HUL's volumes to grow 6-7% in Q4

Company's promotional activity, price cuts fail to boost demand

Hindustan Unilever Ltd (HUL), India’s largest fast-moving consumer goods company, has been in focus for the past few months. The company’s shares have risen 17 per cent over the past three months, as analysts expected a sharp improvement in its margins on lower input costs.

The stock has outperformed the broader market by a long shot. The Sensex has risen 3.32 per cent in the same period. The steady increase in the stock price has pushed up its valuation to a new high. The stock is trading at 43 times its FY16 earnings and 36 times its FY17 earnings.

There are several factors driving investor optimism, despite sky-high valuations. The company’s volume growth is likely to be unimpressive in the March quarter (five-seven per cent according to estimates) but investors are expecting the company to reap rich dividends from the investments it  has made in expanding direct distribution. Through the slowdown, HUL has expanded its distribution and sharper focus on product innovation. Both have worked and the results will be visible when demand picks up.

According to Motilal Oswal Securities, HUL has initiated a cluster strategy and expects benefits from this to manifest in the second half of calendar year 2015. The company has carved out 14 consumer clusters against the four branch sales structure, which will help drive growth in the medium term, adds the brokerage.

However, in the March quarter, the company is unlikely to see material improvement in revenues, as volumes will grow in single digit. The six-seven per cent volume growth expected in the March quarter would be largely due to a low base in the corresponding quarter last year. The company has undertaken some price cuts in its soaps and detergents portfolio but the management has conveyed to analysts that this is unlikely to impact volumes in the quarter. The company is also building an e-commerce platform for its products in urban areas.

Promotional activity has picked up across categories where input prices have declined — tea, soaps, detergents and shampoos.  However, analysts do not expect the company’s margins to be impacted. Kotak Institutional Equities says: “Promotional intensity remains high, even as we did not notice any meaningful pick-up at the margin level.”  Input prices have fallen 35 per cent year-on-year, which would benefit the company’s margins as volumes pick up. Given that the price cuts have not driven up volumes, margins would not be meaningfully impacted in the March quarter. The company's earnings have averaged at nine% in the last six quarters and analysts expect it to improve to 19% over the next two years.