Pankaj Tibrewal, Senior VP and Equity Fund Manager, Kotak Mutual Fund
The FMCG sector is witnessing a slowdown. Volume growth slowed from 8% in 3QFY19, to 6% in 4QFY19 and the Street is factoring in 4-5% in 1QFY20. Price growth is also subdued at 2-3% due to low inflation. Overall, revenue growth is expected to be in high single digits in first quarter of FY20 against FY20 estimates of 10-12%. Revenue growth before 4QFY19 was driven by GST rate cuts – in November 2017 was when the rate cuts happened and so the tailwind lasted till Dec 2018.
The pattern of the slowdown seems to be acute as per companies and channel checks – since Nov 2018 every month incrementally has been worse and the slowdown in more in rural but even urban is slowing. The Ebitda margins of most companies are at peak level, ex-the FMCG leader, Ebitda margin is up 700 basis points in seven years. Any margin expansion going ahead will be tough in our view. The sector has been adversely impacted by dismal agriculture income growth, which is currently at 15-year low of around 5% (2% real and 2% inflation). Around 50% people in India are still employed in agriculture so the growth in this sector is important for FMCG companies.
The urban segment is also slowing as many sectors like SME, auto and telecom are witnessing slow growth and employment has been impacted. In terms of valuation, most consumer staple stocks are at two standard deviations from their 10-year mean. Also on DCF-based valuation, most of them are 20-25% higher than their fair value. We believe there is more downside to most consumer stocks as growth moderation gets reflected in earnings cuts.
Sonam Udasi, senior fund manager, Tata Mutual Fund
Growth has slipped for one or two quarters in the past too. We think it’s merely an optical slowdown because the supply chain i.e. the dealers and retailers are facing liquidity constraints to hold inventory. Increasing per capita income and rising economic growth are the biggest drivers for FMCG. Even if India’s per capita income increases from $2,000 to $3,500-4,000 in the next seven years, a lot of people will continue on the path of upgrading their staples and food habits.
Staples are essentials and one can’t defer them for long. You might find cheaper variants but you can’t stop buying them. Hence, growth will not remain tepid and profitability will continue to be strong. If there is a correction because of volume sluggishness, investors generally take advantage and invest for the long term. Meanwhile, monsoon has also made a comeback which should boost consumption. There are very few sectors in India like FMCG where the governance standards and cash flows are very high. With increase in per capita income, the runway of growth will continue. That’s why valuations despite near term pressure will remain elevated.