After a muted Q4, high base could pose growth challenges for HUL

Muted volume growth, higher ad spends may be a drag on profitability

The country’s biggest fast-moving consumer goods company, Hindustan Unilever (HUL), disappointed the Street with sales and operating performance missing estimates. Net sales grew by 11 per cent, while brokerages expected the number to be upwards of 12.5 per cent, largely led by higher volume growth (its Q4 figure stood at 4 per cent), even as pricing growth at 7 per cent was in line with Street expectations.

The single-digit pricing growth was largely on account of price cuts in the soap portfolio on the back of falling raw material prices. Even as the home care segment continues to lead on the growth front, registering a 19 per cent jump year-on-year (YoY), the food and refreshment segment, which accounts for about a quarter of overall sales, saw a muted 3 per cent growth.

Within foods (tea business), the company indicated that consumers were downtrading to loose tea, with the price gap between premium variants and loose tea widening. Even as most categories are experiencing premiumisation, in the tea space there has been a shift towards lower priced (commoditised) segments. The company is working on upgrading consumers from loose to packaged tea. The Health Food Drinks category, too, was under pressure as higher inflation impacted sales, while unseasonal rain hit ice cream sales.

On the sales outlook, the company is expected to face a growth challenge. This is on account of a high base in pricing growth as the metric was up 11-12 per cent YoY over the past three quarters. Further, price cuts taken recently, too, would reflect in lower growth.

The pace of volume growth is also uncertain, and expected to be gradual, given the high levels of consumer inflation. The expectation that inflation will continue to remain stubborn could hit sentiments and postpone spending, which could impact volumes. In addition to a drop in inflation, higher income growth would also be key for volume and value in consumer goods to record an upswing.

While growth worries remain, the Street will also keep an eye out for margins. The lower inflation reflected an improvement in gross margins on a sequential basis by 120 basis points (bps) as the company was able to reduce the gap in raw material price increase and price hikes to 2 per cent from 7-10 per cent over the last three quarters. Given the lower commodity prices for most inputs, barring barley and milk powder, a majority of brokerages expected the company to do better on the gross margin front if prices remain at the current levels.

While the company is passing on some gains derived from raw materials, it has also increased advertising spends by 200 bps over the last two quarters as it seeks to protect and grow its market share across categories. Given the clear intention to boost market share, increase in competitive levels could lead to increase in spending on advertising and promotions, thus impacting margins at the operating level.

Given the muted results and lack of clarity on the growth trajectory, the HUL stock shed 1.46 per cent in trade on Thursday and was the biggest loser among Sensex stocks. Volume growth and margin gains would be key triggers for the stock, which could underperform in the near term.