IGI Logo

Colorful prospects!

Established in the year 2000, Indigo Paints (INDIGOPN) is the fifth largest company operating in the INR542b (USD7.2b) Paints industry in India. Its product portfolio includes emulsions, enamels, wood coatings, distempers, primers, putties, and cement paint. Despite being a late entrant to this industry with high entry barriers, INDIGOPN has been able to create its presence in the market through its multi-pronged strategy of introducing differentiated products, high ad spends (as a percentage of sales), focusing on the rural markets, and increasing the penetration of tinting machines. The company has a presence in 27 States and 7 Union Territories with its distribution network of more than 14,700 dealers. Key highlights:

* INDIGOPN has successfully surpassed the high entry barriers of the Indian Paints industry through its patient and multi-pronged strategy comprising

a) introducing differentiated products,

b) purposefully building a distribution network via the rural markets,

c) creating brand equity through high investments in ads,

d) rapidly driving the penetration of tinting machines, and

e) engaging with influencers (painters/contractors) to build trust.

* The INR545b Indian Paints industry is expected to post a robust ~12% CAGR over FY19–24E, driven by urbanization, the shortening of the repainting cycle, growth in branded players, and the robust pricing power of the branded players. In addition, the oligopolistic nature of the industry means that the incumbents have a considerable growth opportunity.

* We expect INDIGOPN to continue with its robust strategy and thereby deliver a sales/EBITDA/PAT CAGR of ~28%/35%/41% over FY21–24E. The recent sharp price hikes across the industry would further support sales growth and margin recovery in 2HFY22/FY23E.

* We initiate coverage with a Buy rating, with TP of INR2,270 (55x FY24E EPS).

Indigo Paints – the only successful new player in the last 20 years

* The Indian Paints industry is an oligopolistic industry dominated so far by four large players. The industry has high entry barriers for newcomers as the incumbents have strong moats such as

a) robust distribution networks,

b) strong brand equity, and

c) the significant penetration of tinting machines.

* INDIGOPN is the only new entrant in the last two decades to have successfully overcome these high barriers with its patient and multi-pronged strategy, which comprises:

a) Introducing differentiated products to distinguish itself in the market: It focuses on niche and differentiated products (~30% of sales in FY21, with the first-mover advantage in many cases), which helps it to distinguish itself in a competitive market and get access to dealer shelf space. These products are also margin accretive.

b) Purposefully building a distribution network via rural markets: INDIGOPN initially focused on Tier II to Tier IV towns and villages instead of metros and Tier I cities – where the large incumbents have a strong presence in distribution and penetration of tinting machines. This made it easier to onboard dealers. This approach of first building a foothold in the smaller markets and thereafter progressing to the larger cities requires considerable patience. It currently has a dealer network of 14,700+ dealers and is rapidly adding new dealers.

c) Creating brand equity through high investments in ads: The Top 4 companies have created strong brand equity over the years by spending 3– 6% of sales on A&P. INDIGOPN is also investing significantly (11–13% of sales) towards building its brand. This should help in creating brand trust and recall in the mind of the consumer.

d) Rapidly driving the penetration of tinting machines within its dealer network: It aims to become the preferred brand among dealers and improve the throughput per outlet. It has added ~6,400 tinting machines, penetrating ~43% of its dealer network. While it still trails to larger peers, the IPO proceeds would support this effort.

e) Engaging with influencers (painters/contractors) to build trust: Along with offering financial incentives, INDIGOPN also conducts blind tests with influencers to gain their trust.

Robust industry growth prospects

* The INR545b (USD7.2b) Paints industry in India is expected to post a 12.2% CAGR over FY19–24E, led by a ~10% volume CAGR. With the recent sharp price hikes, industry sales are expected to grow further in the coming years.

*  Decorative Paints (74% of the Indian Paints market) is expected to grow at a faster pace (~13% CAGR), from INR403b (USD5.4b) in FY19. At 4.1kg, India has one of the lowest per capita consumption numbers, even compared with emerging markets offering long growth runways.

*  Industry growth drivers comprise

a) urbanization,

b) the shortening of the repainting cycle,

c) growth in branded players, and

d) the robust pricing power of the branded players. Additionally, the oligopolistic nature of the industry means that the incumbents would see considerable growth opportunity.

Slated to deliver strong growth

* Over FY18–21, INDIGOPN delivered a sales/EBITDA/PAT CAGR of ~22%/68%/70%, driven by

a) its efforts on distribution expansion, b) the proliferation of tinting machines,

c) brand investments, and

d) an improving product mix through differentiated products. We expect these initiatives to continue in the coming years as well. In addition, the company has taken 18– 20% price hikes in recent months (in line with that of the industry) amid sharp commodity inflation. Accordingly, we expect it to deliver a sales/EBITDA/PAT CAGR of ~28%/ 35%/41% over FY21–24E.

* INDIGOPN has grown faster than peers in recent years, and we expect it to continue to do so in the coming years as well.

* Post the IPO, the company has turned into a net cash company after repaying its debt. It is expected to generate strong OCF, led by sales growth and EBITDAmargin expansion. INDIGOPN is currently expanding capacity at its Tamil Nadu facility with capex of INR2.25b spread over FY22 and FY23. This should lead to negative FCF for FY22E, which is expected to turn positive in subsequent years

*  Although the cash infusion from the IPO led to a drop in INDIGOPN’s ROCE in FY21, we expect it to improve gradually in the coming years.

Valuation and view

* The Indian Paints industry offers an attractive opportunity on account of the low per capita consumption of paints, urbanization, and the shortening of the repainting cycle. Coupled with the oligopolistic nature of the industry, this means that the incumbents have strong growth runways. 

*  INDIGOPN has gradually, but successfully, managed to breach the barriers to gain entry into the Paints industry on the back of its patient, multi-pronged strategy. It has grown faster v/s peers and has been chipping away an increasing share of the industry profit pool.

*  At just ~2% market share, INDIGOPN has immense opportunity to grow by increasing its distribution reach as well as the throughput per dealer. We expect it to deliver a sales/EBITDA/PAT CAGR of 28%/35%/42% over FY21–24E.

* While we expect INDIGOPN to continue to outperform larger peers in the industry, aggression by larger players in the rural markets could put the brakes on INDIGOPN’s growth aspirations. At the same time, greater acceptability in the urban markets would be crucial to INDIGOPN’s ambitions of achieving scale. Therefore, it would be necessary to watch out for INDIGOPN’s performance in both these markets.

* On account of its strong topline and earnings growth outlook, we believe INDIGOPN deserves higher multiples in line with large peers trading at 55–60x. We initiate coverage with a Buy rating, and TP of INR2,270 (55x FY24E EPS).

To Read Complete Report & Disclaimer Click Here
 

For More Motilal Oswal Securities Ltd Disclaimer http://www.motilaloswal.com/MOSLdisclaimer/disclaimer.html SEBI Registration number is INH000000412

Above views are of the author and not of the website kindly read disclaimer