United Spirits' volumes slip sequentially, Diageo says fall was factored in

Second quarter of FY14 has been particularly challenging for the alcohol, beverage industry

A close look at United Spirits’ performance during the quarter ended September shows the company’s strategy of premiumisation has taken a toll on the company’s volumes on a sequential basis. Diageo, which recently acquired strategic controlling stake in the company, acknowledged the slowdown, but added this had already been factored in.

The September quarter has been challenging for the spirits sector, especially for the premium segment. Manufacturers have seen a rise in input costs and the fact that these couldn’t be passed on to consumers hasn’t helped.

 

“In the short term, the market is experiencing some slowness...and cost pressures have increased. However, we have factored this into our acquisition model. So, we expect to remain on track against our original investment case,” Diageo chief executive Ivan Menezes said at the company’s investor conference in London.

 

Diageo confirmed United Spirits had begun exiting some “unprofitable price points” to raise the margins it had once sacrificed to boost volumes. “We believe over time, we can deliver cost efficiencies. We may have to make some capital investments to improve productivity, but we remain confident operating cost savings can be made,” Menezes said.

 

After Diageo acquired stake in United Spirits and increased the company’s focus on premiumisation, the market had expected a surge in the company’s margins. However, analysts who attended the conference in London said the Diageo management had dismissed the estimates, terming these “unrealistic”.

 

In the September quarter, United Spirits’ margin growth dropped to 10.9% from 12% in the corresponding period last year.

 

Diageo reiterated its focus on premiumisation, saying this was a long-term trend to capitalise on. Selling high-value products will help offset the increasing costs of molasses and extra-neutral alcohol, crucial in making spirits. “Our strategy for long-term value creation remains unchanged from the future we outlined in November last year. The consumer in India is trading up, and United Spirits has the brand portfolio to capitalise on this trend,” Menezes said. “In the medium term, we may have to increase marketing for the premium brands, but I am confident we can deliver the right return from any upgrading.”

 

“This transaction has not only transformed Diageo’s position in India; it will also transform Diageo. India is one of the biggest growth opportunities in our industry. United Spirits’ distribution reach is an enviable strength, as the number of middle-class consumers looking for premium and prestige local spirits brands increases as income levels rise,” he added.

 

Volumes slip

 

While United Spirits stated its volumes in the prestige-and-above segment rose 21% during the September quarter, the reported volume of 7.7 million cases during the quarter shows a modest five% rise, against 7.4 million cases in the corresponding quarter last year, as USL dropped few of its brands from prestige to the mass segment.

 

The company is said to have reclassified its portfolio, shifting a couple of brands---Bagpiper Gold and Director's Special Black---from the prestige-and-above segment to its regular/economy segment.

 

The company didn’t respond to Business Standard’s request to comment on the 21% volume growth.

 

On a sequential basis, the company has seen a five% fall in volumes in the premium segment. It had sold 8.21 million cases in this segment in the quarter ended June.

 

Annually, overall volumes have fallen one% to 28.1 million cases, despite a lower base in the corresponding quarter last year (one% fall). Sequentially, the fall in overall volumes is 10%.

 

According to the company’s balance sheet, net sales fell eight% to Rs 2,057 crore, with the premium segment now accounting for 28% of sales. Analysts said the company’s consolidated net profit stood at about Rs 33 crore, a year-on-year fall of 72%.

 

Excluding foreign exchange gains, the company’s adjusted earning per share stands is in fact a loss of Rs 1.3 on a consolidated level, says analyst Vivek Veda of Espirito Santo Securities.

 

Analysts said despite the infusion of Rs 1,453 crore from Diageo during the quarter, United Spirits’ long-term debt of Rs 998 crore had fallen only to Rs 454 crore, a possible indication of increasing working capital requirements.