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FMCG Conclave: Key takeaways (PART I) - Views on News from Equitymaster
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FMCG Conclave: Key takeaways (PART I)
Dec 21, 2005

The FMCG sector had been growing at sluggish pace for the last couple of years. Consequently, FMCG sector stocks underperformed every other sector in the bull run that started in mid 2003. However, the sector has, off late, seen a revival of sorts, as is evident from the growing topline of FMCG companies. In this backdrop, the stalwarts of the FMCG sector met in Mumbai for the 4th FMCG conclave on 19th December 2005. We attended the event and the following are the key extracts of the same: - Focus on profitability: In the past few years, FMCG companies had been too focused on profitability, although the scenario is slowly changing now with the companies aiming for revenue growth. However, going forward, growth needs to be sustainable not only at the topline level but should also culminate into decent profits for companies. The sector is currently witnessing a favourable environment and product innovation is the key to sustainable growth. Also, the earlier mantra of one-size fits all will need to be changed, as income gap widens.

Since the early 1990’s until 1996, growth came from the rural sector, which opened up a new avenue for players. Growth from this section of the society ranged from 15% to 30% p.a. and was mostly based on impulse purchases. Another growth area was the value urban middle class and it is during this period that the concept of sachets and others like chocolates at lower price points, etc. revolutionized. However, 1997 onwards, growth started to taper off, which lasted until 2004, during which the rural sector growth came below 10% p.a. One of the reasons for this was that penetration strategies had dried up and the rural sector purchasing power started to dwindle.

In times to come, FMCG companies need to understand that the top end of the pyramid is now deep enough to absorb expensive offerings. This creamy layer is affluent, equal to the western countries, and hence will require some kind of differentiation from the mass market. Hence, product differentiation and innovation along with technology and processes will be the critical aspects for growth. This thus signals the death of ‘one size fits all’ concept.

High level of taxation: As can be seen in the table below, VAT and excise clubbed together account for 26% of the companies revenues. This figure goes up for some players, who cough up close to 35% as various taxes levied at the centre and state levels. In contrast, Chinese manufacturers pay between 14%-17%, Thailand 7% and Indonesia 12%. The point being made by the FMCG companies here was that even if the taxation was lower, the higher sales would make sure that government’s revenues stay (largely) unaffected. Example: Colour TVs are 33% cheaper in China and CTV offtake is multifold as compared to that in our country. However, the introduction of VAT is a bold step by the government and a big positive for FMCG companies, as brands will become more affordable in times to come.

Typical Pricing model
Item Rs
MRP (Maximum retail price) 100
Wholesalers/retailers Margin 13
Taxes (including VAT and excise) 26
Gross realisation to company 61
Packaging and marketing expense 19
Net Realisation to company 42

Indian laws not in shape and outdated: As far as law’s pertaining to FMCG and food sectors are concerned, they are outdated, especially for spurious and counterfeit products. To put this in perspective, if a company discovers a look alike brand and brings it to the notice of the concerned authorities, there is often little action taken by the authorities. Even post that, the offence is immediately bail able. In fact, in the market today, for every single brand, there are around 100 counterfeit brands floating.

As per industry experts, the government should set up laboratories in order to identify between the fake and the real stuff. Although, the government has set up special cells to overcome these problems, such cells are present only in cities like Mumbai, Bangalore, Delhi and Ahemdabad, clearly missing the cities where activities are much higher.

Another problem faced by manufactures in the FMCG space is that of the time taken for getting an approval. A classic example of this is when Glaxo Smithkline consumer healthcare wanted to enter the weaning food segment some years ago, under the label ‘Horlicks First Steps’. The company had to wait for over 2 years for approval, resulting in it loosing interest in the product. Also, the food regulatory authority, in the past few months, has changed the label requirement on products from these companies 6 times, resulting in a loss for these companies, as their label inventory was high.

In all, one must realise that India is a food factory for the world, as a vast range of raw materials required in the food industry are available in abundance here and hence even the export potential is huge, provided the laws pertaining to it are brought more-or-less in line with international ones.

Rural markets: The conclave also provided a good insight on the rural markets. One should note that the life in rural areas is not much different from that of urban India, especially amongst the affluent ruralites. In fact, it is worth noting here that 25% of the rural purchases are made from urban cities. Thus, the core problem in rural India is that of product availability, as venturing into these markets by FMCG companies is an expensive affair and gestation period requires patience.

Also, media penetration is extremely low in these regions and further due to load shedding (read power cuts), the rural consumers are deprived of the little media interaction they could possibly have. Ultimately, marketing depends on ‘wants’ and companies haven’t taken the pain to provide more options to consumers here thus losing out on the potential increase in consumption in these areas.

However, a positive in recent times is the government’s initiative towards rural India and its aim to make India the hub of agri-processing. The e-choupal (ITC) and Shakti (HLL) initiatives by corporates are likely to shape the dynamics of what farmers produce going forward, with improved efficiency.

The way forward
Going forward, the fate of the sector would be dependent on several aspects, like growth in organised retail, rediscovering rural markets, improving efficiencies, differentiation, which will come only with higher investment in brands, growing with globalization and opportunities in outsourcing.

In conclusion, in our view, testing times for the FMCG sector are over and rural penetration is something that could prove to be the growth propellers for FMCG companies going forward. It must be noted that rural penetration is currently extremely low, as venturing into these markets is an expensive affair owing to infrastructure constraints, thus making distribution a barrier. Although companies like HLL and ITC have enjoyed some success on these fronts, they still have a long way to go. Owing to the vast potential for growth, other companies have also decided to jump onto the bandwagon and open retail chains. All of this development comes as no surprise. With 12.2% of the world population living in the villages of India, the Indian rural market is a market that no one can overlook.

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