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Inflation: A litmus test for FMCG companies - Views on News from Equitymaster
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  • Mar 14, 2012

    Inflation: A litmus test for FMCG companies

    Global runaway commodity inflation has burdened FMCG companies with greater costs. With crude prices remaining buoyant, its derivatives Linear Alkyl Benzene (LAB) and Liquid Light Paraffin (LLP), which are used by personal care & detergent companies continued to remain high in FY11. Palm oil, a vital ingredient used in soaps, saw prices escalating during the year. Thus, the raw material to sales ratio of major FMCG companies which was hovering at around 38-51% in FY11, swelled up to 40-54% during the nine month period April-December 2011.

    To tackle inflation, large FMCG companies held or modestly raised prices. For example, Marico spelt out its volume growth strategy by holding product prices. While off take of such FMCG companies has grown in double-digits contributing to robust sales growth, their profitability has been hit.

    But, the silver lining is the market share gains made by these companies. A look at the chart below shows that frontline FMCG companies, on the back of strong financial health and significant pricing power, have managed to wrest market shares from regional players that could not hold on to competitive rates. FMCG behemoth, Hindustan Unilever (HUL) has grown its market share and even managed to keep profitability in tact by rationalizing advertisement spends in select categories.

    Source: Econ Trends

    Source: Econ Trends

    On the other hand, small and regional companies that lost market shares in their home markets are re-working their strategies in a competitive environment. Jyothy Laboratories which acquired Henkel India in May 2011, decided not to go for a nation-wide launch of detergents to avoid direct competition with the big players. Indore-based firm Panjon wants to expand beyond its home-turf of Madhya Pradesh and Uttar Pradesh to states of Gujarat, Punjab, Haryana and Bihar. SAJ Food Products, which has a strong presence in the eastern markets, is planning a national footprint by 2013, and will be coming out with a public issue in the next two years.

    Food companies Mapro and Wagh Bakri are leveraging on their quality proposition to fend off competition. Delhi-based VI-John is planning to add over 1,700 distributors and 70 stockists to have direct reach in western and southern markets. Ghari, the second largest detergent brand by sales (in 2010), managed to topple the largest selling detergent Wheel belonging to HUL for two months last year. The Kanpur-based private company, Rohit Surfactants which owns Ghari managed to achieve this feat by entering 10 new states in the last three years widening its reach to 19 states. Rohit Surfactants is planning to raise Rs 10 bn over the next two years through the capital market. Reportedly, the funds raised through the capital issue will be utilised to scale up the company’s production and distribution network.

    So, cost inflation has proved to be a blessing in disguise for big FMCG companies. These companies with deep pockets, distribution reach and economies of scale benefits, held or raised product prices rationally. However the small, regional companies facing mounting cost pressures, sacrificed their pricing advantage, and lost market shares to the biggies in the process. The small companies are either scaling up capacity or distribution reach or deferring nation-wide launch. Going forward, the large FMCG companies will face high base-effect, increased pricing and rising competition in an easing raw material environment. This will make sustainable volume growth a significant challenge.

      Madhu Gupta (Research Analyst), Managing Editor, ResearchPro has a post graduate degree in both physics and finance. Having worked with India's leading economic research agency, she has a natural flair for numbers and analytics. She brings with her a near-decade long rich experience in the field of finance. A firm believer of the principles of value investing, she looks for robust businesses with durable competitive advantages. Madhu contributes towards our small cap service Hidden Treasure.



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    Aug 22, 2017 01:43 PM