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Despite tough operating conditions, Indigo has continued to demonstrate strong business model and execution via (1) expansion of dealer count and tinting machines by 5.1% and 6%, QoQ, (2) while Kerala revenues are likely impacted in 1Q, outperformance in other states is pleasing and (3) it has successfully increased product prices eight times in past 12 months.

As it has raised prices of different products every month, there is limited impact on volumes, in our view. While input inflation is a headwind for gross margins, we model EBITDA margin expansion of 270bps yoy to 19.7% in FY22 driven by (1) price hikes, (2) lower A&P and (3) cost saving initiatives. ADD; TP Rs2,800.

* Q1FY22 results: Indigo reported revenue, EBITDA and PAT growth of 49.2%, 6.1% and 38.2%, respectively. (2-year revenue CAGR: 4.1%). With higher input prices and ad-spends, EBITDA margin declined 520bps YoY. The ad-spends increased to Rs157mn in Q1FY22 from Rs25.6mn in Q1FY21. It has raised product prices by eight times in past twelve months.

* Segment-wise growth rates: Cement Paints & Putty 23.7%, Emulsions 73.1%, Enamels & Wood coating 17.4% and Primers, Distempers & Others 5.1%. Emulsions have higher revenue saliency in Apr-Jun quarter and it performed well with favorable base. We believe the company reported weaker growth rates in its key state Kerala.  Investments to strengthen competitive advantages: Indigo has increased dealer count by 5.1% to 13,884, QoQ. It's tinting machine count increased by 6% to 5,500, QoQ. The penetration of tinting machines stands at 41.8% at end of June’21.

* Better margins due to price hikes and lower A&P: While the input prices are inching upwards and may impact gross margins, Indigo will benefit from (1) price hikes in multiple tranches over past 12 months and (2) ‘percentage’ reduction in adspend and sales promotion. It has guided for EBITDA margin of >18.5% in FY22. It expects A&P to reduce to ~9% in FY22 from 10.7% in FY21.

* Retain ADD: We model sales and earnings CAGR of 30.4% and 59.1% respectively, for FY21-FY23E. Maintain ADD with a DCF-based TP of Rs2,800. Key business risk is potentially higher competitive intensity in Kerala and key stock risk is potentially lower trading multiples due to increasing competitive activity and intensity in paints industry.

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