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The Indian tea business had accounted for about 35% of the company’s revenues for financial year 2020. (Photo: Bloomberg)
The Indian tea business had accounted for about 35% of the company’s revenues for financial year 2020. (Photo: Bloomberg)

Higher tea prices may hurt margins of Tata Consumer

The Indian tea business had accounted for about 35% of the firm’s revenues for fiscal year 2020

Tata Consumer Products Ltd has been a popular consumer stock in recent times notwithstanding the pandemic. Shares of the non-alcoholic beverages and food company have appreciated as much as 27% from its pre-covid highs seen in February on the NSE.

Tata Consumer had delivered strong results during the June quarter, helped by the general spike in at-home consumption. The demand tailwinds could well continue into the September quarter.

However, the increase in tea prices is expected to weigh on the profit margins from a near-term perspective.

Analysts of ICICI Securities Ltd wrote in a report on 4 October: “Tea prices were up 63% in Q2FY21, year-on-year. While it is likely to impact margins of Tata Consumer in near term, we expect it to be transitory."

Pricey valuations
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Pricey valuations

Production loss in the initial phases of the covid-19 lockdown pushed tea prices higher. Nevertheless, there are compensating elements. “Importantly, our ‘cost of cup’ analysis indicates that price inflation for a cup of tea is just 13% (as sugar prices are flat and milk prices have declined). Also, note that Tata Consumer improved its market share (about 23% now) and gross margins (about 37%) over FY2009-20. It has demonstrated the ability to pass on commodity inflation with a lag of 1-2 quarters," said ICICI Securities.

Needless to say, investors will keep a close watch on the extent to which higher prices are passed on to the consumers. The Indian tea business had accounted for about 35% of the company’s revenues for fiscal year 2020. Note that consolidated gross margins stood at 44.7% in the June quarter.

Meanwhile, shares of Tata Consumer have shed 12% from their annual highs in September on the NSE. But as mentioned earlier, the stock has seen a meaningful rise from pre-covid highs.

Valuations, therefore, aren’t cheap, what with the shares trading at nearly 44 times its estimated earnings for fiscal year 2022, according to Bloomberg data. The same measure for Britannia Industries Ltd, which saw much stronger pre-tax profit growth in the June quarter, stands at 46 times.

As such, Tata Consumer’s valuations rule out sharp upsides in the near future, unless, of course, profitability surprises by a good margin.

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