Asian Paints Q2 Review: Brokerages Cite Input Cost Worries After Earnings Miss Estimates
Here's what brokerages made of Asian Paints' Q2 performance.
Analysts reduced their target prices on Asian Paints Ltd. after India's largest paintmaker's second-quarter earnings missed estimates on account of higher input costs.
The company's management attributed below-expectation margins to "steep inflation seen in raw material prices". "We have taken a series of price increases and would look at further price increase to mitigate the impact of this persistently-high inflation," Amit Syngle, managing director and chief executive officer at Asian Paints said.
The company's management, however, was optimistic on demand and revenue growth across its industrial coatings and home improvement segment.
Q2 Earnings Highlights (Consolidated, QoQ)
Revenue rose 27% to Rs 7,096 crore. That compares with the Bloomberg consensus estimate of Rs 6,680 crore.
Net profit rose 5% over the preceding quarter to Rs 605.2 crore. Analysts expected Rs 879.1 crore.
Operating profit came in at Rs 904.5 crore, down from Rs 913.6 crore in June quarter. The estimate was Rs 1,325.8 crore.
Margin stood at 12.7%, a multi-quarter low, and down from 16.4% in the preceding three months.
Shares of Asian Paints fell as much as 3% in the morning before paring some losses to trade at 1.52% lower as of 9:49 a.m. compared with 0.6% rise in Nifty 50. The stock closed 5.3% lower after the earnings on Thursday.
Of the 41 analysts tracking the company, 19 maintained 'buy', eight maintained 'hold' and 14 maintained 'sell' recommendations. The overall consensus price of analysts tracked by Bloomberg implied an upside of 4.1%
Here's what brokerages made of Asian Paints' Q2 earnings:
Jefferies
Downgrades to 'underperform', cuts target price to Rs 2,200, implying a downside of 28%.
Asian Paints' Q2 gross and Ebitda margins declined to multi-decade low. Past input cycles are not comparable as inflation is broad-based this time around, with raw material availability also being a serious issue.
Sharp gross margin dip was further exacerbated by a >50% increase in overheads, possibly due to higher freight costs. There does not seem to be any material cutback in ad spends.
Titanium dioxide and crude oil have jumped 30% in the last two months. This is further likely to worsen raw material inflation in the coming quarters.
Indian consumer stocks enjoy a premium which is partly attributed to high earning visibility. This is currently lacking in the case of Asian Paints in the wake of unprecedented input cycle which is not only inflationary but also entails risk on availability.
We cut FY22-24 earnings per share by 10-15%, to factor in lower margins and downgrade.
Key risks to its call are sharp correction in input prices, aggressive product price hikes and gains from unorganised sector driving strong volume growth with share gains.
Macquarie Research
Maintains 'outperform' rating, cuts target price to Rs 3,900 from Rs 4,000 apiece, implying a potential upside of 23.1%.
To offset raw material pressures which drove Q2 miss, Asian Paints intends to take aggressive price hikes and bring Ebitda margin back to 18-20% by Q4.
The factors behind Q2 miss are transient in nature, given Asian Paints' long history of maintaining margins though inflation cycles. It has shown a clear willingness to take aggressive price hikes and use cost controls to move Ebitda margin back to 18-20% levels.
Demand outlook remains bullish, with the company confident of double-digit sales growth in the second half despite an adverse base (34% growth in second half of FY21). These tailwinds enhance comfort on growth outlook.
We largely maintain FY23/24 earnings per share and target price (2% cut) estimates.
HSBC Global Research
Maintains 'buy' rating with a target price of Rs 3,500, implying a potential upside of 10.4%.
Revenue growth of 33% (decorative volume growth of 34%) for Q2 stands out, consistently beating expectations.
While extent of margin dip was a surprise, it was out of choice to take staggered price increases to avoid any disruptions.
The company's dominant scale, volume growth focus and astute portfolio strategy is key appeal.
The steep inflation across key raw materials (18-20% since third quarter of FY21) and logistics pulled down the Ebitda margin to 12.7%, which was a strategic near-term choice rather than a forced outcome.
The company is aggressively pursuing volume growth, out-investing rivals and building several categories for the future.
Estimates that Asian Paints' current share price builds in long-term earnings growth expectations of 15%, which looks undemanding given its portfolio, strategy and execution.
UBS
Maintains 'buy' rating with a target price of Rs 3,550, implying a potential upside of 12%.
Says management should graduate price increases to ensure consumers don’t get a price shock and there's stability in the market. "This is key to intermediary and consumer confidence, especially in the current fragile environment. Market leaders, according to management, need to take this position to ensure longevity of growth, and maintenance of brand loyalty and channel leadership."
Availability and lead time lengthening of key raw materials, along with the chaos in shipping lines, is hurting raw material cost as well. While operationally lockdowns have taken a toll on factory operations, labour availability has been challenging. It has tweaked formulations, as it tackles these challenges.
Key interesting nuances are the home improvement segment delivering a maiden segmental profit and continued expansion of its network of 'Beautiful Homes' stores.
Emkay
Retains 'hold' rating, with the target price reduced to Rs 2,800 from Rs 2,960, an implied return of -4.44%.
Asian Paints reported a big earnings miss due to a sharp fall in margins.
Rise in input costs and slower price increase led to the fall in gross and operating margins.
Trim our margin forecasts from 22% to 18.3%/19.8% for FY23/24.
Strong momentum in tier 1 and 2 markets led to volume growth.
Consumer confidence aided domestic sales.
Commentary on rural markets with a double-digit growth outlook augurs well for the company, given the favourable monsoon and the reach.
Weak margin outlook continues to limit upsides even as growth momentum remains strong.
Cut earnings estimates by 23%/13%/7% for FY22/23/24.
Valuations remain unattractive after recent performance.
Company looking to expedite price increase and focus on formulation efficiencies.
Company expects margins to return to normal range of 18-20% by Q4.
Nirmal Bang
Maintains 'accumulate' rating with a target price reduced to Rs 3,250 from Rs 3,285, an implied return of 10.6%.
Four decadal inflation led to the fall in margins to the lowest levels in many years.
Volume and value growth have seen strong delivery in the September quarter.
Strong volume delivery in September quarter aided by performance in tier 1 and 2 regions.
Demand outlook remains positive with triggers like festive season, rebound of consumer confidence, good monsoon season and expected revival in infrastructure segment.
Appreciate the company's strategy to go after volumes/market share in the current environment by delaying a steep price hike.
Revised FY22E/FY23E/FY24E earnings per share to 14.8%/0.1%/-1.3% as a sharp hit on margin in near term is expected.
Anticipating compound annual growth rate of 21.4% over FY21-FY24E, driven by (i) growth in organised decorative paints industry, (ii) market share gains, (iii) recovery in GDP growth, (iv) faster growth in premium/luxury products, (v) higher contribution from allied businesses and (vi) recovery in margins in FY23 and FY24.
Motilal Oswal
Maintains 'neutral' rating with target price reduced to Rs 2,930 from Rs 3,340 earlier, an implied return of -2.40%.
Sales growth was healthy, but lowest Ebitda margins in 50 quarters a concern.
Company expects the high material cost inflation to persist over the near term.
Further price hikes, cost savings and raw material substitution required to mitigate sequential impact going forward.
Company to confront the impact of high base effect from second half of FY22.
Focus on topline growth and ensuring market share gains likely to lead to healthy earnings over the medium-to-long term.
Earnings for the next few quarters likely to be adversely impacted by intense margin pressure.
Big miss on the results has led to a 22.7%/7% cut in our FY22E/FY23E earnings per share.
Valuations are expensive at 69x FY23E earnings per share.
JM Financial
Maintains 'hold' rating, cuts target price to Rs 3,005 from Rs 3,115 apiece, implying a potential upside of 0.1%.
Asian Paints’ Q2 report was unexpected. We didn’t expect 34% volume growth on a base that had grown double-digit. At the same time, one didn’t expect that gross margin of such a strong franchise could really compress 10 percentage points, and that there would be no operating leverage benefit in such a quarter.
There appears to be some kind of a strategy shift at the company that is slowly but surely unfolding. The earlier era (2008-2011) of ‘volumes and market-share above all else’ and sticking to a margin-ceiling (possibly to thwart new entrants from entering the space) appears to be making a comeback.
The latter stance is especially important given Grasim’s impending entry. For the near-term, however, the impact on profitability has been huge. We are not yet clear whether the lack of ability to price-up is an issue or a strategy. For ex- Why would gross margin need to erode by such a significant quantum if volumes are able to grow >30%? Could not a part of the pressure have been passed on to the consumers who appear more than eager to get their homes painted?
Such a volume-focused stance is perhaps valuation-multiple accretive in the long-term, but also earnings-dilutive for the short-term. We expect stock to remain range-bound for now.
Phillip Capital
Maintains 'buy' rating with a target price of Rs 3,400, implying a potential upside of 13%.
The behemoth continues to further tighten up its grip on paint market. Asian Paints has solid moats — strong brand equity, an extensive distribution network, a well-diversified product portfolio and its ability to quickly ramp up business within adjacent categories (waterproofing, construction chemicals, putty) makes it a “must-own” company within the portfolio.
Q2 results clearly separated wheat out of chaff and exemplifies its dominance on the sector. This time around, it not only gained market share from local players (who are grappling with raw material inflation/ supply chain challenges), but most probably from other strong organised incumbents.
With three-year volume compound annual growth rate of 20% on year-on-year basis (after adjusting for favourable base and pent-up demand), Asian Paints has convincingly thrown the ball out of the park.
Near term (for next couple of quarters) operating performance is likely to remain subdued on the back of raw material inflation and gradual recovery in consumer sentiment.
However, as we have seen in FY21 performance (13% volume growth), paint demand just gets deferred and not destroyed; thereby keeping intrinsic value of the company intact.
Expect healthy consumer demand to sustain owing to strong pent-up demand, pick-up in projects business, normal monsoon pick-up in real estate activity and significant ramp up in new business.
Expect gradual improvement in operating margins as it takes price hikes, initiates cost efficiency measures and shall be in a position to deliver similar operating margins by FY24 (as seen in FY20).