Stagflation is an economic environment with
rapidly rising prices, a weak labor market, and low GDP growth.
The recent corporate commentary throws light on
some important economic trends. These trends, which might have been developing
for few years, are becoming more established on ground now.
The most discussed trend since demonetization
(November 2016) and GST (July 2017) has been the transfer of market share from
smaller unorganized businesses to the large organized businesses. Import
substitution (Make in India) has been another trend that has gained significant
currency in past 4-5 years. This has manifested most prominently in the
capacity building in chemical and renewable energy space. These trends have
obviously helped the larger publically traded companies to grow bigger and more
profitable. The buoyancy in stock market, a representation of these larger
companies, is aptly reflecting these trends.
One trend that has escaped the popular
narrative and closer scrutiny is selective stagflation in the economy. We may
say this is an integral part of the overall ‘K” shaped economic growth. The
rising inequality and falling affordability of a larger part of the population
has happened with sharp rise in prosperity in the top decile of the society.
The recent corporate commentary hints that this
divergence in affordability might have started to impact their performance now.
As per a recent survey conducted by the
brokerage firm Nomura Securities the affordability of mass segment has been
adversely impacted, leading to slowdown in consumption demand. In the case of
automobiles, the survey indicates that festive season sales for two-wheelers
and entry segment cars have been slower whereas for premium segment (cars priced
>INR 1mn, mostly SUVs) has been significantly strong as higher income
segments continue to do well (SUV mix up from ~39% in FY21 to ~55% in Sep-21).
The sharp price increase for vehicles since Mar-20 seems to have impacted
affordability for the mass market.
In the case of Consumer segment, rural market
growth for FMCG (as per Nielsen) has seen a substantial slowdown in Aug/Sep
(+2.5% y-y) vs. Jan-Jul (+12.5% y-y). In contrast, urban consumption has held
on much better due to the easing of restrictions. Since rural consumption is
driven more by mass segments, poor affordability has likely hit the demand. On
the other hand, urban consumption should benefit from re-opening-led recovery.
In the case of Durables segment as well, while retail sales sustained healthy
growth in July, the momentum has slowed substantially from August with likely
low single-digit growth in Sept. In electricals, while housing sales have
picked up, supported by a cut in stamp duty rates, they are still annualizing
close to 2018-19 levels only.
The brokerage concludes that the prices of
white goods/appliances have increased by ~10-15% and W&C by ~35% in the
past one year. Current commodity prices (Aluminum and Copper) are further up
~20% q-q. Unless commodities/oil cool off, firms will face a difficult choice
of raising prices further and risk demand impact or endure margins pressure. The
brokerage believes latter is more likely.
The brokerage firm India Infoline highlighted
in a recent note that “FY22/23 sales for some consumer sectors can be higher
than even previous pre-Covid estimates, as unaddressed demand, in addition to
the normal demand, is fulfilled. We have seen this play out in paints, and
believe that this is now unfolding in jewellery too. Further, this could also
materialise, albeit to a lesser extent, in Apparel. While there is no pent-up
demand in Grocery, a full normalisation is not built into the consensus
estimates We believe that in QSR, though, significant normalisation is already
built in.”
The note emphasizes, “Apart from market-share
gains from the unorganised segment and
income impact on the target audience being
lower than on the overall economy, return of unaddressed demand is a big factor
in certain sectors.”
The ongoing corporate quarterly results
reporting season is progressing rather well. Most of the companies that have
reported till now appear to have recovered from the Covid-19 pandemic shock.
The business leaders appear to have gained market share. Balance sheets have
strengthened with deleveraging and/or higher cash. The working capital
management has improved sharply across businesses. This may reflect on slightly
lower RoE for now. Margins are under pressure, as the companies have not been
able to pass on the raw material to the customers.
The sectors like manufacturing and construction
have witnessed cut in employee costs, whereas the IT Services etc. have seen
rise in employee cost. Read with strong inflationary trends, this clearly
indicates that a large section of population may be facing Stagflationary
situation.
The trends in rural demand growth vs urban
demand growth are also mixed. For example, Colgate reported strong rural
demand, while Nestle & HUL reported moderation in rural demand.
Most market leaders emphasized focus on market
share gains at the expense of profitability, while mid and small cap companies
emphasized focus on protecting the profitability. Obviously, we are witnessing
a shift from small to large in terms of market share.
The commentary for future prospects is much
better this quarter, as compared to the previous 4-5 quarters. In the last
quarter, most companies had highlighted the likely third wave of the pandemic
as a key risk. However, in this season, the Covid-19 is not highlighted as a
key risk by most of the companies which have reported so far.
Banks’ results have not shown any notable rise
in stress on asset quality due to the pandemic; though credit growth remains
below par.
Most consumer facing companies have reported
acceleration in growth in ecommerce channel.
Most companies are reporting substantial
improvement in working capital due to better channel financing, efficient
inventory management, internal controls, efficiency in collection, etc. This is
reflecting on credit growth, especially short term borrowings from banks.
The following are some of the key results of
the consumer facing companies, that are indicative of the underlying economic
and industry trends.
The revenue for the quarter was 48% higher yoy,
with cables growing 44%; Appliances growing 41% and EPC revenue was higher by
60% yoy.
Cable business, where the company is market leader,
saw increased competitive intensity, as the demand environment was poor. Most
of the revenue growth in cables was due to price hikes. Though the price hikes
were inadequate to cover for the raw material inflation. Gross margins
contracted sharply by 690bps while operating margins were down 510bps. PBT was
down 7%.
The company was however able to gain
market share across categories. The management
emphasized that for now the focus shall remain on market share gain, rather
than margin improvement. Accordingly, the management has guided for low double
digit EBIDTA (11-13%) margins in the second quarter.
RoE of the company is expected to decline by
200bps in FY22 to 16.5% from 18.5% in FY21, despite marginal improvement in
EPS. Working capital improved.
Revenue grew 31% yoy, driven by (a) strong
volume growth due to higher demand from real estate, industrial and infra
segments; and (b) higher prices due to sharp rise in raw material cost. EBIDTA
margins declined 340bps yoy, due to lag in taking price hikes to pass on the
higher raw material cost. Steep cut in advertisement and promotion (A&P)
cost helped in checking the sharp decline in margins.
The company reported market share gains
from unorganized sector. The management
expects the trend to continue. It also expects the margins to improve
as price hikes are taken. Working capital improved.
Management buoyant on 2HFY22 prospects; though
the rate of growth could be lower due to higher base effect.
Market feedback: Some MSME component supplier to the appliances manufacturers have
reported significant order cancellations, delays in payment, and poor inventory
levels at smaller and mid-sized OEMs. There are clear indications that the
market consolidation trend may continue and accelerate in coming quarters.
The company reported 37% yoy rise in revenue
and 290bps lower EBIDTA margins. PAT was up 7%.
ECD segment margin were impacted due to steep
rise in input costs, however, Lighting segment saw improvement in margins due
to high growth in consumer lighting business. Discretionary spends was lower
than normal, whereas expenses other than discretionary resumed to normal levels.
The management highlighted Strong recovery in
B2C demand; unorganized share will shrink more with change in star rating.
OEL will gain market share, backed by its strong team, brand, and distribution
(increasing presence in south and rural India).
Working capital has improved due to better
channel financing and internal controls.
Colgate reported 5% yoy rise in revenue with 4%
rise in volumes. EBIDTA margin declined by 220bps due to higher raw material
cost; employee cost and ad spend. The management expects the cost pressures to
continue in 2HFY22.
The management apparently stays focused
on market share gains rather than margins.
Increased promotional intensity and new product innovation is driving volumes
with lower realization.
The management does not see any pressure on
rural demand, which continues to remain resilient. Market share gains continue,
with strong penetration trends.
Revenue grew by 10% yoy, whereas EBIDTA grew 6%
due to margin contraction of 90bps. Gross margins were down 240bps due to surge
in raw material and packaging material prices. Lower employee cost checked the
margin decline.
The company reported moderation in rural
growth, while the urban growth remained resilient. The management stays focus on volume led sales growth with new
sales channels and new capacities coming on stream.
HUL reported a strong 11% yoy sales growth and
9% EBIDTA growth. Gross margins declined by 140bps, despite 7% price hike
across portfolio. Cost savings helped cheking the margin decline, but raw
material inflation is expected to continue to keep margins under pressure.
The management highlighted improving
trends in urban markets, while the rural demand has moderated. The management feels that the rural demand moderation appears
transient, but this could be a risk to growth ahead.
Tata Consumer reported a yoy revenue growth of
9% YoY and EBITDA margin contraction of 70bp. The margins compressed mainly due
to higher A&P and other expenditure.
Revenue in India Branded Beverages/Foods grew
13%/23% YoY. Revenue from Tata Starbucks grew 128% YoY.
The company managed to reduce its working
capital days by 16 days in 1HFY22 as it has moved towards a cash and carry
model for the general trade channel.
The company had gained market share in Tea
(+190bp YoY) and Salt (+160bp YoY) in FY21. The trend continued in 1HFY22). It
doubled its direct reach to 1.1m by Sep’21. The company is establishing a
strong S&D channel, which would act as a key growth driver.
The company reported 37% yoy rise in revenue
and 33% rise in EBIDTA. Lower staff cost helped in protecting the margins.
Delivery and takeaway continue to drive growth
with 36.8% and 72.2% growth respectively vs pre-Covid levels. The Management
commented that there was an initial dip in delivery as dine-in started to
recover, but it still continues to be meaningfully ahead of pre-Covid levels.
Company highlighted meaningful demand uptick
helped it to more than make up for lost operating hours in closed stores.
Growth was seen across town classes, with stronger growth in smaller towns and
non-metros; stores are now operational at ~95%.
The management highlighted that the Ticket
sizes are higher compared to pre-Covid levels and company expects it to remain high
due to change in channel mix (delivery mix to remain elevated even as dine-in normalizes)
and increase in delivery charge. Apart, the company is also using
premiumization and personalization to drive ticket sizes higher.
The company reported a 36.6% yoy rise in
revenue and 25.6% higher EBIDTA. The maker of premium tiles operated at full
capacity, as unorganized players in Morbi struggled with higher gas prices and
poor export demand due to higher freight cost.
The company managed to pass on the higher raw
material and logistic cost; improved working capital materially.
The management commented that Demand from tier
II/III/IV towns is very positive and urban demand is good owing to keenness for
large premises. The company is expanding tile capacity by 12.4m sq.mtr. by Q4
FY22 at Rs2.5bn-2.75bn capex. Despite the expansion, the headcount will be the
same for the next three years.
The management highlighted that Freight costs
increased from $1500-2000/container to $7000-8000 for China whereas gas prices
increased by 300-400% in Europe in the last 1.5 months leading to €1.5/sq.cm
cost increase.
Asian Paints revenue grew 32.6% yoy. The
company witnessed strong growth momentum in both urban and semi urban areas. The
company reported strong market share gains from both organized as well
unorganized firms. It strongly expanded its ‘Rurban’ footprint by
adding 40k new retail points in the past two years.
The management highlighted that Pick-up in
industrial activities and housing construction have led to strong double-digit
growth in the industrial coatings business and in the bath and kitchen
businesses.
Margin pressure (gross margin down 966bp YoY in
Q2) was high, due to sharp cost inflation (20% YoY inflation impact on raw
material basket). However, if input prices remain stable, APNT is confident of
improving margins in the next couple of quarters – It guided for margin
normalization by Q4, led by price hikes, efficiency in raw material
formulations and overhead cost savings.
The company also reported RoE contraction and
working capital improvement.
Titan reported 64%.6% yoy rise in revenue and
209% rise in EBIDTA. Lower staff cost and other expenses protected the gross margins
which were down 690bps.
Jewellery sales grew 65% YoY and margin was up
500bp YoY to 12.2%. Watches sales grew 71.8% YoY to INR6.9b with EBIT margin
coming in at 13.1% in 2QFY22 as against -3% in 2QFY21.
The company is witnessing market share gains across
every region and city according to the management. TITAN has a strong growth
runway, given its market share of less than 10% and the continuing struggles
faced by its unorganized and organized peers.