Earlier this year, when December quarter results were being reported, makers of home and personal care products were in an enviable position. Prices of key inputs had fallen to around five-year lows, while prices of finished goods were still around multi-year highs. It had then seemed that the so-called fast moving consumer goods, or FMCG, firms would report a sharp jump in profitability in 2009 even after making incremental investments in advertising and sales promotion.
As these companies approach the results season for the March quarter, the plot has changed. An earnings preview by Motilal Oswal Securities Ltd points out that prices of inputs such as linear alkyl benzene and palm oil appear to have decoupled from crude prices in the last couple of months, having risen by 20-40% from their lows. Besides, with the rupee depreciating further in the March quarter, gains from lower commodity prices will be limited.
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And small firms have moved quickly to take advantage of the gap between prices of inputs and finished goods. In segments such as soaps and detergents, these companies from the so-called unorganized sector have been capturing market share by offering products at lower price points. While large firms have also been lowering prices and running sales promotion schemes to spur demand, competition from the unorganized sector could compel them to cut prices further. Hindustan Unilever Ltd’s recent move to cut prices of its Wheel detergent by around 20% can be seen as one such move.
Evidently, these price reductions will limit the extent to which profitability will improve this year. In the March quarter, Motilal Oswal expects Hindustan Unilever’s sales to increase by 13.8%. This is lower than the over 15% growth reported in the December quarter and 20% growth in the preceding three quarters. Operating profit is expected to rise by 18.7%, implying there will still be some improvement in margins.
Companies that operate in the foods category such as Nestle Ltd and Britannia Industries Ltd are likely to face margin pressure as prices of sugar and wheat remained high during the quarter. Nestle, of course, is better off because prices of skimmed milk powder have dropped and the company has also increased prices sufficiently. As pointed out earlier in this column, Marico Ltd is in a relatively better position than its peers. Thanks to the brand loyalty it enjoys, it is expected to retain most of the drop in prices of copra and safflower oil.
But on the whole, some of the sheen has been taken off the FMCG story. Coupled with the fact that most of these stocks already trade at over 20 times trailing earnings, it’s not surprising that FMCG stocks have underperformed in the recent bear market rally.
Graphics by Ahmed Raza Khan / Mint
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