Looking for the correct lever

RATIONAL EXPECTATIONS

Poor Vindi Banga. For years he's ignored criticism of his high-priced products' strategy, but now that he has slashed prices of top brands like Surf, the same analysts (with a few exceptions) are downgrading his company even further.

More important, the company's stock has fallen a fourth since the beginning of the year, and after Hindustan Lever cut prices of Surf Excel by 27 per cent and Sunsilk/Clinic Plus by half last month, it fell another Rs 14 before stabilising at the pre-price-cut value of Rs 156.

Essentially, market-men are of the view that Lever's in for a serious bruising with other players, like Procter & Gamble, forcing it into a slash-and-burn strategy in both detergents and shampoos.

While some like Merrill Lynch are restrained (it recommends SELL and says the Volatility Risk is HIGH), SSKI is downright dismissive with its report titled FMCG: Off the shelf, into the sink.

Why's Banga being condemned for, in many ways, just following the advice of well-known investment analysts "" never mind that the move was in response to P&G slashing Ariel and Tide prices, the impact is the same.

Less than a year ago, analysts at top broking houses were pointing to how profit margins in top FMCG firms like Lever were double those of their global parents, that their high prices were causing a demand-stagnation, as well as leaving a huge space for smaller competitors like Cavincare to walk in.

It was only after Cavincare introduced a very successful 50 paise Chik shampoo sachet, for instance, that Lever responded "" by which time, Chik had 22.5 per cent of the market, or just 2 per cent lower than that of market leader Clinic Plus (Hindustan Lever).

It appears there are two or three broad areas of concern the analysts still have. First, is the good old question of elasticity "" how elastic is demand for Surf-like premium products? Between 0.6 and 0.8, it appears, for the upper end of the market.

So, if Lever cuts the prices by 10 per cent, demand goes up by only 6-8 per cent "" in other words, a ten per cent cut in prices leads to a 3-4 per cent fall in overall revenues. That sounds logical, after all, how much more Surf can you and I buy even if prices are cut by 25 per cent, as they have been in the current case?

Most analysts are forecasting a 4-5 per cent drop in Hindustan Lever's profitability over the year due to the price cuts "" they're looking at turnover rising slightly though, thanks to the spurt in the rural economy.

The second concern, like the first and the third, and all the rest, is also price-related. As Merrill Lynch points out, on a PPP-basis, Lever's shampoo and detergent prices, even after the price cuts, are still 50 per cent higher than those in south-east Asia.

Hong Kong's per capita income in PPP-adjusted terms is $ 26,810 and detergent retails for 19 paise a gram, as compared to India's 10 paise in an economy where the per capita is ten times lower at $ 2,570. Look at any other country, and you find Lever's products expensive by regional standards.

It doesn't help that, with consumer loans getting a lot cheaper, and a sea change in aspirations, consumers are spending a lot more on consumer goods and a lot less on FMCG items "" over the past decade, expenditure on food, beverages and tobacco has fallen from 56 to 47 per cent.

And since you still need to buy soap, the popular response has been to downtrade, or "why not replace a Pears with a Liril?". Over the past year, in fact, this is why the FMCG sector has underperformed the Sensex by a whopping 43 per cent.

Within India, Lever is competitive in the premium and discount segments of detergents. At 16 paise a gram for Surf Excelmatic and 10 for Excel, the prices compare well with Ariel.

Similarly, at 2-3 paise, its Wheel range competes well with Nirma. But in the mass market, its Sunlight costs double what Ghadi does, and in the detergent cakes market (20 per cent of the total market) Lever brands (Rin Supreme) are 3-5 times what the competition costs "" Wheel detergents are around 15-20 per cent more expensive.

So, if Lever really wants to increase volumes by large amounts, it needs to cut prices a lot more, especially since most markets are already quite saturated.

That, though, would require throwing the rule book out of the window and coming out with a brand new strategy, perhaps even a new production strategy, of the kind Lever came up with when it produced the low-cost Wheel to take on Nirma.

This project to come up with small-scale batch-processed manufacturing, by the way, was called Project STING "" Strategy To Inhibit Nirma Growth.

Can Lever come up with another STING? J.M. Morgan Stanley clearly seems to think so, and its March report is full of instances of Lever's innovations, right from Wheel to relaunching Vim bar with new formulations to remove burnt-dish stains.

The report also details how Lever has responded to threats and come out the winner "" restructuring the tea portfolio after the entry of low-priced competitors by reducing the number of brands from 29 to just 2 umbrella brands (Lipton and Brooke Bond) resulted in profit margins going up a third.

Morgan, though, does say Lever hasn't had any success in coming up with any new product in the last three to four years, and SSKI makes a case for shifting from Lever to ITC, arguing that its e-choupal and other initiatives are potential surprise areas while its problems (the excise litigation) are getting resolved "" while Lever's stock is down a fourth since the beginning of the year, ITC's is up a tenth.

Which of Lever's popular ads is going to be more reflective of its future "" 'Dhoondte reh jaoge' (you'll have to keep looking for it), or 'Dho dala' (literally, washing up the competition)? Watch this space.

suniljain@business-standard.com