Over the past few years, the Indian chemicals sector has exceeded all shareholder expectations, outperforming not just the overall equity market but also the majority of its upstream and downstream industries (Exhibit 1). This exceptional growth has been fueled by consistent revenue expansion, increasing margins, and a rise in multiples.
The sector is projected to grow by 11 to 12 percent during 2021–27 and by 7 to 10 percent during 2027–40—tripling its global market share by 2040. This growth is expected to be driven by a range of factors:
- Rising domestic consumption. India is expected to account for more than 20 percent of incremental global consumption of chemicals over the next two decades. Domestic demand is expected to rise from $170 billion to $180 billion in 2021 to $850 billion to $1,000 billion by 2040.
- Changing consumer preferences. The growing demand for biofriendly products globally could benefit India, as it is among the leading producers of many chemicals that are used in such products.
- Shifting supply chains. Triggered by the evolving geopolitical scenario and the trend to diversify from the existing core manufacturing markets, firms are seeking to make their supply chains more resilient. With its strong value proposition, India could be a preferred destination.
Widening trade deficit
India’s current trade deficit, at $9 billion to $10 billion, is expected to balloon to $40 billion to $42 billion by 2040.
While exports are projected to grow at a CAGR of 9.5–10 percent to $140 billion to $145 billion by 2040, imports are likely to grow at a CAGR of 9–9.5 percent to $180 billion to $185 billion.
Out of the three main segments of the sector—inorganic, petrochemicals (petchem), and specialty—only specialty is expected to be a net exporter. By 2040, its net exports are expected to rise by around ten times, from about $2 billion in 2021 to $21 billion. At $41 billion, petchem’s deficit will be almost twice as large as inorganic’s $21 billion (Exhibit 2).
1. Benchmarking India’s manufacturing competitiveness in chemicals
While it is clear that the Indian chemicals sector is geared up for robust growth, its manufacturing competitiveness is less clear. Benchmarking the sector against six global chemicals clusters—China, Germany, Indonesia, Saudi Arabia, South Korea, and Vietnam—across 24 variables shows that though India is more or equally competitive on most counts, other countries have a competitive edge over India in a few crucial respects (Exhibit 3).
An analysis of India’s competitiveness
This section analyzes India’s competitiveness in chemicals across four categories—feedstock availability, labor and utilities, capital costs, and regulatory environment:
Petchem feedstock availability: India is self-sufficient in C4, C6, and C8 but is deficient in C1, C2, C3, and C7. In the petchem segment, India possesses abundant feedstock for higher carbon building blocks (C4, C6, and C8). Consequently, its combined surplus production of butadiene (C4), benzene (C6), paraxylene (C8), and orthoxylene (C8) is significantly higher than that of its peers. However, for building blocks C1, C2, C3, and C7, India does not have sufficient feedstock to meet its downstream requirements. There is limited availability of ethylene and propylene in the merchant market, and as a result, India is dependent on imports for intermediates and end products derived from ethylene and propylene. Similarly, India imports large quantities of methanol and toluene for domestic consumption.
Labor and utilities: India has abundant low-cost labor and competitive water & electricity costs, but faces a shortage of R&D talent. India has the world’s highest labor availability after China, with more than 470 million. Among its six peers, its labor costs are also one of the lowest, at less than $2 per hour. India’s industrial-grid electricity and water costs are also globally competitive, at $0.1 per kWh and $0.6-0.8 per m3, respectively. However, India’s chemical sector faces a shortage of skilled R&D talent. Only about 1,400 chemical engineers graduate from India’s top 25 to 30 universities every year. Even from this limited pool, the majority either opt for higher studies or switch streams. India, therefore, is dependent on foreign talent for its chemical R&D needs.
Capital costs: India is competitive across the board. India’s infrastructure costs, across construction, material, and machinery, are up to 70 percent lower than other global chemicals manufacturing hubs. Similarly, India’s material costs are 4.5 times lower versus Germany and 3 times lower versus Saudi Arabia. At 25 percent, India’s corporate tax rate is highly competitive, and its average real interest rate is similar to that of global peers. While it is lower than the average rate in China, Indonesia, and Vietnam, it is higher than in South Korea and Saudi Arabia.
On the back of these low rates and a razor-sharp focus on profitability, Indian firms outperform their global peers on the measure of EBITDA-to-gross-PPE (personal protective equipment) ratio. The top 15 to 20 Indian companies generate an EBITDA of more than 35 percent per unit of investment in gross PPE—significantly higher than the 10 to 30 percent reported by their counterparts across the world.
Regulatory environment: India has made good progress over the years, but more needs to be done. Over the past five to seven years, India has made substantial improvements in its policy and regulatory environment, making it much easier for enterprises to establish themselves and flourish. These improvements have included the introduction of the Insolvency and Bankruptcy Code (IBC) in 2016; a revamped universal tax regime in the form of the Goods and Services Tax (GST); and simplification, digitization, or discontinuation of large numbers of compliance requirements. As a result of these developments, India’s Ease of Doing Business Ranking jumped from 143 in 2015 to 63 in 2020, and its manufacturing FDI during FY16–20 exceeded the figure for the preceding five-year period by three times.
On some parameters, however, India lags behind its peers. These include the ease of starting a business, registering property, paying taxes, and enforcing contracts. Getting timely environmental clearances (ECs) is also a major challenge in India.
With a net trade surplus, the specialty segment is the strongest pillar of India’s chemicals sector. In all, 16 specialty chemicals subsegments perform well on both cost competitiveness and market attractiveness.
2. Potential winning opportunities in India’s chemical sector
Today, the Indian chemical industry offers several opportunities to build at-scale businesses across several specialty, inorganic and petrochemical segments. Identifying these opportunities calls for the right balance between market attractiveness and cost competitiveness. While cost competitiveness is generally a function of feedstock availability, trade balance, and scope of value addition via process or tech innovation, market attractiveness is a composite of current market size, expected CAGR, and macrotrends.
With a net trade surplus, the specialty segment is the strongest pillar of India’s chemicals sector. In all, 16 specialty chemicals subsegments perform well on both cost competitiveness and market attractiveness. Two of these subsegments are the following:
Agrochemicals. Agrochemicals in India is currently a $5.5 billion market, growing at a CAGR of 8.3 percent. By 2040, it is expected to account for almost 40 percent of India’s overall chemicals exports.
Food and feed ingredient chemicals. Constituting flavors and fragrances, food and feed additives, and nutraceuticals, this subsegment is a $3 billion market in India, growing at a CAGR of 7 to 9 percent.
As inorganic chemicals require little processing compared with other segments, the inorganic chemicals segment is predominantly dependent on feedstock availability. India, unfortunately, has a scarcity of raw materials for most chemicals in this segment. However, it has a high demand for many inorganic chemicals, making it an attractive market.
Six subsegments emerge as an opportunity for building an at-scale business in the segment, backed by high growth rate of end-use industries and natural feedstock advantages. Two of these are as follows:
Fluorine. Growing at a CAGR of more than 10 percent, fluorine is expected to become a $4.2 billion market by 2040. Its growth will be driven by rising demand from two of its main end-use industries: pharma and ag-chem.
Sodium and caustic. This subsegment is expected to register CAGR of nearly 10 percent. By 2040, sodium and caustic could become a $13 billion and $11.5 billion market, respectively.
In petrochemicals, opportunities are highly dependent on scale and vertical integration capabilities of chemical companies. For example, backward integration at the cracker level makes bulk polymers (polyethylene, polypropylene, PVC, etcetera) score high on market attractiveness and cost competitiveness. However, other companies are better suited to focus on products where feedstock are easily available in the merchant market (for example, C4, C6, and C8 derivatives).
3. Implications and questions for Indian and global companies to reflect on
India has the potential to become the consumption and manufacturing engine of the global chemical industry. It is witnessing rapid economic growth, is home to a rising middle class, and requires lower capital and operating expenses. However, numerous challenges still persist including limited domestic feedstock availability, delayed regulatory approvals, and scarcity of skilled R&D talent. These enablers and obstacles have influenced the spectrum of chemical subsegments falling in the consideration pool, in terms of both market attractiveness and cost competitiveness.
Global chemical companies interested in entering or scaling up their businesses in India should, however, strategically ponder upon several questions, such as: should we cater to India’s demand via exports or a local manufacturing base? What should be our resource allocation strategy for Indian operations? What could be the right business model to overcome India’s structural challenges?
Similarly, Indian chemical companies need to reflect upon numerous questions, such as: what type of business is suitable to enter and what is the best mode of entry? Where does the business stand across the feasibility variables (technical, economic, and social) to enter a subsegment? Can we leverage the existing supply chain, if possible?