Nestle: Strong brands, rightly priced

At Rs 1,431, Nestle trades at close to 22 times estimated 2009 earnings, among the most expensive stocks in the FMCG universe as also in the market. The stock has traded at 20 plus multiples for some time now but given the weak environment, it’s possible it could shed some of that premium. For one, the slowdown in the economy could hurt the Rs 4,324 crore food major’s business because its food products are positioned in the premium segment and some, such as chocolates, are bought on impulse.

Coffee too has sold less during past downturns with consumers switching to cheaper products. Also, much of the pull for its products was expected to come from the spread of organised retail, which hasn’t quite taken off at the pace one might have expected. But while the 20 per cent plus growth in the top line, that it has now pulled off for eight consecutive quarters, might elude the firm till the economy is back on the rails, Nestle should manage a 15 per cent sales growth in 2009. That would of course mean a tapering off of the growth in profits — after turning in an increase of around 30 per cent in the last two years, the rise in 2009 would be a far more subdued sub-20 per cent.

Not that there is much evidence yet of the business slowing down. In the December 2008 quarter, revenues were up 21.7 per cent and would have been better had it not been for the fall in exports. Sales in the home market actually grew at 25 per cent and with prices of inputs easing, the company posted an increase in operating margins of close to 200 basis points at 19 per cent. What should help the company continue to attract more consumers are the numerous new launches across categories — it has introduced variants in milk, chocolate and coffee. Moreover, Nestle’s strategy of exploring lower price points — such as the Rs 10 pricing for coffee — should pay off. That’s what makes the stock a good long term play on increasing disposable incomes and aspirations.