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Goodlass: FY04 and beyond

Dec 30, 2002

Goodlass Nerolac Limited is the second largest paint company in India. It is the market leader in the Original Equipment Manufacturer (OEM) segment, where it has a market share of more than 40%. Kansai Paints, the Japanese paint major, holds 64.5% stake in the company.Key positives...
Goodlass is a strong player in the automotive paint segment and has been the key supplier to domestic auto majors including Maruti-Suzuki and Tata Engineering (Telco). While the former is the market leader in the passenger car segment (50% share), the latter has a dominant presence in the commercial vehicle category (Telco also has a 25% market share in the ‘Segment B’ passenger car).

Apart from the aforesaid players, Goodlass has also been supplying to the likes of Honda, Toyota, Mitsubishi, Volvo and TVS. Given the long-term growth potential of the Indian automobile segment, Goodlass as a market leader, is well positioned to capitalise on any upturn in industry demand. This argument is sharpened by the graph above that shows the relationship comparing YoY growth in company's revenues vis-à-vis auto sector and GDP growth. Evidently, there is a strong co-relation of the company's revenue growth with the performance of the automobile sector.

In an effort to increase its presence in the decorative segment, the company has been expanding “Colour Scape”, the computerised colour dispenser outlets. This move is expected to generate free cash on the working capital front. Goodlass launched ‘Suraksha’, the exterior paint last year. The exterior paint segment has been growing at a stellar rate of 25% per annum in the last three years. This combined with new product launches on the emulsion front has benefited the company. From as low as around 30% in 1997, contribution from the decorative paint category is estimated to have touched 50% in FY02. Since margins are relatively higher in the decorative segment, the shift in favour of decoratives is a positive for the company.

Key negatives...
While the company's dominant presence in the automotive paint category is a positive, margins in this segment are lower. The reasons are multi-fold. Firstly, the bargaining power of the company is on the lower side. Auto majors tend to squeeze their OEM suppliers in order to safeguard their own margins in a downturn. This has been the case in the last four years. Volatility in raw material prices and competition have also played a part in arresting margin expansion. The last five-year trend in revenues and profitability validates our arguments. While net sales have grown at CAGR of 9.7% for the period between FY98-FY02, operating profits increased at a slower CAGR of 2.6%. In fact, net profits have declined at a CAGR of 3.2% in the last five years. Given the lacklustre economic growth prospects in the near term, we expect operating margins to remain under pressure in the near-term.

Besides, the sharp spurt in crude prices in the second half of the current fiscal is a cause of concern. This could result in further upward movement in key raw material prices like titanium dioxide and orthoxylene. Since raw material costs account for 67% of sales for Goodlass, operating margins are expected to come under pressure.

The stock currently trades at Rs 134 implying a P/E multiple of 6.3x FY03E earnings. Historically, the stock has traded in the 6x-9x earnings. Though current valuations are on the lower end, absence of liquidity in the stock market and comparatively weaker return ratios are affecting valuations.

For more detailed analysis with projections, view our complete research report on Goodlass Nerolac.


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