Standard Chartered : Buy Britannia - Strong topline growth, but margin disappoints

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 3Q FY11 net sales surprises positively with 22.5% YoY
growth, however, EBITDA and recurring net profit
growth of 37.7% and 15.5%, respectively, were lower
than expected.
 Raw material cost-to-sales at 66.5% remains high, up
235bps YoY and 70bps QoQ.
 Lower other operating costs result in EBITDA margin
expansion of 60bps YoY.
 We find current valuations reasonable and expect
recurring EPS CAGR of 49% over FY11-13E. Maintain
OUTPERFORM with price target of Rs441.
Robust sales growth. Strong volume growth and low base
(7.7% growth in 3Q FY10) aided Britannia’s net sales
growth of 22.5% in 3Q FY11. It continues to focus and
introduce new variants in its premium brands like
Nutrichoice. It also entered the new ready-to-cook
breakfast segment in Jan ’11 under the Britannia Healthy
Start brand.
High raw material costs hurt gross margins. Britannia
continues to face unabated inflation in agri-inputs. While
prices of sugar and wheat remain high (up 7% and 4%
QoQ respectively), edible oil prices have also spiked
recently (up 41% YoY and 19% QoQ). Gross margin
declined 70bps QoQ and 235bps YoY to 33.5%.
EBITDA margin improves, but lower-than-expected.
Decline in other operating costs − adspend-to-sales down
110bps, conversion cost-to-sales down 110bps, other
expenses-to-sales down 80bps YoY − aided OPM
expansion of 60bps YoY to 5.4%. Operating profit and
recurring PAT growth were 37.7% and 15.5% YoY,
respectively.
Our EPS estimates remain largely unchanged. Though
gross margin disappointed, higher sales growth and lower
other expenses keep our FY11E EPS unchanged. Our
sales estimates of FY12-13E have increased marginally,
while our earnings estimate is reduced by <1% due to
higher-than-expected raw material costs.
Maintain O/P with price target of Rs441. At FY12E P/E
of 20.2x, Britannia trades inline with its five-year median of
20.3x. We find valuations reasonable, as expected margin
improvement could lead to recurring EPS CAGR of 49%
over FY11-13E. We value it at a forward P/E of 19x leading
to a 12-month price target of Rs441. Re-iterate
OUTPERFORM.