Rural penetration, capacity gains to drive Varun Beverages' growth

Varun Beverages has been the best performer over the past year in the fast-moving consumer goods (FMCG) space, delivering a return of 60 per cent.

This is thrice that of the Nifty FMCG, its peer index.

Brokerages expect the company, which has delivered sales growth over the last nine months (9MCY23) of 22 per cent, to maintain its momentum led by higher distribution reach, new launches and international expansion. 

The company’s revenue growth was led by robust volume growth of 15.4 per cent year-on-year (Y-o-Y) at 220 million cases and improved realisations, which edged up by 5 per cent to Rs 176 a case.

While volume growth was driven by India (14.8 per cent Y-o-Y) and international markets (17.5 per cent), realisation growth was driven by international markets.  

The double-digit growth of the company is better than FMCG peers. It was led by rural penetration, aggressive go-to-market strategy and sharp price-points.

It has requisite headroom to reach 12.5 million retail outlets as compared to the current presence in about 3.5 million outlets.

In addition to the core carbonated soft drinks, the company is focussing on expanding to the higher margin Sting energy drink across outlets.

In the non-carbonated space, it is adding its presence in value-added dairy (mango shake and cold coffee among others) sports drink (Gatorade) and juices (Tropicana, Slice, Nimbooz). 

Devanshu Bansal and Vishal Panjwani of Emkay Research expect the company to gain from new products (energy/sports/dairy) at affordable price points. This should together drive operating and net profit annual growth of 25-30 per cent CY22-25. The analysts have increased their valuation multiple and earnings, given its outperformance versus FMCG peers and reduced seasonality. 

To meet the rising demand, the company is expanding its manufacturing footprint and has capitalised about Rs 2,000 crore for 9MCY23 to set up a greenfield facility in Bundi (Rajasthan) and Jabalpur (MP). It also plans brownfield expansion in India and overseas.

Varun Beverages also intends to add three greenfield plants (Uttar Pradesh, Maharashtra and Odisha) in CY24 and hopes to start operations in these units to cater to the peak summer season of 2024. 

Despite the strong capex plans, the company is expected to post a strong free cash flow (FCF) generation from next year.

Unnati Jadhav of KR Choksey Research expects strong FCF generation to support debt reduction from the current levels. The brokerage believes that Varun Beverages will become net cash positive in CY25.

Its international expansion is another source of growth for the company. The international markets account for about a fifth of consolidated sales.

With 56 million cases, the company has increased Pepsi’s market share in Zimbabwe to 70 per cent while its market share has improved from single digits to 28 per cent over the last four years. It was led by packaged water, which has accounted for half of its total volumes in that market.

The company is also eyeing a higher share in Congo, which is twice the size of the Zimbabwean market.

Given the large market, it is setting up a greenfield plant in Congo with an annual capacity of 35-40 million cases and it will be ready for production by May next year. Other markets where it is hoping to gain traction are Mozambique and South Africa. 

Elara Capital has an accumulate rating on the stock and increased its target price. It assigns a higher valuation of 48 times earrings for CY25 (earlier 45 times) given the 45 per cent increase in capacity over CY22 levels.

The brokerage expects the company to post a 21.5 per cent earnings growth over CY23-25, which is the highest in its coverage universe.