Even as gross margins fall due to cost pressures, companies look at launching premium products to improve realisations.
In an environment of falling corporate profits and slowing economic growth, the big question is whether or not consumption will hold up. Analysts are coming around to the belief that this sector is unlikely to run out of steam and that the growth momentum should hold up. Nearly, all consumer companies have grown volumes in the second quarter, ahead of expectations. Growth in sales has been driven by both volume and value, as most have undertaken price increases. ITC for instance, grew volumes by eight per cent, despite a six per cent increase in price.
According to Citi’s chief economist, Rohini Malkani, India is a consumption-driven economy, with consumption comprising close to 70 per cent of its gross domestic product (GDP). India accounts for 2.6 per cent of global GDP and 3.3 per cent of world consumption. Per capita GDP has grown at a CAGR of 4.8 per cent over FY07-11, against a CAGR of 6.7 per cent over FY97-07. Such growth provides impetus for higher discretionary spends, claim analysts. Over recent years, consumption has got a push from rising rural incomes, favourable demographic mix and low penetration levels. Consumer companies have significantly increased distribution networks and are focusing on direct distribution. This has yielded rich dividends for companies like Hindustan Unilever, which has seen volumes jump.
As capacity to spend on discretionary items increases, companies are fast launching premium products and versions to rake in the extra moolah. Be it Glaxo SmithKline Consumer, Hindustan Unilever, Nestle, ITC or Colgate-Palmolive, everyone’s launching premium products. According to Anand Rathi, Nestlé India has a range of brands from which premium products have been spun off. The company has launched premium variants of Maggi noodles, such as vegetable atta noodles, rice noodles and dal atta noodles. The most recent, Maggi Pazzta, is driving consumers to trade up. Similarly, GSK has one of the most successful ranges of premium brands. Junior Horlicks, Horlicks Lite, Women’s Horlicks and Mother’s Horlicks grew substantially as consumers traded up from the base Horlicks.
With premiumisation, companies may be able to stem the fall in gross and operating margins. According to Edelweiss Financial Services, gross margins of over a dozen companies have dipped significantly, except for Nestle, Agro Tech, Zydus, Britannia and most cigarette businesses. Like other sectors, the consumer space too has its own share of problems, too. The pressure of raw material costs is intense and, as a result, most companies have trimmed their advertising spends to manage margin erosion. Most have trimmed ad spend by 100 to 250 basis points. Cutting this in times of a slowdown can hurt volume growth, as happened with Dabur in the second quarter. For growth to hold up, analysts believe companies will focus on increasing the share of premium products in their portfolio and by driving sales through higher spends.
