Easing raw material prices likely to aid margins of Asian Paints

Sales performance in the festival season was muted; volumes expected to recover

After a 15 per cent fall from its highs towards the end of September, the stock of Asian Paints has been trading flat-to-marginally higher since then. Margin concerns due to a spike in raw material prices, down-trading by customers and higher competitive pressures led to pressure on the stock.

Brokerages, however, believe that the risk-reward has improved as raw material prices cool off and volumes could witness a gradual recovery.

ICICI Direct Research said, “Consumer discretionary stocks have undergone healthy price retracements over the past couple of months after the June–August rally. Within the space, we like Asian Paints, given the favourable risk-reward at the current juncture as it is a proxy to benefit from lower crude oil prices.”

With crude oil prices falling to their lowest levels this year, raw material costs for paint companies are expected to decline.

Crude oil-related materials, such as titanium dioxide, account for 40 per cent of input costs.

This should help Asian Paints boost its gross margins, which have remained under 40 per cent (35.7 per cent in Q2) for the past six quarters.

The company’s operating profit margins fell by 356 basis points (bps) to 14.5 per cent during the September quarter. This is due to the spurt in raw material costs and inferior product mix.

Margins during the quarter were lower than the pre-Covid levels of around 20 per cent.

Abneesh Roy of Nuvama Research said, “We expect gradual improvement in margins and don’t expect a price cut now. We need to watch out on incentives or discounts.”

The brokerage expects the market leader’s margins to improve in the second half as raw material prices, including crude oil-related as well as other input costs, ease. Given the company’s industry-leading performance, it is Nuvama’s top pick in the paints space.

In addition to the profitability trend, the Street will also focus on the volume/revenue growth trends, going ahead.

Most paint players, including the market leader, posted robust growth during Q2. Asian Paints’ revenue growth at just under 20 per cent was equally split between volume and price growth.

Though sales were impacted by the extended monsoon, especially in West and North India, the company managed to post double-digit growth.

This was aided by smaller towns and cities.

Product mix was weak as the premium and luxury segments witnessed down-trading due to price hikes taken over the past few quarters.

Volume uptick was on account of increased sales of economy emulsions, waterproofing sales and putty.

While the festival season was not as strong as expected, brokerages expect volumes to recover, going ahead.

ICICI Direct expects revenue and net profit to grow annually by 18 per cent and 30 per cent, respectively, by FY22-24.

While competitive pressures remain, the brokerage is positive on the company, given its dominant position in the paints industry.

And, it is also because of limited damage to its margins from increasing competition.

While lower raw material prices are positive, investors should await volume and demand trends before considering the stock, which is trading at 58 times its FY24 earnings estimates.