Margin gains to partly offset impact of lower sales
* Asian Paints’ Q4 performance was below expectations. Weak mix and the extended lockdown from mid-March resulted in a 7% decline in sales and 3% fall in EBITDA, both below our expectations by 4% and 7%, respectively.
* Lower input prices aided gross margin expansion (280bps QoQ), which should continue as input prices remain soft. However, margin gains may reduce on rising crude prices, weak mix and likely price cuts. Lower sales and additional spends on safety, sanitization and trade incentives may also restrict the operating margins gains.
* Management indicated a stronger recovery in smaller towns, with metros and tier 1 (40 50% of sales) seeing slower recovery. Growth for VFM products is likely to remain strong and it will continue to drive higher growth in the low-end segment.
* Valuations at 46x FY22E EPS remain unattractive, given possible downside risks to earnings. We maintain Hold/UW in EAP, with a TP of Rs1625, based on 42x Jun-22 EPS
* Volume trends weaken due to lockdown: Decorative volumes grew in double digits for the Jan-Feb period but ended in low single digits for the quarter due to the lockdown in March. The automotive segment remained weak, whereas industrial coatings saw a demand uptick, driven by protective coatings. Sales declined 7% due to a 14%/7% fall in Home Improvements /Paints. The international business saw single-digit value growth and was not as adversely affected as India. For the year, volumes grew 11%, while sales growth was lower at 5.5%. Management expects realizations to be lower due to higher growth opportunity in the lower end of portfolio. Initiatives on safe painting campaign reassuring the consumers and increased spends and incentives to trade are positive and should benefit APNT in the long run.
* Margin gains driven by lower input prices: Gross margins increased by 410bps to 46%, driven by softening crude prices and management actions on the sourcing and formulation front. We expect margin expansion to continue in FY21, given benign input prices; however, gains could be lower on rising crude prices, weak mix and likely price cuts indicated by management. The increase in staff and overhead spends by 3% and 7%, limited operating margin expansion, which was up by only 80bps. Additional spends to prove safety equipment and insurances to retailers and painters has led to an increase in other expenses.
* Slower recovery and rise in input prices may drive more earnings cut; maintain Hold: Valuations at 46x FY22 EPS are unattractive, given possible downside risks to earnings. We maintain Hold/UW in EAP, with a TP of Rs1625, based on 42x Jun-22 EPS.
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