World War II must not have been a fun or colourful time for anyone, let alone pre-independent India still fighting for its rights. In the middle of all of this, in 1942, a bunch of friends decided, “Hey, you know what a good idea would be? To start a paint company” - and the rest is history.
Asian Paints and its creations - whether it is iconic ads, amazing paints or stellar financials - have stood the test of time. Speaking of the test of time, Asian Paints has been the largest paint company in India since 1967. After 56 years of market leadership, it currently has a ~60% market share in decorative paints business.
But something has been brewing in the Indian paint industry. Age-old competitors like Berger, Nerolac and Akzo Nobel (Dulux) are all increasing their capacity by 30-35%. At the same time, large conglomerates like Aditya Birla Group (Grasim) and the Jindal Group (JSW Paints) are planning an aggressive entry into the market, pumping in Rs. 10,000 crore and Rs. 1,000 crore respectively.
With big money entering the industry and smaller players playing hardball, will Asian Paints’ ironclad brand be able to maintain its 56 years of market leadership?
In decorative paints, Asian Paints currently is the market leader, with a 59% market share. The other major players are Berger (18%), Nerolac (15%) and Dulux (7%), and other players constituting for the left over 1%. This industry composition has been the status quo for several years.
However, the next 5 years are said to see big money coming into the paint industry, with total capacity increasing by nearly 250 crore litres, or 67% to the current capacity. The capacity addition would entail a pumping in of Rs. 20,000 crore in capex.
The most aggressive spenders are Asian Paints, with an outlay of Rs. 8,000 crore to bring capacity to 264 crore litres, and Grasim, which has planned to bring in a capacity of 133 crore litres, which would place it at number 2 in terms of capacity from not being present in the industry right now.
Berger recently set up its largest plant in UP, having spent over Rs. 1,000 crore to bring its capacity up to 95 crore litres, increasing capacity by 55%.
While Nerolac and JSW also plan to add capacities by 26% and 74% respectively, their capex numbers look small compared to the rest of the players, thanks to their smaller size.
Why Is Capacity Addition a Problem?
An entire industry aggressively adding capacity can mean two things - either demand is expected to skyrocket, or the industry is headed for some tough times ahead. And we think it’s the latter!
Industry demand is expected to grow by 10% per annum over the next 5 years. This would imply total demand going up by 61% in 5 years whereas capacity is increasing by 67%. In essence, the industry is headed for over-supply.
Industry over-supply would mean heightened competitive pressures, which would lead to (i) lower pricing to incentivise customers to buy, and/or (ii) higher distributor margins to incentivise dealers to sell a particular brand. Any or both of these happening would squeeze both revenue and margins for paint companies.
The current industry production is at 228 crore litres, whereas capacity is 367 crore litres. The industry is operating at a 62% capacity utilisation, which is pretty low. With the new capacity coming in, and demand expected to go up at 10% per annum, capacity utilisation 5 years down the line would go even lower, which would mean higher desperation by players to sell more, and lower operating efficiencies.
With new players with deep pockets entering with the intent of disrupting the market, and with old players adding capacity to hold their ground, the industry is all set for a blood bath in the next 5 years.
Will Asian Paints Maintain Its Leadership?
We looked back into what Asian Paints has done right in order to (i) gain leadership, and (ii) maintain it for over 5 decades. And it boils down to 3 things:
Product Innovation With its usage of the latest tech and catching onto trends quicker than the rest of the industry, Asian Paints has managed to remain a few steps ahead:
Clearly the trend remains that Asian Paints leads the industry in innovation of its paint products, and contrary to popular belief, Asian Paints is just as much a data science company as it is a paint manufacturer - with the deep research and tech involvement to ensure continued leadership.
New launches like Protek Crystal Lite, All Protek, SmartCare Hydroloc and Royale Glitz solidify its position as the undisputed front runner in the industry by launching products that no one has thought of.
Distribution Strength Asian Paints is known for being the company that has its “paint brush in all the cans” for the lack of a better metaphor, with a 1,50,000+ retail network across the country.
Competitors that even try to come close are Berger at 50,000, Nerolac at 30,000 and Akzo Nobel at around 20,000. With Grasim’s established distribution network for the Birla White cement, it plans to convert about 70% of it to supply its paint products that are to be launched (about 38,000 retail points), which still lags behind Asian Paints!
Furthermore, with its Direct-to-Dealer model of operating, one-day deliveries of even a single can of paint (a service that its competitors are yet to crack) and placing tinting machines at retail stores (supplies only white paint and the tinting machines can add colour pigments based on what the consumer needs) have all been game-changing decisions for Asian Paints to keep dealers loyal to Asian Paints.
Brand Leadership Asian Paints has a very strong consumer pull, thanks to its brand strength. This can be attributed to several factors including
- Pedigree established through decades of market presence
- Trust gained through product usage
- Brand recall thanks to marketing and advertising efforts
- Innovation resulting in an edge over peers
- Product availability led by distribution prowess
The brand strength that Asian Paints commands is evident from its market leadership despite pricing being 15-20% higher than peers, and dealer margins being 3-5 percentage points lower than peers.
💡 Through several market cycles, Asian Paints has continued maintaining leadership because of (i) product innovation, (ii) distribution strength, and (iii) brand leadership. Additional capacity coming into the market doesn’t dilute any of these factors for Asian Paints, increasing its likelihood of maintaining leadership despite heightened competitive intensity.
Additional Growth Drivers
Asian Paints has taken to expanding its presence beyond paints. It has been gradually turning from a paint company to a home improvement company, and has launched several products in the categories of furniture, home decor, kitchens and bathrooms, and several services including painting, waterproofing and interior design.
Although new products and services currently make up a mere 5% of revenue, revenue growth has been at around 32% CAGR over the past 5 years! New products and services continuing to grow much faster than the paints business is likely to result in their mix going up to 10% of total revenue in the next 5 years.
Asian Paints Is a Great Company…
Fundamentally, Asian Paints is a very strong business. It has built and maintained market leadership through factors that are expected to continue giving it a competitive edge even in the future.
In the past decade, Asian Paints has outperformed the industry with a 14% revenue CAGR (industry recorded 13%), gradually strengthening its dominance.
It also has industry-leading profitability, with EBITDA margins of 19%, compared to the industry average of 14%. Factors that contribute to this include:
- It is able to command a 15-20% pricing premium compared to peers
- Dealers prefer Asian Paints despite it offering the lowest dealer margins in the industry, thanks to a stronger consumer pull versus dealer push, high inventory churn, and higher conversion cycle
- Industry-leading capacity utilisation of 75% versus an average of 53% for the industry
The operational prowess of Asian Paints has led to a PAT CAGR of 15% over the last decade, in addition to financial strength being added by its negligible debt, high cash generation with a cumulative OCF/EBITDA of 65% in the past 5 years, strong dividend payout at an average of 53% over the last five years, and industry-leading ROE of 28% as of FY23 (competitor average of 19%).
…but Is It a Good Stock?
Asian Paints has established and maintained leadership through product innovation, distribution strength and brand leadership. This has resulted in superior financial performance and standing, which has led the stock to trade at a 20% premium to peers.
In the future, as competitive intensity increases, the performance divergence, and consequent valuation gap for Asian Paints has the potential to widen further given:
- Capacity share and market share are not strictly correlated
- Sales are determined by consumer and dealer preferences, which seem to be heavily tilted towards Asian Paints
- Asian Paints will suffer the least from an oversupply given its higher capacity utilisation, pricing premium and bargaining power with suppliers
With the industry growing at 10% over the next five years, Asian Paints can easily deliver 12% revenue CAGR and 13% PAT CAGR. Now, the stock has historically traded at a 60x 1-year forward P/E multiple, which is, on average, a 20% premium to its peers. We see potential for this premium widening to 30%, entailing a 70x 1-year forward multiple.
Although there may not be any immediate upside to the stock, compounded returns will ideally be generated from the earnings growth at the 13% CAGR mentioned above, making this one of those slow-yet-surely moving stocks one can have in their portfolios.
This household name has been in the houses, hearts and portfolios of many over the years, and it just might have the grit to survive the impending competitive spree in the industry, retaining its throne once again!
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