Colgate: Low volumes, high valuations cap upsides

June quarter volume growth was lower than expectations though, it maintained market share

Colgate-Palmolive posted lower-than-expected results for the June quarter. The key disappointment was halving of toothpaste volume growth to four per cent, compared with 7-11 per cent in the past four quarters. This was much lower than analysts’ expectations of seven-nine per cent growth.

As a result, net sales, up 12.5 per cent year-on-year (y-o-y) to Rs 951 crore, came in slightly below consensus Bloomberg expectations of Rs 967 crore. Net profit, was down 27.1 per cent to Rs 135 crore against estimates of Rs 139 crore. However, adjusted for exceptional items witnessed in the quarter, net profit growth stood at 4.5 per cent. This metric, too, fell short of analysts’ expectations of seven-eight per cent growth. The stock fell after the announcement of results, losing 4.35 per cent from the day’s high of Rs 1,700 and closed down 2.27 per cent at Rs 1,626 on the National Stock Exchange.

While the financials were below expectations and volume growth is a concern, the company managed to grow toothpaste volumes in a quarter where overall segment volumes shrank four per cent. The key is the sustainability of volume growth, as it will require continuous investments (in new products) by Colgate.

The company also increased its volume market share in the toothpaste segment for another quarter (up 110 basis points in the first six months of 2014 over the corresponding period in 2013) to 57 per cent. In the toothbrush segment as well, Colgate expanded its volume market share to 42.6 per cent (up 140 basis points, 42.3 per cent in the March 2014 quarter).

A 77 basis points y-o-y surge in Ebitda margin to 20.4 per cent was another positive. A large part of the margin gains came from lower employee cost (down 119 basis points to 6.1 per cent of net sales). The company said its strong focus on driving efficiencies, reducing costs, and innovating to drive premiumisation, coupled with prudent price increases, led to significant gross margin expansion.

While Colgate has done well to protect its market share even after P&G’s foray into toothpaste, its reduced advertising intensity, also  augurs well for margins. However, weakening volume growth and higher tax rate (estimated at 33 per cent in FY16 versus 30 per cent in FY15 and 28.3 per cent in FY14) are key pressure points.

The scrip trades at expensive valuations of 37.3 times FY15 estimated earnings. Of the 15 analysts polled by Bloomberg in July so far, 10 have a ‘sell’, four have a ‘neutral’ and one has a ‘buy’ rating for the stock. Their average target price stands at Rs 1,353, which translates into a downside of 16.7 per cent from the current levels.