Are volume growth worries taking away Pidilite's stickiness with investors?

Competitive intensity, slowdown in construction activities and liquidity issues could make volume recovery difficult

With close to 3 per cent decline in the last two trading sessions after its July-September 2019 quarter (second quarter, or Q2) results, the stock of Pidilite Industries has underperformed the flattish trend on the BSE Sensex. 

From its all-time high of Rs 1,494.50 on September 23, it is down 13 per cent, against 3 per cent rise in Sensex. Volume growth worries in the near term are making investors jittery about the stock, which is currently trading at rich valuations of 49x its 2020-21 estimated earnings growth.

The owner of popular adhesive and waterproof brands such as Fevicol, FeviKwik, Dr Fixit, and M-seal, among others, reported a nine-quarter low volume growth of 0.6 per cent in Q2. This was led by a 0.9 per cent volume decline in consumer and bazaar (C&B) products, which account for over 80 per cent of Pidilite’s revenues. As a result, Pidilite’s net sales grew by a meagre 2.8 per cent year-on-year (YoY) to Rs 1,807 crore.

Besides liquidity crunch and prolonged monsoon, competitive intensity in waterproofing from players such as Asian Paints weighed on Pidilite’s C&B volumes in Q2. Competitive intensity, in fact, is making the volume and margin outlook gloomier for Pidilite amid feeble consumer demand. This is because, competitive intensity would warrant more advertisement and promotional spends and restrict its pricing power to some extent. And this, in turn, would negate the benefits from an expected improvement in gross profit margin, at the earnings before interest, taxes, depreciation, and amortisation (Ebitda) level. 

Currently, prices of key raw material such as vinyl acetate monomer (VAM) stand at $890 per metric tonne, against $901 per metric tonne in Q2, and Pidilite has 45 days of VAM inventory in place.

In Q2 also, higher advertisement expenses led to Pidilite’s Ebitda margin shrink by 48 basis points (bps) YoY to 20.4 per cent, despite a sharp 398-bps improvement in gross profit margin. Advertising spends in Q2 were 4.8 per cent of sales, compared to typical levels of 3.9-4 per cent. Pidilite’s profit before tax rose by 5.8 per cent YoY to Rs 376.6 crore. Net profit growth of 40.6 per cent was driven by lower corporate tax.

Against this backdrop, Emkay Research has cut its 2019-20 to 2021-22 earnings estimates by 3-4 per cent for Pidilite and believes further pressure exists from the ongoing slowdown in construction-related activities and increase in competition.

Overall, the stock could remain under pressure till clear signs of volume and margin recoveries emerge, given the pricey valuation.Overall, the stock could remain under pressure till clear signs of volume and margin recovery emerge given the pricey valuation.