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Consumer goods Q1FY20 Preview: Modest volume growth despite challenging environment, high base…

Volume growth –  Sluggish demand and high base to impact volume growth

While the first nine months of FY19 were characterised by robust volume growth, FMCG players ended FY19 on a weak note with moderation in volume growth on account of sluggish demand environment, especially in rural markets. We believe persisting demand challenges coupled with a high base (all companies reported strong volume growth in Q1FY19 as GST implementation disrupted the base) would cause volume growth in Q1FY20E to remain muted at mid-single digit (~5-6%) for our coverage universe. We expect HUL, Marico to lead the staples pack with 6% volume growth each, followed by GCPL, Dabur, Colgate and Jyothy Labs with 5% volume growth each.

Input cost scenario benign, Marico key beneficiary, margin pressure in Nestle to continue

For home and personal care (HPC) players, input cost environment remains favourable, thanks to moderation in crude (down 8% yoy) and crude-linked commodity (PE, LLP) and benign palm oil prices (down ~17% yoy). We expect the lower prices to aid gross margins, though a high base could curtail yoy expansion. Prices of agri commodities like copra have further moderated (down 22% yoy), which would drive sharp improvement in Marico’s gross margins (factoring 670bps yoy expansion in Q1FY20E), in our view. However, we expect gross margins of food players like Nestle (factoring 110bps yoy decline) to be impacted by higher milk and skimmed milk powder (SMP) prices.

Lower ad-spends and control over costs to aid EBITDA growth for HPC players

Competitive activity in terms of consumer offers/promotions remains high, especially in categories like oral care, foods and soaps. However, we expect advertising spend as a percentage of sales to moderate for most of staples players, barring Marico, which has stepped up investments (the company has reinvested part gross margin benefit in core brands/new launches). Moreover, continued cost efficiency focus would expand EBITDA margins of most companies in our universe, baring Nestle, Colgate and ITC.

Marico and HUL should be key outperformers

Ex-ITC, we estimate sales, EBITDA and PAT growth of 8%, 9%, and 10% yoy, respectively, for our coverage in Q1FY20E. We expect Marico to lead the staples pack with 6% volume growth and strong 27% yoy earnings growth, followed by 10% yoy earnings growth for HUL. We expect 5% volume growth for Dabur/GCPL, but moderate margin expansion in Dabur and continued weakness in GCPL’s HI and international businesses could curtail overall earnings growth for the quarter. Dabur’s 5% volume growth would come on a high base of 21% yoy growth and is commendable, despite overall weakness. While we expect Nestle’s volume-led revenue growth to continue, input cost pressures could result in lower earnings growth of 7.6% yoy. With ITC’s base catching up, we have factored in ~3% volume growth, which coupled with price hikes and moderating costs could cause cigarette EBIT to grow at 8% yoy in Q1FY20E.

Titan’s jewellery growth to moderate as high gold prices impact consumer demand

We expect Titan to report 14% revenue growth, led by 13% growth in jewellery division as higher gold prices impact consumer demand significantly, especially in June. Watches & Eyewear segment to see healthy growth of 19% and 13% yoy respectively. With EBITDA margins remaining largely flat we expect EBITDA/PAT growth of 13%/14% yoy for the quarter.

Our view

Our top picks remain HUL (ability to outperform peers in an uncertain environment), Nestle (highest skew towards urban consumption, strong NPD) and Titan (market-share gains continue in the jewellery segment) while we continue to like Marico (urban portfolio doing well coupled with deflationary input cost environment) and near-term clarity on taxes on cigarettes should help drive ITC’s stock price.