In the past three months, the benchmark Sensex index has gained by 3.7%, while the FMCG index on BSE has returned a gain of 10.3%. That difference narrows if you take a one-month view, where the Sensex has lost 2.6%, while the FMCG index has declined by 3%. The near-term performance appears to suggest that while the broader market valuations have weakened, investor attraction to the defensive nature of consumer non-durable stocks has weakened too. But are companies seeing the kind of weakening in growth that should cause investor concern?
Between April and September, the index of industrial production for consumer non-durables rose by 1.4%, compared with a paltry 0.1% growth in the general index. That may seem good, but is less than the output growth in sectors such as consumer durables, and the basic sectors. It also seems counter-intuitive, considering that most companies have added to capacity in the past few years and, therefore, output should have risen. While the robustness of this data has often been called into question, company results, too, indicate that volume is slowing.
Put another way, consumer companies seem to have abundant pricing power, which is helping them tackle a long-standing problem—input-cost inflation. Wholesale-price inflation for October was 7.45%. While the good news was that food inflation was 6.6%, that in manufactured products was 5.5%, and fuel and inflation was the main driver at 11.7%. Food inflation has steadily declined since June, and that is a good sign for consumer companies—both in terms of the effect it has on the input costs for processed foods and on household budgets.
Though inflation continues to run high at the broader level, a trend visible across most consumer companies is that value growth has outstripped volume growth. Companies seem to be focusing more on profitable growth, even if that means slower growth in output. Since inflation (and even higher interest rates) affects smaller firms more than the bigger ones, it may explain why one does not see a resurgence of smaller brands, which typically use price as a unique selling proposition to gain market share.
Companies are utilizing the extra headroom they have by increasing prices, spending more on advertising, and increasing their distribution footprint. Employee costs, too, have risen, both due to headcount increases and salary hikes.
Companies continue to be focused on increasing distribution reach, and the smaller markets, especially in rural areas, are playing a key role in supporting growth. The good news is that the fears of the overall agricultural output getting hit by a poor monsoon have receded. The slowdown in overall economic growth has affected discretionary spends, and will continue to do so till the economy rides out of this rough patch.
Since prices seem to be driving consumer company performances more than volumes, a moderation in inflation could be a turning point. If the trend in falling food inflation continues, food companies can hold prices, and see volumes and margins improve. And if that spills over to broader inflation, the non-food consumer basket, too, will enjoy a similar benefit. The risk is that if inflation rebounds, then a continued increase in product prices, even as economic growth turns slower, can adversely affect sales growth, even if the margins appear healthy.