By Paul Rickard

It sounds hard to believe, but Dulux has been a star performer on the Australian stock market over the last 5 years. Since being spun out of Orica in 2010, Dulux’s shares have risen from $2.73 to yesterday’s close of $6.23 for a gain of 128%, compared to the S&P/ASX 200 which over that period has added just 17%.

This outperformance highlights two key investment themes. Firstly, the recent success of demerged companies that have been spun out of larger corporates, with Dulux joining names such as Orora (from Amcor), Recall (from Brambles), Asciano (from Toll) and CYBG (from NAB). Secondly, the price fund managers are prepared to pay for a company delivering steady, but not outstanding, growth in sales and profitability.

But can this outperformance last?

Steady profit growth

On Tuesday, Dulux reported first half year profit of $63.7m, up 3.7% on the corresponding period of 2015. This puts it on track for a full year profit of around $130m. Since 2010, Dulux has lifted profit from $77.6m, giving it a compound annual growth rate (CAGR) of 10.9%.

 * NPAT before non-recurring items

A CAGR of 10.9% is nothing to be sneezed at, but as the table above shows, the rate of growth is slowing. Further, despite some tentative forays into Asia, 93% of revenue comes from very mature markets in Australia and New Zealand.

And it is largely a paint business. Through brands such as Dulux, British Paints, Cabot and Berger, the Australasian paints and coatings division delivers 53% of group sales, but with the best margin, drives 73% of group EBIT. In the first half, the division increased market share and Australian sales grew by 4%. 

The second largest contributor to group EBIT, the consumer and construction products division, saw EBIT decline by 6.8%. This division includes the Selleys range of adhesives and sealants, where sales were flat largely due to destocking by Masters.

In the other divisions, which includes brands such as B&D Garage Doors and Openers, Lincoln Sentry and Yates, results were mixed.

Looking ahead, Dulux says that 65% of its end market exposure is to the home improvement market and that this market remains sound. It points to the fact that of the 10 million dwellings in Australia, approximately 70% are older than 20 years. With interest rates staying low and housing prices relatively high, it says that underlying consumer demand will remain sound and volume growth consistent with the historical rate of 1 to 1.5% can be expected. It notes that its exposure to the new housing market, where approvals have peaked, is only 15%.

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The Brokers

The Brokers are a little more cautious than the company about the state of the Australian paint and home renovation markets, noting that house price growth and housing turnover have slowed. Trading on a multiple of 18.7 times FY16 earnings and 18.1 times FY17 earnings, they see Dulux as fully priced. Major broker forecasts (courtesy of FN Arena) are set out in the table below.

The consensus target price is $6.10, a 2.1% discount to yesterday’s closing price of $6.23.

My view 

For once I find myself in agreement with the brokers, which on consensus is a “lighten”. A forward multiple of 18.1 looks pretty heady for a company where profit growth is more likely to be mid-single digit rather than double digit.

Dulux is a well managed company. Its new paint factory in Melbourne, which is due to open in late 2017, will lower costs and facilitate the use of emerging paint technologies. Dulux is also investing in a new distribution centre. While these initiatives will improve the bottom line, the potential headwinds of a more subdued home renovation market means that sales growth will be harder to come by. At a multiple of 18+ times, a dividend yield of 3.8%, domestic focus, it just doesn’t look like super value to me. Sell.