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Akzo Nobel India stock hits all-time high, but valuations yet to catch-up

LiveMint logoLiveMint 10-04-2017 Harsha Jethmalani

Shares of paint maker Akzo Nobel India touched an all-time high of Rs1,965 on BSE last week, on 3 April.

The stock has been on market participants’ radar after its Dutch parent, Akzo Nobel NV, rejected US rival PPG Industries unsolicited takeover bid, twice, in March, stating that the proposal doesn’t reflect the current and future value of the firm. Akzo Nobel NV will hold an investor update on 19 April, where it will provide updated financial guidance and a detailed plan for separation of its specialty chemicals business, in an attempt to avoid the bid.

Despite the deal not going through, they remain bullish on the stock because of a slew of domestic factors.

First and foremost, they cite the firm’s rising market share in premium decorative paints segment. The industry has grown at a compounded annual growth rate (CAGR) of nearly 12% over FY11-16 and most other firms have reflected the same trend. However, Akzo has grown at 20% CAGR in the same period, said an Angel Broking report.

Secondly, its premium decorative paint brand, Dulux, is well positioned in that segment, the second largest after Asian Paints; and the firm’s recent unconventional strategy of introducing wholesalers into paint distribution would boost its presence in under-penetrated tier-II and tier-III cities, and provide the brand a competitive pricing advantage over peers, added analysts.

Not only that, the company has also been aggressively adding capacities, expanding its base and making acquisitions. In December, Akzo Nobel India commissioned a specialty coatings production facility in Noida that can manufacture 600 kilolitres of coatings annually, with an investment of Rs3 crore. In the same month, it also bought BASF India’s industrial coating business. It is setting up a facility in Mumbai to serve its customers in the Northern and Western parts of India. Akzo Nobel India has six manufacturing facilities in Bengaluru, Hyderabad, Mohali, Gwalior, Raigad and Navi Mumbai.

A steady balance sheet and lucrative dividend payout ratio are some other positives.

However, what concerns analysts is Akzo Nobel’s operating margin, which had taken a beating for two years following the amalgamation of three subsidiaries with itself in FY12. Though the operating margin has improved from then, it still lags peers.

“Despite continuing to deliver robust gross margins, which are at par with the market leader, Akzo’s operating margins have remained significantly lower (with a minimal differential of ~350 basis points with the closest peer) than peers in the paints sector on account of higher operating costs,” said a Spark Capital Research report. One basis point is one-hundredth of a percentage point.

In FY16, operating margin came in at 11%, and Angel Broking foresees a further improvement of 200-250 bps. The firm has taken many cost-control steps, especially keeping staff costs in check, to improve operating margins.

Meanwhile, talking about valuations, Akzo Nobel India is the fourth largest firm by market-cap in the organized paint sector, but trades at a significant discount to larger peers (see chart). After soaring to a new high, the stock witnessed some profit-booking and is currently trading at Rs1,867. Though the stock’s recent surge had to do with the aforementioned global factor, bridging of the valuation gap would largely depend on improvement in its operating margin.

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