Markets
Why the Street is miffed with GCPL’s new deal
Summary
After market hours on Thursday, GCPL said it would acquire the FMCG business of Raymond Consumer Care Ltd (RCCL). The deal announcement was surprising even as it’s expected to improve GCPL’s total addressable market.
Shares of Godrej Consumer Products Ltd (GCPL) gained nearly 2% on Tuesday, but that wasn’t enough to recoup last week’s losses. The stock is still 5.4% lower since media reports on Thursday said the company was in advanced discussions to buy Raymond’s fast-moving consumer goods (FMCG) business.
After market hours on Thursday, GCPL said it would acquire the FMCG business of Raymond Consumer Care Ltd (RCCL). The deal announcement was surprising even as it’s expected to improve GCPL’s total addressable market. RCCL’s FMCG business derived as much as 60% of its sales from deodorants, followed by 20% from sexual wellness. The two key brands here are Park Avenue and KamaSutra.
There are concerns, however. Analysts at Nomura Financial Advisory and Securities (India) are sceptical on GCPL’s capital allocation and the rationale for ‘buy’ versus ‘make’. “Both deodorants and condoms are fragmented and highly competitive; we believe these brands will remain in investment-phase in the medium term," they said in a report.
Further, the potential of the deodorant category and the growth rate remains to be seen. Ambit Capital’s analysts point out that deodorant brands of listed companies such as Hindustan Unilever Ltd (Axe) and Marico Ltd (Set Wet) have not been able to expand and in fact have lost market share in a few instances.
In the case of GCPL, the deal is likely to be earnings per share (EPS) dilutive in FY24. It expects RCCL’s FY24 revenue and Ebitda margin to be similar to FY23 as the focus would be on category development and simplification initiatives. In FY23, RCCL’s revenue was ₹622 crore and Ebitda margin stood at high single digit. In this backdrop, some analysts have cut GCPL’s earnings estimates for FY24.
The company expects Ebitda margin to be in mid-twenties FY25 onwards. However, the journey from high single-digit Ebitda margin to over 20% won’t be a cakewalk. GCPL has identified certain levers such as narrowing the gap between maximum retail price and net sales value, and reducing fixed costs to boost RCCL’s Ebitda margin. Progress on this remains key ahead, and so would be the company’s efforts to drive growth.
There are comforting factors. One, valuations don’t appear pricey with the net valuation of ₹2,325 crore, implying about 3.75 times RCCL’s FY23 revenue. Secondly, “Some investors have taken solace in the fact that at least the target is in India unlike past, when GCPL faced currency/macro risks in Latin America & Africa," said analysts at Jefferies India in an investor feedback report dated 30 April.
To be sure, this announcement comes at a time when GCPL is yet to see a significant improvement in its existing businesses. Given that the deal is in a different category compared to GCPL’s core business, lack of concrete results may come as a big disappointment. “The issue in case of such M&A is —if the outcome is different from the thesis, it can take a fair amount of management bandwidth to turn around," said Jefferies. They added, “Investors would have liked to see this (or any other) deal once there was a decisive turnaround in the base business, particularly India household insecticides & Indonesia."
Meanwhile, the drop in palm oil prices, a key raw material, has boosted investor sentiment.
GCPL’s shares have risen by almost 20% in the last one year and valuations are undemanding. The stock trades at nearly 37 times FY25 estimated earnings, showed Bloomberg data.
From a near term perspective, when GCPL announces its March quarter results, the margin trajectory and management’s commentary on the demand environment will be in focus.
