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Asian Paints: Stellar year - Views on News from Equitymaster

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Asian Paints: Stellar year

May 11, 2007

Performance summary
Asian Paints, the market leader in the domestic paint sector, has announced strong results for the fourth quarter and full year ended March 2007. For FY07, on a consolidated basis, revenues have grown by 21.5% YoY, led by the strong performance of the paints business in India and the Middle East. Despite a rise in raw material costs (as percentage of sales), the company managed to maintain its operating margins on the back of a strong growth in volumes and control over the other overheads. All these factors put together, along with lower depreciation charges, contributed to the 32.5% growth in the bottomline on a consolidated basis for the full year.

Consolidated results
(Rs m) 4QFY06 4QFY07 Change FY06 FY07 Change
Net sales 7,650 9,589 25.4% 30,210 36,700 21.5%
Expenditure 6,729 8,420 25.1% 26,293 31,919 21.4%
Operating profit (EBIDTA) 921 1,170 27.0% 3,917 4,781 22.1%
Operating profit margin (%) 12.0% 12.2% 13.0% 13.0%
Other income 117 136 16.0% 320 373 16.3%
Interest 23 43 87.7% 114 189 65.5%
Depreciation & amortisation 175 173 -1.0% 606 611 0.9%
Extraordinary item 27 52 94.1% 86 51 -40.8%
Profits from associate company (4) 0 - (9) (4) -56.8%
Profit before tax 810 1,038 28.2% 3,421 4,298 25.6%
Tax 353 399 13.0% 1,323 1,467 10.9%
Profit after tax 457 639 39.9% 2,098 2,831 34.9%
Minority interest (9) (27) - (23) 21
Net income 466 666 43.0% 2,121 2,810 32.5%
Net profit margin (%) 6.1% 6.9% 7.0% 7.7%
No. of shares (m) 95.9 95.9 95.9 95.9
Diluted earnings per share (Rs)* 29.3
Price to earnings ratio (x)* 26.4
(*trailing 12-month earnings)

What is the company’s business?
Asian Paints is the market leader in the Indian paint industry. It has an overall market share of around 49% in the decorative paints segment. It has benefited from steady transition in the industry towards consolidation, with top four organised players eating into the market share of the unorganised segment that controls 50% of the Rs 112 bn paint industry. Asian Paints, through a 50:50 joint venture with PPG Industries, US, also has presence in the automotive paints segment. The company has significant global presence through acquisitions, which are being restructured. The management of the company is acclaimed for consistently outperforming industry and its peers in the last decade. Though conservative in nature, the company is well focused on its core business of paints and has posted a CAGR of 28% over the last five years in topline (PAT CAGR at 22% during the same period).

What has driven performance in FY07?
India and the Middle East drive topline: For FY07, revenues both on a standalone and consolidated basis grew by 22% YoY. On a consolidated basis, the strong growth in the topline was largely led by the paints business both in India and the Middle East. The Indian business was driven by the decorative segment, led by a rise both in the volumes and realizations. The company had undertaken four price increases during the year, which resulted in an overall price increase of around 4.3%. As far as the decorative segment is concerned, with the exception of Delhi and the North East region (where sales were impacted), all other regions reported good growth. In the industrial segment, while the automotive segment clocked a decent 23% YoY growth in revenues, powder coatings grew by 22% YoY and the other industrial coatings business (part of the standalone business) also reported a robust 20%+ YoY growth. As far as the international business is concerned, the 21% YoY growth in revenues was led by the Middle East and the South Asian region, which grew by 32% YoY each. Other regions also reported a decent double-digit growth. We expect the topline to grow at a compounded annual rate of 13% over the next two years, while maintaining the view that the company will gain market share in the industrial segment (powder coatings especially) and also consolidate its standing on the decorative front.

Stability in margins: The company maintained its margins at 13% for FY07 despite the 60 basis points rise in raw material costs, which we believe is commendable. On the raw material front, while the titanium dioxide prices (constitutes around 28% of the raw material cost) were relatively stable, increases were seen in xylene, phthalic anhydride and vegetable oils. Hence, the company was able to maintain its margins largely due to the strong volume growth and control over its other costs. We have actually factored in higher raw material costs in our estimates going forward, given the uncertainty on the crude price front.

Cost break-up
(% of sales) 4QFY06 4QFY07 FY06 FY07
Raw material costs 59.0% 60.8% 59.3% 59.9%
Staff costs 6.8% 7.0% 7.4% 7.1%
Other expenditure 22.1% 20.0% 20.3% 19.9%

Bottomline picture: Though net profit growth has outpaced the growth in operating profit at the consolidated level during the year, in our view, Asian Paints has a significant scope to unlock efficiencies in its global operations. While the Middle East region witnessed a good growth in profits, some of the South East Asian operations continued to be mired in losses. However, on an overall basis, the profitability of the international operations considerably improved (excluding certain one-time expenses). To put things into perspective, the EBIT margins of the international business improved from 0.4% in FY06 to 3% in FY07, which is an encouraging sign. We expect Berger International's margins to improve over the next three years.

What to expect?
At the current price of Rs 774, the stock is trading at a price to earnings multiple of 21.6 times our estimated FY09 earnings. The growth of the paint sector, on an average, is pegged at 1.5 to 2 times the GDP. With the latter expected to grow at a strong pace, the topline of Asian Paints is expected to register strong growth going forward. While the decorative business will continue to do well, the company is likely to garner good market share in the industrial segment, especially the powder coatings business. Having said that, the management has opined that the inflation and the rising interest rates are a cause for concern going forward. Also, at the bottomline level, it will be some time before Berger International makes a significant contribution. Given the company’s strong performance at the topline level, we shall have to upgrade our estimates for FY07. We shall soon update our research report on the company.

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