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Marico: Margin explosion… - Views on News from Equitymaster
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Marico: Margin explosion…
Jan 24, 2006

Introduction to results
Edible and hair oil major, Marico, announced its results for the third quarter ended December 2005, wherein it reported a decent topline and a stellar bottomline growth, backed by near doubling of operating margins. The company has changed its depreciation policy from straight line (SLM) to written down value (WDV) method, resulting in higher depreciation charges. Barring this effect, bottomline has actually grown by around 130% YoY during the quarter under review.

Consolidated Picture
(Rs m) 3QFY05 3QFY06 Change 9mFY05 9mFY06 Change
Net Sales 2,596 3,038 17.0% 7,590 8,537 12.5%
Expenditure 2,369 2,563 8.2% 6,932 7,458 7.6%
Operating Profit (EBDITA) 227 474 109.0% 658 1,080 64.1%
EBITDA margin (%) 8.7% 15.6%   8.7% 12.6%  
Other Income 9 8 -15.6% 16 33 106.2%
Interest 4 13 202.4% 14 27 94.3%
Depreciation 35 211 506.6% 97 352 263.9%
Profit before Tax 197 258 31.1% 563 733 30.2%
Tax 16 39 143.8% 62 104 67.6%
Minority interest 4 -   (8) -  
Profit after Tax/(Loss) 177 219 23.9% 509 629 23.6%
Net profit margin (%) 6.8% 7.2%   6.7% 7.4%  
No. of Shares (m) 58.0 58.0   58.0 58.0  
Diluted Earnings per share (Rs)*            
P/E Ratio (x)            
*(annualised)            

What is the company’s business?
Marico is the market leader in the Rs 5 bn-plus branded Indian coconut hair oil market, with over 50% share (Parachute). In edible oils, the company’s brands, ‘Sweekar’ and ‘Saffola’ occupy the No. 2 position, with 13% share of the Rs 14 bn market. The company has also extended its ‘Parachute’ brand to the value added oil category (Parachute Jasmine). The brand is now No. 2 in this category with a 31% market share. ‘Hair & Care’, Marico’s non-sticky hair oil brand is also No. 2 in its category. Apart from oils, Marico’s product range also includes Mediker (Anti lice shampoo and oil – 100% share), Jams (Sil – 8% share) and fabric starch (Revive – nearly 100% share). Over the past two years, Marico has entered the skin care-related businesses by acquiring 63% stake (currently over 75% stake) in ‘Sundari’ range of ayurvedic skin care products in the US (revenues US$ 1 m), as well as rolling out 27 skin care clinics under the brand ‘Kaya’.

The standalone impression…
(Rs m) 3QFY05 3QFY06 Change 9mFY05 9mFY06 Change
Net Sales 2,440 2,767 13.4% 7,158 7,835 9.5%
Expenditure 2,234 2,308 3.3% 6,552 6,792 3.7%
Operating Profit (EBITDA) 206 459 123.4% 606 1,042 72.0%
EBITDA margin (%) 8.4% 16.6%   8.5% 13.3%  
Other Income 11 6 -41.0% 34 33 -3.2%
Interest 0 4 1100.0% (5) 9  
Depreciation 26 183 610.9% 75 267 258.5%
Profit before Tax and minority interest 191 286 50.2% 561 817 45.7%
Tax 16 37 132.7% 59 99 66.6%
Profit after Tax/(Loss) 175 249 42.7% 502 718 43.2%
Net profit margin (%) 7.2% 9.0%   7.0% 9.2%  
Effective Tax rate 8.3% 12.9%   10.6% 12.1%  
No. of Shares (m) 58.0 58.0   58.0 58.0  
Diluted Earnings per share (Rs)*         16.5  
P/E Ratio (x)         22.8  
*(trailing 12 months)            

What has driven performance in 3QFY06?
Sustained revenue growth: Growth in the domestic market was enthusing during the quarter. The company’s flagship brand, Parachute coconut oil, grew by 15% YoY in volume terms. However, due to a price cut of Rs 5/- for the 400 ml bottle, value growth was lower. Also, market share of its flagship hair oil brand grew to around 56% during the quarter (from 53% in the previous quarter). Further, high margin hair care products like Parachute Jasmine, Shanti Amla and Hair & Care grew by 12% YoY. Anti-lice offering, Mediker, where Marico commands a near 100% market share, witnessed a good 30% YoY growth in volumes. Premium refined oil Saffola grew by 7% in volume terms.

International business back on track: It can be recollected that on the overseas operations front, mainly in UAE and other Gulf countries, the company had a planned change in distributors resulting in slow growth in 1HFY06. However, the company has since then tied up with new distributors and sales team and the network has stabilised, which is reflected in the third quarter. The aggregate international business of Marico, comprising of the FMCG business, Kaya in UAE and Sundari in the US, grew by 25% YoY during the quarter. Parachute Cream, a product offering targeted at the local Arab population, continues to do well and its market share in the UAE is now over 23%.

As far as its operations in Bangladesh are concerned, Parachute Coconut Oil continues to dominate the category with over 50% market share. It can be recollected that earlier in the year, Marico Bangladesh Ltd. (Marico’s wholly owned subsidiary in Bangladesh) had acquired two toilet soap brands, Camelia and Aromatic. The company has begun to market these through its own channel in January 2006 and would be soon supporting it by a new advertising campaign.

Consolidated basis
as a % of net sales 3QFY05 3QFY06 9mFY05 9mFY06
Cost of goods sold 63.9% 54.5% 62.7% 55.1%
Advertisement & sales promotion 9.8% 10.4% 10.0% 11.5%
Staff costs 5.5% 7.7% 5.4% 7.2%
Other expenditure 12.1% 11.8% 13.3% 13.6%
Total expenditure 91.3% 84.4% 91.3% 87.4%

Margins leapfrog: As can be seen from the table above, lower cost of goods was the main reason for the company posting a firm bottomline growth (up 24% YoY). However, other expenses like advertising and staff costs have increased in 3QFY06, mainly due to expansion of Kaya clinics and the acquisition of the company in Bangladesh with the two soap brands, whose employees are now on Marico’s payrolls. The FMCG sector is on the path to recovery, but at the same time, its new businesses (Kaya Skin Care and Sundari LLC) have yet to turn profitable and are currently eating into some part of the company's consolidated profits. Also, depreciation during the quarter was considerably higher, mainly due to a change in accounting policy.

Kaya and Sundari: During the December quarter, Kaya Skin Clinics expanded to reach consumers in 16 cities in India through a network of 42 clinics. Also, Kaya plans to open a new clinic in Abu Dhabi shortly. The Kaya consumer base has increased to over 100,000 (up about 35% YoY). It can be recollected that Kaya had started prototyping two services, viz. ‘Kaya Advanced Facial’ and ‘Kaya Age-Control’ non-surgical solution during 2QFY06 and both these have received a positive consumer response. Kaya achieved a turnover of Rs 330 m in 3QFY06. However, since this business is still in the investment phase, it continues to eat into the company’s profits.

Sundari, another of Marico’s global ayurvedic business, supplies products to Tier-I spas in the US and Asia Pacific countries. However, lead times from pitching for an order to bagging one are long. It must be noted that the company already has franchise of Raffles, Singapore and Mollies, New Zealand. Also, Sundari already has a presence in Four Seasons, The Oberoi and Westin in Asia and properties such as Marriott (Camelback Inn), Abhasa Spa and Canyon Ranch in the USA. This venture also continues to eat into the company’s profits and the management has not indicated of this business breaking even in the near future. We believe that the business will remain in an investment phase till FY07.

Over the past few quarters…
  3QFY05 4QFY05 1QFY06 2QFY06 3QFY06
Sales growth (YoY) 12.0% 12.6% 11.9% 8.5% 17.0%
Advertising as % of sales 9.8% 9.7% 10.7% 13.5% 10.4%
OPM (%) 8.7% 8.8% 10.8% 11.2% 15.6%
Net profit growth (YoY) 19.7% 18.3% 22.2% 24.3% 23.9%

What to expect?
At Rs 435, the stock is trading at a price to earnings multiple of 27 times our estimated FY08 earnings and price to sales ratio of nearly 3 times. The board has declared an interim dividend of Rs 1.6 per share (dividend yield 0.4%). While we are enthused by the company’s performance, both on the revenue as well as profitability front, we believe there are better growth stories in the FMCG space. Despite keeping in mind the continuous double-digit turnover growth that the company has been able to maintain since the last couple of years, led by new products and international markets, the valuations look stretched at the current juncture.

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