Nestle: Noodle war may hurt

New variants and innovative product categories on the anvil to beat margin pressure.

Even as the noodle war hots up between incumbent market leader Nestle (Maggie) and competitors ITC (Sunfeast Yippee), GSK (Horlicks Foodles), most analysts are giving the stock a break, as the company looks at increasing capital expenditure and launching new products. Nestle is investing heavily to build new capacities to meet the demand. Nestle has chalked out an investment plan of Rs 1,800 crore for the next couple of years. The company is expanding its existing R&D centre in Manesar and investing $50 million in another unit in Karnataka.

The company is also planning a slew of new products, both under the food and coffee segments, by the end of the year. Interestingly, Nestle enjoys the leadership position in categories like milk, noodles and coffee, which (packaged foods) analysts believe is a better space than the highly penetrated home and personal care category.

According to analysts, who met with the management recently, Nestle is planning to introduce a new manufacturing technology to increase the yield of coffee beans. It will also introduce a range of value-added products that will command high pricing power. Despite the pressure of rising raw materials, the company’s earnings before interest, taxes, depreciation and amortisation (Ebitda) margin jumped 286 basis points year-on-year to 19.7 per cent in the fourth quarter of CY10. However, the company will not be able to retain high margins due to competitive pressure. Analysts expect selling, general administrative (sg&a) expenses to go up from 17.2 per cent in 2010 to 17.7 per cent in 2012.

While both domestic and foreign brokerages are enthused by Nestlé’s plan for higher capex to meet the growing demand for its products and launch new products, there is little upside left in the stock as most of the good news is factored into the price. Analysts value the stock at 27x average CY12 forward earnings, which is in line with the long-term average trading multiple for the stock.