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Nestle: Not too enthusing - Views on News from Equitymaster
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  • Oct 28, 2004

    Nestle: Not too enthusing

    Introduction to results
    Nestle has reported over 5% topline growth during the September quarter ended 2004. However, pressure on its margins, reduced other income and lower extraordinary income has resulted in the company reporting over 9% dip in 3QCY04 profits. The performance is however, better than the 36% dip in bottomline that it saw during the June quarter this year.

    (Rs m) 3QCY03 3QCY04 Change 9mCY03 9mCY04 Change
    Gross sales 5,326 5,600 5.1% 16,768 17,245 2.8%
    Expenditure 4,206 4,469 6.3% 13,167 14,075 6.9%
    Operating profit (EBDITA) 1,121 1,131 0.9% 3,601 3,170 -12.0%
    EBDITA margin (%) 21.0% 20.2%   21.5% 18.4%  
    Other income 52 31 -39.4% 227 96 -57.7%
    Interest 2 1 -42.9% 19 9 -50.3%
    Depreciation 114 122 7.0% 344 365 6.0%
    Profit before Tax 1,056 1,039 -1.6% 3,465 2,892 -16.6%
    Tax 401 395 -1.3% 1,191 989 -16.9%
    Extraordinary income/(expense) 105 45 -56.7% -98 -142 45.2%
    Profit after Tax/(Loss) 760 689 -9.4% 2,177 1,760 -19.1%
    Net profit margin (%) 14.3% 12.3%   13.0% 10.2%  
    No. of Shares (m) 96.4 96.4   96.4 96.4  
    Diluted Earnings per share (Rs)* 31.5 28.6   30.1 24.3  
    Price to earnings ratio (x)         22.1  
    *(annualised), CY = Calendar Year            

    What is the company's business?
    Nestle India is the third largest FMCG company in India after Hindustan Lever and ITC. Nestle dominates the culinary (Maggi) and the hot beverages (coffee - Nescafe) segments in India. It has also a significant presence in baby foods and has emerged as a strong No. 2 in dairy segment (after Amul) and chocolates (after Cadbury’s). In each of the segments, the company has been growing though new product launches and new price point presence. In the last couple of years it has emerged as the fastest growing food FMCG company. In the past 5 years, Nestle’s topline and net profits have recorded a CAGR of 15% and 24% respectively.

    What has driven performance in 3CY04?
    Sales:  Throughout 2002 and 2003, the company remained largely untouched by the slowdown that had hit the overall branded FMCG sector. But 2004 has left much to be desired. The company has reported just over 3% growth in 9mCY04 revenues. Its domestic sales (nearly 90% of revenues) has grown by just over 4%, both during the September quarter, as well as the nine month period. This from a company that had grown its domestic business by nearly 12% in a slow year like 2003. The management had stated in June 2004 that the domestic sales has been impacted by a selective rationalisation of pipeline stocks.

    Sales stats...
    (Rs m) 3QCY03 3QCY04 Change 9mCY03 9mCY04 Change
    Domestic sales 5,080 5,306 4.5% 15,112 15,776 4.4%
    Exports 610 656 7.5% 2,020 1,831 -9.4%
    Gross sales 5,690 5,962 4.8% 17,132 17,607 2.8%

    The September quarter performance was aided by an improvement in the company's exports business, which grew by 7.5%. in June quarter this exports had declined by a significant 21% mainly due to the shift towards low realisation bulk coffee packs exported to Russia.

    Margins:  The company was able to somewhat stabilise margins, which had shrunk in June quarter. However, low export realisations, pipeline woes did exert some pressure on Nestle's operating margins. Material cost as a percentage of sales were higher during the quarter, indicating strengthening commodity prices. Gradual phasing out of export tax benefits also put pressure. Consequent to the staid topline performance, lower other income and the pressure on operating margins, profits declined by 9%. However, if we take out the extraordinary items, then profit before tax declined by a marginal 2%.

    Cost break-up
    as a % of net sales 3QCY03 3QCY04 9mCY03 9mCY04
    Material cost 43.6% 46.4% 41.4% 44.2%
    Staff cost 7.3% 7.0% 6.9% 7.0%
    Other expenditure 28.1% 26.4% 30.2% 30.4%
    Total expenditure 79.0% 79.8% 78.5% 81.6%

    Over the last few quarters
    Though Nestle grew in double digits during 2003 (11% topline and over 30% bottomline growth), all 3 quarters of 2004 have seen domestic sales grow in lower single digits. Exports declined over 9% in 9mCY04.

    What to expect?
    At Rs 539, the Nestle stock trades at nearly 22 times annualised 9mCY04 earnings and market cap to sales of 2.3x. Though the management has attributed the slowdown in domestic topline to a pipeline correction, we believe, that this trend may be here to stay. If one remembers, even GSK Consumer has had to go through this phase of inventory correction, which lasted almost an year during 2002. Nestle has always got a premium valuation over peers owing to its superior growth and rich product profile. That premium may come under pressure if the trend reflected so far in 2004 continues. However, longer term prospects of Nestle remain enthusing owing to its strong product pipeline and folio of urban centric brands.



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