The Indian paint industry has grown to an impressive value of over INR 62,000 crores (USD 8 billion) and stands as the world's fastest-growing major paint economy, maintaining a consistent double-digit growth rate over the past two decades.
Asian Paints, in particular, has been the undisputed leader in this industry for a decade, securing a remarkable 42% overall market share. Its extensive distribution network, efficient processes, and unwavering commitment to product quality have ensured its continuous dominance, even in the face of emerging competitors attempting to challenge its leadership. Notably, Asian Paints has demonstrated its ability to turn operations into profits effectively, making it a powerful player in the industry.
However, the recent performance of Asian Paints is undoubtedly a cause for concern among investors. Over the past month, the company's share price has witnessed a decline of approximately 6%, and since January 2022, its stock price has remained range-bound, disappointing its investors.
This raises a critical question: Despite its strong market position and historical profitability, why is the share price of Asian Paints falling? Let's try to decode the reasons behind this trend.
Reason 01
Every business goes through four crucial stages in its process: raw material procurement, production, distribution, and consumption. The costs incurred in these early stages have an impact on the final price of a product. For example, if the cost of raw materials goes up, businesses must either accept lower profits or pass on the cost to end customers.
In this context, consider the raw materials used in the paint industry, such as binders, solvents, and additives. Many of these materials are derived from crude oil, and in fact, nearly half of the raw materials used by paint companies come from crude oil derivatives. However, crude oil prices are known for their volatility, which is heavily affected by external factors and geopolitical issues.
Recent conflicts, like the one between Russia and Ukraine and Israel and Palestine, have had a significant impact on the global supply chain, especially on the prices of crude oil, which is predominantly sourced from the Middle East. In the past month, oil prices soared to a nine-month high due to concerns about supply constraints, with Brent crude reaching nearly US$90.7 per barrel.
This surge in oil prices has hit the paint sector hard, primarily because many of the materials used in paints are petroleum-based.
Now, let's take a closer look at some financial data for Asian Paints (above image), specifically about their revenue and the cost of raw materials. When we examine the ratio between raw material costs and total revenue, in 2020, it stood at 48.5% (9981.99/20566.3). This means that, in terms of the total revenue of the company, about 48% was spent on raw materials. In 2021, it was 47.29%. However, there's a notable change in 2022, with this ratio increasing to 58.01%, and in 2023, it's at 54.3%. Clearly, the rising costs of raw materials are affecting how much profit Asian Paints makes.
As a result of this increase in costs, not just Asian Paints but many other players in the industry have had to raise the prices of their products. Consequently, we've observed a sharp decline in volume growth in the third and fourth quarters of the financial year 2022. This is the primary and leading reason why the share price of Asian Paints has either remained stagnant or fallen in recent times (refer to the image below).
Reason 02
As I mentioned earlier, the Indian paint industry is booming, and this has attracted the attention of major players looking to seize opportunities. For instance, in 2021, Birla's Grasim Industries entered the paint industry and announced a sizable CAPEX of Rs 50 billion over the following three years. Similarly, JSW Paints has aggressively entered the paint business, creating more competition for Asian Paints.
Not to be left behind, Pidilite has also entered the decorative paints market with their 'Haisha' brand. These companies are introducing new technologies and launching aggressive marketing campaigns, which have posed challenges for Asian Paints.
As a result, Asian Paints has seen a decline in its market share over the past few years. The rapidly growing competition in the Indian paint industry is having a noticeable impact on Asian Paints' performance.
What next?
Now, let's see how Asian Paints is holding its ground against the top five players in the industry.
In terms of its stock price performance, it hasn't been too exciting recently. Over the past year, it returned -0.66%, and its average annual return over the last 5 years is 21.66%. When we consider valuation ratios like the PE (price-to-earnings) ratio and the PB (price-to-book) ratio, it ranks third among the top 5 stocks. In terms of revenue growth and EPS (earnings per share) growth, it also holds the third position. However, when it comes to profitability ratios like ROE (return on equity), profits, and cash flow, Asian Paints is leading the pack. (Data sourced from ticker tape.)
Looking at the technical side, the long-term trend for Asian Paints is showing a contraction in its price volatility. If this contraction breaks out on the upside, there's a good chance the trend will continue upward (Refer the below image).
In a nutshell, Asian Paints is facing challenges due to current events. However, if geopolitical issues ease, there's a strong possibility that this stock will continue to perform well, thanks to its significant competitive advantage in terms of market share and distribution network.
However, how well it faces the emerging competition and performs beyond it is a question mark at the moment!
What are your thoughts on this? Feel free to share your opinions in the comments below. If you found this content valuable, please consider sharing it with others who might be interested in similar topics.
Thank you for your time and attention.
Signing off,
Nataraj Malavade: Certified Research Analyst, Trader, Investor and Author
Active Links: linktr.ee/natarajmalavade
Credits: Ticker Tape, TradingView, Trendlyne and Screener
