E
FY15E
FY16E

Revenue growth EBITDA margin(RHS)


EBIT margin (RHS)
Source: Company, Ambit Capital research Source: Company, Ambit Capital research

Exhibit 30: High growth on a large base will lower Exhibit 31: High RoCEs leading to sufficient CFO to fund
financial gearing capex and repay debt

20 1.0 4 40%
18 0.8 3
30%
16 0.6
2
14 0.4 20%
1
12 0.2
- 10%
10 -
FY11 FY12 FY13 FY14E FY15E FY16E (1) 0%
FY11 FY12 FY13 FY14E FY15E FY16E
Working capital turnover excl. real estate (X) (LHS) CFO (Rsbn) FCF (Rsbn)
D/E (x) (RHS) RoCE (RHS) RoE (RHS)

Source: Company, Ambit Capital research Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 20


Supreme Industries

Ambit vs Consensus
Exhibit 32: Ambit vs consensus estimates
Consensus Ambit Divergence Comments

Revenue (` mn)
Our FY14 revenue estimates are in line with
FY2014 40,842 40,413 -1.1% consensus and management guidance of 19%
YoY revenue growth
FY2015 47,837 48,758 1.9%
Reported EBIT (` mn) Our EBIT margin forecasts are higher than
consensus estimates because we assume an
FY2014 5,081 5,387 6.0%
increase in the percentage of high-margin
FY2015 6,117 7,101 16.1% Silpaulin and CPVC pipes to overall EBIT.
Reported Cons. EPS (`)
Above consensus mainly due to higher EBIT
FY2014 26.5 28.1 6.2%
estimates
FY2015 31.3 37.7 20.4%
Source: Company, Bloomberg, Ambit Capital research

Quarterly performance
Exhibit 33: Quarterly performance of the company (` mn, unless specified)
1QFY12 2QFY12 3QFY12 4QFY12 1QFY13 2QFY13 3QFY13 4QFY13
Volumes sold (tonnes)
Plastic piping segment 26,290 41,067 39,948 43,959 36,972 40,935 47,500 54,105
Packaging products 8,481 9,979 9,557 9,360 9,572 10,417 11,117 9,635
Industrial products 7,949 8,870 11,589 9,917 9,487 10,373 10,952 11,346
Consumer products 4,041 4,778 4,890 5,025 3,981 4,862 4,947 4,944
Net realisation per kg (`) 100 109 114 133 101 120 120 127
Net Sales 5,012 7,697 7,685 9,263 6,176 8,150 9,177 10,362
YoY growth (%) 6% 32% 16% 24% 23% 6% 19% 12%
Total operating expenditure 4,301 6,494 6,637 7,507 5,329 6,956 7,833 8,644
% of net sales 86% 84% 86% 81% 86% 85% 85% 83%
EBITDA 711 1,203 1,048 1,756 848 1,194 1,344 1,718
YoY growth (%) -9% 48% 25% 54% 19% -1% 28% -2%
EBITDA margin (%) 14.2 15.6 13.6 19.0 13.7 14.7 14.6 16.6
Depreciation 172 171 172 211 186 190 197 291
EBIT 549 1,044 880 1,549 663 1,004 1,147 1,454
EBIT margin 11.1% 13.7% 11.6% 16.9% 10.9% 12.5% 12.7% 14.3%
YoY growth (%) -18% 57% 31% 56% 21% -4% 30% -6%
Interest 133 142 152 121 115 138 137 147
Profit before tax 416 902 728 1,428 548 866 1,010 1,335
YoY growth (%) -31% 61% 34% 65% 32% -4% 39% -7%
Tax 138 288 235 490 178 283 330 413
Adjusted net profit 326 593 548 950 390 664 758 995
YoY growth (%) -29% 43% 13% 58% 20% 12% 38% 5%
Net profit margin (%) 6.5 7.7 7.1 10.3 6.3 8.1 8.3 9.6
EPS 2.6 4.7 4.3 7.5 3.1 5.2 6.0 7.8
Source: Company

Ambit Capital Pvt Ltd 21


Supreme Industries

Valuations not reflective of supreme


plastics business
We have used SOTP valuation for Supreme Industries—DCF valuation for the
plastic processing business, market value of the real estate assets and current
trading share price of Supreme Petrochem, resulting in a target price of `442 for
Supreme Industries. We prefer a DCF-based valuation for Supreme’s plastic
business, because we believe that this is the best way to value a company that is
capital-intensive and on a high-growth trajectory. Our DCF-based valuation of
`420 for the plastic processing business implies 16.8x FY14E EPS and 13.7x FY15E
EPS (adjusted EPS for the plastics business). Supreme deserves premium valuations
to its peers due to its superior revenue growth and profitability ratios.

Exhibit 34: SOTP valuation per share (`, unless specified)


Segment Equity value per share
Plastic Processing 420
Real Estate 13
Supreme Petrochem 9
Supreme Industries Target Price 442
Current Share Price 348
Upside Potential 27%
Implied Plastic processing business FY14E P/E 16.8
Implied Plastic processing business FY15E P/E 13.7
Implied Plastic processing business FY14E EV (` mn) 55,807
Implied Plastic processing business FY15E EV (` mn) 62,270
Implied Plastic processing business FY14E EV/EBITDA 9.1
Implied Plastic processing business FY15E EV/EBITDA 8.5
Source: Company, Ambit Capital research, Bloomberg

DCF-based valuation of `420/share


We believe that DCF is the best method to value plastic processing companies,
because the key value drivers will be free cash flows based on revenue growth,
profitability (RoIC and EBIT), working capital turnover and capital employed
turnover. Our DCF-based valuation drivers/determinants are as follows:
Snowball effect from increasing revenue size: As mentioned earlier,
Supreme’s perfect product portfolio positioning in the last five years created a
snowball effect for operating cash flow generation. We expect Supreme’s snowball
to gain momentum over the next five years (FY13-16), generating operating cash
flow of `20.9bn, which would be sufficient to fund capital expenditure and repay
debt. The key determinants of our FCF are:
a) Near-term and long-term revenue growth estimates: Our 18% revenue
CAGR forecasts for FY13-16 are based on capacity expansion done by
Supreme in high-demand PVC pipes and Silpaulin. We believe main growth
driver of 14% volume CAGR in FY13-16 would be increasing penetration of
engineered plastic products as Supreme has moderate pricing power (4% price
increase CAGR in FY13-16) in its existing products. After FY16, our revenue
growth assumptions are more moderate than FY13-16, because we expect
growth to taper off to ~10% for its existing product portfolio. Our five-year
revenue CAGR over FY12-17E is at 17% vs 11% over the next five years (FY17-
22E). Our ten-year revenue CAGR over FY12-22E is at 13%.

Ambit Capital Pvt Ltd 22


Supreme Industries

Exhibit 35: Capacity expansion in PVC pipes and Exhibit 36: ..leading to higher contribution of plastic
Silpaulin will drive revenue growth… piping and packaging products in total revenue

60 30% 100% 8% 7% 6%
10% 8%
Rsbn Consumer
50 Consumer 17% 16% 16%
24% 80% 19% 19% durables
durables
40 Industrial 22% 21% 20% Industrial
18%
products
60% 25% 21% products
30
12% Packaging
40% Packaging
20 products
products
54% 56% 57%
6% Plastic piping
20% 46% 52%
10 systems Plastic piping
Total sales systems
0 0% 0%
growth (RHS)
FY11
FY12
FY13
FY14E
FY15E
FY16E

FY12

FY13

FY14E

FY15E

FY16E
Source: Company, Ambit Capital research Source: Company, Ambit Capital research

b) EBIT margins to be range bound: We expect a marginal decline in EBIT


margins in the industrial products and piping segment because piping
segment’s FY13 EBIT margins of 16% are unsustainable. Overall, EBIT margins
will remain steady at ~13% in FY13-16.

Exhibit 37: Total EBIT margin will marginally increase Exhibit 38: Segmental EBIT margins to remain steady
from higher proportion of piping, packaging products

9,000 16% 25%


Rsmn
8,000
Consumer 20%
7,000 durables
6,000 15% Industrial 15%
5,000 products
4,000 Packaging 10%
3,000 14% products

2,000
Plastic Piping 5%
Systems
FY10

FY11

FY12

FY13

FY14E

FY15E

FY16E
1,000
Total EBIT
0 13% margin(RHS)
Plastic Piping Systems Packaging products
FY11
FY12
FY13
FY14E
FY15E
FY16E

Industrial products Consumer durables

Source: Company, Ambit Capital research


Source: Company, Ambit Capital research

c) Operating cash flows: Supreme had an efficient working capital cycle,


excluding real estate, of 19 days in FY13 due to an increase in sundry creditor
days (68 days in FY13 vs 45 days in FY12). We believe FY13 sundry creditors
days will decrease due to the current liquidity crunch market, leading to an
increase in working capital days (excluding cash and real estate) to 24 days in
FY14.
d) Mega capex plans to increase size: Supreme has increased its capacity by
more than 40% in Silpaulin and PVC pipes in the last two years which will drive
sales. Also, Supreme is investing to add high-potential new products in
composite plastics like composite cylinder. Overall, Supreme will incur a mega
capex of `13.0bn in FY13-16.

Ambit Capital Pvt Ltd 23


Supreme Industries

Terminal growth rate of 5%: We have taken a terminal growth rate of 5% for
the company post FY24 which is conservative in our opinion. Supreme’s revenues
have never declined on a YoY basis in the last 30 years and we do not think plastic
penetration will reach a level that will pull Supreme’s growth lower to 5%.
WACC of 14%: We assume Cost of Equity of 15% and take a WACC of 14%. We
believe Supreme’s beta is understated due to lower liquidity. Hence, we have
assumed beta of 1.25x for Supreme.
Our 12-month DCF-based valuation of `420/share valuation implies 16.8x FY14
adjusted plastics EPS and 13.7x FY15 adjusted plastics EPS.

Exhibit 39: FCF over FY14-24E Exhibit 40: Terminal value forms 67% of the enterprise
value
2,800 (Rs mn) 30% Particulars ` mn
2,400
25%
2,000 PV of the forecasting period up to FY24E 22,900
1,600 20%

1,200 Terminal value 32,907


15%
800
10% Enterprise value 55,807
400
0 5%
Less: net debt at June 2014 2,505
FY14E

FY15E

FY16E

FY17E

FY18E

FY19E

FY20E

FY21E

FY22E

FY23E

FY24E

Implied equity value 53,302


PV of FCFF
WACC (RHS)
RoCE excluding real estate (post tax) (RHS) Implied equity value (` per share) 420

Source: Company, Ambit Capital research Source: Company, Ambit Capital research

Exhibit 41: Sensitivity to our WACC and terminal growth rate


Terminal growth rate
TP: ` 420 3.0% 4.0% 5.0% 6.0% 7.0%
12% 484 525 578 648 747
13% 420 450 488 537 602
WACC
14% 368 391 420 455 500
15% 326 344 365 391 424
16% 291 305 321 341 365
Source: Company, Ambit Capital research

Exhibit 42: Sensitivity to average capital employed turnover of plastic business


Average plastic business capital employed turnover Target Price
FY12 FY13 FY14E FY15E FY16E
Base 2.34 2.38 2.31 2.34 2.35 420
Bull 2.34 2.38 2.38 2.53 2.63 468
Bear 2.34 2.38 2.25 2.18 2.12 372
Source: Company, Ambit Capital research

Commercial real estate - contributes only 3% to our target price: Supreme


has ready-to-occupy commercial real estate space of 161,241 square feet in
Andheri, Mumbai, with a value of `2.4bn. The property was developed in FY12 but
due to sluggish demand in commercial real estate, more than half of the area is
unsold. Supreme is not in a cash-crunch situation and hence it has held on to its
price of `15,000/sq ft. We have estimated that Supreme will be able to sell this by
FY16.

Ambit Capital Pvt Ltd 24


Supreme Industries

Supreme Petrochem - contributes only 2% to our target price: Supreme


Industries has a 30% stake in Supreme Petrochem. Supreme Petrochem is the
domestic market leader (with a market share in excess of 50%) in the polystyrene
business. It also exports to multiple countries in Europe and the Middle East. In
India, 90% of polystyrene manufactured is used in consumer durable appliances
such as refrigerators and water purifiers. The remaining 10% polystyrene
manufactured is used in the construction industry. Supreme Petrochem is a small
company with a market cap of `5.7bn and annual turnover of `22.7bn. Its net
profit for FY12 was `0.3bn. We apply a 30% holding company discount to market
value of Supreme Petrochem, resulting in an additional contribution of `9/share
(only 3% of Supreme Industries’ current market price).

Supreme deserves premium valuations to peers


Supreme is trading at 27%/23% premium to its plastic processing peers on FY14E
P/E and FY14E EV/EBITDA. We believe Supreme deserves premium valuations to
its peers due to the superior RoE and better EBITDA margins. We expect Supreme
to record 18% revenue CAGR in FY13-15 vs 14% (consensus) for the industry.
Supreme’s adjusted PAT margins are 280bps above the industry average. As a
result, we expect Supreme’s adjusted RoE to be 34.5% in FY14, twice the industry
average. Supreme’s direct peer in PVC pipes for the construction and building
sector is Astral Polytechnik. Supreme is trading at a 10% discount to Astral
Polytechnik on FY14E P/E and on FY14E EV/EBITDA. In our opinion, Supreme
deserves a premium to Astral due to Supreme’s larger pipes business, multiple
business segments, larger balance sheet and higher RoEs.

Exhibit 43: Plastic processing relative valuation - Supreme deserves a premium due to its higher profitability
Revenue Revenue EBITDA PAT margin
Mcap RoE (%) P/E (x) EV/EBITDA (x)
Companies (US$mn) CAGR margin (%) (%)
US$ mn FY13 FY13-15 FY14 FY14 FY14 FY14E FY15E FY14E FY15E
Supreme Ind* 719 627 18.0 15.3 8.4 34.3 13.1 10.7 7.5 5.6
Motherson Sumi 2,258 4,655 14.6 8.4 2.8 30.4 17.0 12.9 7.5 6.1
Jain Irrigation 394 904 14.0 15.6 4.3 10.4 10.7 7.3 6.4 5.6
Sintex 122 934 9.2 15.1 6.8 9.9 2.3 2.0 4.0 3.5
Time Technoplast 121 331 17.7 16.3 6.1 13.7 5.9 4.7 4.1 3.6
Finolex Ind 237 391 9.5 10.7 7.8 22.0 18.6 14.6 7.8 6.9
Astral Polytechnik 202 152 18.3 12.9 8.8 25.7 14.5 11.9 10.3 8.4
Nilkamal 24 313 14.4 8.4 2.7 10.7 2.9 2.1 3.0 2.5
India Average 12.5 5.6 17.5 10.3 7.9 6.1 5.2
Global Players**
Aliaxis 1,342 3,057 N.A. N.A. N.A. N.A. N.A. N.A. N.A. N.A.
Tessenderlo Chemicals 881 2,738 (2.1) 9.8 2.9 14.3 13.4 11.1 5.8 5.1
China Liansu 1,848 1,726 14.8 17.9 11.7 21.5 8.6 7.6 4.7 4.2
Global Average 13.8 7.3 17.9 11.0 9.4 5.2 4.7
Source: Company, Bloomberg, Ambit Capital research; Note (a) * June-ending companies, rest are March-ending, (b) Market cap is as on 14 August
2013, (c) ** Global players are December-ending (d) We have used adjusted the financial performance of plastics of Supreme Industries to compare
with its peers.

Ambit Capital Pvt Ltd 25


Supreme Industries

Relative valuation: Let’s think out of the (plastic)


box
We have tried to think out of the plastic box to identify Supreme’s peers in
industries which have similar characteristics. We have selected five key plastic
processing characteristics to identify Supreme’s peers in other industries:
 Industry structure: The highly competitive and fragmented industry structure
is the underlying reason behind Supreme’s limited pricing power.
 Replacement cycle: The replacement cycle of Supreme’s products is between
2 years and 10 years. So, we have identified products with similar product
lifecycles.
 Product ticket size: The average product ticket size is critical to understand
the price sensitivity of the end buyer.
 Market capitalisation: We have selected other mid-cap companies to
compare with Supreme.
After scanning the Indian mid-cap space, we have identified six peers—Finolex,
Astral Polytechnik, Bajaj Electricals, V-Guard, Kajaria Ceramics and Cera
Sanitaryware—that are comparable to Supreme in the internal building
products category (products used for internal construction in the housing
industry). In this extended universe, Supreme is trading at a discount of 15%/14%
on one-year forward P/E and on one-year forward EV/EBITDA multiples to its
peers. Contrary to consensus, we believe Supreme deserves premium valuations
owing to higher RoE, larger revenue size and higher EBITDA margin implying
further upside potential and rerating of Supreme Industries.

Exhibit 44: Think out of the (plastic) box - Supreme is trading at a discount to peers
Revenue Revenue EBITDA PAT margin
Mcap RoE (%) PE (x) EV/EBITDA (x)
Companies (US$mn) CAGR margin (%) (%)
US$ mn FY13 FY13-15 FY14 FY14 FY14 FY14E FY15E FY14E FY15E
Supreme Industries* 719 627 18.0 15.3 8.4 34.3 13.1 10.7 7.5 5.6
Finolex Industries 237 391 9.5 10.7 7.8 22.0 18.6 14.6 7.8 6.9
Astral PolyTechnik 202 152 18.3 12.9 8.8 25.7 14.5 11.9 10.3 8.4
Bajaj Electricals 269 622 15.9 6.0 2.8 19.4 15.0 9.2 7.8 5.4
Kajaria Ceramics 283 296 18.9 15.1 6.6 30.1 13.6 10.5 7.2 6.0
Cera Sanitaryware 107 90 24.2 15.3 9.0 26.1 11.8 9.8 7.1 6.0
V-Guard 266 250 22.2 8.8 5.0 19.5 15.5 12.1 9.8
Average 18.2 11.5 6.7 24.7 15.5 11.9 8.7 7.1
Source: Company, Bloomberg, Ambit Capital research; Note (a)* Companies are June-ending, rest are March-ending, (b) Market cap is as on 14
August 2013 (c) We have used the core plastic business’ financials of Supreme to compare with peers.

Ambit Capital Pvt Ltd 26


Supreme Industries

Cross-cycle valuation: Marginal correction from


all-time high
Whilst Supreme is trading near its all-time high on 1-year forward P/E and
EV/EBITDA multiples, we believe a comparison of the three-year historical cross-
cycle valuations can be deceiving. Over the last three years, Supreme has
recorded revenue growth of 20% in FY10-13, maintaining RoEs consistently above
34%. Thus, Supreme’s rerating of P/E and EV/EBITDA multiples is justified, in our
opinion. We believe there is further potential for rerating underpinned by strong
revenue CAGR of 18% (on a large base) in FY13-16, which will generate sufficient
operating cash flow to fund capital expenditure and repay debt.

Exhibit 45: Supreme’s one-year forward P/E has Exhibit 46: Supreme is trading near its all-time high
marginally corrected from all-time highs valuations backed by a strong operating performance

15 9

13 8
7
11
6
9 5
7 4

5 3

Aug-13
Aug-11

Aug-12
Nov-11

Nov-12
Feb-12

May-12

Feb-13

May-13
Aug/11

May/12

Aug/12

May/13

Aug/13
Nov/11

Feb/12

Nov/12

Feb/13

1 year forward EV/EBITDA (x)


1 year forward PE Average 1 year fwd PE (x) 1 year fwd average EV/EBITDA (x)
SourceCompany, Bloomberg, Ambit Capital research Source: Company, Ambit Capital research ,

Key catalysts
 Higher-than-industry-average volume growth due to recent capacity
expansions: Supreme has spent `3.75bn in FY13 to increase capacity in PVC
pipes and cross-laminated films. The increase in capacity in these two high-
demand products can lead to higher-than-industry volume growth for Supreme
Industries.
 Strong balance sheet to launch new products with the help of
technology tie-ups with international players: We expect Supreme
Industries to generate strong cash flow from PVC pipes and cross laminated
films in at least the next five years. In sync with the company’s strategy,
Supreme could potentially tie-up with an international player to launch a new
product in the Indian market. For example, Supreme acquired the patents for
manufacturing and distribution of cross-laminated films from RPD Rasmussen
Polymer Development AG, Switzerland. In FY13, the product contributed
`3.7bn to the company’s topline, with EBIT margins in excess of 20%.
 Future product modifications could increase turnover and margins:
Supreme has a strong track record of introducing product modification of the
existing product-line to meet consumer needs. For example, Supreme will
launch no-noise high-rise pipes in 1QFY14 in the VAP range (above 17%). The
company could consistently launch such product modifications to increase
turnover and margins.

Ambit Capital Pvt Ltd 27


Supreme Industries

Risks to our BUY stance


 Increase in competition intensity from large international players: We
do not expect a significant threat to Supreme’s market share in the PVC pipes
business from local organised players such as Finolex Industries and Jain
Irrigation. Aliaxis, a large international player (with a CY12 turnover of
US$3.2bn), acquired Ashirvad Pipes for US$150mn. Ashirvad Pipes has CPVC
raw material sourcing tie-up with Lubrizol. Now, a large player with deep
pockets like Aliaxis can quickly scale up its capacity and distribution reach,
thereby increasing competitive intensity in the PVC pipes segment. We believe
that several other large international players like China Lesso Group Holdings
(the largest piping company in China), JM Eagle (the largest plastic pipe
company in the world), Georg Fischer, and the Tessenderlo Group, would like
to increase their exposure in the fast-growing Indian markets.
 Inefficient capital allocation could potentially deteriorate RoCE: In our
opinion, Supreme’s strength over the last decade has been its efficient capital
allocation in the expansion of fast-growing products like PVC pipes and cross-
laminated films. In the future, if the company were to allocate its surplus cash
generated from operations in commodity plastics then Supreme’s RoCE would
deteriorate eventually, reducing the momentum of its snowball effect.
 Substitution of PVC pipes by HDPE pipes: HDPE pipes are technologically
superior to PVC pipes because PVC joints are brittle as compared to HDPE
joints. Currently, HDPE pipes are 25% more expensive than PVC pipes, thereby
limiting their use in India. However, if the price advantage of PVC over HDPE
were to reduce then HDPE pipes could be used as a substitute for PVC pipes.
Whilst this a risk, we believe Supreme, given its portfolio and technological
reach, can also shift its portfolio.
 Wavin could stop technical collaboration in PVC pipes with Supreme:
Supreme’s PVC pipes technology partner is Wavin Overseas, a subsidiary of
Mexichem. Another subsidiary of Mexichem, Aliaxis, has acquired a majority
stake in Ashirvad Pipes (Supreme’s competitor in PVC pipes). So, there is a
remote possibility that Mexichem might stop its technological collaboration
with Supreme to avoid indirect competition with its subsidiary.
 Management key man/ succession risk minimized by divisional
organization structure: Whilst we agree that M.P. Taparia (Managing
Director) has been instrumental in the success of Supreme Industries but
Supreme has divisional organization structure responsible for day-to day
running of company operations. Supreme has an independent chief officer of
each manufacturing plant who manages production/operations of the plant.
The directors have delegated marketing and selling to individual Vice President
(VP) product heads of each product. All the VP’s and chief officers report to
Directors on a quarterly basis.

Exhibit 47: Supreme Management structure

Supreme Industries

Directors
B. L. Taparia, Chairman
M. P. Taparia, Managing Director
B. V. Bhargava, Director
H. S. Parikh, Director
N. N. Khandwala, Director
S. R. Taparia, Director
Y. P. Trivedi, Ind Director

VP, Product head - VP, Product head -


Chief Officer - VP, Product head - VP, Product head -
VP, Finance Packaging Consumer
Plants (23) Piping system Industrial products
products products

Source: Company

Ambit Capital Pvt Ltd 28


Supreme Industries

Accounting analysis: Clean chit


Supreme Industries follows sound accounting practices and emerges as a strong
player on most of our accounting checks. Amongst its peers, Supreme has the
highest RoE, a low debt:equity (0.4x in FY13), a tight working capital cycle, and a
healthy cash flow generation profile. However, the only concern is the higher-
than-peers unclassified loans and advances as a percentage of net assets.
Exhibit 48: Supreme Industries on our forensic accounting score
Field Score Comments
In our accounting analysis of BSE-500 companies, we have classified Supreme Industries as
an ’industrial company‘. Supreme Industries emerges as the best industrial company
Accounting GREEN (amongst 14 industrial companies) on account of its higher ranking on most of the
parameters (such as miscellaneous expenses as a percentage of revenues, other loans &
advances /net worth, asset turnover, and audit fee CAGR/revenue CAGR).
The company has always given a detailed description and has made timely disclosures
Predictability GREEN regarding its future strategy, expansion plans, expected business momentum and expected
earnings performance in their annual reports and during their conference calls.
Earnings Over the last six months, consensus EPS estimates for FY14 and FY15 have been revised
GREEN
momentum upward by 15-20%.
Source: Company, Ambit Capital research

DuPont Analysis: In FY09-13, Supreme Industries’ RoEs have been consistently


above 30%. The increase in Supreme’s RoEs is due to a consistent improvement in
PAT margin. The asset turnover and financial leverage of the company have
reduced between FY09 and FY12 but Supreme still has the best asset turnover and
financial leverage. GREEN FLAG
Exhibit 49: DuPont Analysis
RoE (%) PAT margin (%) Asset turnover (x) Financial leverage (x)
Company/metric
FY10 FY11 FY12 FY13 FY10 FY11 FY12 FY13 FY10 FY11 FY12 FY13 FY10 FY11 FY12 FY13
Supreme Industries 40.2 35.3 37.3 34.1 7.2 6.9 7.8 7.9 3.0 2.7 2.6 2.7 1.9 1.9 1.8 1.6
Astral Polytechnik 26.4 24.8 23.8 28.5 9.5 8.0 6.8 7.3 2.0 2.3 2.5 2.8 1.4 1.3 1.4 1.4
Tulsi Extrusions 8.1 1.8 1.5 N.A. 5.7 1.3 1.2 N.A. 0.9 0.9 0.7 N.A. 1.7 1.6 1.8 N.A.
Finolex Industries 24.3 12.6 11.7 N.A. 9.1 3.9 3.6 N.A. 1.0 1.3 1.3 N.A. 2.7 2.4 2.5 N.A.
Time Technoplast 17.0 17.8 12.6 N.A. 8.5 8.7 5.9 N.A. 1.1 1.1 0.9 N.A. 1.8 1.9 2.0 N.A.
Peers avg. (ex Supreme) 19.0 14.3 12.4 N.A. 8.2 5.5 4.4 N.A. 1.2 1.4 1.4 N.A. 1.9 1.8 1.9 N.A.
Divergence with avg. 21.3 21.0 24.9 N.A. (1.0) 1.4 3.5 N.A. 1.8 1.3 1.2 N.A. (0.0) 0.1 (0.1) N.A.
Source: Ambit Capital research. Note: (a) Financials of Tulsi Extrusions and Finolex Industries are on a standalone basis (b) Supreme is a June-ending
company.

Cash conversion: Supreme’s CFO/EBITDA ratio has deteriorated over FY09-12


due to a sharp fall in average creditor days. Supreme has started paying in cash
for raw materials (like PVC) to avail cash discounts. Supreme’s cash conversion
cycle remains materially better than the industry average. GREEN FLAG
Exhibit 50: Cash conversion cycle
Cash conversion cycle (days) Average creditor days CFO pre tax/EBITDA (%)
Company/metric
FY10 FY11 FY12 FY13 FY10 FY11 FY12 FY13 FY10 FY11 FY12 FY13 FY09-12
Supreme Industries 7 25 21 20 57 43 39 42 70 73 87 86 79
Astral Polytechnik 49 28 18 21 94 107 106 87 71 106 114 64 100
Tulsi Extrusions 205 213 232 N.A. 39 64 72 N.A. (128) (126) 8 N.A. (91)
Finolex Industries -10 15 20 N.A. 85 68 58 N.A. 117 (23) 97 N.A. 113
Time Technoplast 94 91 84 N.A. 39 47 52 N.A. 73 72 75 N.A. 77
Peers average (ex Supreme) 85 87 88 N.A. 64 71 72 N.A. 33 7 73 N.A. 50
Divergence with avg. (78) (62) (67) N.A. (7) (28) (33) N.A. 37 66 14 N.A. 30
Source: Ambit Capital research. Note: (a) Financials of Tulsi Extrusions and Finolex Industries are on a standalone basis (b) Supreme is a June-ending
company.

Ambit Capital Pvt Ltd 29


Supreme Industries

Unclassified loans and advances as a percentage of net assets: Supreme’s


unclassified loans and advances are the highest in the industry but this proportion
has marginally declined from FY11. RED FLAG
Exhibit 51: Unclassified loans and advances to net assets
Unclassified loans and advances to net assets (%)
Companies FY11 FY12 FY13
Supreme Industries 13.7 13.0 13.2
Astral Polytechnik 2.1 1.3 1.2
Tulsi Extrusions 0.4 - N.A.
Finolex Industries 5.8 7.6 N.A.
Time Technoplast 5.7 6.7 N.A.
Peer group average (ex Supreme) 3.5 3.9 N.A.
Divergence with average 10.2 9.2 N.A.
Source: Ambit Capital research, Company. Note: (a) we have not taken loans and advances for FY09 and
FY10 due to the new accounting standard; unclassified loans and advances in FY11 and FY12 are not
comparable to FY09 and FY10. (b) Tulsi Extrusions and Finolex Industries financials are on a standalone basis
and the rest is consolidated. (c) Supreme Industries is as on June ending

Miscellaneous expenses as a percentage of revenues


Supreme’s miscellaneous expenses as a percentage of revenues are among the
lowest vs its peers and have remained stable in FY09-13. Further, as
miscellaneous expenses form less then 0.5% of revenues, it is not a cause for
concern. GREEN FLAG
Exhibit 52: Miscellaneous expenses as a percentage of revenues
Company Misc expenses as % of revenues
FY10 FY11 FY12 FY13
Supreme Industries 0.3 0.3 0.3 0.2
Astral Polytechnik 0.2 0.3 0.2 0.3
Tulsi Extrusions 0.2 0.3 0.4 N.A.
Finolex Industries 0.8 1.3 0.9 N.A.
Time Technoplast 0.3 0.4 0.6 N.A.
Peer group average (ex Supreme) 0.4 0.5 0.5 N.A.
Divergence with average (0.1) (0.2) (0.2) N.A.
Source: Company, Ambit Capital research. Note: (a) Financials for Tulsi Extrusions and Finolex Industries are
on a standalone basis and the rest is consolidated. (b) Supreme Industries is a June–ending company.

Invisible restatement analysis


Supreme’s summation of FY13 quarterly reported numbers, both in terms of sales
and net income, are broadly in line with the FY13 annual revenue and net profit
disclosed in the annual report. Similarly, for most peers, the quarterly and annual
sales and PAT numbers are in sync with the annual report. GREEN FLAG
Exhibit 53: Invisible restatement
Companies Sales deviation PAT deviation
Supreme Industries -0.9% -0.1%
Astral Polytechnik -0.3% 0.8%
Tulsi Extrusions 2.5% 1.3%
Finolex Industries 0.0% 0.0%
Time Technoplast 0.0% 0.0%
Source: Company, Ambit Capital research. Note: (a) Financials of Tulsi Extrusions and Finolex Industries are
on a standalone basis and the rest is consolidated. (b) Supreme Industries is a June-ending company.

Ambit Capital Pvt Ltd 30


Supreme Industries

Balance sheet
Year to June (` mn) FY12 FY13 FY14E FY15E FY16E
Shareholders' equity 254 254 254 254 254
Reserves & surpluses 5,223 6,713 8,536 10,753 13,798
Total net worth 5,477 6,967 8,790 11,007 14,052
Debt 5,203 3,520 4,089 4,089 3,589
Deferred tax liability 812 840 907 907 907
Total liabilities 11,491 11,327 13,785 16,002 18,547
Gross block 12,021 12,451 16,068 18,548 21,798
Net block 7,417 7,394 10,277 11,737 13,797
CWIP 262 338 330 350 350
Investments 916 887 1,098 1,098 1,098
Cash & equivalents 142 144 239 486 1,130
Debtors 1,529 1,712 2,031 2,412 2,848
Inventory 3,454 3,140 4,668 5,284 5,524
Loans & advances 1,536 1,706 1,660 2,028 2,395
Other current assets 19 19 19
Total current assets 6,660 6,702 8,617 10,228 11,916
Current liabilities 2,456 3,027 5,342 6,054 6,872
Provisions 1,323 975 1,196 1,357 1,742
Current liabilities and provisions 3,779 4,001 6,538 7,411 8,613
Net current assets 2,881 2,700 2,079 2,817 3,302
Miscellaneous 16 7 - - -
Total assets 11,492 11,327 13,785 16,002 18,547
Source: Company, Ambit Capital research

Income statement
Year to June (` mn) FY12 FY13 FY14E FY15E FY16E
Operating income 29,279 34,040 40,413 48,758 56,288
growth 18.6% 16.3% 18.7% 20.6% 15.4%
Operating expenditure 24,560 28,684 34,005 40,467 47,015
EBITDA 4,719 5,356 6,408 8,291 9,273
EBITDA margin 16.1% 15.7% 15.9% 17.0% 16.5%
Depreciation 725 817 1,021 1,190 1,366
EBIT 3,994 4,539 5,387 7,101 7,907
Interest expenditure 548 523 452 382 283
Non-operating income 28 (2) 30 32 33
Adjusted PBT 3,474 4,014 4,965 6,751 7,657
Tax 1,150 1,330 1,613 2,194 2,489
Adjusted PAT/ Net profit 2,014 2,617 3,170 3,878 4,744
growth 31.6% 29.9% 21.1% 22.3% 22.3%
Share of associates 93 217 223 230 237
Adjusted Consolidated net profit 2,107 2,834 3,394 4,108 4,980
Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 31


Supreme Industries

Cash flow statement


Year to June (` mn) FY12 FY13 FY14E FY15E FY16E
PBT 3,475 4,014 4,965 6,751 7,657
Depreciation 725 817 1,021 1,190 1,366
Net Interest Expense 548 523 452 382 283
Other Income (25) 3 326 698 517
Tax (1,167) (1,114) (1,613) (2,194) (2,489)
Change in net working capital (36) (198) (786) (725) (886)
Cash flow from operations 3,519 4,046 4,365 6,102 6,448
Purchase of fixed assets (762) (3,698) (2,500) (3,250) (3,500)
Investments 8 1 - - -
Dividend income 81 41 - - -
Interest Income 30 28 - - -
Others - - 30 32 33
Cash flow from investments (643) (3,627) (2,470) (3,219) (3,467)
Issuance of equity - - - - -
Net borrowings (1,632) 1,187 - (500) (500)
Dividends paid (664) (960) (1,196) (1,357) (1,742)
Interest paid (578) (552) (452) (382) (283)
Cash flow from financing (2,874) (324) (1,648) (2,239) (2,524)
Net change in cash 2 95 247 644 456
Closing cash balance 142 237 484 1,128 1,584
Free cash flow 2,757 348 1,865 2,852 2,948
Source: Company, Ambit Capital research

Ratio analysis
Year to June FY12 FY13 FY14E FY15E FY16E
EBITDA margin 16.1% 15.7% 15.9% 17.0% 16.5%
EBIT margin 13.6% 13.3% 13.3% 14.6% 14.0%
Net profit margin 7.2% 8.3% 8.4% 8.4% 8.8%
Dividend payout ratio 31.5% 33.9% 35.3% 33.0% 35.0%
Net debt: equity (x) 0.5 0.4 0.3 0.2 0.1
Working capital turnover (x) 17.8 18.5 16.1 14.6 13.7
Gross block turnover (x) 2.8 2.9 2.9 2.8 2.8
RoCE 22.8% 25.6% 24.7% 24.6% 24.7%
RoE 33.9% 36.0% 34.3% 32.8% 31.5%
Source: Company, Ambit Capital research

Valuation parameters
Year to June (` mn) FY12 FY13 FY14E FY15E FY16E
Adjusted EPS (`) 15.9 20.6 25.0 30.5 37.3
Reported EPS (`) 16.6 22.3 26.7 32.3 39.2
Book value per share (`) 55 69 87 111 138
Dividend per share (`) 6 8 9 12 13
P/E (x) 21.0 15.6 13.0 10.8 8.9
P/BV (x) 6.3 5.0 4.0 3.1 2.5
EV/EBITDA (x) 10.1 9.0 7.5 5.6 4.9
Source: Company, Ambit Capital research

Ambit Capital Pvt Ltd 32


Supreme Industries

Institutional Equities Team


Saurabh Mukherjea, CFA CEO, Institutional Equities (022) 30433174 saurabhmukherjea@ambitcapital.com

Research

Analysts Industry Sectors Desk-Phone E-mail


Aadesh Mehta Banking / NBFCs (022) 30433239 aadeshmehta@ambitcapital.com
Achint Bhagat Cement / Infrastructure (022) 30433178 achintbhagat@ambitcapital.com
Ankur Rudra, CFA Technology / Telecom / Media (022) 30433211 ankurrudra@ambitcapital.com
Ashvin Shetty Automobile (022) 30433285 ashvinshetty@ambitcapital.com
Bhargav Buddhadev Power / Capital Goods (022) 30433252 bhargavbuddhadev@ambitcapital.com
Dayanand Mittal Oil & Gas (022) 30433202 dayanandmittal@ambitcapital.com
Gaurav Mehta Strategy / Derivatives Research (022) 30433255 gauravmehta@ambitcapital.com
Jatin Kotian Metals & Mining / Healthcare (022) 30433261 jatinkotian@ambitcapital.com
Karan Khanna Strategy (022) 30433251 karankhanna@ambitcapital.com
Krishnan ASV Banking (022) 30433205 vkrishnan@ambitcapital.com
Nitin Bhasin E&C / Infrastructure / Cement (022) 30433241 nitinbhasin@ambitcapital.com
Nitin Jain Technology (022) 30433291 nitinjain@ambitcapital.com
Pankaj Agarwal, CFA NBFCs (022) 30433206 pankajagarwal@ambitcapital.com
Pratik Singhania Real Estate / Retail (022) 30433264 pratiksinghania@ambitcapital.com
Parita Ashar Metals & Mining (022) 30433223 paritaashar@ambitcapital.com
Rakshit Ranjan, CFA Consumer / Real Estate (022) 30433201 rakshitranjan@ambitcapital.com
Ravi Singh Banking / NBFCs (022) 30433181 ravisingh@ambitcapital.com
Ritika Mankar Mukherjee Economy / Strategy (022) 30433175 ritikamankar@ambitcapital.com
Ritu Modi Healthcare (022) 30433292 ritumodi@ambitcapital.com
Shariq Merchant Consumer (022) 30433246 shariqmerchant@ambitcapital.com
Tanuj Mukhija E&C / Infrastructure (022) 30433203 tanujmukhija@ambitcapital.com
Utsav Mehta Telecom / Media (022) 30433209 utsavmehta@ambitcapital.com
Sales
Name Regions Desk-Phone E-mail
Deepak Sawhney India / Asia (022) 30433295 deepaksawhney@ambitcapital.com
Dharmen Shah India / Asia (022) 30433289 dharmenshah@ambitcapital.com
Dipti Mehta India / USA (022) 30433053 diptimehta@ambitcapital.com
Nityam Shah, CFA USA / Europe (022) 30433259 nityamshah@ambitcapital.com
Parees Purohit, CFA USA (022) 30433169 pareespurohit@ambitcapital.com
Praveena Pattabiraman India / Asia (022) 30433268 praveenapattabiraman@ambitcapital.com
Sarojini Ramachandran UK +44 (0) 20 7614 8374 sarojini@panmure.com
Production
Sajid Merchant Production (022) 30433247 sajidmerchant@ambitcapital.com
Joel Pereira Editor (022) 30433284 joelpereira@ambitcapital.com
E&C = Engineering & Construction

Ambit Capital Pvt Ltd 33


Supreme Industries

Explanation of Investment Rating

Investment Rating Expected return


(over 12-month period from date of initial rating)

Buy >5%

Sell <5%

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