Margin gains ahead for Pidilite on lower crude prices, stronger rupee

After Q2FY19, analysts had cut their earnings estimates of consumer firms, amid higher input costs on the back of high oil prices and a weakening Rupee

Prices of many crude oil-linked commodities are declining after a sharp correction in fuel prices. This, along with the strengthening rupee, has created margin tailwinds for many consumer players, such as Pidilite Industries (Pidilite). Prices of most raw materials of Pidilite are linked to crude oil.

After the September 2018 quarter (Q2FY19), many analysts had cut their earnings estimates of many consumer firms, including Pidilite, amid higher input costs on the back of elevated crude oil prices and a weakening rupee.

Pidilite’s management, too, had indicated that input cost pressure could weigh on the firm’s gross margin. However, the recent input cost correction could lead to an earnings upgrade if the trend sustains, said an analyst at a domestic brokerage.  

Pidilite’s key raw material — vinyl acetate monomer (VAM) — is a crude oil derivative and accounts for 35-40 per cent of its raw material costs. Prices of VAM have drifted down recently by 2.5 per cent in rupee terms, on a sequential basis, in the December quarter. 

In addition to raw material costs, low crude oil prices, too, lower the packaging costs.

All this should provide an upside to Pidilite’s operating profit margin in the coming quarters. Further, an earnings uptick could also stem from volume-led revenue growth.

The maker of Fevicol earns a good chunk (35-40 per cent on an estimated basis) of its revenues from the hinterland. Spending on rural infrastructure, as well higher consumption in the run-up to the general election, provide an upward thrust in terms of volumes.

The management, during its Q2 earnings call, had indicated the double-digit volume growth trend — observed in the last five consecutive quarters — to sustain even in the coming quarters on account of an improved demand scenario. During April-September 2018, the firm reported an average domestic volume growth rate of 14 per cent.

But the caveat, as is the case with many consumer companies, is the pricey valuation. With a 23 per cent surge in its share price in 2018, Pidilite now trades at 48 times its FY20 estimated earnings. Therefore, any sharp correction in the stock could be a good buying opportunity for long-term investors.