Consumer products company Hindustan Unilever Ltd (HUL) reported its highest quarterly growth in the last nine years, with net sales growing by as much as 16.8% in the December quarter. The underlying volume growth of 8.4% was also much higher than the preceding quarters—volume growth for the entire year stood at just 6%. What’s more, profitability has marginally increased, despite pressure from commodity price inflation.
The company simply took commensurate price increases—note that the average increase in price realizations accounted for half of the turnover increase. The net result: a healthy 18.3% increase in profit before interest and tax in the December quarter.
For the year as a whole, profit before interest and tax rose 15.4%, on the back of a 13.3% increase in net sales. Growth was surprisingly driven by the soaps and detergents division, which not too long ago, had dragged down overall performance. In 2007, this division accounted for 76% of incremental profit, much higher than its 45% share of the company’s total revenues. This was aided, again, by price increases taken in the segment.
But, the big question is whether growth rates will sustain.
The head of research at a domestic brokerage says they should, although at the current tempered levels. According to him, the company has been able to maintain market share, while at the same time increase prices to generate healthy margins. This strategy should result in healthy profit growth even this year.
Even so, the growth rates of 15-18% are lower than the company’s trailing price-earnings multiple of 24. Does that leave any room for appreciation?
Well, share price appreciation should follow if the company manages to sustain growth rates seen in the December quarter. Note that the price-earnings/growth (PEG) multiple may not be the ultimate benchmark for companies such as HUL which are generating high free cash flow and pay high dividends. It paid a dividend of Rs9 last year and even did a share buyback, which is another form of returning cash to shareholders.
Stripped of the platinum jubilee dividend, the payout was decent at Rs6 per share, resulting in a dividend yield of more than 3%. The downside, as a result, is limited. In any case, the stock has underperformed the market by more than 75% since the rally began in 2003. And given the current volatility, investors may well prefer the stability of steady cash flow and dividend payout. This seems to be the reason the stock has outperformed the market by 12% since the beginning of this year.
Can service sector alone accelerate growth?
The industrial production numbers for December seem to show a change in the fortunes of the consumer durables industry, with the index for consumer durables up 2.2% year-on-year. At first glance, that seems encouraging, because growth has been negative in the sector and during April-December 2007, the growth was -1.3%. But the sector index actually fell during the month to 351.6 from 371.6 in November and the only reason it showed a year-on-year growth was because of the steep fall in the index in December 2006 (344.1) compared with the previous month (389.9), thus lowering the base substantially.
The positive growth number for consumer durables production, therefore, is the result of a base effect. The January 2007 base is much higher, so year-on-year growth in consumer durables in January is likely to slip again into negative territory.
That said, there was no such base effect for consumer non-durables, growth in which rebounded to 10.6% in December from -2.1% in November 2007. That fits in with the advance estimates of the Central Statistical Organisation (CSO) for fiscal 2008, which forecast growth of 7.8% in private final consumption expenditure in the second half , compared with 5.6% in the first six months.
The slowdown in capital goods production growth to 16.6% in December, compared with 24.5% the previous month, is also in the direction of the CSO estimates, which imply growth in gross fixed capital formation at 14.7% in the second half of fiscal 2008 compared with 15.5% in the first half.
But perhaps the bigger story the numbers tell us is that while industrial growth is slowing, growth in services is not and it is the latter sector that’s likely to be responsible for most of the growth in second half of fiscal 2008. The CSO estimates clearly imply this trend. At the microlevel too, it’s the services sector companies that have shown the most growth in the December quarter. According to a study by broking firm Prabhudas Lilladher, while average revenue growth for the universe of companies it covers was 25.9% in the December quarter, financial companies had revenue growth of 160%, media and entertainment companies 41%, telecom companies 36.9%, aviation 32.3% and construction, which too should be part of services, at 43.6%, all higher than the average. Only growth for the information technology sector, which depends on exports, was lower than the average at 23.5%.
But, with the markets plunging, the financial services sector is bound to get hurt and the CSO estimates point to a faltering construction sector in the second half. The CSO’s estimate of 8.7% growth for fiscal 2008, implying a growth of 8.4% for the second half of the year, is based on accelerated growth in services, which will offset the slowdown in industry. But the moot point is: With the rest of the economy slowing down, how long can the services sector continue to accelerate?
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