Trends and strategies

A. Srikanth

INCREASING VOLATILITY in raw material prices and prolonged sluggishness in the economy have forced paint companies to look seriously at risk-management strategies to enhance growth.

Research has shown that products which take advantage of the large population and purchasing power have a better chance of success. In the same way, companies which manufacture products catering to the needs of a large section of the population have recorded steadier growth rates compared to those catering to specific segments. This probably explains the steadier growth rate of the decoratives segment of the paints industry compared to the industrials. This also explains why Goodlass Nerolac now wants to refocus on decoratives.

Despite its leadership position in industrial paints and despite a strong brand name, Goodlass Nerolac's growth rates have been fluctuating. Excessive focus on industrial paints and constraints on capacities led to its losing the marketshare in decoratives. The decision to refocus on decoratives highlights the need to rebalance the overall risk profile of the company.

A balance between decorative and industrial paints is increasingly becoming an important factor for managing the overall risk. Asian Paints' decision to hive-off its automotive paints business (which is the largest and the most volatile part of the industrial paints business) into a 50-50 joint venture with PPG, US, serves two purposes. One, it offers the right kind of protection to PPG (the US JV partner) to freely transfer technology, which may not be case with other kinds of non-financial tie-ups. Two, it helps to shield Asian Paints' main business from the fluctuations inherent in automotive paints.

It is true that for Asian Paints (and in turn for its shareholders), the benefit would only be in the form of dividends. But that is the price for the benefits accruing out of such an arrangement. Ultimately, the issue is one of a trade-off between generating lower revenues with limited technology flows, on the one hand, and getting a share of the higher revenues generated through latest technology, on the other. So long as the benefits from the latter is more than that from the former, it would add to shareholder wealth. However, the success of alliances critically depends on good `relationship management' and proper delineation of roles and powers.

Risk-management strategies are as important for managing revenue stream volatility as for overcoming cost pressures. Partnership with suppliers is increasingly becoming an important strategy of companies abroad. Paint companies are not only reducing the number of suppliers, they have started expecting solutions along with raw material supplies.

Though the concept is yet to catch in India, the bigger companies have started implementing it in a small way. For example, Goodlass Nerolac works closely with Kansai Paint's global network of suppliers and is greatly encouraged by the response from suppliers in India too.

There is no conclusive evidence as yet if backward-integration is the solution to managing volatility in raw material prices. The limited Indian experience has been that backward-integration facilities pay off only when the prices of the general raw materials are firm. This is probably why Asian Paints wants to divest its backward-integration facilities. While the jury is out on the decision, the majority of the firms do not seem overly-excited by the concept.

With limited scope for passing on hikes in raw material costs and with increasing pressures to improve growth, companies have been looking at both organic and inorganic growth. While companies abroad have been looking seriously at M&A to expand markets and products, Indian companies seems to rely more on cost reduction. So much inefficiency is built into the system that there is surely considerable scope for cost reduction.

While competition has been rising over the years, the industry is becoming more concentrated with the top four companies controlling nearly 76 per cent of the market. With the industry increasingly becoming oligopolistic, non-price competition has become the norm. In oligopolistic markets, any undercutting would ultimately prove inimical to the entire industry as all the players lose. As price cuts invite immediate retaliatory behaviour, a policy of `live and let live' is slowly emerging.