NOVEMBER 8, 2019

Result Update BERGER PAINTS LTD (BERGER)

Stock Details PRICE RS.507 TARGET RS.400 SELL Market cap (Rs mn) : 492071 52-wk Hi/Lo (Rs) : 534 / 284 Valuations ahead of performance Face Value (Rs) : 1 3M Avg. daily vol (Nos) : 1,937,778 1/Strong volume growth in the decorative segment; 2/ stable volumes in the Shares o/s (mn) : 971 industrial segment; 3/ decrease in realizations leading to weak sales Source: Bloomberg dated 7 Nov 2019 growth; 4/YoY improvement in operating margins with benign raw material

Financial Summary situation and 5/ strong earnings growth due to lower ETR, were the Y/E Mar (Rs mn) FY19 FY20E FY21E highlights of the results for Berger in Q2FY20. However, the valuations at Revenue 60,618 68,643 76,764 the current price and factoring growth prospects looks stretched. Maintain Growth (%) 17.3 13.2 11.8 SELL with an unchanged TP of Rs 400 at 50x FY21E earnings in line with EBITDA 8,818 10,152 11,525 valuation of larger peers. EBITDA margin (%) 14.5 14.8 15.0 PAT 5,011 6,778 7,807 Key Highlights EPS 5.2 7.0 8.0 EPS Growth (%) 7.7 35.3 15.2  Sales (excluding GST) was reported at Rs 15.99 bn (-6.9% YoY). The BV (Rs/share) 25.8 30.7 36.5 company's decorative sales was impacted due to factors like extended Dividend/share (Rs) 1.8 2.0 2.1 monsoon and floods in many key states ROE (%) 21.4 24.7 23.9 ROCE (%) 29.3 30.0 29.5  Favourable raw material prices and some weakness in the industrial P/E (x) 98.4 72.7 63.1 segment (especially Auto) influenced the Gross margin and EBIDTA margin EV/EBITDA (x) 52.3 45.7 40.5 for the quarter. EBIDTA margin was reported at 15.7% (+220 bps YoY and - P/BV (x) 19.7 16.6 13.9 210 bps QoQ) Source: Company, Kotak Securities - PCG  Berger has exercised the option of lower tax rate of 25.2% (inclusive of Shareholding Pattern (%) surcharge and cess) post amendment to Taxation Laws. The full impact of (%) Sep-19 Jun-19 Mar-19 this change has been recognised in tax expense for Q2FY20 and H1FY20. Promoters 75.0 75.0 75.0 FII 6.0 5.1 5.2  Consequently, PAT was reported at Rs 1.94 bn ahead of our expectation of DII 7.4 9.2 9.3 Rs 1.74 bn. YoY PAT figures are not comparable Others 11.6 10.7 10.6  We interpret the numbers as moderate and in line with expectation Source: Bloomberg dated 7 Nov 2019

Price Performance (%) Quarterly Performance (%) 1M 3M 6M Rs mn Q2FY19 Q1FY20 Q2FY20 QoQ (%) YoY (%) Berger Paints 16.4 45.1 66.3 Net Sales 14900 17165 15986 -6.9 7.3 Nifty 8.0 10.7 4.5 Raw material consumed 9128 10154 9426 -7.2 3.3 Source: Bloomberg dated 7 Nov 2019 Employee cost 1,048 1,116 1,125 0.8 7.3 Price chart (Rs) Other expenditure 2,656 2,843 2,924 2.8 10.1 Total expenditure 12,832 14,113 13,475 -4.5 5.0 550 EBIDTA 2,068 3,052 2,511 -17.7 21.4 450 EBIDTA margin 13.9 17.8 15.7 Depreciation 336 462 472 2.2 40.5 350 EBIT 1,732 2,590 2,039 -21.3 17.7 250 Interest 79 99 104 5.1 31.6 Nov-18 Mar-19 Jul-19 Nov-19 Other income 120 219 157 -28.3 30.8

Source: Bloomberg dated 7 Nov 2019 PBT 1,773 2,710 2,092 -22.8 18.0 Taxes 597 944 129 -86.3 -78.4 ETR % 33.7 34.8 6.2 Share of Associates/JVs -4 -3 -17 Reported PAT 1,172 1,763 1,946 10.4 66.0

Source: Company

Amit Agarwal, CFA [email protected] +91 22 6218 6439

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NOVEMBER 8, 2019

Valuation and Outlook We estimate that branded paint demand will remain robust in a country like India where per capita consumption is very low and 30% paint market is still unorganised. Management of Berger also indicated that the volume trends remain strong for the company and expect the trend to continue in medium term. Berger’s performance has been better than peers and is indicative of continued market share gains. For Berger, now we estimate 10% volume CAGR over FY19- FY21E with improvement in operating margins and ROE of ~23.9% and ROCE of ~29.5% for FY20E. The stock has moved up by more than 40% in the last 6 months and is trading at an exorbitant valuation of 63x FY21E earnings. Consequently, we continue to recommend SELL with a TP of Rs 400 at 50x FY21E earnings in line with valuation accorded to market leader Asian Paints.

Sales was driven by all the segments Management indicated the sales performance of Q2FY19 could be attributed to: Decorative segment - The Company reported low double digit volume growth in the decorative segment for Q2FY20. The decorative business constitutes around 80% of Berger’s overall business and typically grows at 1.5x the GDP of the country. During Q2FY20, decorative sales was impacted due to factors like extended monsoon and floods in many key states. Berger is expecting healthy volume growth in the decorative segment on the back of low per-capita consumption in the country, strong urbanization trends, shortening re-painting cycles, up-trading and real estate reforms. Industrial paints segment – In Industrial paints, Berger is primarily present in Automotive coating and Industrial coating. Automotive paints constitute around 10% of the overall revenues of the company. Berger is empaneled with all major automobile companies in the 2 wheeler and 3 wheeler segment. While general industrial coating constitute around 8% of the overall revenues of the company. Management expects general industrial segment to do well in H2FY20 which should boost the overall performance of the company.

Main customers for Berger in Industrial segment General Industrial Automotive Construction, Heavy Engineering & Commercial Vehicles: Agricultural Equipment Tata Motors, Ashok Leyland, Mahindra & Mahindra Electrical Industry: Crompton, Orient, Marathon Electric, Havells, Bajaj Two Wheelers: Hero MotoCorp, Royal Enfield, TVS Motor Co, Bajaj Auto Furniture & Office Equipment Industry Cycle Industry Barrel & Container Industry Source: Company

Berger makes a small acquisition in Industrial segment Berger Paints India Ltd will acquire 95.53% of STP Ltd (STPL), for a cash consideration of Rs 1.67 bn. We expect Berger to use internal accruals for the acquisition. STPL is engaged in the manufacture and supply of construction chemicals, concrete admixtures, waterproofing chemicals, flooring compounds, bitumen and coal tar-based products, sealants and adhesives, protective and anti-corrosive coatings. STP Ltd is not listed and had a revenue of Rs 1.74 bn in FY19 implying a deal value of one time price to sales. Deal value of one time

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P/Sales is attractive. We do not have any other financial details of STPL limited. We estimate the acquisition to strengthen the industrial coating segment for Berger which currently constitute 20% of the total revenues. Berger expects to complete the deal by end of November 2019. We factor revenue of Rs 700 mn in FY20 and Rs 2000 mn from the acquisition.

Past Inorganic Growth through Acquisitions ICI Motors JV 50% Automotive and industrial paints Bolix Subsidiary 100% Industrial Saboo Coatings Subsidiary 100% Industrial Sherwin Williams Subsidiary 100% Decorative Source: Company

Performance of Subsidiaries during Q2FY20 Berger Paints has a total of 10 subsidiaries contributing about 10% of the overall revenues for Berger – 2 are incorporated in India and 8 internationally. Of these 10 subsidiaries the top 3 in terms of revenue are;  Berger Jenson and Nicholson, Nepal (~2% of overall revenues)  Bollix, Poland (~4% of overall revenues)  BJN paints, India (~2% of overall revenues) Operational performance of subsidiaries was moderate in Q2FY20. However, weak automotive demand has impacted the joint venture with Japan’s Nippon Paint Automotive Coatings. Berger has booked a loss of Rs 17 mn from associates/subsidiaries.

Raw Material situation is benign, margins set to improve over FY19 to FY21E Paint Industry uses two key raw material including crude derivatives and Titanium Dioxide. The Paint Industry has been experiencing decline in prices of raw material since the last 2 quarters. Almost ~60% of the raw material are crude derivatives and with crude at $62/barrel (-30% in the last 4 months), prices of crude derivatives have also decreased. Even prices of pigments like Titanium Dioxide, Iron oxide and Zinc oxide have decreased. Benign raw material situation, healthy volume growth in the decorative segment, favourable demographics and GST regime is positive for paint companies.

Prices of brent crude (USD/barrel) Prices of Titanium dioxide (USD/MT)

90 200

80

70 175

60 150 50

40 125 30

20

100

Jul-19 Jul-16 Jul-17 Jul-18

Jan-16 Jan-17 Jan-18 Jan-19

Oct-19 Oct-16 Oct-17 Oct-18

Apr-16 Apr-17 Apr-18 Apr-19

Jul-16 Jul-17 Jul-18 Jul-19

Apr-16 Oct-16 Apr-17 Oct-17 Apr-18 Oct-18 Apr-19 Oct-19

Jan-17 Jan-18 Jan-19 Jan-16 Source: Bloomberg dated 7 Nov 2019 Source: Bloomberg dated 7 Nov 2019

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Paint Industry remains resilient.  Overall the paint industry is resilient even with weak macros for the following reasons:  Urbanization is rapid supported by schemes like Affordable Housing, Housing For All and Pradhan Mantri Awaas Yojana  Paint distribution is hugely underpenetrated  Growing disposable incomes - customers upgrade to higher value products  Infrastructure projects, augurs well for Protective Coating Business  Made in India initiative, lower labor cost and good engineering skills drive demand in General Industrial & Powder Coating

One year forward PE

80.00 P/E Avg. P/E 70.00 60.00 50.00 40.00 30.00 20.00 10.00

0.00

Apr-14 Oct-19 Apr-11 Oct-11 Apr-12 Oct-12 Apr-13 Oct-13 Oct-14 Apr-15 Oct-15 Apr-16 Oct-16 Apr-17 Oct-17 Apr-18 Oct-18 Apr-19

Apr-09 Oct-09 Apr-10 Oct-10

Source: Kotak Securities – Private Client Group; Capitaline dated 7 Nov 2019

Stretch valuations compelled us to Recommend SELL: For Berger, now we estimate 10% volume CAGR over FY19-FY21E with improvement in operating margins and ROE of ~23.9% and ROCE of ~29.5% for FY20E. The stock has moved up by more than 40% in the last 6 months and is trading at an exorbitant valuation of 63x FY21E earnings. Consequently, we continue to recommend SELL with a TP of Rs 400 at 50x FY21E earnings in line with valuation accorded to market leader Asian Paints.

Company background Berger Paint is the second largest decorative paint company in India and third largest in domestic industrial segment. It enjoys ~19% share of organized domestic decorative market. Berger also has a presence in overseas markets, prominent ones being Nepal (where it is a significant player in decorative market) and Poland (where it is second largest player in external insulation finishing system).Berger also has two JVs where Berger has 49% stake – a) Berger Becker Coatings Pvt Ltd catering to coil coatings – JV with Becker Industrifarg, Sweden which is a leading coil and special coatings player in Europe, and b) BNB Coatings India Ltd for manufacture of coatings for plastic substrates – JV with Nippon Bee Chemicals Co Ltd of Japan.

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Financials: Consolidated

Profit and Loss Statement (Rs mn) Balance sheet (Rs mn) (Year-end Mar) FY18 FY19 FY20E FY21E (Year-end Mar) FY18 FY19 FY20E FY21E Revenues 51,657 60,618 68,643 76,764 Cash 4,128 5,220 5,812 8,792 % change YoY 13.5 17.3 13.2 11.8 Debtors 6,405 7,517 8,512 9,519 Raw material cost 29,858 36,994 40,066 44,689 Inventory 9,815 11,517 13,042 14,585 Employee cost 2,833 4,085 3,802 4,241 Other current assets 1,963 2,303 2,608 2,917 Other expenses 10,897 10,721 14,623 16,310 Total current assets 18,183 21,338 24,162 27,021 Total Operating expd 43,588 51,800 58,491 65,239 LT investments 1,000 1,000 1,200 1,500 EBITDA 8,069 8,818 10,152 11,525 Net fixed assets 13,274 13,897 16,697 17,772 Depreciation 1,243 1,377 1,400 1,425 Total assets 36,585 41,455 47,872 55,085 EBIT 6,826 7,441 8,752 10,100 Other income 459 600 625 650 Creditors 6,715 7,880 8,924 9,979 Interest expense 200 323 300 290 Provisions 1,395 1,637 1,853 2,073 Profit before tax 7,085 7,718 9,077 10,460 Loans and advances 2,583 3,031 3,432 3,838 Tax 2,440 2,732 2,324 2,678 Total current liabilities 10,693 12,548 14,209 15,890 ETR (%) 34.4 35.4 25.6 25.6 LT debt 4,065 3,859 3,893 3,753 Profit after tax 4,645 4,986 6,753 7,782 Equity Capital 970 970 970 970 Minorities& Associates 7 25 25 25 Reserves 20,857 24,078 28,800 34,471 Net income 4,652 5,011 6,778 7,807 Networth 21,827 25,048 29,770 35,441 % change YoY -2.3 7.7 35.3 15.2 Total liabilities 36,585 41,455 47,872 55,085 Shares outstanding (m) 970 970 970 970 EPS 4.8 5.2 7.0 8.0 BVPS (Rs) 22.5 25.8 30.7 36.5 Source: Company, Kotak Securities – Private Client Group Source: Company, Kotak Securities – Private Client Group

Cash flow Statement (Rs mn) Ratio Analysis (Year-end Mar) FY18 FY19 FY20E FY21E (Year-end Mar) FY18 FY19 FY20E FY21E PAT 4,652 5,011 6,778 7,807 EBITDA margin (%) 15.6 14.5 14.8 15.0 Non Cash items 1,487 1,650 1,632 1,693 EBIT margin (%) 13.4 13.2 12.3 12.8 Change in working capital (889) (1,299) (1,164) (1,178) Net profit margin (%) 10.5 9.0 8.3 9.9 Cash flow from operations 5,250 5,362 7,247 8,322 ROE (%) 22.8 21.4 24.7 23.9 ROCE (%) 29.7 29.3 30.0 29.5 Capex (2,500) (2,000) (4,200) (2,500) DPS 1.8 1.8 2.0 2.1 Investments (94) - (200) (300) Dividend payout (%) 43.1 41.2 33.8 30.8 Cash flow from investments (2,594) (2,000) (4,400) (2,800) Working capital turnover (days) 49.8 49.0 49.8 50.1 Equity issuance - 0 - - Debt Equity (x) 0.2 0.2 0.1 0.1 Debt raised (174) (207) 34 (139) Dividend Paid (2,004) (2,063) (2,289) (2,404) PER (x) 105.9 98.4 72.7 63.1 Miscellanous items - - - - P/C (x) 80.3 74.0 58.6 51.9 Cash flow from financing (2,178) (2,269) (2,255) (2,543) Dividend yield (%) 0.3 0.4 0.4 0.4

Net cash flow 478 1,093 592 2,980 P/B (x) 22.6 19.7 16.6 13.9 Opening cash 3,649 4,128 5,220 5,812 EV/Sales (x) 9.5 8.1 7.2 6.4 Closing cash 4,128 5,220 5,812 8,792 EV/ EBITDA (x) 57.8 52.3 45.7 40.5 Source: Company, Kotak Securities – Private Client Group Source: Company, Kotak Securities – Private Client Group

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RATING SCALE (PRIVATE CLIENT GROUP) Definitions of ratings BUY – We expect the stock to deliver more than 15% returns over the next 12 months ADD – We expect the stock to deliver 5% - 15% returns over the next 12 months REDUCE – We expect the stock to deliver -5% - +5% returns over the next 12 months SELL – We expect the stock to deliver < -5% returns over the next 12 months NR – Not Rated. Kotak Securities is not assigning any rating or price target to the stock. The report has been prepared for information purposes only. SUBSCRIBE – We advise investor to subscribe to the IPO. RS – Rating Suspended. Kotak Securities has suspended the investment rating and price target for this stock, either because there is not a sufficient fundamental basis for determining, or there are legal, regulatory or policy constraints around publishing, an investment rating or target. The previous investment rating and price target, if any, are no longer in effect for this stock and should not be relied upon. NA – Not Available or Not Applicable. The information is not available for display or is not applicable NM – Not Meaningful. The information is not meaningful and is therefore excluded. NOTE – Our target prices are with a 12-month perspective. Returns stated in the rating scale are our internal benchmark.

FUNDAMENTAL RESEARCH TEAM (PRIVATE CLIENT GROUP)

Rusmik Oza Arun Agarwal Amit Agarwal, CFA Krishna Nain Head of Research Auto & Auto Ancillary Transportation, Paints, FMCG M&A, Corporate actions [email protected] [email protected] [email protected] [email protected] +91 22 6218 6441 +91 22 6218 6443 +91 22 6218 6439 +91 22 6218 7907

Sanjeev Zarbade Jatin Damania Purvi Shah Priyesh Babariya Cap. Goods & Cons. Durables Metals & Mining, Midcap Pharmaceuticals Research Associate [email protected] [email protected] [email protected] [email protected] +91 22 6218 6424 +91 22 6218 6440 +91 22 6218 6432 +91 22 6218 6433

Sumit Pokharna Pankaj Kumar Deval Shah K. Kathirvelu Oil and Gas, Information Tech Midcap Research Associate Support Executive [email protected] [email protected] [email protected] [email protected] +91 22 6218 6438 +91 22 6218 6434 +91 22 6218 6425 +91 22 6218 6427

TECHNICAL RESEARCH TEAM (PRIVATE CLIENT GROUP)

Shrikant Chouhan Amol Athawale Faisal Shaikh, CMT, FRM Siddhesh Jain [email protected] [email protected] Research Associate Research Associate +91 22 6218 5408 +91 20 6620 3350 [email protected] [email protected] +91 22 62185499 +91 22 62185498

DERIVATIVES RESEARCH TEAM (PRIVATE CLIENT GROUP)

Sahaj Agrawal Malay Gandhi Prashanth Lalu Prasenjit Biswas, CMT, CFTe [email protected] [email protected] [email protected] [email protected] +91 79 6607 2231 +91 22 6218 6420 +91 22 6218 5497 +91 33 6615 6273

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