Japan

Kansai Paint (4613 JP)

India-focused Japanese paint manufacturer at 10x forward P/E

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Kansai Paint (4613 JP - US$2.9 billion) is the world’s 8th largest paint manufacturer with a special focus on automotive paint.

It’s one of the major suppliers of Toyota, Daihatsu, Suzuki, and several others. Since most Japanese automakers are global, Kansai Paint serves them in many markets, including India, where key client Maruti Suzuki is growing like wildfire. Kansai Paint’s automotive paint segment accounts for 40% of total revenues.

Kansai Paint also has a large architectural paint franchise with a large presence in emerging markets like India and South Africa. These are sold to contractors or directly to consumers through distributors like paint shops. This segment represents 28% of revenues.

Finally, it has a large and growing industrial paint business focusing on Japan and Europe. This paint is used in anything from heavy machinery to pipelines, electrical components, furniture, railway carriages, aircraft, etc. It’s currently 25% of revenues but has grown in importance.

I believe Kansai Paint has a solid franchise, but the economic moats of consumer-facing paint companies like Sherwin Williams and Asian Paints are probably stronger. In contrast, Kansai Paint’s strength lies in its R&D and connection to key automakers, who are unlikely to switch as long as the company continues to deliver.

What I find refreshing about Kansai Paint is that its new leadership is rational regarding capital allocation. The new CFO, Takahara Shigeki, is obsessed with improving the company’s return on equity, which has increased from 10% to 13%, and it will probably be even higher when the next medium-term plan is announced later this year.

The new leadership has also actively sold underperforming assets in Africa and the Middle East and used the proceeds to buy back shares or further invest in core markets in Europe and India. This strategy seems to be working well, with Kansai Paint’s financial results beating expectations.

Today, the stock trades at an EV/EBITDA multiple of 7.5x, equivalent to a P/E of 13x. That multiple is lower than the global peer group’s 20x, though I do think that a small discount is warranted to, say, Sherwin Williams and Asian Paints, given its lower consumer exposure.

Kansai Paint’s EV/EBITDA multiple is also at a historical trough compared the median level of 10x, even though the company’s capital allocation is far better today than it’s been in the past.

I project mid-single-digit top-line growth, driven by Kansai Paint’s 25% exposure to the fast-growing Indian market, especially for autos, where Maruti Suzuki is likely to grow for decades. India’s car penetration is only 24 per 1,000 people compared to a world average of 300. Indian annual paint consumption of 4kg per capita has a decent upside compared to Japan’s 10kg.

I also think global auto production is recovering due to the industry’s supply chain issues during COVID-19.

In addition to modest top-line growth, I see slight operating margin expansion to 9% and modest share buybacks that will reduce the P/E multiple from 13x to 10x by FY2027.

The only question mark is new competitor Aditya Birla’s aggressive investments into the Indian paint sector, which will likely compress return on capital for some time. The decorative paint industry is said to have a strong economic moat, and that theory is now put to the test.

I’m skeptical that the new brand Birla Opus can make much headway against Kansai Paint’s 100-year-old brand name, but I will admit that the price war will be a challenge in the near term.