The operating environment for Britannia Industries Ltd in fiscal 2011 appears more favourable than it has been in the past few years. Volatile agricultural commodity prices had affected the company’s raw material costs, with the main inputs being wheat flour, sugar and edible oil. Its dairy business, too, has been affected by the sharp rise in milk input costs.
Milk prices continue to rise, which is a cause for concern, but the prices of other inputs such as wheat and sugar have stabilized. Higher farm output and the government’s policy measures have brought some relief. Edible oil prices did get a jolt in the second half of fiscal 2011 as global palm oil prices shot through the roof. These have fallen from those highs, but are still expensive. In fiscal 2012, plastic packaging costs are likely to play spoilsport due to the impact of higher crude oil prices.
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The importance of commodity prices for a food company cannot be overstated. Britannia’s total material costs (including conversion costs) in fiscal 2011 were around 72% of consolidated revenue. Most consumer firms kept price increases in check, so as to not hurt demand. Britannia’s managing director Vinita Bali said in a recent interview that in fiscal 2011, volumes contributed around 15% to revenue growth, with the rest coming from changes in product mix and price increases.
In fiscal 2011, consolidated revenue had risen by around 22%, indicating that product mix and price increase contributed around 7%. Mix will increasingly play an important role in driving Britannia’s growth and insulating it from price-led competition.
The company has launched new products in biscuits to capture the growing trend for healthier snacks and to widen the appeal for biscuits—competing with chocolates, for example. That gives it better pricing power, compared with mass market products, due to the relatively lower competition in the new segments.
The company’s strategy is to occupy a larger shelf space in a consumer’s larder, to sell both impulse and steady consumption items—such as breakfast foods. That could enable it to break free from a low operating profit margin, which was only 5.4% in fiscal 2011, even after an improvement by 85 basis points over the previous year. One basis point is one-hundredth of a percentage point.
Every branded food firm wants a larger share of the total food basket, of which branded foods constitute only 9% at present. This is expected to increase due to growing disposable income, lifestyle changes and the growing penetration of modern retail.
While the opportunity is huge, the risk arises from growing competition as companies such as ITC Ltd and Kraft Foods eye the same market. Though Britannia has a formidable product portfolio, competition can put pressure on already slender margins.
What has worked in Britannia’s favour is its scale. Though its material costs grew ahead of sales growth, relatively lower increase in other expenses such as salaries, advertising and operating expenses led to margins improving. In fiscal 2012, if the firm can maintain sales growth around last year’s levels, and if the current trends in material costs last till the end, Britannia is set for a good year.
Investors are counting on that as Britannia’s stock has risen by around 36% in a month—as investors reacted to its results—and now trades at around 40 times its fiscal 2011 earnings per share. The past few quarters have seen profitability improve, which investors expect will further improve and have, hence, re-rated the stock. Even small increases in its operating margin can add significantly to profit growth.
Graphic by Yogesh Kumar/ Mint
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