Amid strong investor support, outlook bright for pricey paint stocks

Supportive macros and pricing power to help paint companies clock volume-led profitable growth, but buying on dips is advisable

Like fast-moving consumer goods (FMCG) companies, paint companies have also seen a strong investor support. While part of the investor demand can be attributed to a stress in other key sectors like automobile and non-banking financial companies (NBFCs), paint companies’ performance has also been consistently strong. Besides, amid a growth slowdown faced by FMCG companies, paint stocks have outperformed FMCG ones. 

While the stocks of three paint majors — Asian Paints, Berger Paints and Kansai Nerolac — gained 20-59 per cent in the past six months, the Nifty FMCG index rose only 4 per cent during this period. This was because of paint companies’ relatively good performance in recent quarters, with double-digit volume growth and strong margin profiles. Importantly, the trend of volume-led profitable growth is here to stay for paint companies, especially decorative paints.

According to Vishal Gutka, vice-president at Phillip Capital, “paint companies are expected to continue growing strongly while maintaining their margin profile even going ahead, with supportive macro factors. The near-term growth, however, may moderate due to a high base”. 

There are strong growth levers for paint companies — rising share of paintable (concrete) houses, low penetration of paints in India, and shortened repainting cycle (over 80 per cent of decorative paint demand comes from repainting), among other factors. The growth outlook is strong for organised paint players as lower goods and services tax (GST) helps them gain market share from unorganised ones, mainly in the economy segment (products like putty, distemper, etc). 

A Kotak Institutional Equities (KIE) report says: “The reduction in GST rate to 18 per cent from 28 per cent in June 2018 and higher compliance under GST has reduced the price gap between unorganised and organised players’ products.” This is also evident from double-digit volume growth for listed decorative paint majors in June 2019 and September 2019 quarters, even as other consumption pockets witnessed a growth moderation. The volume growth was driven by economy products following price cuts by paint companies. Unorganised paint companies are likely to lose 15-17 per cent market share in volume terms over the next 10 years, according to the KIE report.

Though the premium segment has grown at a relatively slow pace and had restricted gross margin gains in recent quarters, the way forward for high-margin premium products looks encouraging. Analysts believe that the overall price gap between the premium and economy products is narrowing with higher labour cost, and the premium segment should fare better. This, along with better pricing power of top players, is keeping the medium- to long-term margin outlook buoyant for paint companies, even if crude oil prices see some volatility.

“Margins could come under pressure if crude prices rise sharply. However, paint companies have historically controlled margin erosions through successful increase in product prices,” says Abhijeet Kundu, analyst at Antique Stock broking. Experts, however, believe that a sharp upswing in crude oil prices are unlikely at this juncture.

Among the few caveats are paint companies’ pricey valuations, which could limit upsides in their stocks. So, investors should await some correction in stock prices for a better entry point.