Asian Paints (APNT) continued to see strong double-digit growth in February-March (January muted due to Omicron wave) extending into April, despite sharp price hikes of c.17-18% in H2FY22. It expects strong demand to continue in FY23 driven by deferred demand despite a high base (FY22 volume +31% y-o-y).
But downturn could start with smaller markets: However, we note demand in Tier-3,4 markets has started moderating with down-trading seen on the back of sharp price hikes. We believe given the pressure on consumer wallets due to high inflation, demand for discretionary categories like paints can be impacted especially in Tier-3,4 markets.
Margin pressure to return with controlled pricing: While APNT has managed to expand GPMs sequentially
(-450bp y-o-y, +190bp q-o-q to 38.7%) with sharp price hikes, it is once again witnessing high input-cost inflation (Q1FY23 +5-7%). We also note APNT is lowering the intensity from aggressive price hikes in H2FY22 to small hikes in Q1FY23 (+2%) despite rising inflation, as it is now becoming sensitive to demand price elasticity. We believe near-term margin pressure could build up once again.
Long-term intact: APNT is ramping up superior technology-led world-class innovations (fire retardant paint, waterproofing), a few of which are first-of-their-kind and/or patented, and hence difficult for smaller peers to replicate, and gaining an edge over its competition, in our view. It is dialing up investments in home decor/services, and targets 8-10% of sales from these new businesses over three years (vs 4% now). It also expects both its kitchen and bath businesses to be profitable in FY23.
Downgrade to Neutral on unfavourable risk-reward: While deferred demand could support short-term volumes, we expect demand moderation to set in on the back of weak consumer discretionary spending amid elevated inflation pressure. We expect margin pressure to persist on the back of elevated input-cost inflation. We lower FY23F/FY24F EPS by 18%/15% to factor in margin pressure due to rising costs and likely slower volume growth. We forecast a FY22-24F EPS CAGR of c.25%.
We value APNT at a P/E of 58x Mar-24F EPS (vs 65x earlier, lower by 11%) to factor in our rising interest rates outlook. We arrive at a TP of 2,950(vs 3,875 earlier). APNT trades at 61x Mar-24F EPS. Key risks: higher/slower volume growth.