Revenue gains unlikely before Q4

High raw material costs are likely to hurt margins of fast-moving consumer goods companies

Better monsoon, the seventh central pay commission award and recovery in rural demand are expected to have some impact on the volume growth of fast-moving consumer goods (FMCG) companies in the second half of this financial year and mostly in the fourth quarter. For the time being they have to tackle higher commodity prices and the pressure it exerts on the margins.

The September quarter is not going to see any major traction in terms of revenues or volumes. “With demand environment yet to pick up, the revenue growth for most FMCG companies under our coverage is expected to remain in single digits and volume growth is expected to stay in mid-single digits,” said Kaustubh Pawaskar, research analyst, Sharekhan.

The positives in the economy – better monsoon, increased disposable incomes due to the seventh pay commission and the increase in rural demand – have still not started reflecting in the market and supporting demand. On the other hand, higher commodity prices are making them withdraw promotional offers and even look at price hikes. While price hike may aid certain level of growth in revenues, no major traction can be expected as the demand will further get squeezed due to increased rates.

Since the third quarter of FY15, FMCG companies have been enjoying the benefits of lower commodity prices. Most players were passing part of the benefit to customers in the form of promotional offers. They were also spending on advertisements to ward off unorganised players eating into the market share by going for price cuts much earlier than them.

“In the June quarter, most FMCG companies posted single-digit revenue growth except Emami and Zydus Wellness as the demand environment had not revived in the domestic consumer goods market. The volume growth of FMCG companies remained in the range of 6-9 per cent during the quarter. Price cuts/offs lowered the revenue growth of companies such as Hindustan Unilever and Marico to low single digits,” said Pawaskar.

In the first quarter, HUL posted 3.6 per cent growth in revenues, Marico 0.2 per cent and Dabur 1.1 per cent. ITC, Britannia, Godrej Consumer Products and Jyothy Labs posted high single digit growth ranging from 6.8 per cent to 9.1 per cent. Emami at 17.4 per cent and Zydus Wellness at 12.4 per cent were among the very few companies that reported a double-digit growth.

In case of Emami, strong media promotion activities for its key brands and the sustained thrust on innovations have helped the revenue growth. Sharekhan expects Emami’s earnings to grow at a compound annual growth rate (CAGR) of over 20 per cent till FY18. Zydus Wellness is aiming at improving the growth prospects of its key categories by regular new product/variant addition and also plans to expand its footprint into the international markets.

Volume growth remained subdued for most companies in low single digits. HUL’s consumer business grew 4 per cent in volumes, Dabur 4 per cent and GSK maintained flat growth in volumes. Jyothi Lab was better off with volume growth of 10 per cent and Emami with 17 per cent.

However, lower input costs and operating efficiencies continued to help both gross margins and operating margins of almost all the companies. Many companies reported double-digit profit after tax in the June quarter.

Jyothy Labs posted 78 per cent rise in net profit despite 9 per cent growth in sales due to higher operating margins and flat interest cost on the non-convertible debentures. “In the second quarter, however, the profit after tax (PAT) should get impacted as the company will have to show the cost on non-convertible debentures (NCDs) in the books as per the change in the accounting standards,” said Pawaskar.

In case of HUL, PAT grew 10 per cent in the June quarter. Competition in the soap segment has been affecting both revenue and profit growth. From the June quarter, soaps were included in the personal care segment, which otherwise used to perform well. The segment’s revenue grew by 2.1 per cent and profit was marginally up by 0.3 per cent.

HUL’s food business did not do well with earnings before interest and taxes (Ebit) falling 20.6 per cent, though the revenue was up 4.7 per cent. “In slow market conditions, the business is tracking ahead of the market with sustained margin improvement. We continue to make progress on our priorities of strengthening the core of our business whilst driving operational efficiencies. While the near-term growth is likely to remain muted, we are optimistic for the medium-term and remain focused on driving competitive and profitable growth,” said chairman Harish Manwani said while announcing the first quarter results.

ITC's net profit grew 10 per cent in the June quarter. The cigarette business reported 6.4 per cent growth in sales, while profitability was up by 8 per cent. ITC’s cigarette volumes are expected to improve gradually in the coming quarters as the recent price hikes are getting absorbed in the market and no major price increase is planned for the near future. In FMCG business of ITC, most categories witnessed margin expansion as sales grew by 9.5 per cent and brought down losses.

GCPL posted 12 per cent growth in standalone net profit. “We delivered this performance despite the sluggish business environment across many geographies we are present in. Additionally, the unfavourable weather conditions in some of our key geographies also impacted sales. We delivered healthy profits driven by judicious cost control and commodity tail winds. Our India business performance was impacted by a stretched summer and the late onset of monsoon, which resulted in a weak performance in household insecticides,” said Adi Godrej, chairman, Godrej Group.

In the September quarter also, revenue is expected to grow in single digits and no major improvement in sales volume is foreseen. “The discontinuation of promotional offerings and judicious price hikes will add to overall revenue of most FMCG companies. HUL’s volume growth is expected to sustain at four-five per cent, while we expect ITC’s cigarette business sales volume to grow by one-two per cent. “Volume growth of Britannia Indu­stries, Marico and Jyothy Laboratories is expected to sustain in the range of 6-8 per cent. The expected improvement in household insecticide category would support the overall revenue growth of Godrej Consumer Products,” said Pawaskar.

Higher prices of key commodities such as palm oil, caustic soda, milk and sugar would result in flat or marginal decline in the operating profit margin of companies such as GCPL, GSK Consumer and Britannia. Though HUL’s gross margins are expected to remain flat, lower advertisement spends and operating efficiencies would help in posting improvement in the operating profit margin. On the other hand, lower copra and light liquid paraffin prices would continue to provide margin benefits to companies such as Marico, Bajaj Corp and Emami.

With the southwest monsoon spreading out well and sustaining for a longer period, production of both kharif and rabi crops is expected to be better than the previous years. This is likely to give boost to rural demand, which has remained muted for the past few quarters. Companies, which have categories heavy on rural consumption, will stand to gain. The benefits from the implementation of the seventh pay commission would start reflecting from in the second half of this financial year and this will see improvement in urban consumption.

FMCG companies have taken measures to mitigate the impact of rising raw material prices by reducing promotional offerings and increasing prices of key brands. These measures, along with operating efficiencies would lead to stable operating margins for most FMCG companies, added Pawaskar.

1) Company review: Hindustan Unilever

Business & background: Hindustan Unilever manufactures branded and packaged consumer products, including soaps, personal care products and processed foods. It also manufactures ice creams, cooking oils and fertilisers.

Prospects: The company’s Q1FY17 net sales stood at Rs 8,128.18 crore and were marginally up against Q1FY16. The net profit was up 10.83 per cent at Rs 1,173.90 crore in Q1FY17. According to an October report by ICICI Direct, HUL stays in a structural up­trend consistently forming rising pe­aks and troughs on the long-term price charts. After a gradual corrective fall over the last few months, the stock has approached its key value area and provides a good entry opportunity for medium-term investors with a favourable reward-risk setup to ride the next upward move within the larger uptrend. “The stock is expected to bottom out at current levels as demand will outstrip supply at the major value area and it will embark upon its next major up move towards 990 levels over the medium term,” it added.

Valuation: At Friday’s close, the stock traded at 48.79 times the EPS for the past four quarters.

2) Company review: ITC

Business & background: ITC, a member of BAT group of the UK, has a diversified presence in cigarettes, hotels, paperboards and specialty papers, agri-business, packaged foods and confectionery, apparels and a lot more.

Prospects: The company’s Q1FY17 net sales were up 54.32 per cent compared with Q1FY16 and stood at Rs 13,253.06 crore. It recorded a 5.26 per cent jump in Q1FY17 at Rs 2,384.67 crore. An October report by IIFL said, “After ana­lysing scenarios for tax structures for ITC in light of the uncertainty related to impact of GST rollout, we believe GST at 40 per cent is negative but not a disaster, as long as excise duty is kept unchanged in the same year. But if excise duty is also increased by 10 per cent or more around the same time ITC could give no returns for maybe two years.” The stock currently yields single-digit return based on weighted average probabilities of scenarios.

Valuation: At Friday’s close, the stock traded at 29.35 times the EPS for the past four quarters.

3) Company review: Marico

Business & background: Marico manufactures consumer products and services in the beauty and wellness space. The company is known for its presence in the categories like hair oils, anti-lice treatment, edible oil and fabric care.

Prospects: The net sales in Q1FY17 declined marginally compared with Q1FY16, but net profit jumped over 24 per cent and stood at Rs 234.88 crore. Acco­rd­ing to an August report of Trust Financial Consulta­ncy, Marico has maintained healthy profitable growth in the past through consistently expa­n­d­ing product portfolio and market reach. Marico is taking several operational initiatives, which are positive in the long term, and business will be driven by innovation. “The guidance provided by the management is very encouraging particular in the current lull environment,” it said.

Valuation: At Friday’s close, the stock traded at 50.68 times the EPS for the past four quarters.

4) Company review: Britannia

Business & background: Britannia Industries manufactures bakery products like biscuits, bread and cakes. The company also exports soybean products, cashew kernels, marine products, and general merchandise items.

Prospects: The firm’s net sales in Q1FY17 jumped over 10 per cent to Rs 2,010.76 crore and net profit 25.40 per cent at Rs 210.39 crore. According to a report by Karvy Stock Br­oking, the firm with its improving opera­t­i­onal effic­ie­n­cies & aggr­essive expansion str­a­tegies in its dist­ribution in terms of direct and indirect reach, is moving up the value chain and capturing more mar­ket share. “We have revised our revenue growth expectations to 12.6 per cent from 13.9 per cent and Ebitda margins were adjusted to 14 per cent from 15 per cent,” it said.

Valuation: At Friday’s close, the stock traded at 23.34 times the EPS for the past four quarters.

(Compiled by Shishir Parasher)


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