Investment Idea : Varun Beverages

Investment Idea

Source :

Set for next leg of growth

Varun Beverages (VBL) is engaged in the manufacture, sale, bottling, and distribution of PepsiCo’s beverages in pre-defined territories in India.

Demand drivers in place to drive growth: Impacted by the initial phase of COVID-19, VBL’s demand recovered strongly from the latter part of CY20 – led by: a) pick-up in volumes in the newly acquired territory of South/ West India, b) strong demand for newly launched products (Mountain Dew – Ice), and c) re-working of the formulation, which resulted in higher retention of CO2 – leading to higher acceptance and demand. However, with resurgence of Covid cases once again, some states may face minor supply chain issues due to regional lockdowns being imposed, while volume may get affected due to hotels/ retail shops closure. Management expects a strong recovery, once the lockdown restrictions gets removed. In CY20, VBL’s share (handling PepsiCo’s India business) further increased by 500bp and currently accounts for ~85%+ of PepsiCo’s India business.

Initiatives across segments to provide all round sustainable growth: PepsiCo acquired ‘Rockstar’ – leader in the Energy Drink segment. VBL aims to launch this product in the domestic market over next few years. In NCB segment, management aims to ramp-up operations at the new Pathankot facility and aggressively distribute its product. However, the expansion plans are once again affected due to lockdowns being imposed. On the other hand, south and west volumes are gradually picking up – regions are expected to contribute significantly over the next few years as VBL focuses to increase penetration levels, which in-turn will support volume growth.

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Initiatives across other regions to provide support: VBL’s market share increased to 13% from 6% in Morocco. Given increased demand, it plans to add a glass line in CY21 and double water capacity over the next 2-3 years, which would further drive the volume growth. Zimbabwe volumes have doubled in the last couple of years on the back of market share gains to 50%. Growth from here will be driven by expanding the market and launching new products. The management plans to backward integrate in Zimbabwe in CY21, which is expected to benefit margin going ahead.

Major capex behind, focus is on cash generation: Due to COVID-19 and subsequent lockdowns, the company reduced capex outflow with respect to expansion in new territories and spending on plant and machinery. The management’s current focus is to grow its market share in the newly acquired territories and drive efficiencies. Lower capex outflow is expected to increase free cash flow generation, which in turn would aid in debt reduction. VBL plans to rationalize operations and aims to dispatch products from large plants where the cost of production is lower – expected to boost margin, with economics of scale kicking-in.

Valuation and view: We expect the volume growth trajectory to continue over the next few years, driven by: a) pure monopoly play in PepsiCo India’s business, b) an increase in on-the-go consumption across product segments, c) increasing volumes from the newly acquired regions (south/west), d) a diversifying product portfolio, coupled with new launches, and e) growing refrigeration penetration in rural/ semi-rural areas. However, in the near term, covid resurgence might affect volumes during the peak season of Apr–June’21 and delay expansion plans in the south/west regions. We expect a revenue/EBITDA/PAT CAGR of 13%/15%/32% over CY19–22E. We value the stock at 31x CY22E EPS. Maintain Buy with TP of INR1,150.