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FMCG companies in India caught between rock and a hard place

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FMCG companies in India caught between rock and a hard place

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FMCG companies in India are being beset by low demand and the rising cost of inputs. The Street is expecting subdued volume increases for companies across the board in the fast-moving consumer goods (FMCG) sector in India. The pain could get a lot worse if the conflict between Russia and Ukraine continues to stall supply chains.

Companies in India that sell everything from packaged foods to beverages, toiletries, dry goods, and other consumables are being beset by low demand and the rising cost of inputs.

As a result, the Street is expecting subdued volume increases for companies across the board. Pain for the fast-moving consumer goods (FMCG) sector could get deeper if the conflict between Russia and Ukraine continues to stall supply chains.
Consumers in India have down-traded to lower-priced packs and the rural Indian market is seeing even more deterioration. Not only the financial results for the last quarter of the financial year ended March 2022 will be closely monitored, but management commentary on margin and demand in the quarter ending June 2022 will also be on investors' radar.
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MonthConsumer inflation (%)
Mar-226.95*
Feb-226.07
Jan-226.01
Dec-215.66
Nov-214.91
Oct-214.48
Sep-214.35
Aug-215.3
Jul-215.59
Jun-216.26
May-216.3
Apr-214.23
*Provisional Data for Inflation in the past 12 months
Nervous Street?
Analysts believe most businesses would still see revenue growth in the high single to low double digits, but this would be mostly driven by price increases, which would not translate into profits due to input inflation.
This is evident in the fourth quarterly update from the firms so far. While Titan's jewellery business is declining, Godrej Consumer Products volume growth is flat. Hindustan Unilever (HUL) is expected to announce a volume contraction.
Marico is likely to post flat volume growth in the India business, aided by foods and digital brands, even as edible oil continues to drag overall volumes due to steep price hikes in the last year.
For Nestle, gross margin is likely to shrink more than 200 basis points on high input inflation while the cost savings and lower advertisement expenditure may limit EBITDA margin contraction. Analysts believe revenue for the company will be led by price hikes in Maggi and milk-based products and broad-based recovery is seen in out of home consumption.
Saurabh Mukherjea, Founder at Marcellus Investment Managers, said, "For Nestle, it's compounded 25 odd percent for the last five years, perhaps a little bit more than that on share prices, profits have compounded 20-23 percent and for many years, it's an obviously dominant player in a category that is anything but discretionary. I don't think baby milk powder is a discretionary consumption category."
"And given the sort of dominance it has, you might get from quarter to quarter the management will agonize about input cost pressure but when a company, which has 90 percent market share, in a category which is a compulsory purchase, you have to chuckle a little bit when the management talks about input cost pressure and you chuckle and you buy some more. So one of the relatively straightforward investments in India with 70-80 percent RoCEs is in a $2 billion category with barely any competition."
When it comes to the rising price of raw materials (RM inflation) - both year on year (YoY) and a quarter on quarter (QoQ) have been strong. Input costs connected to oil and palm oil have increased dramatically, as has the cost of detergent input Soda Ash - by nearly 27 percent QoQ.
Tea and Copra are the only two commodities in a deflationary cycle, which is favourable for Marico & Tata Consumer - but weak consumer sentiment and inflation in other expenses will hurt their margins, nevertheless.
FMCG stocks still expensive
While most FMCG companies' stock prices have factored in the decline, valuations have cooled off from the peak, but are still elevated compared to other parts of the market.
Stock movement in the past three months
Nestle's stock movement in the past three months
"At an aggregate level, we are underweight on the sector. However, ITC remains our top pick. In other coverage companies from an absolute upside point of view, we don't find too much there. But from a relative context point of view, Dabur India, Marico, Godrej Consumer Products Ltd (GCPL) are still on the positive side," said Naveen Trivedi, AVP - Institutional Research at HDFC Securities.
With the stock at a 52-week high, ITC is poised to publish a strong set of results, with nearly all of its verticals showing excellent growth.
Trivedi said we remain positive on ITC for the last two years despite being underweight on the sector.
"We're expecting that when other companies are more on a deceleration side, in terms of the growth on the margin side, ITC has seen a good amount of recovery across their core business of cigarette FMCG and even the other businesses like paper and hotels. So the valuation gap from ITC compared to others will narrow down and we remain positive on ITC as a counter."
 
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