Colgate: Positives priced in

Higher ad and other expenses weigh on margins, profit growth restricted to just 1.6% in December-ended quarter

Colgate put up a good show in the quarter ended December 31, and met Street expectations on all fronts, namely, revenue, net profit and volume growth. Sales at Rs 884 crore was up 15.9 per cent and net profit at Rs 113 crore was up 1.6 per cent over the year ago period, in line with Bloomberg consensus estimates of Rs 884 crore and Rs 112 crore, respectively. The Ebitda margin contracted 263 basis points to 17 per cent, driven by higher advertising and promotional activities, which was anticipated.

The key positive of the results was strong overall volume growth of 10 per cent (11 per cent in toothpastes), which is in line with that in recent quarters. Most analysts were expecting toothpaste volume growth of 8-10 per cent, given the slowing demand and increased competition. Notably, Colgate improved its volume market share in both toothpaste and toothbrush segments to 56 per cent (versus 54.5 per cent) and 41.5 per cent (versus 39.8 per cent a year ago) in the January-December period. This is commendable, given the intensifying competition in the toothpaste category, which saw Procter and Gamble’s (P&G) entry in June 2013. A large part of the gains came from rural markets as Colgate increasingly focused on upgrading consumers from toothpowder to toothpastes.

However, this strong top-line performance came at the cost of profitability. Higher advertising expenses (up 65 basis points to 13.7 per cent of sales) and other expenses (up 311 basis points to 24.9 per cent due to higher promotions) weighed on the margins. Prices of essential oils and sorbitol remained soft leading to a 352 basis points fall in raw material costs to 29.3 per cent. Employee costs, too, fell 228 basis points to six per cent of sales, providing cushion to margins. All this along with a marginally higher tax rate (up 88 basis points to 27 per cent), restricted net profit growth to a mere 1.6 per cent in the quarter, offsetting the growth in other income (up 38.3 per cent to Rs 16 crore).

Analysts believe the margins could stabilise. “Colgate’s results were good. The company continues to expand market share through its oral care awareness programs, increased advertising and promotional activities and new launches. Its recent product, ‘Visible White’, has received a good response. Overall, the company has managed to protect its market share despite P&G’s entry. We believe the margins will pick up from the March quarter onwards as competitive pressures ease,” says Abneesh Roy, associate director, institutional equities research, Edelweiss Securities.

Among other categories, mouthwash witnessed a pick-up in volume growth to 13 per cent as supply chain issues eased out. Slimsoft toothbrushes also continued to witness good traction.

At the current market price of Rs 1,311, however, stock valuations (PE of 29 times FY15 estimated earnings) appear rich.

“We believe Colgate’s current valuation more than prices in volume growth, as well as expectations of protecting its market share. However, the toothpaste category’s approaching maturity in urban markets, along with higher competitive intensity versus the past, makes the risk-reward unfavourable”, says Prasad Deshmukh of Bank of America Merrill Lynch.