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Goodlass: Outperformance continues

Nov 4, 2004

Performance Summary
Goodlass Nerolac, the second largest players in the Indian paint market, has reported impressive numbers for 2QFY05. While revenue growth was slower, despite increased raw material cost related pressures, operating margins improved significantly in 2QFY05, which is commendable. The company's outperformance, with respect to sales growth and operating margins, has continued against Asian Paints.

(Rs m)2QFY042QFY05Change1HFY041HFY05Change
Net sales 2,095 2,295 9.6% 3,713 4,196 13.0%
Expenditure 1,785 1,913 7.2% 3,236 3,532 9.1%
Operating profit (EBDITA) 311 383 23.3% 477 665 39.2%
EBDITA margin (%)14.8%16.7%12.9%15.8%
Other income 24 97 311.0% 49 103 109.4%
Interest 5 2 -57.8% 8 3 -57.7%
Depreciation 49 50 3.5% 101 96 -5.6%
Profit before tax 281 428 52.2% 417 668 60.2%
Extraordinary income/(expense) - - - - - -
Tax 94 135 44.4% 140 221 57.7%
Profit after tax/(loss) 187 292 56.1% 277 447 61.5%
Net profit margin (%)8.9%12.7%7.5%10.7%
No. of shares (m) 15.3 25.5 15.3 25.5
Diluted earnings per share (Rs)* 29.4 45.8 21.7 35.1
Price to earnings ratio (x) 9.1
(* annualised)

What is the company's business?
Goodlass Nerolac is the second largest paint company in India with an estimated market share of 23% in the organised segment (Source: Company). It is the leading OEM paint supplier to the likes of Maruti, Mitsubishi and Telco (40% share). To reduce the dependency on automotive paint, Goodlass has being making a concerted effort to increase contribution from the decorative paint market over the years. It is estimated that the industrial-decorative contribution of the company at the current juncture is at 50:50. Kansai Paints, the Japanese paint major, holds 64.5% stake in the company. India ranks among the top three international markets for Kansai Paints, apart from Japan and the US (Goodlass contributes 11% of Kansai's net sales).

What has driven performance in 2QFY05?
All round show: Goodlass, as we had mentioned earlier, is one of the major suppliers of automotive paints to Maruti, the country's largest passenger car manufacturer. The auto maker reported a 20% YoY growth in number of cars sold in 2QFY05 (21% for 1HFY05). This has benefited Goodlass in a big way. Besides this, Goodlass has also been focusing on increasing contribution from decorative paints over the years (estimated at 45% of sales), which has added to the growth. The company's firm footing in the powder coatings segment is also a positive for the topline growth. We believe that the first half performance of the company is in line with our full year estimates.

Margins expand: Paint is a raw material intensive industry (raw materials are largely crude derivatives). According to Asian Paints, while titanium dioxide prices, one of the key raw materials, increased by around 4% YoY in 2QFY05, select packaging material costs has increased by more than 25%. Despite this, the fact that Goodlass has managed to improve margins in commendable. In fact, the graph below highlights the improvement in EBDITA margin since FY02. Though we have to upgrade our margins estimates for FY05 after this 1HFY05 show, the upward bias in input costs is likely to sustain for another six months. This could lower margins going forward.

Outperformance continues: If one were to study the performance of Asian Paints and Goodlass over the last ten years, historically, the latter has been a underperformer. However, Goodlass has caught up with Asian Paints in terms of margins and in fact, has consistently outperformed on the topline growth level in recent quarters. The dominant market share in the automotive paint segment is among the key reasons for the same. Having said that, Asian Paints also has presence in petrochemicals like penta and pthalic, which impacted performance in FY04. The outperformance of Goodlass, to that extent, needs to be toned down.

What to expect?
The stock currently trades at Rs 318 implying a price to earnings multiple of 9.1 times 1HFY05 annualised earnings. Over the last three years, Goodlass has benefited significantly from the growth in automobile sales (estimated CAGR is around 20%). Given the fact that fuel prices have been increased and interest rates may head higher, there is possibility that auto sales may slowdown going forward. As a supplier to auto makers, the company's bargaining power is also on the lower side. The expansion in margins therefore, is likely to be limited. To that extent, we will be cautious.

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