Input costs for paint manufacturing companies are likely to move higher as oil prices are on the rise amid a tight supply and expectations of an end to rate hikes by the US Federal Reserve.
Brent crude futures hit a three-month high of $81.57 per barrel in the previous session on the back of concerns over tight supply due to issues in Libya and Nigeria along with hopes that the US Fed may bring an end to its rate hike campaign following the softer-than-expected US retail inflation print for June. In addition, a fall in US dollar also aided sentiment as it bodes well with non-US dominated purchasers.
Furthermore, Saudi Arabia and Russia, the two largest oil exporters, have recently decided to further cut their existing oil production that have been in effect since November of the previous year. On the back of the following, Brent crude futures have climbed 8 percent in July so far.
Production for paint heavily relies on crude-based derivatives which are used as raw materials and likewise, their cost of manufacturing is directly impacted by the price of crude. The dependence of paint companies on crude oil derivatives is such that it accounts for about 40 percent of their overall raw materials as pointed by analysts.
When crude prices rise, it also lifts the input costs for paints companies, putting a pressure on their profit margins. Hence, a rise in oil prices is works negatively for paint manufacturers.
Meanwhile, most brokerages are anticipating a margin recovery for paint companies in the April-June quarter on the back of an easing in input costs during the period. However, that recovery may soon take a U-turn in the upcoming quarters if prices of oil, a key raw material for decorative paints (a segment which brings in high-margins) continue to remain on the upmove.
Moreover, the paint industry is already struggling with concerns of increasing competition with the foray of big players like Grasim. In addition, a slow uptake in rural demand is also likely to dent sentiment for the sector.
Global broking and research firm Jefferies also tagged Grasim Industries' investment plans of Rs 10,000 crore for its foray into the paint segment as the "Jio moment" for the industry in recent report. The report suggests that the industry is likely to experience substantial upheaval with the entry of Grasim's paint brands.
When put together, the aforementioned headwinds can dent the medium-term growth outlook for paint companies. A reflection of these concerns is also seen in the recent stock performance of paint companies. Shares of Asian Paints, Berger Paints India, Shalimar Paints, Kansai Nerolac Paints and Indigo Paints have given returns of -2 to 4 percent in the past months, even as the market soared to new all-time highs.
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