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Near peak copra price presents an opportunity
The high copra price was the key dampener in an otherwise strong business
performance. We believe copra prices are almost at their peak cycle and should
fall as the best produce hits the market in February. Although price increases of
24% YoY in Parachute should provide a cushion to margins, a weakening copra
price will likely help recover lost margins in 4QFY11. We maintain a Buy rating on
Marico with a target price of INR150.
22% top line growth, in line with estimates
Marico reported strong top line growth of 22%, in line with estimates. Its gross
margin declined by 536bps (vs. 591bps, Deutsche Bank estimate) due to higher
copra prices. However, the decline in EBITDA margins was lower at 256bps due
to a lower ad to sales ratio. All divisions delivered strong top line growth – 39%
revenue growth in hair oil, 24% in Saffola and 28% growth in international
business. The coconut oil portfolio was the weak link due to high copra prices.
Falling copra price is the key number to watch out for
In our view, the key information to watch out for should be the copra price. We
believe current copra prices are almost at their peak and should fall once the best
produce of copra hits the market in February. Management indicated a reduced
inventory level of copra in a conference call, which corroborates our view of an
expected fall in prices.
Maintaining Buy with a target price of INR150
Our DCF-derived target price of INR150 is based on a 6.4% risk-free rate, a 7.2%
market risk premium, a beta of 0.5, a 28% FY10-12E earnings CAGR and a 3%
terminal growth rate. At our target price, the exit PE would be 23x FY12E earnings.
The key downside risk is a continued high copra price even after February.
In-line earnings, Copra price
to be the key trigger
22% top line growth in line with estimates
Marico reported strong top line growth of 22%, in line with estimates led by 10% domestic
volume growth and 25% international volume growth. Its gross margin declined by 536bps
(vs. our 591bps estimate) due to higher copra prices. However, the decline in EBITDA
margins was lower at 256bps due to a 176bps lower ad to sales ratio.
The difference between actuals and Deutsche Bank estimates on the net profit number was
because of a lower tax rate of 15.8% vs. 20% (Deutsche Bank estimate).
In our view, the key information to watch out for should be the copra price. We expect the
copra price to start to correct by the first week of February. Failing to do so is a key
downside risk for Marico. Management indicated a reduced inventory level of copra in a
conference call, which corroborates our view of an expected fall in prices.
Key highlights of the quarter
Coconut oil business – 14% revenue growth, 3% volume growth
As expected, Parachute and Nihar reported lower volume growth due to high price increases
(effective at ~12% for the quarter). Overall, the revenue growth for the segment was 14%.
The company has taken a 24% price hike and volumes are therefore likely to be sober. We
also believe that copra prices are almost at the peak of their cycle and should correct once
the best produce (arriving between February and July) floods the market.
Edible oil business – 13% volume growth despite 11% effective price hike
The edible oil business remains robust. Despite relatively modest price increases in the raw
materials – safflower oil (13% of RM) is up 3% and rice bran oil (11% of RM) is up 25%,
Marico has taken a price hike of 10-20% in Saffola. Price hikes have been relatively easier to
pass through since Sundrop (Marico’s key competitor) increased its prices by 15-25%.
Hair oil business – 31% volume growth indicates a shift from coconut oil
A high and sudden price hike in coconut oil would have prompted a lot of consumers who
use coconut oil as hair oil to shift to non-coconut-based hair oil, which explains the high
volume growth in the segment. The market share data (250bps gain in November, or 140bps
in 9MFY11, on 22% market share) and strong volume growth suggest that the market
volume would have grown by 17-18%, which we consider significantly higher than normal.
Overall, the hair oil business grew by 39% (31% volume, 8% price).
International business – strong growth continues
Marico’s international business experienced 28% top line growth (25% volume, 8% prices,
and -5% currency). Bangladesh remains the key international market for Marico (50% of
revenues and 81% of PAT). The strong volume growth seems to suggest strong growth for
both Parachute and Saffola (launched in Bangladesh in the last quarter) in the Bangladesh
market. In a conference call, management mentioned a slight impact of high copra prices
flowing into the next quarter. However, with 80% market share in Bangladesh, the company
is in a much better position to take price increases.
Kaya business – Improvements visible but profitability still some time away
The PBT for the Kaya business (excluding Derma-Rx) stood at a INR9m loss vs. a INR37m
loss in 3QFY10 and a INR35m loss in 2QFY11. Same-store sales growth also recovered to
10% and the acquisition of Derma-Rx resulted in a positive PBT of INR41m. Despite the
recent recovery, Kaya is still far away from a 35% ROE for Marico.
DCF valuation
We valued Marico on a DCF basis. The key assumptions for our two-stage FCFE
methodology are:
„ Risk-free rate of 6.4% (Deutsche Bank estimate), market risk premium of 7.2%
(Deutsche Bank estimate) and beta of 0.5 (Bloomberg Finance LP data), implying a cost
of equity at 10%
„ Growth in the stable phase of 3% is based on long-term growth of households in India
and their long-term usage of branded edible oil.
Our valuation for Marico is INR150. This implies an earnings multiple of 29x FY11E and 22.9x
FY12E.
Risks
High copra prices
Continued high copra price is the key downside risk.
Excise duty on coconut oil
A potential excise duty on coconut oil sold in quantities below 200ml (as demanded by the
excise board) may be a downside risk for the company. The case is currently in court.
However, since Marico provisions 75% of the duty payable, the effect on the P&L should be
limited. Marico has introduced 250ml packs to reduce the sales of packs below 200ml.
Increase in losses in the Kaya business
Losses in the Kaya India business continue to weigh heavily on the minds of investors.
Increasing losses in the Kaya business is a key risk for the company.
India Equity Research Reports, IPO and Stock News Visit http://indiaer.blogspot.com/ for complete details �� ��
Near peak copra price presents an opportunity
The high copra price was the key dampener in an otherwise strong business
performance. We believe copra prices are almost at their peak cycle and should
fall as the best produce hits the market in February. Although price increases of
24% YoY in Parachute should provide a cushion to margins, a weakening copra
price will likely help recover lost margins in 4QFY11. We maintain a Buy rating on
Marico with a target price of INR150.
22% top line growth, in line with estimates
Marico reported strong top line growth of 22%, in line with estimates. Its gross
margin declined by 536bps (vs. 591bps, Deutsche Bank estimate) due to higher
copra prices. However, the decline in EBITDA margins was lower at 256bps due
to a lower ad to sales ratio. All divisions delivered strong top line growth – 39%
revenue growth in hair oil, 24% in Saffola and 28% growth in international
business. The coconut oil portfolio was the weak link due to high copra prices.
Falling copra price is the key number to watch out for
In our view, the key information to watch out for should be the copra price. We
believe current copra prices are almost at their peak and should fall once the best
produce of copra hits the market in February. Management indicated a reduced
inventory level of copra in a conference call, which corroborates our view of an
expected fall in prices.
Maintaining Buy with a target price of INR150
Our DCF-derived target price of INR150 is based on a 6.4% risk-free rate, a 7.2%
market risk premium, a beta of 0.5, a 28% FY10-12E earnings CAGR and a 3%
terminal growth rate. At our target price, the exit PE would be 23x FY12E earnings.
The key downside risk is a continued high copra price even after February.
In-line earnings, Copra price
to be the key trigger
22% top line growth in line with estimates
Marico reported strong top line growth of 22%, in line with estimates led by 10% domestic
volume growth and 25% international volume growth. Its gross margin declined by 536bps
(vs. our 591bps estimate) due to higher copra prices. However, the decline in EBITDA
margins was lower at 256bps due to a 176bps lower ad to sales ratio.
The difference between actuals and Deutsche Bank estimates on the net profit number was
because of a lower tax rate of 15.8% vs. 20% (Deutsche Bank estimate).
In our view, the key information to watch out for should be the copra price. We expect the
copra price to start to correct by the first week of February. Failing to do so is a key
downside risk for Marico. Management indicated a reduced inventory level of copra in a
conference call, which corroborates our view of an expected fall in prices.
Key highlights of the quarter
Coconut oil business – 14% revenue growth, 3% volume growth
As expected, Parachute and Nihar reported lower volume growth due to high price increases
(effective at ~12% for the quarter). Overall, the revenue growth for the segment was 14%.
The company has taken a 24% price hike and volumes are therefore likely to be sober. We
also believe that copra prices are almost at the peak of their cycle and should correct once
the best produce (arriving between February and July) floods the market.
Edible oil business – 13% volume growth despite 11% effective price hike
The edible oil business remains robust. Despite relatively modest price increases in the raw
materials – safflower oil (13% of RM) is up 3% and rice bran oil (11% of RM) is up 25%,
Marico has taken a price hike of 10-20% in Saffola. Price hikes have been relatively easier to
pass through since Sundrop (Marico’s key competitor) increased its prices by 15-25%.
Hair oil business – 31% volume growth indicates a shift from coconut oil
A high and sudden price hike in coconut oil would have prompted a lot of consumers who
use coconut oil as hair oil to shift to non-coconut-based hair oil, which explains the high
volume growth in the segment. The market share data (250bps gain in November, or 140bps
in 9MFY11, on 22% market share) and strong volume growth suggest that the market
volume would have grown by 17-18%, which we consider significantly higher than normal.
Overall, the hair oil business grew by 39% (31% volume, 8% price).
International business – strong growth continues
Marico’s international business experienced 28% top line growth (25% volume, 8% prices,
and -5% currency). Bangladesh remains the key international market for Marico (50% of
revenues and 81% of PAT). The strong volume growth seems to suggest strong growth for
both Parachute and Saffola (launched in Bangladesh in the last quarter) in the Bangladesh
market. In a conference call, management mentioned a slight impact of high copra prices
flowing into the next quarter. However, with 80% market share in Bangladesh, the company
is in a much better position to take price increases.
Kaya business – Improvements visible but profitability still some time away
The PBT for the Kaya business (excluding Derma-Rx) stood at a INR9m loss vs. a INR37m
loss in 3QFY10 and a INR35m loss in 2QFY11. Same-store sales growth also recovered to
10% and the acquisition of Derma-Rx resulted in a positive PBT of INR41m. Despite the
recent recovery, Kaya is still far away from a 35% ROE for Marico.
DCF valuation
We valued Marico on a DCF basis. The key assumptions for our two-stage FCFE
methodology are:
„ Risk-free rate of 6.4% (Deutsche Bank estimate), market risk premium of 7.2%
(Deutsche Bank estimate) and beta of 0.5 (Bloomberg Finance LP data), implying a cost
of equity at 10%
„ Growth in the stable phase of 3% is based on long-term growth of households in India
and their long-term usage of branded edible oil.
Our valuation for Marico is INR150. This implies an earnings multiple of 29x FY11E and 22.9x
FY12E.
Risks
High copra prices
Continued high copra price is the key downside risk.
Excise duty on coconut oil
A potential excise duty on coconut oil sold in quantities below 200ml (as demanded by the
excise board) may be a downside risk for the company. The case is currently in court.
However, since Marico provisions 75% of the duty payable, the effect on the P&L should be
limited. Marico has introduced 250ml packs to reduce the sales of packs below 200ml.
Increase in losses in the Kaya business
Losses in the Kaya India business continue to weigh heavily on the minds of investors.
Increasing losses in the Kaya business is a key risk for the company.
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