Fault in the Formula for India's Chemical Sector

For more than two decades, India has nursed ambitions of challenging China’s manufacturing supremacy, yet these dreams remain unfulfilled. China’s pervasive dominance in numerous sectors has dissuaded importers from seeking alternative suppliers. However, in the chemicals sector, India had a significant opportunity that could have reshaped the fortunes of its companies—an opportunity it lost.

Between 2015 and 2017, China’s chemical manufacturing capacity experienced a notable decline, with 40% of the facilities closing due to stringent environmental regulations. The onset of the US-China trade war exacerbated this situation, providing a favourable window for Indian companies. The surge in valuation of Indian chemical firms during this period mirrored the optimism of the moment. The collective market cap of 198 listed companies soared by 54.4% from Rs 2,85,157 crore in 2014–15 to Rs 4,40,482 crore in 2016–17, according to data from Ace Equity.

India ranked fourth in Asia and sixth in the world, with chemicals sales (excluding pharmaceuticals) valued at 101 billion euros in 2017, according to European Chemical Industry Council Report, 2018. Despite this, it failed to capitalise on the market share relinquished by China.

Prathamesh Sawant, analyst at Axis Securities, says there was a phase when Chinese chemical companies were witnessing a slowdown because of the Covid-19 pandemic and hiccups in the domestic economy. “During China’s slowdown, India saw traction in chemical exports due to global supply situation favouring Indian players, which led to optimism surrounding India’s chemical industry as an alternative to China. However, that transition has been slower than expected. The sector has faced headwinds in the past seven to eight quarters,” he says.

Pandemic and After

India’s chemical industry, estimated to be worth $220 billion in 2021–22, is expected to reach $300 billion by 2024–25 and $1 trillion by 2039–40. However, for the past two years, it has been struggling with several headwinds, including uncertain demand, inventory destocking, erratic monsoon, weaker export market and intensive competition from China.

During the pandemic, lockdowns and travel bans disrupted the global supply chains. This prompted companies to order excessive inventories, which temporarily boosted the sales of Indian chemical companies. However, the orders decreased as the supply chain situation improved and competition in the global market intensified.

Sawant explains that due to the Russia-Ukraine war in 2022 and the Israel-Hamas war in 2023, the eurozone witnessed a slowdown in demand. “If we connect this with the pandemic-induced headwinds, because of logistical issues, companies had purchased higher amounts of inventory in their books but, due to the war, that inventory was not utilised and resulted in huge inventory build-up in the system,” he says.

China’s growing capacities are likely to disrupt the global markets in future. According to a report by brokerage Prabhudas Lilladher, contrary to the popular belief of China-plus-one situation, the Chinese players continue to add capacities, at times comparable to total existing global demand. This, coupled with overall sluggish demand, leads to an over-capacity scenario. In addition, after the opening of the Chinese economy, the country has seen a sudden spike in the production of some chemicals, which led to a sharp drop in prices.

“In pyroxasulfone [a herbicide], where Indian players like PI Industries, Crop Science and Best Agro are present, China appears to have announced new capacities of 4,000 mtpa [million tonnes per annum] in 2023 alone. Global demand itself is of 3,500 mtpa... [A] similar story plays out in other chemicals too,” the report says. China has been accused of dumping chemicals in several countries, including India. Domestic companies in India are demanding anti-dumping investigation against imports from the neighbouring country.

Sneha Poddar, associate vice president of fundamental research, broking and distribution at Motilal Oswal Financial Services, says, “The raw material prices have decreased marginally but, due to a lack of demand, the companies have to pass these cost benefits to customers. So, even on the operational front, the companies are not seeing any improvement.”

Deficient Structure

The infrastructural deficit in the country further compounds the challenges. While China has about 250 chemical parks, India has one Petroleum, Chemicals and Petrochemicals Investment Region (PCPIR) in Dahej (Gujarat) and another in Visakhapatnam (Andhra Pradesh). Other Asian countries such as South Korea and Thailand have around 10 chemical parks each.

Most of the foreign companies are operating from southeast Asia for the Indian market, rather than investing directly in India. “Japanese companies wanted to invest in India because of the huge population and growing demand for chemicals but they are getting a better deal in Thailand, Malaysia, Indonesia and South Korea,” says Maulik Patel, chairman-cum-managing director of Epigral, a chemical manufacturer.

“China and other south Asian countries have better infrastructure compared to India. If you are setting up a plant in India with the present infrastructure and the duty-free material coming from southeast Asia, it is difficult to compete,” Patel says.

Even the free trade agreements (FTAs) have failed to do much for India. According to a report by Global Trade Research Initiative, a research group, India has gained little from FTA. This is because while its tariffs are high, those of its partner countries are significantly lower. Eliminating duties in India gives partners an immediate cost advantage, while Indian exporters do not get any additional market access. Also, India’s imports from FTA partners have grown at a much higher rate than exports.

Currently, the government is working on an FTA with the Association of Southeast Asian Nations (ASEAN), Japan and South Korea where duties will be reduced for certain agrochemicals and speciality chemicals. The government is also working on a production-linked incentive (PLI) scheme for the chemical sector, with a likely focus on agrochemical and pharmaceutical intermediates, dyes and multiple-use chemicals to increase the cost competitiveness of manufacturers.

Time to Diversify

According to industry experts, India’s chemical sector struggles with several structural issues, including a lack of diversification and economies of scale. Indian companies have been investing in the same capacities for years. For example, Tata Chemicals largely invests in soda ash, Reliance Industries in ethylene, Aarti Industries in aniline and Deepak Nitrite in phenol alone. According to Ajay Joshi, a chemical sector expert, if a company invests in the same commodity chemicals where there is already a surplus supply, it will not benefit. Companies need to move towards more downstream derivatives and speciality side.

“With a net trade surplus, the specialty segment is the strongest pillar of India’s chemicals sector. In all, 16 speciality chemicals subsegments perform well on both cost competitiveness and market attractiveness,” reads a February 2023 report by McKinsey, a consultancy. “A few companies like Aether Industries or Navin Fluorine are doing that but 70–80% of the Indian chemical industry is still commodity chemical-heavy. Indian companies need to diversify their portfolio in terms of research and development, products and export centres,” Joshi adds.

In the past two or three quarters, there was hope that the demand would revive and the shift would happen from China to India, due to which the companies announced huge capex plans. But now, with the demand not really picking up, those capex plans have either been put on hold or pushed for later years.

“We feel that India is going to be the net importer of all chemicals, looking at the [existing] infrastructure and the way Indian demand is growing. The manufacturing sector and the investments happening in India currently are inadequate to fulfil the growth and demand in the coming years,” Patel says.

Nadir Godrej, chairman and managing director of Godrej Industries, says they are investing in research and development. “We are shifting focus from bulk chemicals, China’s playground, to speciality segments where we can offer unique value. By offering high-quality products, superior technical support and innovative services, we can justify premium pricing and mitigate the impact of downward price pressure,” he adds.

Turning the Tide

In the last one year, most of the chemical stocks in India have tanked up to 30%. As the global economy recovers, the industry is expected to see a gradual improvement in demand and sentiment. 

“The pace of recovery will depend on various factors, including the trajectory of the global economy, geopolitical developments and for agrochemicals the weather and climate change as well as the effectiveness of policy measures to stimulate demand and investment,” says Godrej.

India’s chemical industry holds promise, but current challenges highlight the need for strategic initiatives to address infrastructural limitations and regulatory complexities. Better infrastructure, favourable policy support, more focus on areas of strengths, like agrochemicals and speciality chemicals, among other factors can help it win the race.