Indigo Paints - Company Update - The promising one - HDFC Securities

Mr. Varun Lohchab, Head Institutional Research & Mr. Jay Gandhi, Institutional Research Analyst, HDFC Securities

Making inroads into the oligopolistic paints industry remains a herculean task, given strong distribution moats of the top few. Against this backdrop, Indigo Paints (founded in 2000) has been consistently chipping away market share within the ecosystem. The company has clocked 47% sales CAGR over FY15-20 (organic growth CAGR: 40%+; relative market share has moved from near-zero to ~2.5% over FY15-20 in decorative paints). Interestingly, revenue ramp-up has been smartly executed with consistently improving unit economics, which is amply reflected in the company's steadily improving fundamentals - (1) LTL revenue/dealer grew at 11% CAGR, (2) EBITDAM up 15pp+ at 14.6%, (3) cash conversion cycle halved and (4) RoICs improved from -13% to 25% over FY17-20. The pandemic-led demand destruction is likely to have the least impact (within peer set) on Indigo Paints as its exposure to big cities is negligible (Predominantly operates in Tier 2-4 cities).

Indigo Paints' (IP) bait-and-switch strategy seems to be working: Indigo Paints turned a corner when it shifted focus from selling plain-vanilla cement paints to selling untapped paint solutions such as metallic paints, Floor Coat paints, Unique Ceiling coat paints, Roof Tile coat paints, and PU enamels (the bait). These innovative paint solutions gave the company a foot in the 'dealer' door, which has since been used effectively to populate its tinting machines and sell faster-moving mainstream paint products (the switch). Emulsions now account for 45% of sales. However, of this, a sizeable portion is specialised emulsions (~20% of revenue). The success of the strategy is reflected in the company's relative market share gain (among Top 7) from near-zero to ~2.5% over FY15-20.

One-up on immediate peers (by a stretch): IP has consistently outpaced peers (grew 47% CAGR over FY15-20 vs -5 to 21% for Tier 2 companies) courtesy its aggression in marketing and distribution. It spent 13% of cumulative sales over FY15-20 on A&P (highest within Tier 2 cohort; vs. 4-8% of decorative sales by Top 3) to improve brand salience. On the distribution front, it has stepped up dealer adds/tinting penetration over the FY18-20. It now has 13k active dealers (vs. ~27/21k resp. for BRGR/KNPL; 55k+ for APNT) and has seeded 4.5k tinting machines (most installed over FY18-20). Mgt intends to add 2-2.5k dealers/1.5k tinting machines/year.

Notwithstanding the aggression, unit economics continues to improve: Despite the over-indexed A&P spends and higher freight bills (note: Indigo's outward freight costs are higher vs the Top 3 as the latter's plants are in proximity to RM sources and it has to travel longer distances for product delivery), the company remains hugely lean on other cost overheads (11% of sales vs. 11-14% for Tier 1s and 18-34% for Tier 2s) and has only improved with scale. This fact, coupled with improving revenue/dealer (HSIE: 11-12% CAGR over FY17-20) and cash conversion cycle (more than halved over FY17-20), has led to consistent improvement in unit economics and RoCEs.

Source : Equity Bulls

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