Strict control over expenditure saved the year for Tata Global Beverages Ltd as rising commodity costs—tea and coffee—affected the company’s performance adversely. The firm’s main markets are South Asia (mainly India), the US, Europe, Africa and the Middle East. During fiscal 2011 (FY11), both tea leaf and coffee prices were rising there. Apart from adverse local crop-growing conditions, lower global output also contributed to the rise in prices.

Tata Beverages’ March quarter sales declined by a small margin, down by 0.8% year-on-year (y-o-y), to Rs1,558 crore. During FY11, sales rose by 3%, but adjusted for currency-related variations, they were up by 6%. Still, that’s relatively a low growth rate, especially when product prices were rising, too. However, rising prices appear to have dampened the volume growth. Also, the inability to pass on price hikes beyond a certain limit would also have affected the company. The economic conditions in the US and Europe have not been excellent either. The crisis in the Middle East, too, have had an impact.

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The company buys tea and coffee from growers, and blends them into consumer packs. Its products are retailed in most developed markets through large retailers. Prices can be hiked only with their consent, and retailers resist price hikes because it affects demand.

That explains why the company’s tea sales rose by only 2.4% y-o-y. Rising costs, however, caused segment profits to fall by 26% in FY11. In its Indian coffee operations, it grows its own coffee, and processes it for domestic and export sales, where it has fared better. But the US coffee retailing business, Eight O’Clock Coffee, buys coffee. Higher coffee prices would have affected its costs. Thus, coffee profit margins, too, have fallen.

In FY11, Tata Beverages’ input costs rose by about 9% y-o-y due to higher commodity costs. Some moderation in prices and a high base effect led to its March quarter input costs rising by only 0.9%. But it kept a tight lid on operating expenses, including employee and advertising costs, which restricted the fall in operating profit margin for the full year to about 2 percentage points. That is creditable given the cost pressures.

Looking forward, economic conditions in its main markets, except South Asia and Africa, are still challenging as consumer sentiment is weak. The company has been diversifying its product base to include new-age beverage products, which will take time to grow in scale. Till then, its traditional business will dominate performance.

And, the performance of the traditional business in turn depends chiefly on commodity prices. Tea prices continue to be firm; a recently reported 12% drop in Kenya’s April production may also keep prices high. Coffee is on a relentless rise; the International Coffee Organization’s composite price is up 17% since January and 82% from the year ago. With cost pressures not going away, FY12 will be another challenging year for Tata Beverages. A fall in commodity prices is what will mark the turning point for the company, as things stand.

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Graphic by Naveen Kumar Saini/Mint