Asian Paints: Lower crude costs save the day

Jul 25, 2015

Asian Paints has announced the results for first quarter of financial year 2015-2016 (1QFY16). The topline increased 7.6% YoY while bottomline increased by 34.4% YoY in 1QFY16. Here is our analysis of the results.

Performance summary

• Sales grew by a tepid pace of 7.6% YoY in 1QFY16 on the back of slow demand in domestic and international markets. The demand for decorative and home improvement products continued to languish.
• Operating margins improved from 15.5% to 17.8% over the past year and the growth in operating profits was the biggest contributor to profitability.
• Higher other income too boosted profitability at the net level. Net profits went up by 34.4% YoY in 1QFY16.

Consolidated financial performance snapshot

(Rs m)	1QFY15	1QFY16	Change
Total income	33,254	35,779	7.6%
Expenditure	28,109	29,399	4.6%
Operating profit (EBDITA)	5,145	6,380	24.0%
Operating profit margin (%)	15.5%	17.8%
Other income	892	1,189	33.3%
Interest	78	89	14.1%
Depreciation	645	693	7.4%
Profit before tax	5,314	6,787	27.7%
Tax	1,589	2,113	33.0%
Exceptional items	251	-
Minority interest	86	122	41.9%
Profit after tax/(loss)	3,388	4,552	34.4%
Net profit margin (%)	10.2%	12.7%
No. of shares (m)#		959.2
Diluted earnings per share (Rs)		15.1
P/E ratio (x) *		56.1

*Based on trailing 12 month earnings

What has driven performance in 1QFY16?

• As was the case with FY15, Asian Paints continued to struggle with poor demand in the first quarter of FY16 as well. The sluggish demand in both decorative and automotive paint segments capped the growth in sales. Further the new home improvement division also failed to sport higher growth, as per the management's expectations. The industrial paint segment however showed some uptick from projects business

• As per the management, the overall demand scenario remained challenging. The cumulative price increase taken in FY15 was barely 0.39% as against the 6.25% increase taken in FY15. However, the improvement in profitability was primarily due to softening crude prices.

• Asian Paints continues to face labour problems at the Sriperumbudur plant and the workers have once again gone on strike since April 28, 2015. However the capacity expansion plans at the Rohtak plant (from 2 lac kilolitres to 4 lac kiloletres) is on track. It has also signed an MoU with Andhra Pradesh government to set up a 4 lac kilolitres plant at an outlay of Rs 17.5 bn in a phased manner.

• The company incurred capex of Rs 3.5 m in FY15 and is expected to incur capex of Rs 7 bn in FY16. Asian Paints is in the process of setting up of paint manufacturing plant in Indonesia with a 24,550 MT capacity subject to necessary regulatory and other approvals

• Both kitchen fittings (Sleek) and bath fitting business (ESSESS) continue to be in losses at the operating level.

What to expect?

At the current price of Rs 847, the stock is trading at 56 times trailing twelve month earnings and 38 times our FY17 estimated EPS.

The company's management remains cautious amidst slow economic revival. In addition to the broader economic environment, a lot depends on the demand from the rural regions. Additionally, the good agriculture growth might also drive rural growth. However, the demand in the auto and non-auto industrial segments may continue to remain challenging if policy reforms do not speed up.

Up move in crude prices could impact the margins of the company. Also the devastating earthquake in Nepal and poor business conditions in Eqypt and Caribbean regions could affect growth in the near term.

Although we remain sanguine about the quality of business and management of Asian Paints, growth is not going to come in easily for the entity. The slower growth in home sales and tepid economic recovery will make both volume growth and pricing power difficult to come by. The home improvement businesses will also take longer to break even.

Coming to valuations, we believe the same continues to remain out of our comfort zone. We believe investors should wait before buying the stock at more attractive valuations.