Domestic paint manufacturers bore quite some brunt of the coronavirus pandemic that weighed on their earnings as well stock performances. But among key large paint makers, Kansai Nerolac Ltd saw a bigger impact than peers Asian Paints Ltd and Berger Paints Ltd, since Kansai is the leader in the industrial paints segment, the performance of which subdued even before the pandemic. In the last one year, shares of Asian Paints have risen 41%, significantly outperforming Berger and Kansai’s 16% and 13% returns in the same span.
Of course, the outlook for both decorative and industrial paints is slowly improving which bodes well for volume growth of these companies. However, steep cost inflation is likely to continue to eat into gross margins of paint makers for some more quarters. To tackle this situation, paint companies are undertaking staggered price hikes.
For instance, market leader in decorative paints Asian Paints Ltd took a further price increase of 4% sequentially in Q2FY22 as its gross margin contracted 970 basis points year-on-year (y-o-y) in the said quarter. One basis point is one hundredth of a percentage point.
Kansai’s gross margin saw a steeper fall of 1040 bps y-o-y in Q2FY22 mainly due to a delay in passing on of higher raw material prices, especially in the industrial paints segment. Analysts say this could keep its probability under pressure for a longer duration than competitors.
According to the company’s management, it faced challenges in passing higher raw material prices in the industrial segment due to lower demand from the automotive sector. Investors should note that Kansai generates 40% of revenues from the industrial segment, where passing-on the burden of increased prices is relatively slower than in the decorative segment. Within the industrial vertical, automotive paints contribute around 27% to its revenues. This compares with a 5-10% exposure of its competitors to the automotive paints segment.
“While high input-cost inflation is expected to pressure gross margin near-term, it took decorative price increases of around 7.5% over 1H22 (with some product hikes above-industry), and will take further price increases similar to/ higher than peers (around 9-10% in November) to mitigate sustained inflation. While its auto segment price increases lag inflation, it is confident of putting through further hikes,” analysts at Nomura said in a recent report.
As far as the stock’s valuation is concerned, Kansai is trading at a one-year forward price-to-earnings ratio of around 60 times, much lower than peers’ 85-90 times valuation multiple. However, in the current backdrop, analysts say, these valuations are expensive and need to correct.
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