FMCG: To be or not…. - Views on News from Equitymaster

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FMCG: To be or not….

Sep 29, 2003

Though most sectors have run up quite a bit, the FMCG sector has more or less kept out of limelight. In a bid to get a feel of what our viewers think of FMCG stocks, a couple of weeks back we posed a question “ Do you find value in FMCG stocks”? We were hoping to get a clear verdict. But then if wishes were horses…The response…
Around 52% of the respondents voted that they found value in FMCG stocks. However, an equally sizeable 47% voters did not favour FMCG. But what we found very unique in this whole exercise was that only 1% said that they had no view on this. That means, 99% of the viewers has a definite view on the state of the FMCG sector, and the views were equally divergent.

Our view

If we look at the valuation table comprising a few key companies in the FMCG sector, quite a few of them seem valued going by the P/E’s and the market cap to sales multiples. But then, these are all based on past performance, where the monsoons were not very good and the economy as a whole continued to grow at a slow pace.

Valuation table…
 Price (Rs)P/E (x)*M.cap to FY03 sales (x)
Britannia55012.71.1
Colgate13920.91.9
Godrej Consumer13914.81.7
HLL18123.34.0
ITC82014.23.5
Nestle58825.22.9
P&G63621.33.3
* trailing 12 months

Many of the companies listed above utilized the downturn period to become more efficient, through more focus on their brands and distribution chains. Some have taken this period, to offer buybacks to shareholders and up dividend payouts. Most companies saw an improvement in their working capital efficiencies.

FY04 so far has offered much hope to the sector. The monsoons have been reasonably good, and the consensus estimate of GDP growth ranges near 6%-6.5%. The expectation is that with the improving economic outlook, rural India demand will pick up. In our view, it will do so with a lag and not immediately. Currently, most FMCG segments are witnessing pricing competition, in a bid to expand the market. Even if this strategy is successful, in the short term, companies will feel the heat on their topline (value terms).

The competition in the sector is ever increasing. Existing companies are looking at new growth avenues, be it outsourcing to their parents abroad or acquisition of new product segments. Companies have also set the food processing plans in motion, and are seeing this as a big opportunity going forward. The competition, new initiatives are likely to put a cap on margins going forward. The way things are going, it will be the new businesses that will spearhead the companies’ topline growth, though bottomline growth may take a while to catch up. Also, investors should watch the moves of the MNC FMCG companies carefully. While some may look to delist from the exchanges, others may have other 100% subsidiaries through which they may be planning to introduce new products. As such, the listed companies’ shareholders may not get the advantage of growth.

Over the long term, the efforts on the infrastructure front (roads, rails, power, river linking) are likely to enhance the living standards across India. Till date, India’s per capita consumption of most FMCG products is much below world averages. This is the latent potential that most FMCG companies are looking at. Even in the much-penetrated categories like soaps/detergents companies are focusing on getting the consumer up the value chain. Going forward, much of the battle will be fought on sophisticated distribution strengths.

As per NCAER estimates, the ratio of the consuming class to total households will touch 46% by FY07 (17.4% in FY95). All this bodes well for the Indian FMCG sector.

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