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Paint manufacturers are set to see decent volume growth in the September quarter aided by pent-up demand for discretionary products.

The demand drivers for the sector are improved mobility and gradual easing of restrictions imposed to contain the spread of coronavirus ahead of the festive season.

A strong kharif crop and rabi sowing are expected to keep rural demand, especially for economy paints, in good stead. Analysts expect key listed paint manufacturers to witness high double-digit volume growth in the decorative paint segment. The industrial paints business is also expected to see a revival, but at a slower pace.

The demand scenario is comforting, but cost inflation continues to be a concern for investors in paint stocks.

The cost pinch
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The cost pinch

Paint manufacturers are set to see decent volume growth in the September quarter aided by pent-up demand for discretionary products.

The demand drivers for the sector are improved mobility and gradual easing of restrictions imposed to contain the spread of coronavirus ahead of the festive season.

A strong kharif crop and rabi sowing are expected to keep rural demand, especially for economy paints, in good stead. Analysts expect key listed paint manufacturers to witness high double-digit volume growth in the decorative paint segment. The industrial paints business is also expected to see a revival, but at a slower pace.

The demand scenario is comforting, but cost inflation continues to be a concern for investors in paint stocks.

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The price of titanium dioxide (Tio2), a key input for paint makers and other crude-based monomers, remains elevated, posing a threat to margins. Raw material accounts for about 55% of the sector’s total operating cost.

Analysts at Motilal Oswal Financial Services Ltd expect market leader Asian Paints Ltd to see 45% year-on-year (y-o-y) volumes growth in Q2FY22. However, the price of Tio2 is up 25.6% y-o-y. The domestic brokerage firm thus anticipates gross margins to decline from 44.4% in Q2FY21 to 40% in Q2FY22.

Further, analysts caution that margins may continue to remain under pressure for this entire fiscal unless companies pass on the entire cost burden to consumers. Unlike in the past, paint companies are not hiking in a calibrated manner to keep volume growth intact.

Credit rating agency Crisil Ltd estimates the revenues of paint companies to improve 10-12% in FY22. On the other hand, operating margin is expected to shrink by about 200 basis points (bps) from the peak of 19% in FY19 to 17% in FY22. One basis point is one-hundredth of a percentage point. Operating costs are expected to see an improvement as travel and advertisement-related expenses make a comeback.

That said, analysts at Crisil do not see the moderation in operating profitability impacting the credit quality of paint companies. Credit quality will continue to be stable, supported by healthy cash-generating ability and strong balance sheets.

An analysis of the top six paint manufacturers, which account for around 96% of the organized sector revenue, show that they have an aggregate cash surplus of around 7,000 crore as of 31 March 2021.

Paint shares have seen a decent rise in the past one year, despite the consumer discretionary sector being among the worst hit during the coronavirus pandemic.

In this time, Asian Paints Ltd and Berger Paints Ltd have rallied by around 55% and 36%, respectively. The rally was supported by benign raw material costs and increased market share from smaller companies led by consolidation, analysts said.

With these positives already in the price, outlook on margins is the key. Valuations have come off from their peaks, but still remain expensive in the context of cost inflation concerns, analysts said.

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