Indian paint sector - SC Jan 2011

l Equity Research l

THIS REPORT MAY NOT BE DISTRIBUTED INTO THE UNITED STATES

Important disclosures can be found in the Disclosures Appendix All rights reserved. Standard Chartered Bank 2011 http://research.standardchartered.com

India | Consumer 19 January 2011

India Paint Sector Sparkling performance

We expect India’s paint sector to maintain its growth trajectory given favourable macroeconomic factors and evolving consumer preferences.

India’s paint industry is likely to report volume growth of 13-15%, the fastest in Asia Pacific, driven mainly by repainting demand, change in consumer perception and resumption in the capex cycle.

We expect incumbents to maintain their positions given high entry barriers – a tough to create direct-to-retail distribution model, low consumer involvement making brand building difficult, negligible contract manufacturing and high logistics costs that require plants near markets.

We initiate coverage on Asian Paints (APL) with an OUTPERFORM rating given its faster-than-industry growth, high margins, quality management and strong balance sheet. Given this, we believe its above-median forward P/E of 24x is justified.

We initiate coverage on Kansai Nerolac (KNPL) with an UNDERPERFORM rating as we believe its current valuation – at a 25% premium to its five-year median P/E – is high given lack of pricing power and margin sensitivity to input cost fluctuations. We value it at a 25% discount to APL.

BB Mkt cap Price PT Up/Down* Impl. PE EPS (Rs) EPS CAGR PE (x)

code Rec (US$bn) (Rs) (Rs) (%) FY12E 2012E 2013E FY10-13E (%) FY12E FY13E

Asian Paints APNT IN OP 5.8 2,726 3,077 14.1 28.0 109.8 132.8 18.6 24.8 20.5

Kansai Nerolac KNPL IN UP 1.1 900 852 -4.3 20.5 41.5 48.8 16.9 21.7 18.4

Note: OP = OUTPERFORM, UP = UNDERPERFORM, IL = IN-LINE; Prices as at 14 January 2011; *includes dividend yield Source: Company, Bloomberg, Standard Chartered Research estimates

Sanjay Singh [email protected] +91 22 6755 9898

Pratik Biyani [email protected] +91 22 6755 9851

India Paint Sector l 19 January 2011

l Equity Research l 2

Contents

Investment summary 3

Stock summary & valuation 4

A structural growth story 7

Decorative paints to grow faster 8

Uptrading in decoratives happening at a fast pace 10

Growth in Industrial paints steady 11

Industry structure − A cosy oligopoly 13

Distribution − Highly challenging as compared to FMCG 14

Brand building relatively more difficult vis-à-vis FMCG 14

Manufacturing – Key barrier, unlike most FMCG categories 16

Different entry different barriers for industrial paints 16

Margins – Steady and improving 17

Volatile raw material costs, but not a major concern 17

Any demand slowdown in a scenario of sharp capacity expansion can hurt margins 18

Annexure − Comparison with international peers 19

Company updates

Asian Paints 22

Kansai Nerolac 35



Investment summary We expect India’s paint sector to maintain its growth trajectory given favourable macroeconomic factors and evolving consumer preferences. We initiate on Asian Paints (APL) with an OUTPERFORM rating given its faster-than-industry growth, high margins, quality management and strong balance sheet. Given this, we believe its above median forward P/E of 24x is justified. We initiate on Kansai Nerolac (KNPL) with an UNDERPERFORM rating as we believe its current valuation – at a 25% premium to its five-year median P/E – is expensive given lack of pricing power and margin sensitivity to input cost fluctuations.

A structural growth story – India’s paint industry has reported consistent growth over FY05-10 − volume and revenue CAGRs of 13.6% and 17.8%, respectively. Given volume growth is typically 1.5-2.0x GDP growth and our economist forecasts GDP growth of 8-9% in the medium term, we expect the paint industry to maintain volume growth of 13-15%. The industry growth drivers would likely be:

Repainting demand fuelled by the real estate boom over the past few years

Changing consumer preferences, from pure aesthetics to value added features

Resumption in the capex cycle raising demand for industrial paints

High entry barriers favour incumbents – Unlike in the FMCG sector, where many new entrants (eg, Perfetti, L’Oreal) have been successful, there is not even one such instance in the paint industry. This is because of the high entry barriers – a tough to create direct-to-retail distribution channel, low consumer involvement making brand building difficult, negligible contract manufacturing and high logistics costs implying plants need be close to markets. In addition, with APL commanding above 50% market share without making ‘abnormal’ margins makes it the price setter and reduces the relative pricing power of competitors.

Margins steady and improving – Being an oligopolistic industry, margins have been resilient in the past, but suffered in FY09 due to the increase in crude prices and demand slowdown. Nevertheless, softening input prices in FY10 and sharp demand recovery saw margins not just recover but rise to higher-than-historical levels. In 1H FY11, the industry has maintained margins at these levels despite the sharp rise in input costs. Going forward, we expect margins to remain steady or improve as up trading happens at a faster pace. In addition, strong volume growth is likely to lead to operating leverage. However, note that the industry is in capacity expansion mode and any demand slow down could hurt margins.

Paint companies have consistently outperformed the broader market – All the paints companies have benefited from the strong fundamental growth in the sector and have significantly outperformed the Sensex in the past 10 years.

Fig 1 – Paint companies have outperformed the broader market in the past 10 years Asian Paints Kansai Nerolac Berger Paints BSE Sensex

10-yr volume CAGR (FY00-10) 14.1 11.1 12.6 -

10-yr sales CAGR (FY00-10) 16.7 12.2 14.7 -

10-yr PAT CAGR (FY00-10) 17.7 14.5 14.1 -

5-yr stock return CAGR w/o dividend 36.0 17.3 16.7 15.0

10-yr stock return CAGR w/o dividend 31.5 37.0 29.4 16.7

Source: Bloomberg



Stock summary and valuation APL is our preferred pick (OUTPERFORM; Price target: Rs3,077) APL is best-placed to ride on the structural growth of the paints sector in India. We expect its

market leadership, comprehensive product portfolio, nation-wide dealer network and continuous launch of innovative products/services to support higher-than-industry growth. We estimate 17.8% consolidated sales CAGR over FY10-13E.

Supported by the rapid shift to premium products and strong operating leverage, we expect APL to maintain higher-than-historical margins in the medium term, leading to strong consolidated EPS CAGR of 18.6% over FY10-13E.

At FY12E P/E of 24.8x, APL trades at a premium of 27% to its historical five-year median, which we feel is rational especially given the sharp improvement in return ratios (RoE has improved from 32.1% in FY05 to 52.5% in FY10). We initiate coverage with an OUTPERFORM rating and price target of Rs3,077 (valuing it at a forward P/E of 24x).

We note that as per our Standard Chartered Category Attractiveness model (Refer to our India Consumer Sector report), decorative paints stands among the top-5 categories (when weighed against top-25 FMCG categories) indicating high growth and stable profitability even when compared with FMCG categories. In our relative valuation model, APL rates as the third best company in our consumer universe on the back of high growth, sustainable margins, good RoE and dividend payout. Hence, it deserves to trade in line with peers like ITC & HUL and thus we value it at forward P/E of 24x.

Fig 2 – APL: P/E bands

0

500

1,000

1,500

2,000

2,500

3,000

3,500

Apr

-05

Sep

-05

Mar

-06

Sep

-06

Mar

-07

Aug

-07

Feb

-08

Aug

-08

Feb

-09

Aug

-09

Jan-

10

Jul-1

0

Jan-

11

Rs

16x

24x

32x

20x

28x

Source: Company data, Bloomberg, Standard Chartered Research

Fig 3 – APL: One-year forward P/E chart

5

10

15

20

25

30

35

Apr

-05

Oct

-05

Apr

-06

Oct

-06

May

-07

Nov

-07

May

-08

Nov

-08

May

-09

Dec

-09

Jun-

10

Dec

-10

PE

(x)

One year forward P/E Median P/E

Source: Company data, Standard Chartered Research



Fig 4 – APL: Premium over Sensex

-20

0

20

40

60

80

100

Apr

-05

Oct

-05

Apr

-06

Oct

-06

May

-07

Nov

-07

May

-08

Nov

-08

May

-09

Dec

-09

Jun-

10

Dec

-10

%

Premium to sensex Five-year median


KNPL − Valuations expensive (UNDERPERFORM; Price target: Rs852) Strong growth in auto sales enabled KNPL to post over 20% volume growth in the past 18

months; we expect FY11E volume growth to be equally strong at 20%. Nevertheless, we expect volume growth to slow to 14.5% in FY12 and FY13E, due to a high base and likely moderation in auto sales. We estimate KNPL would post 18.2% sales CAGR over FY10-13E.

KNPL has delivered stable EBITDA margins at ~14-15% in FY04-08 except in FY09, when it declined to 11.5% due to a rapid increase in crude prices and a demand slowdown. We expect KNPL to maintain EBITDA margin at ~15% over FY11-13E, however, note that margins are vulnerable to any sharp increase in input prices or a demand slowdown. Our EPS CAGR estimate over FY10-13E is 16.9%.

We value KNPL at a forward P/E of 18x, a discount of 25% to APL’s target multiple, compared with its 18% five-year median discount to APL due to growth moderation. At FY12 P/E of 21.7x, valuations are dear, and hence we initiate with UNDERPERFORM and price target of Rs852.

Fig 5 – KNPL: P/E bands

0

200

400

600

800

1,000

1,200

Apr

-05

Sep

-05

Mar

-06

Sep

-06

Mar

-07

Aug

-07

Feb

-08

Aug

-08

Feb

-09

Aug

-09

Jan-

10

Jul-1

0

Jan-

11

Rs

12x

20x

28x

16x

24x




Fig 6 – KNPL: One-year forward P/E chart

5

10

15

20

25

30

Apr

-05

Oct

-05

Apr

-06

Oct

-06

May

-07

Nov

-07

May

-08

Nov

-08

May

-09

Dec

-09

Jun-

10

Dec

-10

PE

(x)

One year forward P/E Median P/E Source: Company data, Standard Chartered Research

Fig 7 – KNPL: Discount to Asian Paints

-40

-20

0

20

40

60

Apr

-05

Oct

-05

Apr

-06

Oct

-06

May

-07

Nov

-07

May

-08

Nov

-08

May

-09

Dec

-09

Jun-

10

Dec

-10

%

Discount to APL Five-year median Source: Company data, Standard Chartered Research

Risks

Paint demand is highly correlated to economic growth; hence a slowdown from current levels of GDP growth could be detrimental to the sector. In addition, companies’ plans to raise capacity could create supply-side pressure and impact margins.

Deferral or delays from government/ private companies in infrastructure capex could reduce uptake for industrial coatings.

In the near-term, possible withdrawal of excise stimulus and continued increase in raw material costs will make it difficult for paint companies to transfer the entire increase to consumers immediately, as they have already taken ~10-11% price hike since May ’10. Hence, margins might be impacted.



A structural growth story India’s strong economic growth has propelled the paint industry to double-digit growth over the past few years and has made it Asia Pacific’s fastest growing paint market. India is also the second largest coatings market in Asia-Pacific ex-Japan (16% share), behind leader China. Despite fast growth, India’s per capita paint consumption is still abysmally low at 1.5kg/year compared with 4.5kg and 7.0kg for Asia Pacific and the World, respectively.

Fig 8 – Paints growth in various countries Fig 9 – Per capita paints consumption

-5

0

5

10

15

20

25

Ind

ia

Ch

ina

Vie

tna

m

Ind

on

esi

a

Th

aila

nd

Ma

lays

ia

Ko

rea

Au

stra

lia

Jap

an

CA

GR

04

-08

(%

)

1.5

0

5

10

15

20

25

Kor

ea

Japa

n

Aus

tral

ia

Mal

aysi

a

Chi

na

Tha

iland

Vie

tnam

Indo

nesi

a

Indi

a

kg c

onsu

med

per

per

son

Avg. Asia Pacific Avg. World

Source: PPG Presentation 2009, Standard Chartered Research Source: PPG Presentation 2009, Standard Chartered Research

India’s paint industry size is estimated to be Rs190bn (~2m kilolitre by volume), nearly double the size of the largest FMCG category (at Rs113bn, biscuits is the largest FMCG category). Despite the large size, the paint industry has posted strong sales CAGR of 17.8% over FY05-10. Volume growth of the top-five organised players stood at 13.6% during the same period. There is a high correlation between GDP growth and paint volume growth – paint volume has increased 1.6x (on an average) real GDP growth. Given estimated GDP growth of 8.5-9.0% over FY11E-13E, we expect industry volume to post CAGR of 13-15% over the same period. This makes paints one of the fastest-growing categories, even when compared with other large high-growth FMCG categories. In addition, India’s low per-capita consumption compared with Asian peers implies ample scope for growth and, hence, this robust volume increase is structural in nature.

Fig 10 – Paints market size by value Fig 11 – Volume growth 1.5-2x GDP growth

40

60

80

100

120

140

160

180

200

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

Rs

bn

CAGR 04-10: 17.8%

02

468

101214

1618

FY

03

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

Real GDP growth Paint volume growth

Source: Industry, Asian Paints Annual Reports Source: Company data, Standard Chartered Research estimates Note: Total volume growth of top-five paint companies in organised sector

Paint volume growth likely to be 13-15% over FY11-13E

India is the fastest growing paint market in Asia Pacific



Fig 12 – Growth in paints versus top 10 FMCG categories in the past five years

35

24 23 22 2118

15 14 14 12 11

33

2018

15 14 14

40

49

5

0

10

20

30

40

Nam

kins

Edi

ble

Oils

Bis

cuits

Ski

nC

ream

s

Hai

r O

ils

Pai

nts

Was

hing

Pow

der

Det

erge

ntca

kes

Pac

kage

dT

ea Too

thP

aste

s

Toi

let

Soa

ps

CA

GR

FY

05-1

0 (%

)

Value Volume Source: Industry, Company data, Standard Chartered Research

According to the India Paints Association (IPA), ~65% of the paint market is organised. The organised market is highly concentrated and a classic example of an oligopoly, where entry barriers are high and the ‘top-5’ players capture most of the market, while the unorganised market is highly fragmented with over 2,000 players. While organised players have a nationwide manufacturing presence, their unorganised peers are mainly regional and deal in low-value products. Introduction of VAT, decline in excise duty and preference for better quality products have resulted in slower growth for the unorganised players, resulting in increasing share for their organised counterparts. Introduction of goods and service tax (GST), high growth in emulsion and premium products, volatility in raw material prices and increasing brand awareness should result in a further decrease in the share of unorganised players.

Decorative paints to grow faster

The paint market can be divided into two broad product segments – decorative and industrial. Unlike in most developed countries, where the decorative paints to industrial paints ratio is 50:50, in India decorative paints form the bulk of the market, both in value and volume terms.

Fig 13 – Product segmentation – Decorative paints form the bulk of the market

Industrial33%

Decorative67%

Decorative76%

Industrial24%

Source: Industry data, Standard Chartered Research

Demand for decorative paints is derived from two sources – repainting and new construction. Repainting accounts for ~70% of demand, while the remaining is from new civil construction with a lag of 12-18 months between construction and painting.

We expect the paint industry to register 13-15% volume CAGR through FY11-13E, with decorative paints growing at a higher rate than industrial paints. Decorative paints are set for higher growth, given in-place demand drivers, which are 1) robust economic growth resulting in higher disposable income, 2) real estate boom in the past few years, translating into increase in demand for repainting, 3) continued growth in real estate, 4) launch of ‘affordable housing’, 5) change in perception towards painting, 6) shift in demographic profile resulting in increase in number of households and 7) various innovations by large players. In addition, apart from overall volume growth, we expect significant up-trading – from distemper to interior emulsions, cement paints to exterior emulsions and low-end emulsions to premium emulsions.

Repainting accounts for ~70% of decoratives demand

Paint category growing faster than many FMCG categories

Share of unorganised players to decline further from the current 35%



Robust economic growth will continue to be the macro driver Our economist estimates strong GDP growth of 8.5-9% over FY11-13E, driven by strong growth in private consumption. Inflation, though likely to be high at 8.2% in FY11E, is likely to soften gradually to 6.5% and 5.0% in FY12E and FY13E, respectively. Given the high correlation between GDP and paint volume growth, we expect decorative paints to grow on the back of strong economic momentum.

Real estate boom in the past few years, with focus on affordable housing Notwithstanding temporary hitches, the real estate sector is likely to play a significant role in the country’s economic growth. Rapid urbanisation leading to strong demand for new residential units (current space shortage is close to 19.4m units, largely in the middle and low-income groups) and repainting of existing stock built in the housing boom of the past five years will increase usage of decorative paints. To address the shortage, the government and the developers are focusing on affordable housing projects. Availability of low ticket-size home loans at cheaper rates is also increasing demand for affordable housing. This will increase consumption of low-cost emulsions going forward.

Growth in IT and ITES and financial services will require additional commercial space. With organised retail growing steadily and discussions on FDI relaxation taking place, it is estimated that need for retail space will grow multi-fold. These factors will be direct demand boosters for the paint industry.

Fig 14 – Tata’s affordable housing projects

Tata Housing’s Value Homes project in Boisar, Mumbai was over subscribed 7x the flats available for sale. In Dec’10 it launched another value homes project in Vasind near Mumbai.

It plans to invest Rs25bn in value homes segment by 2011.


Perception change from aesthetic to protective coating Perception about paints is changing rapidly – from being the most delayed decision in the household to being a core part of home décor, from being perceived as an aesthetic product to being aware about the protective nature of paints. This rapid change in perception is likely to help drive demand in semi-urban households. This is probably one of the key reasons for the significantly higher growth in tier 2 and 3 towns. Rise in advertising by paint companies for protective exterior coatings with long durability has led to increasing consumption of exterior emulsions and made it one the fastest growing paint categories.

Favourable demographic profile Increase in number of households owing to urbanisation and nuclearisation of Indian families is driving demand for housing. Average household size in urban areas has decreased from 5.5 in 1991 to 4.3 in 2007. Also, the proportion of the population in the earning age bracket (20–59 years) is expected to increase 200-300bps by 2015E. This will further boost housing demand.

Launch of various innovative offerings Various paint companies are creating new avenues of demand for paints by launching innovative products and services. They are not only changing perception toward paints but also making it convenient for the consumers. Some examples of various innovative offerings are:

Painting was considered to be a messy affair involving a lot of pre-planning. However, hassle-free painting services with other colour selection-related help offered by players like APL and Berger are increasingly making the painting experience convenient

Introduction of ‘samplers’ – small-size, low-cost cans (Rs60/200ml) – by APL to help consumers visualise the real look of the wall

Real estate boom in the past few years should lead to strong demand for re-painting

Exterior emulsions fastest-growing sub-segment within decorative paints

Average household size in urban area has decreased from 5.5 in 1991 to 4.3 in 2007



Royale Play brand of APL is positioned as a lifestyle brand to be used in creating various special effects & texture on walls

Nerolac tying up with Walt Disney to target children by painting cartoon characters on the wall

Launch of various metallic colour shades such as gold and silver by APL and Nerolac

Launch of ‘Surprise your Spouse’ initiative by APL whereby the company helps to re-design a particular wall in the house in a day.

Uptrading in decoratives happening at a fast pace

In the past few years, water-based emulsions, comprising nearly one-third of the market, have been increasingly substituting lower-end paints such as distempers, cement paints and enamels. As per our interactions with industry sources, growth in emulsions has been significantly higher than that of other paints. High durability, better looking finish in a wider colour range, more environmental-friendly and increasing affordability due to availability of economy emulsions at a relatively lower cost have been driving the shift to emulsions.

While the trend of higher growth in emulsions continue, our industry interactions point towards a new trend – higher-end emulsions like Royale & Apex Ultima have been growing at a much faster pace than the overall category. This trend could be attributed to marketing attention being focussed on premium emulsions. In the past five years, market leader Asian Paints has heavily advertised its luxury emulsion brands Royale and Apex Ultima with minimal ad-campaigns for its other brands. Also, improving affordability, increasing awareness about the protective nature of paints and the fact that the cost of painting has not increased in proportion to the asset value could have added to this trend. We note that material cost for painting an apartment of 1000 sq ft carpet area with the most premium paint is ~Rs16,500, which works out to 0.1-0.5% of the asset value. According to industry experts, premium products (>Rs200 per litre) contribute only ~20% to industry volumes indicating that there is a significant scope for up trading.

Fig 15 – Decorative paints segmentation Fig 16 – Geographic segmentation

Enamels33%

Cement paint4%

Wood finishes

5%

Primers, thinners

11%

Putty4%

Emulsions (exterior)

14%

Emulsions (interior)

17%

Distemper13%

West32%

East14%

South28%

North26%

Source: Indian Small Scale Paints Association, IPA, Standard Chartered Research


Fig 17 – Price segmentation Fig 18 – Paint material costs

Price range (Rs/lt) Vol. contribution > 200 20% 100 - 200 40% <100 40%

Paint type

Material cost Rs/sqft

Luxury Emulsion 3.7

Premium Emulsion 2.5

Economy Emulsion 1.8

Distemper 1.6 Source: Industry data, Standard Chartered Research Source: Asian Paints, Standard Chartered Research

Emulsions increasingly substituting lower-end paints

Premium & luxury emulsions growing at a rapid pace



Growth in Industrial paints steady

The industrial paints segment is dominated by the organised sector owing to its high technology orientation. In developed markets, industrial paints contribute 50% of the overall industry, but in India, it forms one-third of the industry in terms of value and we don’t see it changing significantly in the near term as we expect decorative growth to be marginally higher than industrial.

All industrial segments to contribute to growth Automotive paints form ~45% of the industrial paints segment. Performance coatings, the next-largest segment (25% of industrial paints segment) derives its demand from industrial plants and machinery setups. Consumer durables and auto-ancillary products use powder coatings, where as coil coatings are used in industrial construction, electrical equipments and interiors of trains & buses.

As demand for industrial paints is mainly derived in nature, the segment’s growth is dependent on various industries such as automobiles and consumer durables as well as infrastructure spending on roads, power plants, marine development, etc. With robust growth in domestic sales of automobiles, increasing auto exports and rising investments in infrastructure projects, demand for industrial paints is expected to grow at a healthy pace.

Auto sector – On a high base, moderation in growth rates expected Economic growth in the past few years has attracted global auto companies to Indian markets. India has emerged as a favourite investment destination and is slowly transforming into an export hub for global auto manufacturers. Volume in auto sector has revived handsomely post the poor show due to global economic slowdown in FY09. Growth in domestic sales of passenger vehicles (PVs) was 29.4% in FY10 and is expected to be an impressive ~25% in FY11E. This revival in growth has resulted in strong performance of auto paint companies like Kansai Nerolac (auto paints comprises ~35% of overall sales).

However, on a high base, growth rates for the automotive sector are expected to moderate. Our auto analyst expects PVs to grow at 16% and 14% in FY12E and FY13E, respectively.

Fig 19 – Industrial paints segmentation Fig 20 – Growth in automobile-segments

Auto paints45%

Protective coatings

25%

Powder coatings

15%

Other industrial coatings

15%

-30

-20

-10

0

10

20

30

40

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

PV CV Two-wheeler

Source: Industry, Standard Chartered Research Source: SIAM, Standard Chartered Research estimates

Strong growth in consumer appliances to increase demand for powder coatings Powder coatings, a technologically intensive segment, is amongst the fastest-growing industrial coatings segments. On the back of increasing affordability, price rationalisation, easier financing and wider distribution, we expect growth rates of white goods to be strong going forward. Moreover, expected revival of capex cycle augurs well for powder coatings.



Fig 21 – Growth expected in white goods Fig 22 – Consumer durable ind. growth

Product Value growth FY03-08 FY08-13E

TV 3 7-9 Refrigerator 8 9-11 Washing m/c 12 10-12

AC 16 14-16

-20

-10

0

10

20

30

40

50

Apr

'05

Oct

'05

Apr

'06

Oct

'06

Apr

'07

Oct

'07

Apr

'08

Oct

'08

Apr

'09

Oct

'09

Apr

'10

Oct

'10

%

Source: Industry, Standard Chartered Research Source: CSO, Standard Chartered Research

Significant investments in infrastructure projects Other industrial paint segments such as performance coatings, coil and marine coatings are expected to surge on the back of strong investment in infrastructure projects such as power, ports and roads. The projected investment in the infrastructure sector is expected to double to US$1trn over 2007-12 compared with US$514bn during 2002-07. All the sectors like ports, roads, railways and airports are expected to witness significant investments.



Industry structure − A cosy oligopoly Decorative paints’ low technological requirement had historically attracted various small players foraying into the segment. As per industry estimates, there are over 2,000 players in the unorganised segment. Various international players such as Jotun, Nippon and Sherwin Williams have also entered the Indian market in the past few years. Despite this, APL has not only maintained leadership position, but also gained market share; the other top-four players have also largely maintained their share. No new player has been able to garner any scale mainly owing to the high entry barriers in distribution, brand building and manufacturing. APL has been able to improve its leadership position on account of its nationwide distribution network, exhaustive product portfolio, and strong brand equity.

APL has established itself as a ‘price setter’ in the industry; hence, it has not only passed-on raw material cost hikes to the consumer, but has also taken judicious price cuts when input costs have reduced. Thus, despite sharp increase in input costs, industry margins have not only been stable, but have also risen marginally. The margin improvement has been better for APL because of the sharp improvement in its product mix (due to up trading as discussed earlier) and ability to derive significant benefits from economies of scale. Also, APL has ensured that on a ‘like-to-like’ basis it does not make ‘abnormal’ margins; hence, other large players have not attempted to gain market share via price cuts. Thus, the industry works as a cosy oligopoly.

Fig 23 – Market share of organised players (top-5)

Shalimar3.2%

Akzo Nobel 9.7

Kansai Nerolac

18.1

Berger 16.8

Asian Paints 51.7

Overall

Akzo Nobel10.0%Kansai

Nerolac11.0%

Berger20.0%

Asian Paints59.0%

Decorative

Kansai Nerolac48.0%

Berger13.0%

Shalimar10.0%

Others9.0%

Asian Paints20.0%

Industrial

Source: Industry, Standard Chartered Research

Fig 24 – International players have not been able to gather momentum

Nippon Paints

Nippon, Asia’s largest coatings maker, entered India in 2006, commencing operations in the South by investing Rs800m to build a manufacturing unit in Chennai. It has opened two new plants and plans to invest another Rs2.5bn over the next three years to double capacity of the Chennai plant. It is also looking for land to setup one more unit with an investment of Rs1bn in North India. In the past four years, it has only been able to have 500 dealers with presence in seven states and intends to have a pan-India presence by 2012.

Jotun India

Part of the Norway-based paints major, the Jotun Group set up shop in India in 2005 – It invested Rs1.25bn to set up a manufacturing unit in Pune, with 50m litre capacity of wet paint and 10,000te of powder coating. It currently has a small network of >175 dealers. It initially planned to gain market share of 8% by ’10, but, with turnover of ~Rs2.5bn in CY08, this seems unlikely.

Sherwin Williams

Sherwin Williams started operations in India by acquiring the paints unit of the Nitco Group in ’06 for ~Rs2bn. It opened its first store in February ’09 in Bangalore. It also operates through a network of 3,000 Nitco dealers. Since the acquisition, it has not been able to significantly scale up its presence.

Source: Standard Chartered Research

Top five players have maintained market share despite entry of foreign players

APL has established itself as a ‘price setter’



Distribution − Highly challenging as compared to FMCG

Unlike FMCG, distribution is direct to retail Unlike in the FMCG sector, the paint industry has no wholesale distributors who break bulk or help manage credit to retailers. Most FMCG companies do not give credit to wholesale distributors, even though the latter may give credit to retailers. However, in paints, the distribution chain does not have any wholesale distributors, as the number of retailers, at ~ 40,000 is much lower than the ~ 7 m FMCG stores. Hence, any company planning a pan-India presence needs to directly deal with thousands of retailers and manage credit with them (on average, the industry gives a credit of three weeks to retailers). Compared with this, any FMCG company has to directly deal with only 500-1,500 distributors. Thus, it is probably easier to set up FMCG distribution than distribution in paints.

Unlike FMCG, paint retailers are not inclined to introduce new products; hence, distribution for a new paint company is difficult High consumer involvement in FMCG categories leads to consumers demanding for new brands/ products from retailers after being exposed to advertising for these brands/ products in the media. Also, because of low space & capital requirement retailers are not hesitant to stock new FMCG brands/ products. Provided there is sufficient brand pull, the presence of a passive distribution network through third-party wholesale dealers enables distribution of FMCG products even if a company is not able to create an active distribution network. However, in paints, despite increased advertising spends by various companies to increase brand awareness, consumer decisions of buying paints continues to be highly influenced by painters, contractors and dealers/retailers signifying higher involvement of influencers. Also, paint being a bulky product tends to occupy significant shelf space, thereby discouraging retailers to introduce new brands. Thus, low consumer involvement and high retailer involvement and non-existence of third-party wholesale channel makes distribution in paints extremely difficult.

Tinting machines required to sell emulsions act as significant barrier Most large outlets that sell emulsion paints have tinting machines that are used to generate the desired shade. However, tinting machines require significant space (25- 35 sq ft), thereby leading to lack of space for a retailer to keep more than 1-2 tinting machines. Thus, it is extremely difficult for a new company to set up new tinting machines in existing outlets. This has become a significant entry barrier.

Brand building relatively more difficult vis-à-vis FMCG

Brand building in FMCG entails differentiated positioning (Bingo! versus Lays, Fair & Handsome versus Fair & Lovely), high spend on advertising and sampling, etc. However, in paints, traditional avenues of brand building are not easily available. We believe that there is no significant positioning difference between large paints players. Also, paint companies’ relationship with painter associations and architects is critical in establishing a stronghold as the latter largely influence paint usage. Hence, brand building is a much more complex and time-consuming process.

Distribution in paints extremely difficult

Tinting machine requires significant space at the retail outlet

Paints distribution chain does not have any wholesaler



Fig 25 – Why many new companies have been successful in establishing themselves in FMCG but there has been no such success story in Paints?

In the past 10-15 years many new companies have been able to establish themselves firmly in various FMCG categories. While distribution in FMCG is difficult, many companies have been able to build a distribution network from scratch. This was possible mainly on the back of launch of superior & differentiated brands/ products. For example, Perfetti entered India in the ‘90’s and very quickly became the undisputed leader in the highly competitive confectionary category – while it had no distribution to begin with, it achieved its leadership status through unconventional advertising and superior products. Similarly, L’Oreal was successful in achieving leadership position in the hair colour market and significant shares in other categories through superior & differentiated brands/ products. While there are many such success stories in FMCG, we do not find a parallel example in paints.

The key reason that describes this anomaly is the fact that while most FMCG categories tend to have high consumer and low retailer involvement, decorative paints tend to have low consumer and high retailer involvement. Due to high consumer involvement in FMCG, consumers tend to seek superior/ differntiated offerings and lap up new brand/ product offerings if they find it to be relevant (most recent examples being Fair & Handsome and Bingo!). Low space and capital requirement backed by sufficent consumer demand makes the retailer stock up new FMCG brand/ products, signifying low retailer involvement. In contrast, consumer involvment is limited in decorative paints and mainly restricted to overall cost the consumer is willing to incur and the corporate brand the consumer prefers while significant influence is wielded by painters, contractors and dealers. Significant outlay of space (due to many SKUs and need for tinting machine) and capital requirement makes decorative paints a high involvement category for retailers and hence they are reluctant to keep many brands of paints. Also, they tend to lose out on volume discounts offered by companies, hence in most cases they tend to stock just one or two brands.

Lower consumer involvement makes it difficult for paint companies to come up with a differentiated or ‘niche’ offering. However, we see this changing especially at the premium end – this is also reflected in the advertising of companies where there has been a shift from corporate advertising to specific premium brands (For example, while earlier most APL advertising used to be on the ‘har ghar kuch kehta hai’ theme, the company is now focussing on specific premium products like Royale and Apex Ultima).

Fig 26 – Consumer vs retail involvement of various FMCG categories

Paints

Auto

Consumer Durables

Staples

Homecare

Low High

Retailer involvement

Low High

Retailer involvementRetailer involvement

Low

Hig

h

Con

sum

er

invo

lvem

ent

Low

Hig

h

Con

sum

er

invo

lvem

ent

Personal care

Packaged food

Source: Standard Chartered Research



Manufacturing – Key barrier, unlike most FMCG categories

Requires manufacturing units in close vicinity to markets Paints have a high volume-to-value ratio and are thus expensive to transport, requiring a manufacturing presence in close vicinity to markets – unlike in other FMCG categories such as personal products and cigarettes, where the product can be manufactured in a few locations and then distributed across the country. Hence, any new player planning a pan-India presence also requires manufacturing presence across the country. This results in high initial capital outlay, which acts as a natural barrier.

Unlike some FMCG manufacturing, outsourcing in paints is limited to low end Some FMCG categories such as biscuits, alcohol and detergents outsource manufacturing. However, in paints, because of the high capex and technological access, outsourcing of product manufacturing is limited to certain low-end paints. The top-four players purchased nearly 29% of their total sales volumes; the rest of it was manufactured in-house. Most organised players have installed their own manufacturing units to maintain product quality.

Fig 27 – Plant locations of major paint companies

Source: Company data; Plants in Khandala (Asian Paints), Hosur (Kansai Nerolac), Hindupur (Berger) are expected to be commissioned in next 2-3yrs

Different entry different barriers for industrial paints

Entry barriers in industrial paints are completely different versus decorative paints. High technology and customised requirements in industrial paints have made global tie ups important. For example, Kansai Nerolac’s (KNPL) global tie up with Suzuki is an entry barrier for other players. Also, in certain cases, the paint company has to work closely with major customers and, replacing a long-term relationship could be major hindrance as it could disturb production. For example, a large number of Kansai Nerolac’s engineers work closely with Maruti Suzuki. Replacing such a large relationship can be challenging and acts as a barrier. However these high entry barriers come at the cost of low bargaining power. Passing on increased cost pressures to institutional customers becomes difficult in an inflationary environment but cost benefits in the event of softening of input prices need to be passed on.

Paints have high volume-to-value ratio and requires manufacturing near markets

Outsourcing is limited only to low-end paints



Margins – Steady and improving

Volatile raw material costs, but not a major concern

The paint industry is raw-material intensive (~60% of sales) and requires >300 constituents. Nearly 45% of the raw material is linked to crude and, hence, is volatile in nature. Despite high material costs and volatile nature, paint companies have successfully transferred cost to consumers in the past. According to our Paints RM Index, CAGR in input costs over FY05-10 has been ~8.5%; however, paint companies have been able to manage stable EBITDA margins during this period.

The margin correction in FY09 was not only due to the sharp rise in crude prices but also due to a combination of factors like sharp drop in demand, passing of excise benefits to inventory carried by retailers, etc. With demand recovery and softening input prices, margins have not only recovered but have also increased compared to historical levels mainly because 1) Strong volume growth has led to economies of scale and 2) Uptrading has led to a better product mix.

The recession experienced in 2008-09 resulted in the closure of various titanium dioxide and monomoer manufacturing units in Europe. Due to this global demand supply imbalance, prices shot up and availability has become an issue. However, these capacities might come up again once the situation in these global economies improve. Our Paints RM index has increased 18% from Jan ’10 to Nov ’10. Strong pricing power has enabled the industry to pass on these costs to consumers - the industry has hiked prices four times in a staggered manner by a cumulative ~11% in FY11 – this should enable the industry to maintain margins. We might witness another round of price hikes in the next quarter on the back of rising crude prices and possibility of withdrawal of stimulus package. Hence, while we are cautious, we are not overly concerned by raw material inflation. However, we note that it would be difficult for the industry to pass on the input cost increases to industrial consumers in general and automotive companies in particular.

Fig 28 – SCSI Paints RM Index Fig 29 – Industry EBITDA margins

8090

100110

120130

140150

160170

180

Apr

-04

Oct

-04

Apr

-05

Oct

-05

Apr

-06

Oct

-06

Apr

-07

Oct

-07

Apr

-08

Oct

-08

Apr

-09

Oct

-09

Apr

-10

Oct

-10

13

.1

13

.2 14

.5

14

.0

14

.0

14

.2

13

.7 14

.5

11

.8

17

.1

0

2

4

6

8

10

12

14

16

18

20

FY

01

FY

02

FY

03

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

%

Source: Industry data, Standard Chartered Research Source: Company data, Standard Chartered Research

Industry raw material intensive (~60% of sales)

Margins higher than historical

Our Paints RM index has increased 18% from Jan’10 to Nov’10



Demand slowdown in current expansion mode can hurt margins

Capacities of the top four organised players have increased at a CAGR of 9% over FY05-10. However, strong demand in the sector has resulted in ambitious expansion plans for various paint companies. As per announced plans, the capacity of the top four companies is expected to nearly double in the next four years. This implies a capacity CAGR of ~20%. We believe if economic growth is robust and resultant demand remains strong then this capacity can be absorbed easily.

However, any global shocks or slowdown in the Indian economy can create serious supply-side pressure. In this event, companies will be more focussed on pushing volume rather than sitting on idle capacity or very poor utilisation. This can seriously impact margins for the industry.

Fig 30 – Manufacturing capacity of top-four paint companies

0

500

1,000

1,500

2,000

2,500

FY05 FY06 FY07 FY08 FY09 FY10 FY13-14E

Tho

usan

d to

nnes


Note: Capacity of top four paint companies including Asian Paints, Kansai Nerolac, Akzo Nobel India, Berger Paints

Significant ramp up in capacities of major paint companies

A demand shock can create supply side pressure

Manufacturing capacity expected to double in the next three to four years



Annexure − Comparison with international peers

Fig 31 – Operational parameters and valuations of international paint companies

Mcap CAGR

(CY10-12E) EBITDA margins

(%) RoE (%) Div. P/E (x) EV/EBITDA (x)

Name (US$m) Sales EBITDA EPS CY11E CY12E CY11E CY12Eyield

(%)CY11E CY12E CY11E CY12E

Paint companies

Kansai Paint 2,701 5.3 6.4 7.5 13.0 13.1 8.2 8.3 1.3 14.7 13.6 6.4 6.0

Nippon Paint 2,067 3.2 1.8 10.4 10.8 10.6 10.5 10.3 1.2 11.5 10.3 8.0 7.9

Akzo Nobel 14,463 4.9 7.4 12.5 14.0 14.3 9.9 10.4 3.3 12.3 11.1 6.3 5.9

Sherwin Williams 9,096 6.8 11.9 15.9 12.5 13.2 33.1 38.6 1.8 16.5 14.3 10.0 8.9

Valspar 3,441 1.3 6.4 13.0 14.3 15.5 14.9 14.6 1.8 12.3 10.8 7.5 7.1

Average 4.3 6.8 11.9 12.9 13.4 15.3 16.4 1.9 13.5 12.0 7.6 7.2Source: Bloomberg; Prices as of 13 January 2010 Kansai and Nippon has March YE, Valspar has October YE





Company Section



Asian Paints Limited (APL) High margins here to stay; initiate with OUTPERFORM

OUTPERFORM (initiating coverage) PRICE (as at 14 January 11)

Rs2,726

PRICE TARGET

Rs3,077

Bloomberg code Reuters codeAPNT IN ASPN.BO

Market cap 12 month rangeRs261,478m (US$5,811m) Rs1,761 - 2,977

EPS est. change - - - -

We initiate coverage on APL with an OUTPERFORM rating and 12-month price target of Rs3,077.

APL is well-placed to ride the structural growth in India’s paint sector. We expect APL to post higher-than-industry growth with consolidated sales CAGR of 17.8% over FY10-13E.

Supported by rapid growth in premium products and strong operating leverage, we expect APL to maintain higher-than historical margins in the medium term, leading to strong consolidated EPS CAGR of 18.6% over FY10-13E.

Robust growth, higher margins and improved return ratios are likely to keep APL’s valuations at a premium.

Year end: March 2010 2011E 2012E 2013ESales (Rs m) 66,045 75,679 90,032 107,889EBIT (Rs m) 12,139 13,700 16,292 19,671EBITDA (Rs m) 12,276 14,005 16,693 20,174Pretax profit (Rs m) 11,855 13,518 16,105 19,484Earnings (Rs m) adjusted 7,642 8,813 10,533 12,738Diluted EPS (Rs ) adjusted 79.7 91.9 109.8 132.8Diluted EPS growth (%) adj. 92.8 15.3 19.5 20.9DPS (Rs ) 27.0 35.1 45.9 56.2DPS growth (%) 54.3 30.0 30.8 22.4EBITDA margin (%) 18.4 18.3 18.3 18.5EBIT margin (%) 18.2 17.9 17.9 18.1Net margin (%) 11.3 11.4 11.4 11.6Div payout (%) 39.6 44.6 48.8 49.3Book value/share (Rs ) 178 229 285 353Net gearing (%) -29 -30 -35 -34ROE (%) 52.5 45.1 42.7 41.6ROCE (%) 42.0 38.2 37.2 37.2FCF (Rs m) 6,374 5,179 7,019 6,862EV/Sales (x) 3.9 3.4 2.9 2.4EV/EBITDA (x) 20.9 18.3 15.4 12.7PBR (x) 15.3 11.9 9.5 7.7PER (x) 34.2 29.7 24.8 20.5Dividend yield (%) 1.0 1.3 1.7 2.1

Source: Company, Standard Chartered Research estimates Share price performance

1,6001,8002,0002,2002,4002,6002,8003,000

Jan‐10 Apr‐10 Jul‐10 Oct‐10 Jan‐11

Asian Paints Limited BSE SENSEX 30 INDEX (rebased)

Share price (%) -1 mth -3 mth -12 mthOrdinary shares 0 1 45Relative to Index 5 8 35Relative to Sector - - -Major shareholder Promoter (52.3%)Free float -Average turnover (US$) 6,457,158

Higher-than-industry growth rate – We expect APL to not only ride the structural growth in the paints category but also post above industry growth mainly supported by 1) strong brand equity built in premium emulsions in the past couple of years coming into play and 2) unmatched distribution network in Tier 2 & 3 towns where growth is likely to remain high. We expect it to post robust standalone sales CAGR of 22.8% over FY10-13E. Note that management is planning aggressive capacity expansion – doubling capacity in the next four years.

High margins for the medium term – APL’s current standalone EBITDA margin of >19% is significantly higher than historical margins (15-16%). Nevertheless, we expect APL to maintain current levels in the medium term given an improving product mix (premium emulsions growing at a fast pace), higher operating leverage and economies of scale. In addition, management action (it hiked prices a cumulative 11% in FY11 despite the high margin) indicates comfort with current margins.

Valuations still in a rational zone – At FY12E P/E of 24.8x, APL trades at a premium of 27% to its historical five-year median, which we feel is rational especially given the sharp improvement in return ratios (RoE has improved from 32.1% in FY05 to 52.5% in FY10). Our 12-month price target of Rs3,077 is based on forward P/E of 24x.

Risks – Adverse movement in raw material prices coupled with complete withdrawal of stimulus benefits and any demand slowdown in an environment where capacities are expected to increase sharply.

Source: Company, Bloomberg





Investment argument and valuation

Growing faster than industry

Growth in paints is structural in nature and volume is normally in the mid-teens. Asian Paints (APL) has not only successfully leveraged the strong category growth but has also consistently outperformed the industry. Over FY05-10, APL posted 15.8% volume CAGR compared with the organised industry’s 13.6%; gross sales CAGR was a robust 19.8%. We expect APL to continue posting higher-than-industry growth supported by 1) strong brand equity, 2) comprehensive product portfolio with strong presence in premium emulsions, 3) unmatched distribution network especially in Tier 2 & 3 towns where the growth has been higher in recent times and 4) successful launch of new products and innovative services. We estimate gross sales CAGR of 22.8% over FY10-13E; however, expected withdrawal of excise benefits could result in lower net sales CAGR of 20.7%.

Fig 1 – APL vs. Industry volume growth Fig 2 – APL − Standalone sales & growth

9.1

15.6 17

.8

17.5

13.4

8.3

14.4

13.1

11.4

15.616

.6

13.2

11.0

16.4

8.7

13.8

4

7

10

13

16

19

FY

03

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

%

Industry APL

10

30

50

70

90

110

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

Rs

bn

5

10

15

20

25

30

%

Net sales (LHS) YoY growth (RHS)


Source: Company data, Standard Chartered Research estimates

Strong brand equity with focus on decorative paints APL’s successful marketing campaigns over the years have made it the leading player in the decorative segment with nearly three times the market share of the nearest competitor. It has also been able to reposition the paint category from a commodity product to a branded product with aesthetic and protective values. Consistently increasing ad-spend has worked in its favour – its market share improved from 44% in FY05 to 52% in FY10 in the overall paints market. APL’s market share in decorative paints, which contributes ~76% of total market volume, is even higher at ~60%. Decorative paints contribution to APL’s standalone sales is greater than 95%.

Fig 3 – APL − Market share Fig 4 – APL − Adspends-to-sales increased

45.9

45.7

45.5

44.0 44

.7

44.9

46.9

50.5 51

.7

40

42

44

46

48

50

52

54

FY

02

FY

03

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

%

3.3

3.7 3.7

4.6

4.03.6

4.0 4.0

4.94.6

4.8

2.0

2.5

3.0

3.5

4.0

4.5

5.0

5.5

FY

00

FY

01

FY

02

FY

03

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

%


Market share amongst top five paint companies Source: Company data, Standard Chartered Research

APL has consistently registered higher-than industry growth in the past five years

Improved market share from 44% in FY05 to 52% in FY10



Comprehensive product portfolio − Exterior and premium emulsions growing faster APL has the most comprehensive product portfolio among paint companies. It has products ranging from low-end distemper to specialty premium paints with brands varying across price points in each paint type. For example, in enamels it has Gattu at the economy end and Apcolite at the premium end; in interior emulsions it has the highest-selling and attractively priced economy brand Tractor and hugely successful Royale in the premium end.

Its premium emulsion brands Royale (interior) and Apex Ultima (exterior) are growing at a much faster pace than other emulsions, enamels or distempers. A strong advertising push for premium brands might have urged consumers to up trade – in the past five years Royale and Apex Ultima were the most advertised APL brands on television, while only a couple of campaigns were run for its economy brands Tractor (emulsion) and Utsav (distemper). This is also a departure from its marketing campaigns in the past – earlier the company used to focus on the “corporate umbrella brand” with its highly memorable ‘Har ghar kuch kehta hai’ campaign.

Unmatched distribution network − Strongest in tier 2 & 3 cities APL has a wide and formidable distribution network of 26,000 dealers across India, nearly twice the size of its nearest competitor (Berger Paints), which has 14,000 dealers. The number of tinting machines had risen over eight times in the past 10 years to ~17,000 by Nov ’10, compared with 6,000 machines for the second-largest player. It has benefited from its strong presence in tier 2 and 3 cities, as smaller towns have posted faster growth than large towns.

Fig 5 – APL’s tinting machines Fig 6 – Competitors tinting machines

0

4,000

8,000

12,000

16,000

20,000

FY

01

FY

02

FY

03

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11*

0

5,000

10,000

15,000

20,000

25,000

30,000

AP

L

Ber

ger

KN

PL

Akz

oN

obel

Indi

a

Tinting m/c Dealers

Source: Company data, Standard Chartered Research * Tinting machines installed till Nov’10


Launch of innovative products/services APL has been at the forefront of making painting a convenient and colourful experience by introducing innovative products, services and retail initiatives.

In FY08, APL made shade selection easier by introducing small 200ml ‘samplers’ that made colour visualisation convenient – now one could paint a wall to check the shade rather than look at a shade card

It has been highly successful in marketing its premium brand Royale and has regularly introduced paints with a variety of special effects and textures in the premium segment

Small but useful services on its website such as a calculator to estimate cost of painting, online consultations with experts to select paints, shades, etc

It launched a retail signature store ‘Colour with Asian Paints’ in 2009 which doesn’t sell paints, but where consumers can view and experience the finish of different paints

It runs the highly successful ‘Home Solutions’ service where it takes care of the whole painting process and in effect takes the ‘pain’ out of painting.

Advertising focus in past five years on premium emulsions

Strong and wide network of 26,000 dealers



Higher-than-historical margins here to stay

Over FY04-08, APL was able to maintain EBITDA margin in the tight range of 15-16%. In FY09, however, margin fell to 13.1% as demand slowed and input costs rose. In FY10, as inputs costs softened and product mix improved, gross margin bounced back 580bps yoy. EBITDA margin rose higher – up 660bps yoy to 19.7% – supported by higher operating leverage, evident in declining other cost-to-sales.

We expect APL to maintain EBITDA margin above 19% (higher than historical level of 15-16%) in the medium term given 1) management’s intent to maintain margins at these levels reflected in recent price increases, 2) improving product mix, 3) operating leverage from strong volume growth and 4) economies of scale benefits. This also helps APL to command higher margins than competitors.

Fig 7 – APL: Standalone RM cost-to-sales Fig 8 – APL: Standalone EBITDA margin

57.8

58.2 58

.9

59.1

57.6

61.5

55.7 56

.8

57.3

57.6

48

50

52

54

56

58

60

62

64

66

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

15.5

15.2

15.2

15.0 16

.2

13.1

19.4

19.3

19.4

19.7

10

12

14

16

18

20

22

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%



Fig 9 – APL: Standalone adspends-to-sales Fig 10 – APL: Standalone other cost-sales

4.03.6

4.0 4.0

4.94.6

4.8 4.7 4.7 4.8

2.0

2.5

3.0

3.5

4.0

4.5

5.0

5.5

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

22.8

22.9

22.0

21.9

21.3

20.7

19.8

19.1

18.8

18.3

12

14

16

18

20

22

24

26

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%



Significant price increases, despite margins at all-time high Despite EBITDA margin being at an all-time high of 19.7% in FY10, APL has increased product prices by a cumulative of 11% in FY11 in response to increase in input costs, especially titanium dioxide (Standard Charetered RM index up 23% yoy in Nov ’10). This has helped APL to post standalone EBITDA margin of 19.9% in 1H FY11, demonstrating management’s intent to maintain margins at these levels.

Improving product mix with high growth in premium emulsions Most of Asian Paints’ marketing campaigns are currently targeted at premium emusions like Royale and Apex Ultima. Industry interactions indicate that premium emusions are growing faster than other segments. We note that APL’s EBITDA margin and gross margin expansion (since FY08) have been higher than those for other players, indicating that APL’s margin expansion could partly be attributed to improvement in product mix.

EBITDA margin likely to remain above 19%

Raising prices four times in FY11 shows management’s intent



Economies of scale offer significant advantages APL’s current manufacturing capacity is ~440,000 tonnes, double that of the second-largest decoratives player. APL plans to increase capacity to ~1m tonnes over the next three to four years. In addition, the new plants are much larger than existing plants, offering it significant benefits from economies of scale. We expect this to help APL maintain higher-than-histroical margins. APL’s high capacity utilisation of ~90% compared with peers’ 70% result in higher asset turnover and better return on capital employed (RoCE) than competitiors.

Fig 11 – EBITDA margin of paint companies Fig 12 – RoCE of paint companies 16

.3

14.1

10.113

.2

11.5

8.4

19.8

15.5

10.5

10.4 11

.9 12.5

0

5

10

15

20

25

Asi

anP

aint

s

Kan

sai

Ner

olac

Ber

ger

Pai

nts

Akz

oN

obel

Indi

a

%

FY08 FY09 FY10

33.0

14.1

47.7

20.6

16.3

16.220

.3

21.1

0

10

20

30

40

50

60

Asi

anP

aint

s

Kan

sai

Ner

olac

Ber

ger

Pai

nts

Akz

oN

obel

Indi

a

%

FY09 FY10



International business − Grim economic scenario

The global slowdown and divestment of some international businesses resulted in muted sales growth of 6.7% (adjusted for 15 months’ sales) in FY10. However, the divestment of loss-making international subsidiaries in Malaysia, Hong Kong, China and Thailand in FY10 improved the profitability of the international business – from a loss of Rs175m in FY09 to a profit of Rs480m.

Fig 13 – International sales and growth Fig 14 – International EBIT margin

0

3

6

9

12

15

18

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10*

FY

11E

FY

12E

FY

13E

Rs

bn

5

10

15

20

25

30

%

International sales (LHS) YoY growth (RHS)

0.4

2.9

8.47.7

15.0 14.2 14.6 14.9

0

2

4

6

8

10

12

14

16

FY

06

FY

07

FY

08

FY

09

FY

10*

FY

11E

FY

12E

FY

13E

%

Source: Company data, Standard Chartered Research estimates * FY10 results for overseas business includes result for 15 months. YoY growth numbers are adjusted for it.

Source: Company data, Standard Chartered Research estimates * FY10 results for overseas business includes result for 15 months

Benefits from economies of scale and higher capacity utilisation

Rationalisation of international operations improved profitability



Fig 15 – International sales breakup FY10* Fig 16 – International EBIT breakup FY10*

South Asia15%

Middle East54%

Caribbean16%

South East Asia

8%

South Pacific

7%

Caribbean6%

South Asia13%

Middle East66%

South Pacific

7%South East Asia

8%

Source: Company data, Standard Chartered Research * FY10 results for overseas business includes result for 15 months

Source: Company data, Standard Chartered Research * FY10 results for overseas business includes result for 15 months

Conditions in APL’s largest international markets, the Middle East and the Caribbean, continue to remain uncertain and challenging. Sales in the Caribbean region declined 11% yoy in 1H FY11, where as in the Middle East it was flat. Growth in Asian markets was strong at 21.9% yoy, while the South Pacific region posted a modest 7.7% yoy in 1H FY11. Overall, international sales grew 3.2% in 1H FY11.

We expect international market conditions to improve and estimate growth of 7.2% in FY11E followed by mid-double digit growth in FY12-13E. We expect international margins to be in the range of 14-15% going forward.

Industrial paints − Capex growth yet to pickup

Industrial paints’ growth has been largely driven by strong growth at its automotive JV (Asian PPG Industries). Non-auto industrial paint demand has not yet picked up due to deferral of capex spends. An extended monsoon has also led to delays in projects and maintenance demand. APL, however, saw some up-tick in non-auto industrial paint demand in 2Q FY11 over 1Q FY11. We estimate sales growth of 15% in FY11E, which we expect to improve further in FY12-13E.

Fig 17 – Industrial sales Fig 18 – Second in industrial paints

0

1

2

3

4

5

6

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

Rs

bn

-5

0

5

10

15

20

25

30

35

%

Net Sales (LHS) YoY growth (RHS)

Kansai Nerolac

48%Berger13%

Shalimar10%

Others9%

APL + PPG20%

Source: Company data, Standard Chartered Research estimates APICL: Asian Paints Industrial Coatings Ltd.


Valuations in a rational zone - initiate with Outperform

Given long-term structural growth prospects and oligopolistic nature of the industry, we find the paint category highly attractive, even when compared with other FMCG categories. As discussed earlier, we expect APL to deliver higher-than-industry volume growth for some time to come. We also expect APL to maintain higher-than-historical margins, which will enable it to post strong EPS CAGR of 18.6% over FY10-13E.

APL is currently trading at FY12E P/E of 24.8x, 27% premium to its five-year median P/E of 19.6x. While valuations may appear expensive compared with the historical median, we note that over FY05-10, APL has consistently seen earnings upgrades and hence the historical median might

Deferral in capex spends impact non-auto industrial paint demand



not give the true picture. Also, increasing EBITDA margin and improving return ratios (RoE increased from 32.1% in FY05 to 52.5% in FY10) enable APL to trade at higher valuations. We believe APL will continue to command premium valuations on the back of strong growth, superior margins, stable cash flows and excellent return ratios. Our one-year price target of Rs3,077 is based on forward P/E of 24x.

Fig 19 – APL − P/E bands

0

500

1,000

1,500

2,000

2,500

3,000

3,500A

pr-0

5

Sep

-05

Mar

-06

Sep

-06

Mar

-07

Aug

-07

Feb

-08

Aug

-08

Feb

-09

Aug

-09

Jan-

10

Jul-1

0

Jan-

11

Rs

16x

24x

32x

20x

28x


Fig 20 – APL − One-year forward P/E chart

5

10

15

20

25

30

35

Apr

-05

Oct

-05

Apr

-06

Oct

-06

May

-07

Nov

-07

May

-08

Nov

-08

May

-09

Dec

-09

Jun-

10

Dec

-10

PE

(x)



Fig 21 – APL − Premium over Sensex

-20

0

20

40

60

80

100

Apr

-05

Oct

-05

Apr

-06

Oct

-06

May

-07

Nov

-07

May

-08

Nov

-08

May

-09

Dec

-09

Jun-

10

Dec

-10

%

Premium to sensex Five-year median


APL stock performance has been strong since the last market peak APL has outperformed the broader indices on a consistent basis. Since the market peaked in Jan ’08, APL stock has jumped 140% versus a flat BSE Sensex. Given the sharp outperformance over the past few years, we expect stock returns to be moderate from a one-year perspective.



Fig 22 – APL stock performance vis-à-vis broader indices APL FMCG Index BSE Sensex

1 year 44.9 28.7 7.3

3 year 34.4 14.2 -3.1

5 year 36.0 16.7 15.0

10 year 31.5 13.5 16.7

Source: Bloomberg Note: For periods greater than a year, the returns are annualised

Risks

Further increase in prices of raw materials like titanium dioxide or crude combined with complete withdrawal of stimulus benefits could force APL to absorb some of the costs as it has already increased prices four times in FY11. This could lead to short term margin squeeze.

APL plans to more than double its manufacturing capacity in the next three to four years, implying a capacity increase CAGR of ~19% over the next four years. Any economic slowdown (due to global shocks or otherwise) which can potentially disrupt domestic demand can cause margins to slide as APL will be more focussed on volume growth.



Financials We estimate consolidated sales, EBITDA & EPS CAGR for APL to be at 17.8%, 18.0% & 18.6% respectively over FY10-13E.

APL’s cash flows are strong and similar to any FMCG company. Its average operating cash flow in the past five years have been at 95% of reported net profit. Relatively high capex results in FCF post capex as proportion of reported net profit to be lower at 55-60%. Dividend payout is at 40-50% and its RoE is a healthy >40%.

Fig 23 – APL: Sales & sales growth Fig 24 – APL: RM cost to sales

0

20

40

60

80

100

120

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

Rs

bn

5

10

15

20

25

30

35

%


57.8 58

.7 60.3 60.8

59.2

62.5

56.9 57

.7

58.0

58.1

51

53

55

57

59

61

63

65

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%Source: Company data, Standard Chartered Research estimates Source: Company data, Standard Chartered Research estimates

Fig 25 – APL: A&P as % of sales Fig 26 – APL: Other costs as % of sales

3.6

3.6

4.0

3.6

4.5

4.4 4.5

4.5

4.5 4.6

2.0

2.5

3.0

3.5

4.0

4.5

5.0

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

25.5

24.5

22.7

22.6

21.3

20.8

20.2

19.4

19.2

18.7

0

5

10

15

20

25

30

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

Source: Company data, Standard Chartered Research estimates Source: Company data, Standard Chartered Research estimates

Fig 27 – APL: EBITDA margin Fig 28 – APL: PAT & PAT growth

13.1

13.2

13.0

13.0 14

.9

12.3

18.4

18.3

18.3

18.5

4

6

8

10

12

14

16

18

20

22

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

0

2

4

6

8

10

12

14

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

Rs

bn

-20

0

20

40

60

80

100

%

PAT YoY growth (RHS)




Fig 29 – APL: Cash flow as % of PAT Fig 30 – APL: Return ratios

-20

10

40

70

100

130

160

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

Operating Cash Flow FCF post capex

0

10

20

30

40

50

60

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

RoE RoCE


Fig 31 – APL: Income statement (Rs m) Year end: March FY09 FY10 FY11E FY12E FY13E

Net Sales 53,941 66,045 75,679 90,032 107,889

- of which Standalone 42,630 51,021 62,031 74,403 89,751

- of which subsidiaries 11,312 15,023 13,648 15,629 18,138

Other operating income 691 765 855 954 1,067

Total Revenue 54,632 66,809 76,533 90,986 108,956

Raw materials consumed 33,706 37,580 43,694 52,197 62,729

Gross Profit 20,926 29,230 32,839 38,789 46,227

- Gross Margin (%) 38.3 43.8 42.9 42.6 42.4

Other operating expenses 14,232 16,954 18,833 22,096 26,053

EBITDA 6,694 12,276 14,005 16,693 20,174

- Growth (%) 1.7 83.4 14.1 19.2 20.9

- EBITDA margin (%) 12.3 18.4 18.3 18.3 18.5

Depreciation & Amortisation 744 836 1,187 1,481 1,775

Gross Interest 263 285 183 186 186

Other Income 517 699 882 1,079 1,272

Recurring PBT 6,204 11,855 13,518 16,105 19,484

Add: Extraordinaries 21 715 0 0 0

Less: Taxes 2,030 3,730 4,215 4,998 6,043

- effective tax rate (%) 32.7 31.5 31.2 31.0 31.0

Less: Minority Interest 216 483 491 574 703

Net Income (Reported) 3,978 8,357 8,813 10,533 12,738

Recurring Net Income 3,964 7,642 8,813 10,533 12,738

- Growth (%) -4.8 92.8 15.3 19.5 20.9

- Net margin (%) 7.2 11.3 11.4 11.4 11.6

Source: Company, Standard Chartered Research estimates



Fig 32 – APL: Balance sheet (Rs m) Year end: March FY09 FY10 FY11E FY12E FY13E

Cash & Bank balance 2,104 1,058 2,716 5,309 6,529

Inventory 7,690 9,559 10,182 13,211 14,653

Sundry Debtors 5,719 5,425 6,889 7,569 9,483

Loans and Advances 1,978 1,746 1,899 2,066 2,251

Other Current Assets 497 646 713 786 867

Total Current Assets 17,987 18,435 22,398 28,941 33,783

Sundry Creditors 7,337 10,171 10,091 14,018 14,817

Other Current Liabilities 2,775 3,626 4,209 4,910 5,750

Provisions 1,810 3,150 3,518 4,003 4,556

Current Liab. & Prov. 11,921 16,947 17,818 22,931 25,124

Net Current Assets 6,066 1,488 4,580 6,010 8,659

Investments 784 6,243 6,243 6,743 7,243

- of which Strategic 10 10 10 10 10

- of which Marketable 774 6,233 6,233 6,733 7,233

Net Fixed Assets 9,051 12,801 14,713 18,281 21,585

- of which CWIP 921 4,072 4,072 4,120 4,200

Goodwill 506 367 367 367 367

Total Assets 16,407 20,899 25,904 31,401 37,855

Equity Share Capital 959 959 959 959 959

Reserves & Surplus 11,073 16,141 21,026 26,423 32,877

Net Worth 12,032 17,100 21,985 27,383 33,836

Borrowings 3,086 2,292 2,356 2,356 2,356

Deferred Tax Liability 533 562 562 562 562

Minority Interest 756 945 1,000 1,100 1,100

Capital Employed 16,407 20,899 25,904 31,401 37,855


Fig 33 – APL: Cash Flow statement (Rs m) Year end: March FY09 FY10 FY11E FY12E FY13E

Reported Net Income 3,978 8,357 8,813 10,533 12,738

Depreciation & Amortisation 147 -208 1,187 1,481 1,775

Others -322 -932 -392 -505 -568

Operating Cash flow 3,804 7,217 9,608 11,508 13,945

Working Capital Changes -1,712 2,698 -1,329 558 -2,003

Capital Commitments -2,280 -3,541 -3,100 -5,048 -5,080

Free Cash Flow -189 6,374 5,179 7,019 6,862

Investing Activities 2,499 -4,760 882 579 772

Inc (Dec) in Borrowings 334 -794 64 - -

Dividend paid -1,908 -2,188 -4,033 -4,531 -5,710

Extraordinary Items 21 715 - - -

Chg. In Cash & Bank balance 997 -1,045 1,658 2,593 1,220

Add: beginning balance 1,107 2,104 1,058 2,716 5,309

Closing balance 2,104 1,058 2,716 5,309 6,529




Fig 34 – APL: Ratios Year end: March FY09 FY10 FY11E FY12E FY13E

Per Share Data (Rs)

Recurring EPS 41.3 79.7 91.9 109.8 132.8

Reported EPS 41.5 87.1 91.9 109.8 132.8

Dividend per share (DPS) 17.5 27.0 35.1 45.9 56.2

Book Value per share (BV) 125.4 178.3 229.2 285.5 352.8

Growth Ratios (%)

Net Sales 23.8 22.4 14.6 19.0 19.8

EBITDA 1.7 83.4 14.1 19.2 20.9

Recurring EPS -4.8 92.8 15.3 19.5 20.9

Valuation Ratios (x)

P/E 66.0 34.2 29.7 24.8 20.5

P/BV 21.7 15.3 11.9 9.5 7.7

EV / EBITDA 38.4 20.9 18.3 15.4 12.7

EV/ Net Sales 4.8 3.9 3.4 2.9 2.4

Operating Ratio (%)

Raw Material/Sales 62.5 56.9 57.7 58.0 58.1

SG&A/Sales 12.7 12.8 12.9 12.9 13.0

Effective Tax Rate 32.7 31.5 31.2 31.0 31.0

NWC / Total Assets 24.1 2.1 7.2 2.2 5.6

Inventory Turnover (days) 50.2 47.7 47.6 47.4 47.1

Receivables (days) 34.9 30.8 29.7 29.3 28.8

Payables (days) 51.8 48.4 48.9 48.9 48.8

D/E Ratio (x) 0.30 0.17 0.13 0.11 0.09

Return/Profitability Ratio (%)

RoCE 27.7 42.0 38.2 37.2 37.2

RoNW 36.3 52.5 45.1 42.7 41.6

Dividend Payout Ratio 49.5 39.6 44.6 48.8 49.3

Dividend Yield 0.6 1.0 1.3 1.7 2.1




Company profile Asian Paints is the world’s 10th largest decorative paints company and India’s largest with a 52% market share. Decorative paints contribute >95% of standalone sales and command a market share of 60% share, nearly three times the nearest competitor. It has a comprehensive product portfolio ranging from mass-end distempers to premium emulsions at varied price points and a strong distribution network of 26,000 dealers (with nearly 17,000 having tinting machines). It plans to double its manufacturing capacity in the next three to four years from 440,000 tonnes in FY10.

It has a market share of 20% in industrial coatings and offers auto paint products through its 50:50 JV with PPG Industries. Non-auto industrial paints are offered through its wholly-owned subsidiary Asian Paints Industrial Coatings Ltd. (APICL). International operations contribute ~15-20% to its consolidated sales and it has a presence in various Middle East, Asian and Caribbean countries.

Fig 35 – Shareholding pattern as of Dec’10

Promoter52.3%

FIIs14.6%

DIIs11.4%

Others21.7%

Source: BSE

Fig 36 – Management profile

Name Designation Background

Ashwin Choksi Chairman

Mr. Choksi is one of the promoters of the company and has

been Non-Executive Chairman since April 2009. He has also

served as MD from 1984 to 2008, post joining the company in

1965. He holds a Master’s degree in Commerce from the

University of Mumbai, India.

Ashwin Dani Vice Chairman

Mr. Dani is the co-promoter and has been engaged with the

company since 1968. He has also served as MD for the

company for a short period from Dec’08 to Apr’09. He holds

a B.Sc. from the Institute of Science and from U.D.C.T.

Bombay. He also holds a Masters Degree in Polymer

Science from Ohio and Diploma in Colour Science from New

York.

P.M. Murty MD & CEO

He has been in the company for the past 37 years and has

worked in various capacities in sales, materials,

manufacturing plants and human resources. He is a B.Sc. in

Math and Post Graduate in Management from IIM, Calcutta

of 1971 batch.

Source: Company



Kansai Nerolac Paints Ltd (KNPL) Growth slowdown; initiate with UNDERPERFORM

UNDERPERFORM (initiating coverage) PRICE (as at 14 January 11)

Rs900

PRICE TARGET

Rs852

Bloomberg code Reuters codeKNPL IN KANE.BO

Market cap 12 month rangeRs48,520m (US$1,078m) Rs509 - 1026

EPS est. change - - - -

We initiate coverage on KNPL with an UNDERPERFORM rating and price target of Rs852

Given a high base and cooling auto sales growth, we estimate KNPL’s volume growth could slow to 14%/15% in FY12/FY13 from above 20% over the past 18 months

We expect margins to be steady leading to EPS CAGR of 16.9% over FY10-13E

Our price target of Rs852 is based on a forward P/E of 18x, which is at a justifiable 25% discount to APL given KNPL’s cyclical business and lower return ratios.

Year end: March 2010 2011E 2012E 2013ESales (Rs m) 17,064 21,061 24,315 28,207EBIT (Rs m) 2,398 2,846 3,262 3,833EBITDA (Rs m) 2,637 3,122 3,579 4,245Pretax profit (Rs m) 2,386 2,826 3,241 3,811Earnings (Rs m) adjusted 1,647 1,950 2,236 2,629Diluted EPS (Rs ) adjusted 30.6 36.2 41.5 48.8Diluted EPS growth (%) adj. 66.9 18.4 14.7 17.6DPS (Rs ) 7.5 9.5 11.0 14.5DPS growth (%) 25.0 26.4 15.5 32.3EBITDA margin (%) 15.5 14.8 14.7 15.0EBIT margin (%) 14.1 13.5 13.4 13.6Net margin (%) 9.5 9.2 9.1 9.2Div payout (%) 28.5 30.5 30.8 34.6Book value/share (Rs ) 143 169 197 229Net gearing (%) -43 -38 -39 -37ROE (%) 23.1 23.2 22.7 22.9ROCE (%) 20.6 20.9 20.8 21.2FCF (Rs m) 731 365 964 872EV/Sales (x) 2.7 2.2 1.9 1.6EV/EBITDA (x) 17.3 14.6 12.7 10.7PBR (x) 6.3 5.3 4.6 3.9PER (x) 29.5 24.9 21.7 18.5Dividend yield (%) 0.8 1.1 1.2 1.6

Source: Company, Standard Chartered Research estimates Share price performance

500600700800900

1,0001,100

Jan‐10 Apr‐10 Jul‐10 Oct‐10 Jan‐11

Kansai Nerolac Paints Limited

BSE SENSEX 30 INDEX (rebased)

Share price (%) -1 mth -3 mth -12 mthOrdinary shares -1 -10 67Relative to Index 3 -4 56Relative to Sector - - -Major shareholder Promoter (69.3%)Free float -Average turnover (US$) 177,751

Volume growth likely to slow – In the past 18 months, KNPL’s volume has grown at a strong 20%, driven mainly by robust auto demand and stable growth in decoratives. Nevertheless, we expect volume growth to moderate to 14%/15% in FY12/FY13 given a high base and a likely moderation in auto sales growth.

Margins likely to remain stable, but prone to risks – Despite gross margin dipping 580bps in the past five years, strong volume growth and resultant operating leverage led to operating margin remaining stable at 14-15% over FY05-10 (except in FY09 when a sharp and rapid increase in inputprices combined with a demand slowdown reduced it to 11.5%). We expect KNPL to broadly maintain margins over FY10-13E (with a marginal drop in FY11E). However, we note margins can face downward pressure if demand slows and/or input prices increase sharply.

Valuations expensive, initiate with UNDERPERFORM – Strong performances in FY10 and 1H FY11 saw the stock outperform the Sensex by ~50% in CY10. At FY12E P/E of 21.7x, KNPL trades at a 25% premium to its five-year median, which we believe is high given a likely slowdown in volume growth. We value it at a forward P/E of 18x leading to 12-month price target of Rs852 (implying ~5% downside). Initiate with UNDERPFERFORM.

Risks – Continued momentum in auto sales with volume growth of >20% can impact topline growth & consequently improve earnings. Also, any sharp crude price decline can expand margins in near-term, but will not be sustainable in the longer run.

Source: Company, Bloomberg





Investment argument and valuation We initiate coverage on KNPL with an UNDEPERFORM rating and price target of Rs852. Given a high base and cooling auto sales growth, we estimate KNPL’s volume growth would slow to 14%/15% in FY12/FY13 from above 20% over the past 18 months. In our view, the stock looks expensive at current valuations. Our 12-month price target of Rs852 is based on 18x on one-year forward earnings, at a justifiable 25% discount to Asian Paints’ given KNPL’s cyclical business and lower return ratios.

Volume growth likely to slow

In the past 18 months, KNPL’s volume has grown at a strong 20%, driven mainly by robust auto demand and stable growth in decoratives. We now expect volume growth to moderate to 14%/15% in FY12/FY13 given a high base and a likely moderation in auto sales growth.

Industrial segment growth dependent on auto demand growth KNPL is the leader in automotive paints and powder coatings, and has successfully riden on the growth in these sectors.

The company has a dominant 60% market share in the auto paint category, which accounts for 70% of its industrial paint revenue. Given this, auto demand growth plays a major role in KNPL’s industrial paint growth. Currently, KNPL is enjoying the upswing in auto demand – KNPL’s net sales grew 24.1% in FY10 and 22.8% yoy in 1H FY11 (PV volume rose 29.4% yoy in FY10 and 27% in 1H FY11). We expect 20% volume growth in FY11. But our auto analyst expects auto volume growth to cool to 16%/14% in FY12/FY13 from 29.4% in FY10 and 25% in FY11.

KNPL is also dominant in the auto-refinish market, where OEMs have a major say in which company’s products are used for repainting, though the actual decision depends on the authorised service station. KNPL’s strong relationship with OEMs has made it dominant in this segment.

The flip side of this auto sector dominance is that KNPL is prone to cyclicality in sales/earnings given its high dependence on the sector (~35% of total sales). Other paint companies are not as cyclical given most of their sales come from the stable decoratives segment.

Fig 1 – KNPL: Industrial sales breakup Fig 2 – KNPL vs PV volume growth

Auto

Powder coating

Others

4

9

14

19

24

29

34

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

Rs

bn

0

5

10

15

20

25

30%



Source: SIAM, Company data, Standard Chartered Research estimates

Leadership position in automotive paints KNPL has a competitive advantage in automotive paints. Most global automobile OEMs prefer paint suppliers who have global tie-ups with their parent. Given Kansai’s relationships and technology, KNPL has built for itself an almost unassailable position in automotive paints. Barring Hyundai Motors, KNPL is the supplier to all leading automotive industry leaders. It supplies 95% of Maruti Suzuki’s paint requirements. Though the entry barriers are high given the collaborative

Auto paints contribute 70% to KNPL’s industrial paint sales

KNPL has built an unassailable position in automotive paints



nature of the business, this is a low margin business that can easily be impacted when there are steep fluctuations in raw material prices.

Differentiates itself through better service quality – KNPL has around 40 of its 200 technical support personnel on customers’ shop floors helping them manage their paint lines. An efficient supply chain that reduces inventory at the customers’ end, quick response to client needs, cutting painting cycle time and overcoming myriad material and finish-related issues on the spot are critical in adding value to the customer. Despite auto manufacturers’ high bargaining power, KNPL’s competence in addressing these critical issues gives it a competitive advantage over other players.

Technological edge – Continuously changing painting trends in the automotive industry necessitate the development of compatible paint formulations and paint processes. KNPL has forged strong technological collaborations to deliver superior products to its customers which, we believe, will keep the company at the edge of innovation. Through its various strategic collaborations, KNPL offers a total painting system to auto makers in India with a range of products such as Pretreatment Chemicals, Electro Deposition Primers, Intermediate Coats/primer Surfacers, Solid & Metallic Top Coats and Clear Coats Touch-up Paints.

Fig 3 – Technological collaborations give KNPL an edge Collaborating company Country Products Remark

Kansai Paint Co., Japan Japan ED Primers, Automotive & Industrial Coatings

Owns 69.3% equity in KNPL

Nihon Parkerizing, Japan Japan Pre-Treatment Chemicals -

Oshima Kogyo, Japan Japan Heat Resisting paints -

Ameron/PPG, US USA High Performance Coatings -

Source: Company, Standard Chartered Research

Growth in other industrial coatings to be strong Powder coatings will witness robust growth driven by strong performance of white goods industry and also shift from liquid paints to powder coatings in auto ancillary industries. Increased participation of KNPL in various infra projects and rising investments in infrastructure development will also increase demands for performance coatings and other industrial paints.

Higher focus to drive growth in decorative paints KNPL is the third-largest player in the decorative paint segment and has a strong dealer network of 12,000, out of which 5,000 have tinting machines supplied by the company. In the past few years, the company has been riding the strong category growth witnessed in decorative paints. In addition, it has taken various initiatives to bolster its decoratives segment and increase the proportion of its emulsion sales from the current ~30%.

KNPL’s initiatives:

Enhanced branding efforts by increasing advertising of its emulsions brand Impressions

Leveraging its technology expertise in the decorative segment by introducing innovative products – Impressions tile guard, Impressions marble finish, Impressions texture coating and Suraksha Plus

Positioning its paints as environmental friendly. KNPL is the only company to have launched a campaign to educate consumers about its ‘lead free’ range of paints

Setting up experience centres where consumers can experience the paints through application on walls

Organising meetings with paint influencers – contractors and painters. KNPL introduced ‘Nerolac Style Icon’ awards for architects and interior designers in ’07

Automotive paints require a high level of technological intervention

KNPL is the third-largest player in decoratives

KNPL has taken many initiatives to bolster its decoratives portfolio



Improved efficiency of its distribution system KNPL has instituted a host of measures to correct credit systems in its distribution network to make it more efficient and to prepare it to handle higher volume and growth. While this has led to loss of market share in FY09, it is positive in the longer run as it will help KNPL control its working capital requirements.

Fig 4 – KNPL: Overall market share Fig 5 – Distribution networks of companies20

.9

20.9 21

.5

20.9

20.5

20.6

19.2

17.2 18

.1

10

12

14

16

18

20

22

24F

Y02

FY

03

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

%

0

5,000

10,000

15,000

20,000

25,000

30,000

AP

L

Ber

ger

KN

PL

Akz

oN

obel

Indi

a

Tinting m/c Dealers



Margins likely to be stable

Strong volume growth, lower prices of crude-linked raw materials and excise benefits helped KNPL post EBITDA margin of 15.5% in FY10. Strong margins and a low base (earnings declined 18% in FY09) helped KNPL post strong earnings growth of 67% in FY10. Continuing momentum in auto sales has supported higher sales growth of 23% yoy and kept margin steady at 15.6% in 1H FY11 (despite a 210bps yoy decline in gross margin). We expect FY11E net sales to grow 23.4% yoy. However, the recent increase in input costs is likely to soften margins in the next few quarters and result in FY11E EBITDA margin of 14.8%. We expect earnings growth to be 18.4% in FY11, lower than net sales growth.

The institutional nature of buyers in auto paints result in relatively lower pricing power, hence making it difficult for KNPL to completely transfer sharp and adverse increases in raw material prices. Furthermore, as most of KNPL’s raw materials are crude linked, its margins tend to depend on the movement of crude prices, especially when crude price movements are rapid. However, a gradual increase in input prices can be partly passed through. Hence, part transfer of increase in raw material prices and stable volume growth expected in auto sales is likely to enable KNPL to maintain margins at ~15% in FY12-13E, in our view. We expect recurring EPS growth to be healthy at 14.7% and 17.6% in FY12E and FY13E, respectively.

Fig 6 – Adverse price increase in raw materials impacted margins in FY09 Source: Company data, Standard Chartered Research; Margins for Dec-10 are our estimates

Margins likely to be maintained at ~15%

Margins vulnerable to rapid movement in crude prices

10

12

14

16

18

20

Jun-

04

Sep

-04

Dec

-04

Mar

-05

Jun-

05

Sep

-05

Dec

-05

Mar

-06

Jun-

06

Sep

-06

Dec

-06

Mar

-07

Jun-

07

Sep

-07

Dec

-07

Mar

-08

Jun-

08

Sep

-08

Dec

-08

Mar

-09

Jun-

09

Sep

-09

Dec

-09

Mar

-10

Jun-

10

Sep

-10

Dec

-10

%

Quarterly EBITDA margins (LHS)

10

30

50

70

90

110

130

150

(US

$/bl

)

Crude prices (RHS)



Valuations dear; initiate with UNDERPERFORM

KNPL enjoys a strong competitive position in automotive and industrial paints and has favourable growth prospects in decorative paints, but it is prone to the cyclicality linked with the automotive sector. At present, KNPL trades at FY12E P/E of 21.7x versus the five-year median P/E of 17.4x. An excellent performance in the past 18 months, driven by strong volume growth in auto paints, has reduced the moving five-year discount to APL from 27% last year to 18% currently.

However, given the expected slowdown in growth, inherent cyclicality in auto sales and higher vulnerability of margins to crude prices, we believe current valuations are expensive and expect the discount to APL to increase. Hence, we initiate with an UNDERPERFORM rating and a 12-month price target of Rs852 based on a forward P/E of 18x (25% discount to our target multiple of 24x for APL).

Intrinsic value of land and cash per share provide strong support KNPL has significant landbank in various parts of the country. While some land tracts are no longer used for manufacturing, there are other valuable land tracts where production continues. We value the total ready-for-sale land (Thane, Lower Parel and Vatva) at Rs4bn and the value of land at the Chennai plant at Rs3bn. Net cash and cash equivalent per share amounts to Rs62. Hence, the total intrinsic value of land (ready-for-sale) and cash stands at Rs136/share. However, the company has no plans to sell/ develop the existing land at present and hence, we do not factor in the land value in our price target. Any move to appropriate value from its landbank can be a positive trigger for the stock.

Fig 7 – KNPL: P/E bands

0

200

400

600

800

1,000

1,200

Apr

-05

Sep

-05

Mar

-06

Sep

-06

Mar

-07

Aug

-07

Feb

-08

Aug

-08

Feb

-09

Aug

-09

Jan-

10

Jul-1

0

Jan-

11

Rs

12x

20x

28x

16x

24x


Fig 8 – KNPL: One-year forward P/E chart

5

10

15

20

25

30

Apr

-05

Oct

-05

Apr

-06

Oct

-06

May

-07

Nov

-07

May

-08

Nov

-08

May

-09

Dec

-09

Jun-

10

Dec

-10

PE

(x)



We value KNPL at a forward P/E of 18x, 25% discount to our target multiple for APL



Fig 9 – KNPL: Discount to APL

-40

-20

0

20

40

60

Apr

-05

Oct

-05

Apr

-06

Oct

-06

May

-07

Nov

-07

May

-08

Nov

-08

May

-09

Dec

-09

Jun-

10

Dec

-10

%

Discount to APL Five-year median


Fig 10 – KNPL stock performance vis-à-vis broader indices KNPL FMCG Index BSE Sensex

1 year 67.3 28.7 7.3

3 year 28.6 14.2 -3.1

5 year 17.3 16.7 15.0

10 year 37.0 13.5 16.7

Source: Bloomberg Note: For periods greater than a year, the returns are annualised

Risks

Continued momentum in auto sales for a longer period and volume growth surprises >20% compared to our auto analyst’s estimate of 14-16% in FY12/13, can result in higher-than-expected paint volume growth for KNPL.

Erratic movement in crude. For example, a sharp and rapid decline in crude can increase near-term margins for a few quarters and can create a spurt in stock prices. However, high margins will not be sustainable in the long run as KNPL will have to pass on any input cost benefits to its institutional auto buyers.



Financials We estimate net sales, EBITDA & EPS CAGR for KNPL to be at 18.2%, 17.2% & 16.9% respectively over FY10-13E.

KNPL’s cash flow has been relatively more volatile compared to APL, but has been strong with operating cash flow at 97% of reported net profit in the past five years. Low dividend payout at 30-35% has resulted in swelling reserves. KNPL’s reserve as a proportion of share capital is at 26 times compared to 17 times for APL in FY10. As a result, return ratios RoE and RoCE are lower compared to APL at 23.1% and 20.6%, respectively, in FY10.

Fig 11 – KNPL volume growth to be healthy

12.5

11.6 12

.7

17.9

5.6

4.1

20.0

14.5

14.5

22.9

0

5

10

15

20

25

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

Source: Company data

Fig 12 – KNPL: Sales & Sales growth Fig 13 – KNPL: RM cost to sales

4

9

14

19

24

29

34

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

Rs

bn

0

5

10

15

20

25

30

%

Net sales YoY growth (RHS)

60.1 60

.9

60.5

63.7

63.4

65.4

62.8

64.4

64.6

64.6

55

57

59

61

63

65

67

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%


Fig 14 – KNPL: A&P as % of sales Fig 15 – KNPL: Other costs as % of sales

4.4

3.9

3.6

3.1

3.2 3.4

4.0

3.9

3.9

3.9

0

1

2

3

4

5

6

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

22.1

20.3

20.3

19.2

19.3

19.7

17.8

16.9

16.8

16.5

10

12

14

16

18

20

22

24

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%




Fig 16 – KNPL: EBITDA margin Fig 17 – KNPL: PAT & PAT growth

13.5

14.9 15

.6

14.0

14.1

11.5

15.5

14.8

14.7 15

.0

10

11

12

13

14

15

16

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

0.0

0.5

1.0

1.5

2.0

2.5

3.0

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

Rs

bn

-40

-20

0

20

40

60

80

%

PAT YoY growth (RHS)


Fig 18 – KNPL: Cash flow as % of PAT Fig 19 – KNPL: Return ratios

-50

0

50

100

150

200

250

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

Operating Cash Flow FCF post capex

0

5

10

15

20

25

30

35

FY

04

FY

05

FY

06

FY

07

FY

08

FY

09

FY

10

FY

11E

FY

12E

FY

13E

%

RoE RoCE


Fig 20 – KNPL: Income statement (Rs m) Year end: March FY09 FY10 FY11E FY12E FY13E

Net Sales 13,745 17,064 21,061 24,315 28,207

Exports 42 52 64 74 85

Domestic 13,704 17,012 20,997 24,242 28,122

Raw Material cost 8,996 10,718 13,567 15,714 18,215

Gross Profit 4,749 6,346 7,494 8,601 9,992

Gross Margin (%) 34.6 37.2 35.6 35.4 35.4

Other operating expenses 3,175 3,709 4,372 5,022 5,747

EBITDA 1,575 2,637 3,122 3,579 4,245

% growth -15.6 67.4 18.4 14.6 18.6

% margin 11.5 15.5 14.8 14.7 15.0

Depreciation & Amortisation 376 443 501 585 684

Gross Interest 18 12 20 22 22

Other Income 222 204 225 268 272

Recurring PBT 1,402 2,386 2,826 3,241 3,811

Add: Extraordinaries - 9 - - -

Less: Taxes 416 740 876 1,005 1,181

Effective tax rate 29.7 30.9 31.0 31.0 31.0

Net Income (Reported) 986 1,655 1,950 2,236 2,629

Recurring Net Income 986 1,647 1,950 2,236 2,629

% growth -17.7 66.9 18.4 14.7 17.6

% margin 7.1 9.5 9.2 9.1 9.2




Fig 21 – KNPL: Balance sheet (Rs m) Year end: March FY09 FY10 FY11E FY12E FY13E

Cash & Bank balance 762 411 439 685 750

Inventory 1,706 2,474 2,719 3,277 3,678

Sundry Debtors 2,096 2,324 3,100 3,162 4,103

Loans and Advances 417 411 527 608 705

Other Current Assets - - - - -

Total Current Assets 4,981 5,620 6,784 7,731 9,236

Sundry Creditors 2,300 2,940 3,522 3,939 4,716

Other Current Liabilities 142 103 103 103 103

Provisions 838 937 1,099 1,218 1,475

Total Current Liab. & Prov. 3,281 3,980 4,724 5,259 6,294

Net Current Assets 1,700 1,640 2,060 2,472 2,942

Investments 2,944 4,015 4,115 4,515 4,915

of which Strategic/Group 4 4 4 4 4

of which Marketable 2,941 4,012 4,112 4,512 4,912

Net Fixed Assets 2,731 3,058 3,891 4,627 5,477

of which CWIP 356 164 404 460 526

Total Assets 7,375 8,713 10,067 11,615 13,334

Equity Share Capital 269 269 539 539 539

Reserves & Surplus 6,275 7,459 8,543 10,091 11,810

Net Worth 6,544 7,728 9,082 10,630 12,349

Borrowings 936 1,100 1,100 1,100 1,100

Deferred Tax Liability -106 -115 -115 -115 -115

Capital Employed 7,375 8,713 10,067 11,615 13,334


Fig 22 – KNPL: Cash flow statement (Rs m) Year end: March FY09 FY10 FY11E FY12E FY13E

Reported Net Income 986 1,655 1,950 2,236 2,629

Depreciation & Amortisation 318 440 501 585 684

Others -224 -213 -234 -278 -281

Operating Cash flow 1,081 1,882 2,217 2,544 3,032

Working Capital changes 881 -384 -517 -258 -627

Capital Commitments -512 -767 -1,334 -1,321 -1,533

Free Cash Flow 1,450 731 365 964 872

Cash Flow Investing Activities -600 -867 125 -132 -128

Inc(Dec) in Borrowings -43 164 - - -

Dividend paid -378 -378 -471 -596 -688

Chg. In Cash & Bank 428 -351 28 246 65

Add: beginning balance 334 762 411 439 685

Closing balance 762 411 439 685 750




Fig 23 – KNPL: Ratios Year end: March FY09 FY10 FY11E FY12E FY13E

Per Share Data (Rs)

Recurring EPS 18.3 30.6 36.2 41.5 48.8

Reported EPS 18.3 30.7 36.2 41.5 48.8

Dividend per share (DPS) 6.0 7.5 9.5 11.0 14.5

Book Value per share (BV) 121.4 143.4 168.5 197.2 229.1

Growth Ratios (% YoY)

Net Sales 4.1 24.1 23.4 15.5 16.0

EBITDA -15.6 67.4 18.4 14.6 18.6

Recurring EPS -17.7 66.9 18.4 14.7 17.6

Valuation Ratios (x)

P/E 49.2 29.5 24.9 21.7 18.5

P/BV 7.4 6.3 5.3 4.6 3.9

EV / EBITDA 28.9 17.3 14.6 12.7 10.7

EV / Net Sales 3.3 2.7 2.2 1.9 1.6

Operating Ratios (%)

Raw Material / Sales 65.4 62.8 64.4 64.6 64.6

SG&A / Sales 10.6 10.7 10.5 10.7 10.8

Effective Tax Rate 29.7 30.9 31.0 31.0 31.0

NWC / Total Assets 12.7 14.1 16.1 15.4 16.4

Inventory (days) 45.7 44.7 45.0 45.0 45.0

Receivables (days) 56.1 47.3 47.0 47.0 47.0

Payable (days) 52.0 56.0 56.0 56.0 56.0

D/E Ratio (x) 0.1 0.1 0.1 0.1 0.1

Profitability Ratios (%)

RoCE 14.1 20.6 20.9 20.8 21.2

RoNW 15.8 23.1 23.2 22.7 22.9

Dividend Payout 38.4 28.5 30.5 30.8 34.6

Dividend yield 0.7 0.8 1.1 1.2 1.6




Company profile Kansai Nerolac is the second largest paints company in India and leader in industrial coatings. It is a subsidiary of Kansai Paint Japan (69.3% stake), which acquired entire stake of Tata Forbes group in 1999.

Its industrial range of products includes auto paints, powder coatings, general industrial and high performance coatings. It commands a market share of ~60% in auto paints and is a supplier to all leading auto companies, except Hyundai.

In decorative paints, it is the third largest players (after Asian Paints and Berger Paints) and has a market share of 11%. It sells its products under its brand of Nerolac through a dealer network of 12,000 across India. It is strongest in the northern region, which comprises ~40% of the sales

Fig 24 – Shareholding pattern

Promoter69.3%

FIIs5.7%

DIIs5.3%

Others19.7%

Source: BSE

Fig 25 – Management profile Name Designation Background

Dr. JJ Irani Chairman

Jamshed Jiji Irani is a Promoter of Tata Steel Limited and

also serves as special director of HDFC Ltd. since January

2008. He has been Chairman since July 2003.

HM Bharuka MD

Mr. Bharuka has been the MD of Kansai Nerolac Paints Ltd

since April 2004 and has a varied experience of around 24

years in various facets of management in the Paints Industry. Source: Company



Disclosures appendix

Global disclaimer

The information and opinions in this report were prepared by Standard Chartered Bank (Hong Kong) Limited, Standard Chartered Bank Singapore Branch, Standard Chartered Securities (India) Limited and/or one or more of its affiliates (together with its group of companies, “SCB”) and the research analyst(s) named in this report. SCB makes no representation or warranty of any kind, express, implied or statutory regarding this document or any information contained or referred to in the document.

The research analysts responsible for the content of this research report certify that:

The view expressed and attributed to the research analyst or Analysts in the research report accurately reflect their personalopinion(s) about the subject securities and issuers and/or other subject matter as appropriate; andNo part of his or her compensation and other benefits was, is or will be directly related to the specific recommendations or viewscontained in this research report. On a general basis, the efficacy of recommendations is a factor in the performance appraisalsof analysts.Our ratings are under constant review.

Additional information with respect to any securities referred to herein will be available upon request.

THIS RESEARCH HAS NOT BEEN PRODUCED IN THE UNITED STATES AND MUST NOT BE SENT OR TAKEN OR TRANSMITTED INTO THE UNITED STATES OR DISTRIBUTED DIRECTLY OR INDIRECTLY IN THE UNITED STATES.

Disclosures Appendix

Where “disclosure date” appears below, this means the day prior to the report date. All share prices quoted are the closing price for the business day prior to the date of the report, unless otherwise stated. Company Asian Paints Limited

As at the disclosure date, the following applies:

Asian Paints Limited - current rating is: OUTPERFORM

1,600

1,800

2,000

2,200

2,400

2,600

2,800

3,000

Dec 09 Jan 10 Feb 10 Mar 10 Apr 10 May 10 Jun 10 Jul 10 Aug 10 Sep 10 Oct 10 Nov 10 Dec 10 Jan 11

Source: FactSet prices / SCB ratings and price targets

Company Kansai Nerolac Paints Limited

As at the disclosure date, the following applies:

Kansai Nerolac Paints Limited - current rating is: UNDERPERFORM

500

600

700

800

900

1,000

1,100

Dec 09 Jan 10 Feb 10 Mar 10 Apr 10 May 10 Jun 10 Jul 10 Aug 10 Sep 10 Oct 10 Nov 10 Dec 10 Jan 11

Source: FactSet prices / SCB ratings and price targets



Company Hyundai

As at the disclosure date, the following applies: SCSK is a liquidity provider for the equity-linked warrants of Hyundai Motor and beneficially owned 3,499,940 units of call warrants (KRA741106074) as of 17 January 2011. SCSK is a liquidity provider for the equity-linked warrants of Hyundai Motor and beneficially owned 3,499,990 units of call warrants (KRA741145080) as of 17 January 2011. SCSK is a liquidity provider for the equity-linked warrants of Hyundai Motor and beneficially owned 3,500,000 units of call warrants (KRA741147086) as of 17 January 2011. SCSK is a liquidity provider for the equity-linked warrants of Hyundai Motor and beneficially owned 3,499,990 units of call warrants (KRA741177083) as of 17 January 2011. SCSK is a liquidity provider for the equity-linked warrants of Hyundai Motor and beneficially owned 3,497,160 units of put warrants (KRA741278089) as of 17 January 2011. SCSK is a liquidity provider for the equity-linked warrants of Hyundai Motor and beneficially owned 3,499,990 units of call warrants (KRA7411500A9) as of 17 January 2011. Recommendation Distribution and Investment Banking Relationships

% of covered companies currently assignedthis rating

% of companies assigned this rating with whichSCB has provided investment banking services overthe past 12 months

OUTPERFORM 63.5% 14.2%

IN-LINE 28.1% 11.0%

UNDERPERFORM 8.4% 3.3%

Research Recommendation

Terminology Definitions

OUTPERFORM (OP) The total return on the security is expected to outperform the relevant market index by 5% or more over the next 12 months

IN-LINE (IL) The total return on the security is not expected to outperform or underperform the relevant market index by 5% or more over the next 12 months

UNDERPERFORM (UP) The total return on the security is expected to underperform the relevant market index by 5% or more over the next 12 months

SCB uses an investment horizon of 12 months for its price targets.



Country-Specific Disclosures

If you are receiving this document in any of the countries listed below, please note the following:

United Kingdom and European Economic Area: Standard Chartered Bank is authorised and regulated by the Financial Services Authority. This communication is not directed at Retail Clients in the European Economic Area as defined by Directive 2004/39/EC. Nothing in this document constitutes a personal recommendation or investment advice as defined by Directive 2004/39/EC.

Australia: The Australian Financial Services Licence for Standard Chartered Bank is Licence No: 246833 with the following Australian Registered Business Number (ARBN: 097571778). Australian investors should note that this document was prepared for wholesale investors only (as defined by Australian Corporations legislation).

Hong Kong: This document is being distributed in Hong Kong by, and is attributable to, Standard Chartered Bank (Hong Kong) Limited which is regulated by the Hong Kong Monetary Authority.

India: This document is being distributed in India by Standard Chartered Securities (India) Limited which is a SEBI registered broker and a member of the Bombay Stock Exchange Limited and The National Stock Exchange of India Limited.

Singapore: This document is being distributed in Singapore by Standard Chartered Bank Singapore Branch only to accredited investors, expert investors or institutional investors, as defined in the Securities and Futures Act, Chapter 289 of Singapore. Recipients in Singapore should contact Standard Chartered Bank Singapore Branch in relation to any matters arising from, or in connection with, this document.

United States: Neither this document nor any copy of it may be sent or taken or transmitted into the United States or distributed, directly or indirectly, in the United States.

GENERAL DISCLAIMER The information on this document is provided for information purposes only. It does not constitute any offer, recommendation or solicitation to any person to enter into any transaction or adopt any hedging, trading or investment strategy, nor does it constitute any prediction of likely future movements in rates or prices or any representation that any such future movements will not exceed those shown in any illustration. The stated price of the securities mentioned herein is as of the date indicated and is not any representation that any transaction can be effected at this price. While all reasonable care has been taken in preparing this document, no responsibility or liability is accepted for errors of fact or for any opinion expressed herein. The contents of this document may not be suitable for all investors as it has not been prepared with regard to the specific investment objectives or financial situation of any particular person. Any investments discussed may not be suitable for all investors. Users of this document should seek professional advice regarding the appropriateness of investing in any securities, financial instruments or investment strategies referred to in this document and should understand that statements regarding future prospects may not be realised. Opinions, forecasts, assumptions, estimates, derived valuations and price target(s) contained in this document are as of the date indicated and are subject to change at any time without prior notice. The value and income of any of the securities or financial instruments mentioned in this document can fall as well as rise and an investor may get back less than invested. Future returns are not guaranteed, and a loss of original capital may be incurred. Foreign-currency denominated securities and financial instruments are subject to fluctuation in exchange rates that could have a positive or adverse effect on the value, price or income of such securities and financial instruments. Past performance is not indicative of comparable future results and no representation or warranty is made regarding future performance. While we endeavour to update on a reasonable basis the information and opinions contained herein, there may be regulatory, compliance or other reasons that prevent us from doing so. Accordingly, information may be available to us which is not reflected in this material, and we may have acted upon or used the information prior to or immediately following its publication. SCB is not a legal or tax adviser, and is not purporting to provide you with legal or tax advice. If you have any queries as to the legal or tax implications of any investment you should seek independent legal and/or tax advice. SCB, and/or a connected company, may have a position in any of the securities, instruments or currencies mentioned in this document. SCB has in place policies and procedures and physical information walls between its Research Department and differing public and private business functions to help ensure confidential information, including ‘inside’ information is not publicly disclosed unless in line with its policies and procedures and the rules of its regulators. Data, opinions and other information appearing herein may have been obtained from public sources. SCB makes no representation or warranty as to the accuracy or completeness of such information obtained from public sources. You are advised to make your own independent judgment (with the advice of your professional advisers as necessary) with respect to any matter contained herein and not rely on this document as the basis for making any trading, hedging or investment decision. SCB and/or any member of the SCB group of companies or its respective officers, directors, employee benefit programmes or employees, including persons involved in the preparation or issuance of this document may at any time, to the extent permitted by applicable law and/or regulation, be long or short any securities or financial instruments referred to in this document and on the website or have a material interest in any such securities or related investment, or may be the only market maker in relation to such investments, or provide, or have provided advice, investment banking or other services, to issuers of such investments. Within the last three years, SCB may also have acted as manager or co-manager for a public offering of securities of issuers referred to herein. SCB may have received or may expect to receive remuneration for investment banking services from companies mentioned herein. SCB accepts no liability and will not be liable for any loss or damage arising directly or indirectly (including special, incidental, consequential, punitive or exemplary damages) from your use of this document, howsoever arising, and including any loss, damage or expense arising from, but not limited to, any defect, error, imperfection, fault, mistake or inaccuracy with this document, its contents or associated services, or due to any unavailability of the document or any part thereof or any contents or associated services. This material is for the use of intended recipients only and the contents may not be reproduced, redistributed, or copied in whole or in part for any purpose without SCB’s prior express consent. In any jurisdiction in which distribution to private/retail customers would require registration or licensing of the distributor which the distributor does not currently have, this document is intended solely for distribution to professional and institutional investors.

Copyright: Standard Chartered Bank 2011. Copyright in all materials, text, articles and information contained herein is the property of, and may only be reproduced with permission of an authorised signatory of, Standard Chartered Bank. Copyright in materials created by third parties and the rights under copyright of such parties are hereby acknowledged. Copyright in all other materials not belonging to third parties and copyright in these materials as a compilation vests and shall remain at all times copyright of Standard Chartered Bank and should not be reproduced or used except for business purposes on behalf of Standard Chartered Bank or save with the express prior written consent of an authorised signatory of Standard Chartered Bank. All rights reserved. © Standard Chartered Bank 2011.

Documents

Indian paint sector - SC Jan 2011