Higher costs pull down Colgate's margins, profit

Toothpaste maker Colgate disappointed the Street with a 5.8 per cent fall in net profit to Rs 123 crore for the quarter ending March, even as sales jumped 18.3 per cent to Rs 832 crore (higher than expectations of Rs 797 crore), compared to the year-ago period.

This was largely due to a fall in operating profit, as advertising spends and staff costs rose sharply. Strong volume growth in the toothpaste segment was a key positive. The oral care segment has not slowed, given the relatively lower penetration of toothpaste in the rural markets (on account of more usage of toothpowder, only once a day). Colgate plans to increase penetration in the rural markets and focus mainly on the chemists' channel.

However, the intensifying competition is likely to have a bearing on margins, as the company plans to increase its ad spends (to protect market share after Procter & Gamble's toothpaste foray, expected next month). Gautam Sinha Roy, vice-president, equities, Motilal Oswal Securities, says, "Higher ad spends is a reflection of increased activity on new launches / innovation, while the toothpaste market is likely to see increased competition in the coming year."

Analysts believe Colgate is losing to GlaxoSmithKline Consumer in the sensitivity / gum care (premium) segments. Both Colgate and GSK launched gum care products - Colgate Pro Gum and Parodontax, respectively - in the March quarter. Abneesh Roy, analyst at Edelweiss Securities, says, "Colgate has to watch out for GSK in the sensitive segment. All players in the oral care segment are increasing ad spends to pre-empt P&G's entry. While Colgate is unlikely to lose significant market share, its margins are likely to be under pressure. The stock is likely to be under pressure in the near term."

The stock saw some selling recently after news of P&G's likely toothpaste foray. It fell 1.2 per cent on Tuesday as against a 0.65 per cent rise in the Sensex and 0.74 per cent in the FMCG (fast moving consumer goods) index after the company reported disappointing results. Current valuations of 33 times FY14 estimated earnings are also expensive and leave little room for any negative surprises.

Meanwhile, higher ad spends (up 41 per cent year-on-year), staff costs (up 34 per cent) and other expenses (up 27 per cent due to higher freight and power expenses), along with higher tax rates, impacted operating as well as net profit. The tax rate was 24 per cent in FY12 and inched up to 25 per cent in FY13. The management expects the tax rate to expand 150 basis points (bps) annually in the next one to two years.

Revenue was led by a 12 per cent volume growth (expectations were of eight to nine per cent), while realisations were up four to five per cent compared to the year-ago quarter. Colgate reinforced its leadership position in the toothpaste segment and expanded its market share by 130 bps to 55.4 per cent over FY12.

The toothpaste volume growth came in at a strong 11 per cent. The toothbrush market share improved 380 bps to 41.5 per cent for January-April, while the mouthwash market share remained largely unchanged at 26.5 per cent due to slowing demand. The latter category remains an indulgent one, rather than a necessity.