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Is it time to purchase this distinguished stock on the dip?

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Stock in Paints and Coatings PPG (NYSE: PPG) It’s up about 13% in 2021 as I write, but has weakened recently on the back of a disappointing batch of second-quarter earnings. Wall Street analysts lowered earnings expectations on the back of the report, and many of the management issues identified in the second quarter (supply chain disruptions and raw material price increases) will persevere into the third quarter as well. Is now the time to bail out stocks or consider buying on the dip?

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PPG, what went mistaken?

In short, PPG has been hit by the double whammy of rising raw material prices and supply chain disruptions. Unfortunately, it will become a familiar refrain in this current earnings season. It’s not that PPG and others didn’t expect it. Instead, the magnitude of the effects was much larger than previously expected.

For example, during the earnings call, CEO Michael McGarry explained that during the quarter, he was expecting a whole impact of between $70 million and $90 million from supply chain disruption and increased raw material prices. Instead, it totaled $200 million in the second quarter, and McGarry expects an additional impact of $150 million in the third quarter.

Red, yellow and blue paint pigments.

Image source: Getty Images.

Breaking the effects, supply chain disruptions cost PPG $100 million in sales (while McGarry previously forecast $40 million). In comparison, additional raw material costs also amounted to $100 million (previously $30-50 million was expected). As such, PPG’s adjusted earnings per share (EPS) was $1.94 in the second quarter compared to guidance of $2.15-$2.20.

Moreover, McGarry headed for adjusted earnings per share of $1.90 to $1.95 for the third quarter compared to market consensus of $2.22. No matter how you look at it, as now, PPG will not be as profitable in 2021 as the market once thought. In this context, it is not surprising that the shares were sold.

Temporary issues?

Of course, the interrogate now turns to whether or not these issues will prove temporary. If so, the drop could be a pleasing buying opportunity. If not, there may be more pain.

The confident case argues that the most significant impact of supply chain disruptions comes from the OEM market. The well-documented shortage of semiconductor wafers has curtailed the production of light compounds. McGarry said auto industry production was 2 million vehicles less than its original forecast in the second quarter and will miss another 1 million vehicles in the third quarter.

While this isn’t distinguished news, everything points to a powerful end-demand environment for cars. In fact, the CEO of the auto retailer automationMike Jackson, on the company’s latest earnings call, said he believes demand will remain powerful through 2022. As such, everything points to increased auto production as the industry runs through a shortage of semiconductors.

A vehicle assembled in an automobile factory.

Image source: Getty Images.

As for increases in raw material prices, PPG has responded by cutting costs and raising prices so that McGarry believes “we now fully expect to offset raw material cost inflation in the fourth quarter of 2021 on an operating rate basis”. In other words, the fourth chapter of PPG should fully compensate for the rise in raw material prices.

It looks like PPG will suffer some tough seasons only to lead to the promised land of increased vehicle production and raw material costs. Meanwhile, the end-demand environment in the various industrial and architectural markets served by PPG with paints and coatings must remain robust.

For example, McGarry noted “very powerful and widespread demand globally, including in many industrial and OEM markets and powerful architectural coatings trading activity in the US” also talked about the possibility of customers restocking stocks that are running low .

drop condition

The other side of the argument is that no one knows where the prices of raw materials will be in the coming, and customers may oppose higher prices. Moreover, the positive outlook for PPG continues to be based on continued economic growth, particularly in the automotive, construction, general industry, packaging and aerospace.

Is it time to purchase?

In general, I think the case for going up is somewhat more robust. After all, the paint and coating industry continues to consolidate — PPG completed three acquisitions in the second quarter alone and five since the end of 2020 — and it has a history of lofty gain margins and excellent returns for investors.

Painting and coating is a core activity of the finished and refinished product, and this would donate PPG pricing power to pass higher raw material prices. At the alike time, supply chain issues will be settled by PPG in 2022. As such, the stock remains attractive to investors.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of Motley Fool’s premium advisory service. We are diverse! Asking about an investment thesis — even if it’s our own — helps us all think critically about investing and make decisions that aid us become smarter, happier, and richer.


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