Colgate-Q4FY13 earnings disappoint; P&G entry to watch out for :: JPMorgan

Colgate’s 4Q performance was a mixed bag, with sales growth coming in ~2%
ahead of our expectations, but earnings were significantly below estimates owing
to weak margin performance. Colgate reported Sales, EBITDA and PAT growth
of 18%, -1%, and -6% y/y. We revise our FY14/15 earnings estimates downwards
by ~4-5%. Competitive activity has stepped up in the toothpaste category (by
GSK and HUL) and this will intensify further with P&G’s potential entry soon,
posing downside risk to Colgate’s margins. We think current valuations at 35x
FY14E and 30x FY15E P/E are expensive and we maintain our UW stance on the
stock.

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 Toothpaste vol growth healthy at 11%. CLGT registered 12% overall vol
growth with 11% vol growth for toothpaste in Q4. Pricing growth was ~7%,
led by price increases/improved mix. Vol market share in toothpaste rose to
55.4% during Jan’13-Apr’13 (+130bp y/y). Toothbrush portfolio is estimated
to have registered mid-teen vol growth with market share rising to 41.5% over
Jan’13-Apr’13 (+380bp y/y). Mgmt noted that all segments – family,
freshness and premium all grew well. Mouthwash segment saw growth
slipping to ~8% owing to slowdown in premium personal care. Colgate has
increased its distribution reach by ~25% over past two years with key gains in
rural areas.
 EBITDA margins disappoint: Higher ad spends (+160bp y/y, +41% y/y),
other expenses (+170bp y/y, +28% y/y) and employee costs (+100bp y/y,
+34% y/y) offset 40bp increase in GM leading to -400bp y/y decline in
EBITDA margins during the quarter. Advertising spends were higher due to
support for new product launches and increased competitive spends. Other
expenses increased owing to increase in power and freight costs. Tax rate was
higher at 27% (+300bp y/y). As a result, while PBT declined 2% y/y, PAT
declined 6% y/y.
 P&G’s entry would lead to rise in competitive intensity. It remains to be
seen which entry strategy P&G would employ to garner share in the toothpaste
market – whether it is more about aggressive pricing (low probability, we
think) or through product differentiation. With P&G’s potential entry, we
expect A&P spends to increase across the category and this could weigh on
profitability for Colgate. Management noted that media spends for the overall
category may rise in such a scenario and they too would increase spends to
maintain their share of voice.
 Other Management call takeaways: 1) Significant headroom for toothpaste
growth as penetration levels in rural areas are ~60% (~329mn consumers don’t
use toothpaste yet) and per capita usage is quite low at 137gms (half of that of
China), 2) Mix improvement continues with premium brands - Total, Max
Fresh, Sensitive growing faster, 3) Tax rate to rise 150bp each in FY14E/15E.