ASIAN PAINTS Volumes surprise; new capacity causes blips:: Edelweiss

Asian Paints’ Q1FY14 sales growth (at 11.6% YoY) came in line with
estimates though PAT was lower than estimates. Key positives were (i)
double digit volume growth in domestic decorative business (likely
gained share) despite heavy rainfall in June (which had impact on
demand in southern and western regions of India); and (ii) expansion in
gross margins in both, consolidated (148bps) and standalone (76bps)
businesses. Key negatives were (i) compression in EBITDA margin by
119bps YoY due to higher employee costs (increase in provisions for
gratuity and leave encashment), other expenses (commissioning of new
plant, diesel costs, ad spends). The company has already announced a 1%
price hike from August 1, 2013. Exchange rate movement and diesel price
hikes are key monitorables. Maintain ‘BUY’ on dips.

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Global business robust; industrial slowdown continues
Standalone sales grew by 12.9% YoY; with double digit volume growth YoY (run rate
expected to be maintained for FY14E). Industrial and automotive segment continued to
remain under pressure due to tough business conditions. International business
performed well; demand improved in Middle East despite political instability.
Gross margin expands; demand scenario robust
Aided by price hikes, benign TiO2 prices and limited negative impact of INR
depreciation, gross margin has expanded. However EBITDA margin saw compression
on account of commissioning of the new Khandala plant. Sleek acquisition is in final
stages; water proofing business has received a good initial response.
Outlook and valuations: Growing strong; maintain ‘BUY’
At CMP, the stock is trading at P/E of 34.5x and 27.8x on FY14E and FY15E,
respectively. The domestic organized paint segment is growing ahead of the
unorganized segment with Asian Paints leading strongly. We are also positive on new
growth drivers like water proofing and SLEEK businesses. We maintain ‘BUY/Sector
Performer’ with TP of INR5,334 at 30x FY15E P/E multiple

Operating margins: Operating margins of international subsidiaries have improved even
after excluding the Berger International numbers. In the automotive and industrial
segments, the margins have come down QoQ.
Tax rates: The tax rate increased 292bps YoY to 32.8% which is due to the increase in
surcharge in the recent budget from 5% to 10%. The increase in the surcharge is applicable
for FY14 only.
Market share gains: The company has likely gained market share in decorative business.
New launches: The company has a number of new launches in the pipeline. Most new
launches will be in the niche category (in premium end) that will not affect volumes much.
However, the company will be launching a premium emulsion that could become a volume
player in future.
Distribution expansion: Asian Paints so far has been adding between 1,000 and 2,000
distributors every year since the last five years and this is expected to continue on the same
lines for FY14E.
Sleek business: Asian Paints approved the arrangement for acquiring 51% stake in the Sleek
group. The acquisition is not yet completed but is in the final stages.
Capex: For FY14 the capex will be INR2bn for regular maintenance and facility optimization.
Key highlights from FY13 annual report of Asian Paints
Overall
• Retail demand for decorative paints remained suppressed due to the challenging
macroeconomic environment.
• In FY13 value growth remained healthy partly due to increased prices and improved
product mix over the previous year.
• Lower inflation in most raw materials supported profit margins.
• Economic slowdown impacted operations in Caribbean and a few units in Asia.
However, the demand conditions improved in the Middle East.
• Net revenue from operations for the company grew by 13.9% YoY in FY13 to
INR109.7bn while the EBITDA increased by 14.2% YoY to INR18.5bn.
Decorative India Business
• Decorative paints account for 75% of the overall paint market in India.
• The ‘SmartCare’ range comprising of water proofing and crack bridging products were
launched in several parts of the country during the year.
• The company offers the entire range of wood finishes, as wood finish market is an area
of great focus. Polyurethane and Polyester products in collaboration with Renner of
Italy were launched in key wood finish markets.

Outlook and valuations: Positive; maintain ‘BUY’
The domestic organized paint segment is growing ahead of the unorganized segment with
Asian Paints leading strongly. Industry exhibits strong pricing power; has announced a fresh
round of price hike in August 2013 (1%). However we have toned down our earnings
estimates by 5% and 0.7% for FY14E and FY15E respectively to incorporate higher costs due
to the new facility at Khandala and also the tax burden for FY14E is increased by 150bps in
accordance with higher surcharge imposed in the Union Budget 2013 (FY15E tax rate not
changed and hence cut in EPS is lesser). With investment in new growth drivers
(construction chemicals business, SLEEK business) and higher growth in decorative business
(with additional capacity in place), we maintain FY15E target multiple of 30x arriving at
target price of INR5,334