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A frustrating demand environment in Europe combined with lighter-than-expected global auto OEM production painted PPG Industries (PPG -3%) into a corner in Q2, leading the paints and coating supplier to fall short of its volume growth projections. Despite a lackluster Q1 report in mid-April, PPG was optimistic about volumes finally turning positive in Q2. Several reasons underpinned its confidence, from improving demand characteristics across multiple regions to starting peak buying season. However, while these trends did unfold in Q2, they did not meet PPG's initial expectations, resulting in flat sales volume growth yr/yr and triggering a significant gap-down today.

• The European market has gradually recovered each quarter. Still, PPG was a tad too confident that the market's near-term rebound would be linear. Demand stayed uneven in terms of country and end-use. While yr/yr volume growth did continue to improve sequentially in Q2, it was still negative, ultimately pulling down overall volumes in the quarter.
• Sluggish global auto OEM production directly reflects the current macroeconomic picture. Elevated inflationary pressures and interest rates create an awful environment for automakers. PPG added that it was surprised by the extension of assembly plant downtime. However, when asked if this could be an early recessionary sign, CEO Tim Knavish remarked that it likely is more of a temporary adjustment given how some vehicles are selling under expectations.
• It was not all bad news. Volumes, albeit disappointing, did mark a notable improvement from the past couple of quarters, including negative 3% and 1% growth in Q1 and 4Q22, respectively. For perspective, PPG has not posted positive yr/yr volume growth since before 2022. Given this context, investors' patience may be wearing thin.
• Meanwhile, PPG drove further margin enhancement in the quarter, marking its seventh consecutive quarter of yr/yr segment margin expansion. Gross margins ticked 180 bps higher yr/yr to 43%, supported by record Performance Coatings margins and a healthy jump in Industrial Coatings margins.
• Furthermore, while PPG's bearish Q3 guidance and reduced FY24 outlook, projecting adjusted EPS of $8.15-8.30 from $8.34-8.59 and organic sales growth of flat to up low single digits from just up low single digits was concerning, PPG remained confident in activity picking up over the next two quarters. The company anticipates sustained growth in Mexico, recovery in demand in China, and modest improvements in Europe.

Even though PPG reiterated its FY24 outlook last quarter, its bearish Q2 outlook gave mixed signals. We were concerned that a bumpy quarter ahead made PPG's FY24 guidance flimsy, possibly resulting in a downward revision. Unfortunately for the company, this ultimately materialized. Given the recent events, we have doubts that the second half of the year will be as bright as PPG expects. Today's adverse reaction reflects investors' similar skepticism. It is also spurring some selling pressure across PPG's peer group, including Sherwin-Williams (SHW), Axalta Coating Systems (AXTA), and RPM Inc (RPM).