Hindustan Unilever: Results don't support recent spurt in Street optimism :: Kotak Securities

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Results don’t support recent spurt in Street optimism. HUVR’s 3QFY15 results were a
miss on all counts as volume growth slipped to 3%, significantly lower versus our/Street
estimates of 5-6% growth. While the stock has run up over the past few weeks led by
consensus upgrades, we would advise caution on the optimism on both volume growth
recovery (double-digit growth unlikely) and margin flow-through from RM tailwinds
(management commentary suggests modest margin expansion at best). Valuations at 37X
FY2017E are on the expensive side; downgrade to REDUCE and retain TP of `800.

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3QFY15 – a disappointing quarter overall despite RM tailwinds
HUVR missed our revenue, EBITDA and PAT estimates by 3-11% led by lower-than-expected
growth across segments, partially impacted by waning of fiscal benefits (120 bps impact on
revenues, 40 bps on EBIT), delayed winter and pipeline correction (to adjust high-priced
inventory in trade). Domestic FMCG revenues grew 8% yoy as – (1) underlying volume growth
slipped to 3%, lower versus our/consensus estimate of 5-6% growth and (2) price-led growth
dipped to 4.6% yoy as the company initiated price-cuts in commodity-led categories like soaps
& detergents. EBITDA grew 9% yoy and recurring PAT was flattish, impacted by sharp 470 bps
yoy increase in ETR, both significantly below our estimates. EBITDA margins expanded 14 bps
yoy despite 120 bps jump in GMs (on account of lower input costs) and 30 bps savings in A&SP
due to higher employee costs (up 90 bps yoy; includes one-off provisions of `390 mn for select
contested matters) and spike in overheads (up 50 bps yoy). Reported PAT grew 18% yoy to
`12.5 bn aided by EO gain of `4.1 bn on account of sale of surplus properties (pre-tax).
Demand environment still soft; competitive intensity to inch up – downgrade to REDUCE
HUVR’s sharp miss in volume growth and management commentary indicates that demand
environment is still soft. We note we do expect volume growth to inch up to ~8-9% in
FY2016E led by low base and initial leg-up due to promotions. However, we see no
fundamental reasons for volumes to inch up to double digits.
Now, even as a soft RM environment, led by weakening crude, has emerged as a strong
tailwind for the sector, we would caution against taking the same as a sweeping positive across
categories. Among other things, a soft RM environment coupled with a soft demand
environment has the potential to trigger price wars and/or lead to sharp jump in competitive
intensity (from organized and unorganized players alike). Operating profit flow-through of soft
RM is not a given, in other words.
We have cut our EPS estimates by ~4-5% as we bake in higher price cuts in S&D. Post the sharp
run-up over the past few weeks, risk-reward has turned unfavorable – valuations at P/E of 37X
FY2017E are on the expensive side despite baking in solid recovery in both volumes and
margins. Downgrade to REDUCE and retain target price of `800.

LINK
http://www.kotaksecurities.com/pdf/indiadaily/indiadaily20012015ch.pdf