5 stocks to watch out for when inflation cools down

Stocks to watch out for when inflation cools down (Photo: Bloomberg)
Stocks to watch out for when inflation cools down (Photo: Bloomberg)

Summary

  • These five companies are seeing their net profit margins improve as inflation eases. Find out how they’re stacked up for the next couple of quarters.

India’s consumer price index (CPI), the benchmark inflation rate, cooled to 4.7% in April 2023 as compared to 7.79% a year ago. This is the lowest in the last eighteen months, primarily due to the Reserve Bank of India's (RBI) monetary policy.

The RBI increased interest rates by 2.5% since May 2022, which led to a fall in economic activity, thereby controlling the prices of commodities.

With RBI maintaining its tight monetary policy, the prices are expected to decrease further.

As input prices are falling, several Indian companies are experiencing an expansion in their net profit margins.

Here are five companies that benefit the most as inflation cools down.

Take a look…

#1 Bajaj Consumer Care

First on the list is Bajaj Consumer Care.

The company manufactures personal care products in the hair and skin care range.

It has a product portfolio of 15 brands comprising over 100 SKUs (stock-keeping units). It markets its products under the brand name 'Bajaj', and its most popular products are Bajaj almond drops hair oil and Bajaj coconut oil.

The company’s leading brand Bajaj almond drops hair oil has a market share of over 60% in the light hair oil segment.

Bajaj Consumer Care has a strong distribution network with over 8,100 direct and indirect distributors and a presence in over 4.3 million (m) retail outlets across India.

It also has a global presence in over 30 countries with a focus on Africa, Gulf & Middle East, and SAARC countries.

Apart from an offline presence, the company has an active online presence and sells its products on 24 B2C (business to consumer) and 7 B2B (business to business) platforms.

When inflation was on the rise, the company’s profit margins were contracting, since November 2021. In the last two years, margins fell from a high of 22.6% in June 2021 to 16.2% in March 2023.

The primary reason behind this was an increase in the price of key raw materials - refined mustard oil and light liquid paraffin.

However, prices of these raw materials have corrected in recent months on the back of good crop harvest and reduced input prices of making light liquid paraffin.

Apart from this, the company's cost-saving measures have helped reduce the average cost of producing its products.

This helped the company improve its margins in the last two quarters.

In the quarter ended March 2023, the company posted a 13% growth in revenue, driven by volume growth, while net profit grew by 13.1% YoY.

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With inflation cooling down and margins on the rise, no wonder the company’s shares have gone up by over 30% in the last one year.

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Going forward, the company’s new product launches, expansion into new markets, and penetration in existing markets will drive its revenue growth in the medium term.

#2 Marico

Second on the list is Marico.

The company is one of the leading global consumer goods companies operating in several categories, including hair care, skin care, edible oils, healthy foods, male grooming, and fabric care.

Some of its popular brands are Parachute, Saffola, Nihar, Livon, Set Wet, Beardo, Pure Sense, and Coco Soul.

The company has a strong domestic presence with pan-Indian distribution network reaching over 12 m outlets in India.

Marico has a leading market share in several products, including coconut hair oil (62%), Parachute rigids (53%), Saffola oats (43%), value-added hair oils (28%), post-wash serums (60%), wax, hair gel, and creams (53%) as of March 2023.

It also has a strong international presence in several countries, including Bangladesh, Vietnam, South Africa, the Middle East, and North Africa.

The company’s international business share in revenue is growing on the back of increasing volume growth over the years.

However, in the last couple of years, rising prices of key inputs such as copra, mentha oil, and liquid paraffin have led to a fall in the profit margins.

To add to this, rising crude price has increased the freight cost of this FMCG (fast-moving consumer goods) company.

As a result, the company’s net profit margin fell from 15.4% to 11.9% in the last five years. However, as copra prices started to ease on the back of high rainfall and increased import of palm oil, the net margins improved to 13.6% in March 2023 quarter.

The raw materials prices are expected to fall further due to falling inflation, and its management expects margins to rise more than 1% in the financial year 2024.

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At present the company is focussing on diversifying its product portfolio through organic and in-organic routes. It has acquired leading brands such as True Elements and Just Herbs.

Marico is also focussing on expanding its distribution reach in offline and online markets. Its efforts have been paying off, and the company has been delivering consistently good results in the past few quarters.

As a result, the share price has gone up by 5% in the last one year.

 

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Going forward, easing input prices will drive Marico’s revenue and profit growth in the medium term.

#3 Hero MotoCorp

Next on the list is Hero MotoCorp, the world's largest two-wheeler manufacturer.

Established in 1984, the company is engaged in manufacturing motorcycles for India and 43 more countries in the world.

With a powerful portfolio of brands, it has a leading market share of 32% in the Indian two-wheeler market and a 48% market share in the Indian motorcycle market.

The company has a pan-Indian reach with 6,000 dealers, 1,300 authorised services, and 9,000 customer touchpoints.

Through collaboration with Harley Davidson, it is creating a portfolio of premium motorcycles.

It has also entered the electric vehicle (EV) segment by launching Vida, an electric scooter, by partnering with Ather Energy and Gogoro Inc.

Despite being the largest player in the two-wheeler market, Hero MotoCorp is experiencing a lag in sales and profit growth.

In the financial year 2022, the company's revenue fell by 4.5% YoY, while profit fell by 20.7% YoY. Increase in input costs, rising interest rates and rising fuel costs were some factors which impacted Hero MotoCorp’s performance in FY23.

However, the company saw its financial performance improve in the last few quarters. This on the back of growing demand for two-wheelers in rural areas, easing input prices, entry into new markets, and price hikes.

The company's efforts to launch new products have also helped in volume growth in domestic and international markets.

As a result, the revenue and net profit grew by 15.3% YoY and 10.6% YoY respectively, in the financial year 2023.

The net margin also improved from 7.2% in June 2022 quarter to 10% in March 2023.

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The company’s shares have performed well on the bourses.

     Hero MotoCorp Share Price – 1-Year Performance

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As inflation is easing, the burden on consumers is coming down, and with offices opening up, the two-wheeler demand is expected to go up.

This can help Hero MotoCorp increase its revenue in the medium term. Hence, Hero MotoCorp’s management is expecting double-digit growth in revenue and a rise in margins in the financial year 2024.

#4 Escorts Kubota

Fourth on the list is Escorts Kubota.

The company is engaged in manufacturing agri machinery, construction and railway equipment.

It manufactures tractors, compactors, cranes, shock absorbers, brake blocks, internal combustion engines, and all types of breaks used by railways.

Although it manufactures a range of equipment, the company derives a majority of its revenue (77%) from manufacturing and selling tractors.

The company has a 10.1% market share in the Indian tractor market as of March 2023.

In the last two years, tractor sales in the country have been on an uptrend despite Covid-19. The primary reason for this is timely and normal monsoons, good cashflows to farmers, and an increase in the minimum support price (MSP) of all key crops.

This is the reason why Escorts Kubato’s revenue has grown at a compound annual growth rate (CAGR) of 5.1% in the last three years.

However, the net profit has fallen at a CAGR of 11.4% due to high input and non-operating costs driven by inflation.

The price of imported inputs such as steel, aluminium, copper, rubber and plastic have all gone up, leading to an increase in the costs.

Since the rural economy is already battling inflation, the price increases were hardly passed on to customers, affecting Escorts Kubota's margins.

The company’s net margin fell to 5.5% in September 2022 quarter from a high of 11.1% in June 2021.

As inflation eased, the company’s net margin quickly improved to 9.3% by March 2023 quarter.

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Shares of Escorts Kubota have zoomed over 30% in the last one year.

    Escorts Kubota Share Price – 1 Year Performance

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With growing tractor sales, falling input prices, and normal monsoons, the company's revenue and net margin are expected to grow in the medium term.

Given its partnership with Kubota Corp, a global manufacturing company specialising in agriculture, water, and living environment products, with a worldwide network spread over 100 countries, Escorts Kubota is set to benefit from the synergies in manufacturing and research facilities.

Also, the company launched several new tractor variants with the aim of increasing its product portfolio. This will help the company improve its revenue.

To add to this, the growing population, increasing demand for food, and low agricultural productivity in India will drive the demand for tractors.

#5 Voltas

Last on the list is Voltas, a Tata Company.

The company manufactures and sells air conditioners, refrigerators, coolers, washing machines, dishwashers, textile machinery, and mining and construction equipment.

Its unitary cooling products (UCP) segment has a market share of 21.6%, and spinning machinery has a market share of 60% as of March 2023.

The company has four manufacturing facilities that can produce 2.7 m units per annum.

Voltas also has a strong domestic presence with over 32,000 touchpoints across India.

In the last five years, the company’s revenue has grown at a CAGR of 5.7% due to value growth. The net profit, however, fell at a CAGR of 24.8% due to rise in commodity prices.

The price of key inputs such as aluminium, steel, copper, and high-density polyethene has grown exponentially, leading to a fall in the margins.

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This has impacted its share price performance as shares of the company have fallen by over 20% in the past one year.

 

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In an inflationary environment, consumers lose their purchasing power and try to postpone big purchases such as air conditioners, coolers, and refrigerators.

However, as inflation eases, consumers tend to buy these goods, which can help improve the company’s revenue growth and ultimately improve the margins.

The same happened with Voltas as well. As inflation levels eased, the volume grew by over 47% QoQ (quarter on quarter), and the company's net margin improved to 5.8% during the March 2023 quarter.

In its latest investor presentation, the company announced that it plans to launch a range of products with enhanced features and quality.

It also plans to manufacture more value-added products to improve margins.

Apart from this, the Tata group company is investing around 3.5 billion (bn) to 5 bn in the next 18 months to increase its manufacturing capacity to 5 m units.

All these indicate the company is poised for growth. Going forward, the company's growth plan and easing inflation will drive its revenue and profit growth.

In conclusion

When raw material prices are on the rise, companies often undertake price hikes immediately or with a lag to maintain the profit margins.

If consumers are unable to afford these price hikes, they end up postponing their purchase which will lead to a fall in sales. For the moment at least.

But as inflation cools down, raw material prices also go down, and the profit margins of these companies improve.

However, sales can only go up if companies undertake price cuts to increase their sales and attract consumers, which can affect the margins.

It’s like a never-ending vicious cycle.

That is why it’s important to do your due diligence before considering these companies for investment.

Happy Investing!

Disclaimer:This article is for information purposes only. It is not a stock recommendation and should not be treated as such.

This article is syndicated from Equitymaster.com

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