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The Street ignores Asian Paints’ low volume growth as gross margins shine

The decoratives business witnessed double-digit volume growth in January and February

The lockdown impact on decorative paints company Asian Paints Ltd was lower than expected in the March quarter. It reported low single-digit volume growth of around 3%, analysts estimated. This is better than many consumer goods firms, where volumes declined in Q4. Asian Paints shares surged over 4% on the NSE on Wednesday, ending the day at 1,748. Asian Paints’ consolidated net profit and revenue declined by 2% and 7% year-on-year, respectively, during the quarter.

The decoratives business witnessed double-digit volume growth in January and February, while the lockdown resulted in lower sales, its management said. In a conference call with analysts, the management said its international business growth was led by Africa, West Asia and Egypt, while business in Nepal, Bangladesh and Sri Lanka declined.

The management added that business had resumed in most markets, with a good pickup in small towns. However, metros and tier-1 cities remain under severe pressure owing to increasing virus infections. It said demand has started normalizing in June, and Asian Paints was operating at about 70% capacity. But, given that consumers have cut down on discretionary spending, and the hesitancy in allowing people inside homes, near-term paint demand is expected to be relatively weak.

Coming back to Q4 results, the Street was also impressed with its gross margin growth for the March quarter. The company continues to reap benefits from benign raw material costs. According to analysts, its gross margin expansion of 430 basis points year-on-year to 45.8% is a key highlight. One basis point is one-hundredth of a percentage point. Q4 gross margins were close to all-time peaks.

Margins save the day
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Margins save the day

Note that margin growth came about despite higher sale of low-value products. But, as per the management, the gross margin of several low-value products was broadly similar to premium products, and strong margin expansion despite product mix deterioration should allay the Street’s concerns on this front.

Improvement in margins was also driven by the company’s actions on the sourcing and formulation front. While it did not change pricing in the first half of the calendar year, it intends to pass on some raw material benefits to consumers.

Analysts expected margin expansion to continue in FY21. However, gains could be capped due to weak sales and likely price cuts.

Bloomberg estimates show that Asian Paints shares were trading at a one-year forward price-to-earnings multiple of around 60 times. This valuation multiple is expensive considering that the corona-led downside risks to demand growth are not completely out of the way.

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