HUL braves slowdown, premium valuation to sustain on Street's thumbs up

Revised target price indicates upside of 7-10% from current level

Hindustan Unilever (HUL) seems to have braved the slowdown storm that has impacted some consumption stocks. 

The HUL stock, which hit its all-time high of Rs 2,271 on Wednesday, has gained over 11 per cent since January-end, compared to a sub-1 per cent rise in the Nifty FMCG index. Its current market capitalisation is close to the Rs 5-trillion mark.

What is making the stock tick is the expectation of healthy profitable growth despite a large base, and strong return ratios. This should support valuation, which, at 56x its FY21 estimated earnings, is at a 24 per cent premium to its long-term average. Analysts at JPMorgan believe premium multiples should sustain, given HUL’s superior portfolio, execution, and the best-in-class return ratios. 

Brokerages believe HUL’s return on equity will improve substantially over the next two years.  What makes it stand out in comparison to peers is its distribution reach, focus on innovation, and a strong product portfolio. In Q3, when consumption demand had worsened, HUL had maintained volume growth at 5 per cent. 

This reflects the underlying strength of its products, and should help it grow faster when recovery gathers pace in FY21. 

Besides volume growth, an improvement in realisation is also expected as HUL had hinted at a 5-6 per cent price hike in the soaps segment. 

Further earnings strength also stems from a strong operating margin profile. HUL has shown sturdy earnings before interest, taxes, depreciation and amortisation (Ebitda) margin improvement (830 basis points) over the last 5 years. 

This was mainly on account of premiumisation and cost efficiency programs, which are expected to continue. 

From 25.2 per cent in Q3, HUL’s Ebitda margin is expected to improve to 26.6 per cent in FY22, according to Motilal Oswal Financial Services estimates. 

HUL’s strategies, such as introduction of small units and relatively higher marketing spends, has made its premium brands affordable. While HUL’s share in premium products is 1.3x its overall market share, it targets close to 6 per cent savings every year from its cost saving program. 

This apart, the acquisition of GSK Consumer and removal of dividend distribution tax should further support HUL’s overall performance.

Brokerages have recently revised HUL’s target price, which indicates 7-10 per cent upside in the stock from current levels.