FOCUS: High food prices, dry August hold back recovery for FMCG cos
Informist, Thursday, Sep 28, 2023
By Akshata Gorde
MUMBAI – Low rainfall in August has kept food inflation high and dealt a blow to disposable incomes, holding back a recovery in demand for fast-moving consumer goods companies, especially in rural areas.
Add to that the late arrival of major festivals such as Dussehra and Diwali this year, robbing the sector of pre-festival buying, and demand in Jul-Sep may well be unchanged from the previous quarter, said Pratik Prajapati, senior manager of institutional research – consumer at a large Mumbai-based brokerage firm.
"The volume can be seen in low single digits to flat, as demand has not yet revived (in Jul-Sep)," he said. "Rural demand has seen green shoots towards the fag end because of Ganpati and Onam, among others. However, it is too early to say because of the monsoon deficit."
In a report dated Sep 12, Mihir Shah, vice-president of research – India consumers at Nomura, said the demand trends for the sector in Jul-Sep remained almost unchanged compared to the previous quarter.
Even packaged consumer goods companies are cautiously optimistic.
"While we are seeing the consumption trends to be broadly up… retail inflation for the months of July and August has averaged 7%, and August rainfall has shown an 11% negative deviation from the norm, driving caution," Gautam Kamath, vice-president of finance at Procter & Gamble India, said at the company's investor day on Sep 22.
Analysts say the absence of a recovery in demand could hurt margins of companies in the sector, which expanded just last quarter after dropping for a few quarters. The earnings of companies such as Dabur Ltd and Emami Ltd, which depend more on rural areas, are likely to see a significant hit in Jul-Sep due to "an absence of recovery in rural demand", said an assistant vice-president tracking the consumer sector at ICICI Securities Ltd.
RAINS & RURAL
While good rainfall in September has partly compensated for the deficit in August, the extent to which it will help shore up rural demand remains to be seen.
"September rainfall appears to have bounced back, and might have a big say in how the rest of the year goes," said Kamath of P&G India.
Brokerage firm Jefferies pointed out in a report that rural demand has already seen significant pressure in the last 18-24 months, which now appears to be bottoming out. Going forward, growth would benefit from a low base, as evident to some extent in Apr-Jun, it said.
Companies such as ITC Ltd, Dabur India Ltd, and Procter & Gamble Hygiene and Healthcare Ltd maintain that they are seeing a pick-up in rural demand amid concerns over the low monsoon, and retail inflation. Sanjiv Puri, chairman and managing director of ITC, told CNBC-TV18 in an interview on Monday that the company was seeing "green shoots" in rural demand and this, along with good festival season sales, would lead to strong consumer sentiment in the medium to long term.
This year, the festival season is expected to help drive demand in both urban and rural areas only in Oct-Dec, said Mihir Shah of Nomura.
Mohit Malhotra, the chief executive officer of Dabur India, told CNBC-TV18 in an interview on Sep 21 that the company had seen a resurgence in rural business over the last six months, and he expects a more significant pickup in demand over the next six months. Rural sales are likely to have been impacted in August because of deficit rainfall, he said, while adding that he expects a recovery in September.
Lower rainfall in August drove up already-rising commodity prices, particularly of key kharif crops such as paddy, maize, gram, tur, and other pulses, in Jul-Sep. While companies that stocked up raw materials before the increase in prices might see an impact next quarter, others may record lower gross margin expansion in Jul-Sep, analysts said.
Margins of companies such as Britannia Industries Ltd and Nestle India Ltd could suffer in the near term because of higher prices of wheat, sugar, and milk, Nirmal Bang Institutional Equities said in a report on Tuesday. This is because these companies focus on items such as chocolate bars, and dairy items account for a higher proportion of the company's raw materials compared to peers like Hindustan Unilever Ltd and Colgate-Palmolive (India) Ltd.
Adding to the price pressures for these companies is the recent jump in prices of Brent crude oil due to concerns around supply. Today, the price of Brent crude was up nearly 16% from a month ago at $97.69 a barrel.
The spike in crude prices could dent the gross margins of packaged consumer goods manufacturers, as it has driven up prices of crude-linked derivatives including packaging, soda ash, linear alkyl benzene sulfonic acid, and titanium dioxide, Ajay Thakur, research analyst at Anand Rathi Shares and Stock Brokers, said in a report dated Sep 9.
Prices of paddy have increased 9% on month in August and 2.5% so far in September, while maize prices have gone up 14% in August and 1% in September, according to Mihir Shah of Nomura. Prices of gram and tur have risen 14% and 6.9% on month in August, respectively, and are up 10% and 7.2% so far in September, he said.
Pointing out that the rise in raw material prices so far this financial year is even more than in 2021-22 (Apr-Mar), Gautam Kamath of P&G India said, "Commodity prices remain high, and we have not seen the cost pressures receding as expected." This, he said, would exert pressure on the bottomline.
Yet, Pratik Prajapati of the Mumbai-based brokerage firm expects companies to see gross margin expansion of 300-400 basis points in Jul-Sep. The impact on gross margins in Oct-Dec will be more, he says, as companies will experience the full impact of the recent commodity price inflation then. End