Will lacklustre paints stocks get back the sheen?
Investors in paint stocks can heave a sigh of relief as cost inflation pressures are receding. Prices of key inputs such as crude-based monomers and titanium dioxide required to manufacture paints, eased sequentially in the December quarter (Q3FY23). In response, paint companies took minuscule price increases last quarter, according to dealer channel checks by some brokerages.
“After taking price hikes for five continuous months from May-September 2022, paint companies resisted from raising prices in Q3FY23,” said an ICICI Securities Ltd report on 10 January. Also, there were no additional trade schemes and/or new launches and re-launches in Q3, the report added.
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Paint companies were raising prices to combat the steep cost inflation that hit profit margins. The recent pause in price hikes isn’t just because of easing cost inflation woes. According to analysts, demand offtake in Q3 has not been very impressive and it may have also prompted paint companies to shy away from price hikes. Therefore, volume growth of paint makers is likely to be muted in Q3. Moreover, companies may have witnessed downtrading on account of high inflation.
“This move of negligible price increases was largely expected because rampant price hikes have already happened in the last one year and paint companies would not want to destroy demand elasticity by taking more price hikes,” said Jay Gandhi, institutional research analyst at HDFC Securities Ltd.
He said a key near-term trigger for paints stocks would be the pace of gross margin revival. But note that for paint companies an improvement in profitability would happen gradually depending on the exhaustion of their high-cost inventory.
Meanwhile, competition in the sector is heating up with the entry of new deep-pocketed companies, such as Aditya Birla Group company Grasim Industries Ltd and JK Cement Ltd. Huge capacity additions by newcomers could lead to a pricing war in a bid to capture market share, and that’s a worry.
Given the high entry barriers, how new companies scale up their operations remains to be seen. Unless more clarity emerges, heightened competition is an overhang for the sector.
In CY22, Asian Paints Ltd and Berger Paints (India) Ltd shares gave lacklustre returns with the latter seeing a sharper fall of nearly 25%. These stocks trade at 54.2 times and 43.4 times estimated FY24 earnings, respectively, showed Bloomberg data.
Although valuations have moderated in the recent past, in the current backdrop, they are not exactly cheap.
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