Though the overall growth of the paint industry might be slowing down, a few large players are well positioned to pull through the lean phase
The Rs 5,000-crore paint industry has been growing steadily for most of the last decade. Much of this has been the result of the government's initiatives in boosting housing construction and the boom in the automobile industry.
Recently, however, the industry appears to have lost some of its colour under the impact of a general economic slowdown, the earthquake in Gujarat and drought in some parts of western and central India.
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It may, of course, be too early to make a long-term judgement. This is because the industry, which sells roughly 5.5 lakh tonnes a year, tends to be highly seasonal in nature.
Growth typically peaks around Diwali (that is, the third quarter of October to December), when Indians traditionally get their houses painted or touched up.
It is, however, the second quarter (July to September) that lays the foundation for growth. This is because, like fast moving consumer goods, spending on decorative paints depends on the monsoons.
And decorative paints (as opposed to industrial paints) accounts for 70 per cent of the total market. Significantly, despite the expectations of a good monsoon this year, industry analysts don't seem to be very optimistic.
They expect growth to stabilise at about nine per cent compared with a CAGR of 11 per cent in the last five years.
Polarisation
Over the past decade, the steady decline in excise duty from 40 per cent to 16 per cent has put a question mark on the viability of 2,000-odd units in the unorganised sector.
Consequently, the share of the unorganised sector has declined from over 35 per cent in the early nineties to about 30 per cent now. This shift towards the organised sector was also due to improved media reach and distribution networks enabling better marketing to rural and semi-urban markets which were earlier dominated by the unorganised sector.
This shift encouraged many of the bigger companies to consolidate their position. As a result, four players -- Asian Paints(APL), Goodlass Nerolac(GNP), Berger and ICI (India) -- have cornered a sizeable 70 per cent chunk of the organised domestic paint market. They are, therefore, expected to pull through any lean phase.
Moreover, these players have increased their presence in the international markets, especially neighbouring countries and the under-developed African market.
They have either acquired or set up their own manufacturing units in these countries and have a fairly substantial presence there. This, too, will insulate them from possible domestic downturns.
For instance, APL is already a leader in Nepal, while Berger has earned its colours in Sri Lanka.
Though the volumes indicate a lack of trading interest in these stocks, the polarisation of the paint market towards few large players makes this sector an interesting investment option, especially for investors who look for steady gains with limited risk.
Can imports hurt?
Last year, there was some concern over stray incidents of dumping from US and Europe. The threat from imports arises because of an anomaly in duty structures.
Tariffs on both raw materials and finished goods are the same (35 per cent). Theoretically, this means that it is cheaper to import finished paint rather than the raw material.
However, the entry barriers to the domestic market are still sufficiently high to make it difficult for importers to establish significant market share.
As it requires an extensive distribution network and a high degree of brand awareness. Also, India's varied climate means that manufacturers need to keep a wide variety and type of paints.
Thus, any importer who is looking to gain sufficient market share will have to pile up large inventories. "To take an example, a company might have 3,500 shades with various grades and across different sizes. Stocking all types raises inventory costs," says Ashwin Dani, vice chairman and managing director, Asian Paints.
In any case, the industry doesn't see imports as a viable threat. "These are rejected material from developed countries and the supply is quite erratic. So it will hardly make any dent on the fortunes of well-established companies," says Ashok Saini, vice president-marketing, Goodlass Nerolac Paints.
Cost controls
All the same, inventory remains an issue for domestic companies as well, as do other costs. Raw material costs, on an average, account for over 50 per cent of total turnover.
This high dependence on inventory levels has encouraged companies to implement ERP packages to maximise their supply chain management systems.
Another move that has benefited both consumers and the company is the evolution of the Dealer Tinting Systems (DTS). The DTS allows a customers to mix and match shades electronically and then achieve the desired shade.
For instance, Asian Paints has 2,100 ColourWorld outlets while Goodlass Nerolac has 1,250 ColorScape Zones across the country. For the company, it implies maintaining inventories of basic colours that can then be mixed in required quantities to achieve the required shade and quantity.
Though this reduces costs, the effects will be evident only in the long run. Manufacturing paints primarily means mixing different chemicals. But almost 50 per cent of raw material costs consists of Titanium Dioxide (TiO2).
TiO2 is manufactured in India by only two public sector undertakings, Kerala Minerals and Metals Ltd and Travancore Titanium Products Ltd. Thus, 50 per cent of titanium dioxide is required to be imported, exposing companies to international prices.
TiO2 prices have increased 11 per cent since FY99 and have as of now stabilised at $1950 per tonne, therefore operating margins in FY02 are likely to stabilise.
Demand drivers
Historical data suggests that growth in the paint industry is approximately 1.5 times the GDP growth rate. Thus, if GDP grows at 10 per cent, expected growth in paint industry would be around 15 per cent.
Given that GDP growth this year is expected to be in the 5.8-6 per cent range, the paint industry can be expected to grow at roughly 9 per cent.
But there is a possibility of faster growth. For one, India's per capita consumption at less than a kg is way behind other developing countries at 2 to 3 kg.
For another, though the earthquake took away sales, the reconstruction work in Gujarat will in turn boost demand for paints. While any upsurge in the industrial sector augurs well for the industrial paint segment.
What does all this hold in prospect for the Big Four of the business? The Smart Investor finds out.
Asian Paints: The Rs 1,200-crore Asian Paints, the leader in the domestic paint industry, reported an impressive topline growth of 12.2 per cent while net profits grew 9.3 per cent over the previous year.
But the earthquake and drought in Gujarat, an important market for APL, saw operating profits for the year slide by 40 basis points to 17.5 per cent.
Moreover, the growth in net profits was lower than expectations because of the increase in freight cost, employee remuneration and write-offs on account of implementation of ERP and supply chain management (SCM) systems.
However, in terms of operating margins and return on capital employed (ROCE -- 28 per cent ), the company is still way ahead of its rivals in the industry.
The sharp jump of 36 per cent in other income to Rs 18.47 crore helped the company improve its bottomline. Other income includes Rs 9.2 crore from lease rentals of 2,100 tinting machines already installed by the company.
This is a recurring source of revenue that is expected to grow during the current year, as the company plans to add 1,250 tinting machines.
Also, APL