Hindustan Unilever — Open Offer: Book Profits :: Business Line

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Selling in the market may be more tax efficient than tendering in the open offer.

The stock of Hindustan Unilever (HUL), at Rs 585, is trading a whisker below its all-time high. The stock hit this high after HUL’s promoters announced an open offer to buy 22.5 per cent of the shareholding from the public. The open offer price, at Rs 600, was at a hefty 21 per cent premium to the market price prevailing then.

The stock’s surge since the announcement provides a good opportunity to book profits. At Rs 600 (offer price), HUL’s PE multiple stands at about 37 times the estimated earnings for 2013-14. At the current market price, valuations are at 36 times estimated FY-14 earnings. Valuations are well above HUL’s five-year average of 31 times. Most peers in the FMCG basket trade at trailing PE multiples of 30-39 times.

HUL could find it hard to maintain these price levels, and justify the higher valuations, after the offer, on a few counts — its moderating volume growth, shrinking room to raise product prices to boost revenues, intense competition, and a depreciating rupee which is turning inputs costlier. Consumer confidence is also low, which could dampen growth.

Tendering shares in an open offer will attract short-term capital gains tax at your slab rate if you have held it for less than a year and long-term capital gains tax at 10 per cent (without indexation), if you haven’t. With the current market price close to the open offer price, investors can instead sell their holdings in the open market to maximise returns.

Also note that it isn’t necessary for all shares tendered in the offer to be accepted. Assuming that all public shares are tendered, the acceptance ratio (the number of shares accepted to those tendered) indicates that theoretically, investors can sell 47 per cent of their holdings in the offer. This percentage may change depending on the number of shares actually tendered.

SOAPS AND BEVERAGES STRONG

HUL dominates the soaps and detergents category with brands such as Surf, Rin, Lux, and Lifebuoy, and it holds strong pricing power here.

The segment, accounting for about half total revenues, has maintained growth at over 20 per cent for several quarters. It also benefits from its relatively lower share of consumer wallets and its ‘essential’ nature. With input costs turning cheaper, HUL also reduced prices of soaps and detergents in the March 2013 quarter in a bid to boost sales volumes.

The beverages segment, contributing around 12 per cent to revenues, too clocked a remarkable performance in the past three quarters.

FLOUNDERING SEGMENTS

But with living costs persistently high, consumers have begun to scale down purchases in recent quarters. Discretionary segment packaged foods has seen growth dwindling to 7 per cent in the March 2013 quarter from as much as 21 per cent in the September 2011 quarter.

Personal care too has begun to slow. All FMCG players focused on premium products in the segment to drive growth and margins. This did help early on, but growth began to taper off towards end-2012, as consumers cut back buying.

HUL’s personal products division saw growth drop to 12-13 per cent by the March 2013 quarter from 17-19 per cent in 2011 with even marquee brands such as Fair & Lovely succumbing to consumer reticence.

Overall volume growth for HUL, therefore, dropped sharply from an average of 9 per cent to 5-6 per cent in the latter half of the 2012-13 fiscal. Significant moderation in inflation is unlikely, with food costs still relatively high. Interest costs have not dropped enough to considerably increase disposable incomes. Nor are the hiring outlook and salary hikes very rosy. Consumer confidence, thus, may not revive strongly in the near term.

INPUT COSTS MAY RISE

Palm oil, crude oil and their derivatives, which are important inputs, turned cheaper over the course of last fiscal. HUL’s material costs as a proportion to sales fell by 2 percentage points to 53 per cent by the end of the 2012-13 fiscal.

Cost savings here were partially channelled into advertising and promotion, which it had economised on earlier to maintain margins. Adspend-to-sales proportion rose to 13.4 per cent, from the 12 per cent in the 2011-12 fiscal.

But the depreciating rupee is likely to reverse the gains on key inputs, since they are mostly imported. Prices of other inputs such as tea are also rising. With the heavy competition flanking the FMCG space, compromising on adspend may not be viable and ad rates may also move up in light of recent regulations. Room to raise product prices and thus boost sales is also limited with consumers reducing purchases. All this indicates a further few quarters of muted growth for HUL.