Paint companies have initiated material price hikes in a phased manner in Q1FY22 after nearly 3 years. Last price hike was in Q1FY19 (our view). In-spite of price hikes, there is no material impact on volumes and industry consolidation continue - that's the insight from our conversations with paint dealers. They told us, (1) While average price hike is 3-5%, price hike in emulsions are higher and lower in enamels, (2) As labour charges have remained largely flat over past two years, the impact for consumers will be low. The material cost to labour ratio is 35:65, (3) the companies operating in informal segment will still generate negligible profits / losses even after price hikes and industry consolidation is likely to continue, (4) there is no material impact on volumes as of now but real impact will be understood once after re-opening of markets and (5) there is no up-stocking of inventory due to price hikes as the dealers are still cautious considering localised lockdowns.
Akzo Nobel is preferred turnaround pick for CY2021 and beyond. We have ADD rating on Asian Paints, Kansai Nerolac and Indigo Paints and Hold rating on Berger Paints.
- Price hikes in multiple tranches: Paint companies which had avoided price hikes till Q4FY21, have started raising prices across sub-segments in Q1FY22. We note paint companies raised prices of emulsions by 3-4% in 1st week of May'21 and raised prices of wood coatings by 6-9% in Jun'21. They also plan to raise prices of waterproofing products, economy emulsions and primers in July'21.
- Limited price hikes in enamels till now: Most paint companies have deferred price hikes in enamels till now. As emulsions are routed through tinting machines, the price hikes have limited impact on emulsion volumes. However, as enamels are largely sold as separate products, price hikes may impact volumes of enamels.
- Overall price hikes of 3-5%: Apart from decoratives, paint companies have negotiated some price hikes with their industrial customers too. The carryover benefit of reduction in (excess) trade schemes will also drive realizations upwards till Q3FY21. Considering the portfolio mix and price hikes across products, we believe the price hikes are in range of 3-5%.
- No material impact on demand: Most dealers opined that there is negligible impact on volumes. However, we believe the real impact of price hikes will be observed only in Q2FY22 i.e. after re-opening of markets.
- Negligible inflation in labour charges limit the impact for consumers: Post lockdowns and deceleration in GDP growth, the labour rates have remained flat. As any painting contract requires 35% material cost and 65% labour charges, 3-5% inflation in paints will have negligible impact for the consumer.
- Informal segment and small players in formal segment continue to lose market shares: Most unorganized players will still be generating negligible profits/ losses even after the price hikes. Hence, the dealers believe the larger players will continue to gain market shares even after raising the prices.
- Negligible inventory up-stocking as of now: Generally, most dealers up-stock before the price hikes. However, most dealers indicated that they don't want to up-stock now due to fear of (further) lockdowns.
We do channel checks. We do network checks. However, >20 years of experience has taught this analyst that on-the-ground checks have utility, if and only if, we don't extrapolate it as a national trend (as diversity is high in India). Worm's world view is our periodic product on network checks.
Valuation and risks
We value stocks on DCF methodology (WACC and TG ranging from 10-13%, 3-6% respectively). Key upside risk is better-than-expected gross margins due to correction in input prices. Key downside risk is unexpected irrational competition due to deceleration in general consumption demand. Please refer table 1 for estimates, target prices and ratings.