Marico business update: Slowdown hits it hard, but margin holds up

Highlights
- Marginal drop in Q3 volume
- Headwinds in hair oil demand and liquidity issues persist
- Margin profile remains strong
- Pricing actions & marketing initiatives to help growth in Q4

Marico’s business update for the December quarter (Q3) of 2019-20 has proved to be a dampener of sorts for any expectations of sequential improvement in performance.

Its category growth across personal care remained under pressure in the said quarter. India business suffered a marginal decline in volume growth due to softness in the hair oil segment. This is disappointing and misses our already low expectations. To put into perspective, volume grew 1 percent in Q2 FY20 and 5 percent in Q3 FY19.

While the company has consolidated its market share in key franchises, de-growth in the hail oil industry continues. Going by the recent results, almost all the organised players (Dabur, Bajaj Consumer Care & Marico) in this space have been impacted.

Among trade channels, traditional ones continue to face liquidity challenges. Though modern channels and e-commerce stayed strong, the business update suggests that these are also feeling the sales pinch.

This, according to the company, is partly due to its specific price management measures to counter inter-channel conflict. Recently, FMCG companies have treaded with care in relation to urban trade channels such as Cash and Carry (Metro, Reliance and Walmart) as they provide heavy discount in lieu of higher offtake commitment. Though this channel can scale up fast, companies are turning conservative as there is a challenge to maintain price parity.

Having said that, there are a few positive takeaways. Foods and allied categories fared relatively better. In Q2 FY20, foods franchise posted a strong value growth of 34 percent YoY (year on year), similar to what it achieved in Q1 (38 percent YoY).

In other geographies, Bangladesh (46 percent of international business) stands out. EBITDA (earnings before interest, tax, depreciation and amortization) margins are expected to improve compared to the previous year because of benign input cost. In Q3 FY19 and Q2 FY20, EBITDA margin was 18.8 percent and 19.3 percent, respectively.

Outlook

While analyzing this update, one should also note that towards the end of Q3 FY20, the FMCG player has taken marketing initiatives and pricing interventions in its key portfolio, which could show up in better volume growth in Q4 FY20.

Though we acknowledge risk factors of competitive intensity, liquidity challenges for both urban and rural general trade and continuation of rural distress, the company is taking steps in terms of pricing interventions and incentivisation schemes for wholesale vendors.  Further, there are a few signs of improvement for rural demand on positive outlook for rabi crops.

Further, margin profile remains strong and in the immediate term, it provides bandwidth to the company to position its products competitively and up advertising spend. The management’s decision to put the cost advantage to work for long term investments remains a crucial strategic move as it helps in reducing dependence on Parachute and Saffola and drive growth in the premium segments. In this context, we acknowledge that categories like male grooming, serums, hair nourishment and foods are expected to play a significantly higher share in the next five years.

Finally, post recent correction after adjusting for near term estimates, the valuation appears attractive. Marico is trading at 35x FY21 estimated earnings which at a ~28 percent discount to the average multiple of tier 1 stocks in FMCG universe – Dabur, HUL, Godrej Consumer, Britannia and Colgate. We believe that given the long term outlook for an increasing diversified consumption story, the current valuation presents an accumulation opportunity on declines.

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Disclaimer: Moneycontrol Research analysts do not hold positions in the companies discussed here