Top 5 FMCG Stocks To Bet On Amidst Industry Growth Woes

0
115
Nifty struggling to find direction ahead of Budget; bet on IT & FMCG stocks

FMCG is generally considered a defensive sector as it is able to withstand economic cycles. This is also reflected in the stock price performance of the sector over the long term and more so in recent past. The NSE FMCG Index has delivered a return of 4.5% in the last one month and around 11% in the last one year, outperforming the NSE Nifty Index.

Rural growth slipped below urban growth for several consumer staple companies in the September quarter (Q2FY20) after eight quarters of continued outperformance. Additionally, the on-going liquidity concerns, succession of drought and floods during the monsoon season in large parts of the country, and muted initial response to the festive season added to the woes.

The operating environment in Q2FY20 was perhaps the most somber since the June 2017 quarter (Q1FY18). The government’s recently reduced the corporate tax rate to 25.17 per cent including cess and surcharge for FY20. However, Motilal Oswal Financial Services (MOFSL) is not assuming any benefits of the corporate tax reduction in Q2FY20 as many companies would have paid advance tax.

Even in such a weak demand environment, we at MOFSL, driven by our framework for earnings visibility, longevity of growth and quality management, are bullish on five stocks in the fast moving consumer goods (FMCG)space.

1) Hindustan Unilever (Maintain ‘Buy’;  Target Price: Rs 2,265 per share)

Investment Rationale: Best large-cap pick on healthy domestic volume growth

Hindustan Unilever continues to be the best pick among the large-cap companies for MOFSL. Its revenuesare expected to grow by 7% YoY to Rs 98.8 billion, with underlying domestic volume growth of 6% in Q2FY20. Gross margins are likely to be up 140 bps YoY to 53.4%. The operating margin expansion (+150bp YoY) to 23.4% in the quarter, leading to EBITDA growth of 14.4% YoY.  Adjusted PAT is likely to grow 6.1% YoY to Rs 16.1billion due to very high other income base in Q2FY19.

Key issues to watch for: 1) Comments on consumer demand environment. 2) Pace of rural growth. 3) Competitive intensity, especially in detergents. 4) Performance of Lever Ayush. 5) WIMI growth.

2) Britannia Industries (Maintain ‘Buy’; Target Price: Rs 3,575 per share)

Investment Rationale: Corporate tax cuts and consequent likely passing on of benefits

Post corporate tax cuts and consequent likely passing on of benefits, MOFSL has elevated Britannia Industries to its list of preferred picks. The FMCG major is expected to see a sales growth of 8% YoY to Rs 30.9 billion, with base business volumes growing 4% on a high base of 11% volume growth. The gross margins are expected remain flat YoY at 40%; while the operating margin is seen contracting by 20 bps YoY to 15.6%.  EBITDA/Adj. PAT, are thus, likely to grow 6.6%/4.8% YoY.

Key issues to watch for:  1) Near-term volume growth commentary, especially in rural areas. 2) Pace of growth in erstwhile weak states. 3) Raw material outlook

3) Colgate (Maintain ‘Buy’; Target Price: Rs 1,750 per share)

Investment Rationale: Corporate tax cuts and consequent likely passing on of benefits

Post corporate tax cuts and consequent likely passing on of benefits, MOFSL has elevated Colgateto its list of preferred picks. Its sales are expected to grow 8% YoY to Rs 12.6 billion, with 6% toothpaste volume growth, while the gross margins are expected to contract 90 bps YoY to 63.9%. The EBITDA is seen declining by 3.4% YoY to Rs 3.2 billion as MOFSL expects higher ad spends to drive sales during the quarter. Thus, EBITDA margin is estimated to contract by 300 bps YoY to 25.2%. Adjusted PAT is likely to decline 3.4% for the quarter to Rs 1.9 billion.

Key issues to watch for: 1) Volume growth in toothpaste.  2) Market share movement. 3) Ad spends and promotion intensity for the toothpaste category.

4) Marico (Maintain ‘Buy’; Target Price: Rs 445 per share)

Investment Rationale: Franchise, portfolio strength, management quality and multiple growth drivers

Continuing to be positive on the prospects for Marico, MOFSL expects its sales to grow 8.9% YoY to ~Rs 19.9 billion with 6.4% growth in domestic volumes.  With a decline of (a) over 12.6% YoY in copra costs, (b) close to 28% YoY in HDPE, (c) ~13.5% in rice bran oil, and (d) 8.9% decline in LLP, Marico is likely to report strong gross margin and EBITDA margin growth in Q2FY20. The gross margin is seen expanding by 300 bps YoY to 47%, while the EBITDA is expected to grow at 20.4% YoY, with margin expansion of 170 bps YoY to 17.7% in the quarter. Adjusted PAT is projected to grow 17.1% YoY to ~Rs 2.5 billion.

Key issues to watch for: 1) Comments on volume growth trends across key categories. 2) Outlook for raw materials. 3) Margin expansion and guidance for the international business.

5) United Spirits (Maintain ‘Buy’; Target Price: Rs 840 per share)

Investment Rationale: Bright prospects on portfolio strength, management quality and multiple growth drivers

United Spirits is expected to post a revenue growth of 6.6% at Rs 23.7 billion, with 2.6% growth in overall volumes. Gross margins are expected to contract 250 bps YoY to 47.7%. The EBITDA margin is seen contracting by 400 bps YoY to 15.9% and EBITDA to decline 14.8% YoY to Rs 3.8 billion as Q2FY19 EBITDA margins were at unusually high levels. The adjusted PAT is estimated at ~Rs 2 billion in Q2FY20, down 21.1% YoY.

Key issues to watch for: 1) Trend in volume growth, premiumization and margins. 2) Any price increases granted by various states. 3) Outlook for ENA/molasses.   4) Monetization of remaining non-core assets.

– by Siddhartha Khemka, Head – Retail Research, Motilal Oswal Financial Services.