HUL likely to underperform on growth concerns

Foreign brokerage firms such as Credit Suisse and CLSA have maintained a negative outlook on the company in FY14 in their reports

After rising 30 per cent in 2012, Hindustan Unilever’s (HUL’s) stock has declined 10 per cent in 2013 till date and has underperformed the Sensex, BSE FMCG index and even its closest peer – ITC. After the negative news on increase in royalty and tax rates, investors are now getting increasingly nervous about the slowing growth (mainly volume), which was reflected in December 2013 quarter (Q3) and muted performance in March 2013 quarter.

As per consensus analyst estimates, the company is expected to see moderation in sales growth led by tapering of price-led growth seen in soaps and detergents and demand pressure witnessed in personal care products namely skincare and haircare in premium category.

Recently towards the end of March, foreign brokerage firms – Credit Suisse and CLSA – maintained a negative outlook on the company in FY14 in their reports. While Credit Suisse maintained its neutral rating on the company, it expects challenging times in FY14. CLSA, on the other hand, has downgraded the stock to SELL from UNDERPERFORM based on high valuation and muted earnings growth.

Downgrades

After Credit Suisse’s report on the company dated March 26, CLSA released a report on March 28 downgrading the stock from UNDERPERFORM to SELL. According to Arnab Mitra, analyst, Credit Suisse, FY14 will be a challenging year for HUL with significant moderation in revenues growth to low teens led by lower price growth and mid-single digit volume growth.

“While soaps and detergents revenue growth is expected to see a sharp slowdown, personal product weakness is expected to continue. Further, expansion of gross profit margins thanks to reduction in palm oil prices would be compensated by rise in royalty and tax rates combined with tapering of growth in other income following the special dividend of Rs 2,000 crore paid in Q3,” he adds.

Vivek Maheshwari, analyst, CLSA Asia Pacific Markets, downgraded the stock as he feels valuation is expensive after significant rally in share price and a sub-10 per cent earnings growth in FY14 following weak macroeconomic environment, a slowdown in revenue growth in soaps and detergents and weak trend in discretionary segments.

Moderation in sales growth

Analysts do not expect much growth in the top-line during the recently concluded quarter (Q4FY13). Sales growth in soaps and detergents is expected to be under pressure on account of muted volume and lack of incremental price hike. Home and personal care products division is also expected to see moderation. Sanjay Manyal, analyst, ICICI Direct slower attributes this trend to downtrading and slower growth in modern retail.

While gross profit margin is expected to continue to improve on account of reduction in palm oil prices and earlier price hikes, the impact is expected to be mitigated by higher adspends (thanks to new launches) and increase in royalty (first quarter of the hike).

HUL’s parent company recently said in its annual report that there is a risk of modest slowdown in emerging markets such India. It does not anticipate challenging market conditions of 2012 changing significantly in 2013. Economic pressures are expected to continue, it adds.

Given challenging times continuing in FY14, the current valuation of 30-times estimated earnings for the same period looks expensive. Though the stock may find support from the recent spate of selling in broader markets, it is expected to be an underperformer in next one year.