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Asian Paints’ consolidated net sales grew at its slowest pace in around three years, at 4% year-on-year (y-o-y) to `3,731 crore. Photo: Mint
Asian Paints’ consolidated net sales grew at its slowest pace in around three years, at 4% year-on-year (y-o-y) to `3,731 crore. Photo: Mint

Will colours brighten for paint companies this Diwali?

A sustained economic recovery, led by growth in the real estate and automobile sectors, is what can bring the smiles back for paint companies

The onset of the festival season has not been very colourful for paint companies. The recovery in economic growth continues to look uncertain, and a deficient monsoon may continue to hurt growth in the coming months. The December quarter may see some improvement, but that is partly a timing-related effect as Diwali falls in November this year. FY16 is expected to end with a volume growth in the range of 8-12%, according to analysts.

Analysts at brokerages are lowering their earnings forecasts because of this sluggish recovery. Religare Institutional Research has pared its FY16/FY17 earnings estimates by 5.8%/4.8% for Asian Paints Ltd, building in lower revenue growth. Dolat Capital has also revised its earnings estimate by 2-3% for Asian Paints to factor in lower realizations and volumes.

Their September quarter performance disappointed investors. Asian Paints’ consolidated net sales grew at its slowest pace in around three years, at 4% year-on-year (y-o-y) to 3,731 crore. Kansai Nerolac Paints Ltd’s net sales slowed to 5.7% y-o-y growth, at 1,160 crore in Q2. Sales growth was affected by the delayed festive season and tepid demand.

Volume growth was in the high single digits for Asian Paints and was around 11-12% for Kansai Nerolac Paints (higher because two-fifths of its sales are to industrial consumers). Two factors prevented volume growth from translating to higher sales growth—price deflation and product mix.

Paint manufacturers have cut prices to pass on the benefit of lower costs. Asian Paints announced schemes for its dealers in the September quarter. Its realizations declined by around 2%, estimates Dolat Capital. Kansai Nerolac Paints cut prices by 2% in the June quarter and has not reversed them yet.

Downtrading is another problem as people switch to cheaper paints in difficult economic conditions. Asian Paints sold more of economy segment products such as distemper and other products such as putty. Even Kansai Nerolac Paints sold more of lower value products.

Paint firms are combating this sluggish environment by investing the savings in costs into more advertising and promotions. Kansai Nerolac Paints’s advertisement costs rose 22% y-o-y to 180 crore in FY16. Still, Asian Paints’s operating profit margin rose by 170 basis points y-o-y to 16.4%, though an adverse product mix caused a decline sequentially. Net profit growth was slower at 16%. Kansai Nerolac Paints’ margins increased to 15.8%, compared with 12.7% in the quarter ending June, and its net profit grew by 33% to 97 crore.

Investors continue to like paint stocks—Asian Paints and Kansai Nerolac Paints shares have rallied 24% each since mid-June, outperforming the broader market. The shares are trading at steep valuations of 44.4X and 39.4X estimated price-to-earnings multiple. Asian Paints shares may react to its disappointing performance on Monday as its results came after trading hours on Friday. The upside for Kansai Nerolac Paints in the near term appears capped because of rich valuations, according to analysts.

A sustained economic recovery, led by growth in the real estate and automobile sectors, is what can bring the smiles back for paint companies.

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