Hold Kansai Nerolac; target of Rs 390: ICICI Direct

ICICI Direct's research report on Kansai Nerolac

Kansai Nerolac’s (KNL) Q2FY19 performance was largely hit by higher raw material prices leading to ~466 bps YoY fall in gross margin. Overall volume growth at ~9% in Q2FY19 was led by decorative paint segment due to pre-festive placements at dealer’s level. However, we believe slower industrial paint volume growth was mainly due to inferior automotive paint demand from its key client. KNL expects double digit volume growth across the paint category led by the decorative segment in the next two years owing to improvement in repainting demand The company has witnessed a decline in gross margin by ~300 bps YoY in H1FY19 mainly on account of rising raw material prices & delay in passing on price hike to its customers. This, coupled with currency depreciation during Q2FY19, impacted gross margins (import ~45% of total raw material). As a result, the EBITDA margin declined ~394 bps YoY. Lower other income coupled with higher tax rate and depreciation provisioning translated into a PAT decline.

Outlook

With the new capacity addition over the next two years, we model revenue CAGR of 16% led by ~13% volume CAGR in FY18-20E. However, a spike in raw material prices coupled with a change in the product mix would restrict the upward movement of EBITDA margin. As a result, we model PAT CAGR of ~8% during the same period. Despite being on a strong footing, we believe that at the current market price the stock discounts all near term positives. We value the company at 35x FY20E earnings with a revised target price of Rs 400/share with HOLD rating.

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