Hit by severe cost inflation, paint manufacturers have been on a price hike spree recently. After the September quarter, Asian Paints Ltd, the market leader in decorative paints, hiked prices by 8-9% with effect from November 12. This was followed by another 4-6% price hike, effective from December 5, on a cumulative basis, according to Axis Capital Ltd., in FY22, Asian Paints The domestic brokerage house said in a report on 6 December that the prices have risen by more than 20%.
Competitor Berger Paints India Ltd is said to have announced a cumulative price hike of around 18% in FY12, up from a recent round of around 9% in November and 4% in December, Axis Capital’s report added. has gone. Past trends show that other paint manufacturers like Kansai Nerolac Ltd., Akzo Nobel Ltd. and Indigo Paints Ltd. generally follow suit on increasing the prices.
The gross gross margin compression reported by paint companies in previous quarters is well known by now. In the September quarter, Kansai’s gross margin saw a sharp decline of 1,040 basis points (bps) on a year-on-year basis, mainly due to delays in passing on higher raw material costs, especially in the industrial paint segment. In. One basis point is one hundredth of a percentile. Asian Paints saw its gross margin fall by a whopping 970 bps and the same measure for Berger saw a year-on-year contraction of 449 bps in the second quarter of FY22.
These trends had an impact on their stock performance. Year-on-year, the above three stocks have underperformed the benchmark Nifty 50 index, gaining nearly 22%.
In short, price appreciation was the need of the hour and has been taken to protect margins from further erosion. In addition, the recent fall in the prices of raw materials based on raw materials such as titanium dioxide and other monomers is an added relief. Brent crude has declined to $73 a barrel from $84 a barrel a month ago. Raw material costs account for about 55% of the total operating expenses of the sector.
This means that paint makers’ gross margin is set to recover here.
“Asian Paints’ unprecedented 14-15% price rise within a month indicates course improvement and focus on profitability. This price hike should almost completely ease the gross margin pressure starting 4QFY22 and the industry should improve profitability sharply,” analysts at Kotak Institutional Equities said in a report on December 7. The domestic brokerage house has raised its FY2022-24 earnings estimates for decorative paints. The stock under its coverage is 3-14%.
Axis Capital has increased its earnings per share estimate for Asian Paints by 5-8% and for Berger by 2-4% in FY 2012-24.
The strong demand outlook is also underscoring the optimism. The latest management comments by paint companies point to a strong demand recovery in the coming quarters, aided by a pick-up in the residential real estate sector.
That said, paint stocks are not cheap. Bloomberg data shows Asian Paints and Berger’s shares are trading at 92x and 89x, respectively, on one-year forward price-to-earnings ratios. While their valuations have improved from the earlier peak, it is difficult to justify these rich multiples unless there is a substantial improvement in gross margins. On the downside, it remains to be seen whether these bold price increases will impact volume growth.
“The focus has been to improve profitability with aggressive price increases, but we need to see if this affects the market share gains of large paint manufacturers. Also, increasing with the entry of new players. Competition and its impact on volumes is another important watchdog to color investors. On the demand front, rapid sales recovery in smaller cities and towns is crucial,” said an analyst at a domestic brokerage house, requesting anonymity. .
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