Kansai Nerolac Paints' Q1FY20 results (Neutral) - Strong deco. growth, await industrial turnaround…

Q1FY20 result highlights

• Standalone net sales grew by 6.6% yoy to Rs14.6bn (est: Rs14.1bn), EBITDA grew by 15% yoy to Rs2.4bn (est: Rs1.8bn), PAT increased by 6% yoy to Rs1.48bn (est: Rs1.2bn), strong beat across led by better than exp. vol growth and gross margin expansion.
• Decorative revenue growth was driven by double digit volume growth, higher than our estimate of high single digit volume growth. Industrial volumes were impacted due to weakness in automotive.
• Gross margins improved by 10bps yoy (but was up sharply by 230bps qoq) largely on account of benign input costs and improved mix due to strong growth in the decorative segment. Staff costs increased by 6% yoy and other expenses were flat yoy. Resultant EBITDA increased by 15% yoy with a margin expansion of 110bps yoy to 16.6%. Adjusting for IND AS 116 impact of Rs42m in other expenses, EBITDA grew by 12.6% yoy with expansion of 80bps yoy to 16.3%.
• Other operating income was down 25% yoy while other income fell 52% yoy. Depreciation was up 36% yoy.

Key positives: Double-digit growth in decorative segment, strong sequential improvement in gross margins.

Key negatives: Weakness in industrial segment.

Impact on financials: We increase FY20E/21E earnings by 8%/8%.

Valuations & view

KNPL’s 1QFY20 results were sharply ahead of estimates driven by double digit decorative volume growth and higher than expected improvement in gross margins.  While decorative business is expected to grow at a steady pace (factoring 12% volume growth in FY20E, in line with APNT), the sharp slowdown in the automotive segment will impact the industrial segment sales which would keep FY20E’s revenue growth trajectory relatively lower compared to peers. While challenges on industrial segment remain, input cost environment has turned favourable (crude down 12% since April) and factoring the same we have increased our estimates by 8% for FY20/21E, now factoring 21% earnings CAGR over FY19-21E versus 16% earlier and assign a 25% discount to APNT’s target multiple (30% earlier), arriving at a revised target price of Rs451. We would await for signs of improvement in industrial segment and monitor sustainability of current margins to change our stance. Maintain Neutral.