Event update: United Spirits (Neutral) - Challenging external environment, execution will be the key

We attended UNSP’s annual Investor meet 2019. Following are the key takeaways

Focus on five strategic priorities – Management highlighted 5 strategic priorities to drive sustainable growth – 1) Strengthen & accelerate core brands through focus on innovation and premiumisation, 2) Evolve route to market – segmentation of market with separate sales teams/activation for each channel, 3) Drive productivity across lines to invest in growth and improve margins, 4) Shape regulatory environment by partnering with the regulators and 5) Create a winning organisation.

Gross margin expansion challenging, will play across other P&L items to drive EBITDA margins – Management indicated that the gross margins expansion might be challenging in the near-term given the inflation in input costs. Further, the gross margin expansion in medium term is unlikely to be as high, as seen in past 3-4 years, as lot of low hanging fruits have been taken out. However, company will focus on driving efficiencies across other P&L line items and remains committed to improving operating margin to mid-high teen levels over the medium term.

Opportunity in India remains attractive – The opportunity in Indian market remains attractive given the low per capita consumption, favourable demographics (rising middle & affluent segment, ~17m people enter legal drinking age every year in India) and healthy premiumisation trend ( P&A segment growing faster than categories below it). P&A segment currently accounts for two thirds of the profit pool of the category, and that is expected to grow to 85% by 2025 and over 90% by 2030.

Valuations & View

Overall management reiterated its medium-term goal to drive double digit growth in sales and mid to high teen margins with focus on key strategic areas – strengthening core brands, premiumisation, drive productivity across lines and focus on route to market for every consumer segment. While management’s delivery on productivity gains & working capital management has been positive, we believe, near term headwinds in terms of challenging external environment (competitive intensity, higher input costs & need for further price hikes), high base for volumes & margins and low hanging productivity gains taken out will keep the earnings growth under pressure. We are factoring 50bps standalone EBITDA margin expansion & 16% consolidated earnings CAGR over FY19-21E, however, valuations at 53x/44x FY20/21E are not yet attractive given the downside risk to earnings. Maintain Neutral.