Hindustan Unilever -- Volume growth disappoints :: Macquarie Research,

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Hindustan Unilever
Volume growth disappoints
Event
 Hindustan Unilever (HUVR) reported 1Q FY12 net sales growth of 15% YoY,
aided by 19% and 13% YoY growth in personal products (PP) and Soaps and
detergents (S&D), respectively. Adjusted PAT was up 14% YoY, slightly
below our expectations. We believe a sharp reduction in advertising and
promotion (A&P) expense to protect quarterly margins could be
counterproductive, as competitive intensity still remains high. In addition, we
think a lack of investment behind new products reduces the company’s
chance of success. We reiterate our Underperform recommendation.
Impact
 Volume growth disappoints. HUVR reported domestic volume growth of
8.3% in 1Q FY12, after registering double-digit volume growth for the last five
consecutive quarters. Promotions in the company’s key S&D segment have
been cut sharply, and last year’s price cut has been restored to a great extent
in 1Q. We believe HUVR’s volume growth will come under pressure due to
discontinuation of promotions, especially in the laundry segment.
 Strong growth reported in PP segment. HUVR’s 1Q domestic sales growth
of 15% was driven by skin care and shampoo. Packaged food, S&D and the
beverage segments grew 18%, 13% and 13% YoY, respectively. S&D sales
were primarily driven by pricing, as the company has reversed some of the
promotional pricing in detergent and it has also taken a price hikes in soaps.
 Gross margin contracted 479bp, a sharp cut in A&P spend. Higher raw
material prices such as palm oil (up 32% YoY), crude oil (up 31% YoY) and
crude derivatives such as LAB (up 46% YoY) were the key reasons for the
gross margin decline. However, a sharp 410bp cut in A&P expenses as a
percent of sales to 11.3% has partially offset raw material cost pressure. As a
result, the EBITDA margin declined 21bp YoY to 13.5%. We feel that the
lowest A&P spend as a percent of sales in the last ten quarters, if sustained
for long, may be detrimental for HUVR in terms of market-share losses and
growth of new products.
 Margin decline in all but PP segment. S&D EBIT declined 5% YoY, as
margins contracted 174bp to 9.2%. PP EBIT increased 22% due to a 53bp
improvement in margin. Packaged food and beverage EBIT margins declined
352bp and 54bp, respectively. Exports margin also contracted 84bp to 7.7%.
Earnings and target price revision
 No change.
Price catalyst
 12-month price target: Rs265.00 based on a DCF methodology.
 Catalyst: Continued commodity cost inflation.
Action and recommendation
 Expensive valuations. HUVR is currently trading at 29x FY12E EPS, a 12%
premium to ITC (ITC IN, Rs200.80, OP, TP: Rs225.00). We do not think the
current valuation reflects the earnings growth potential. We continue to prefer
ITC over HUVR.