Margin expansion ahead for Colgate; brokerages await demand revival signs

The stock of Colgate-Palmolive (India) surged after the company delivered a better than expected operating performance for the March quarter of the 2022-23 financial year (Q4FY23) last week. 

The stock, however, has given up most of these gains over the last one week as the Street awaits recovery in the core toothpaste segment and sustained recovery in market share.

The country’s largest listed oral care company posted a gross margin expansion of 100 basis points (bps) on a sequential basis to 66.9 per cent, led by pricing and efficient sourcing. Gross margins were flat as compared to year ago levels.

The gains at the operating profit level were sharper, at 545 bps sequentially (46 bps year-on-year or YoY) to 33.5 per cent. The improvement which helped the company post its highest operating profit margins since Q4FY15, according to Nuvama Research, was on account of lower spends on advertising and promotions (A&P).

A&P spends fell 2.7 per cent YoY to 10.6 per cent of sales. This was 70 bps lower on a YoY basis while on a sequential basis, it was 260 bps down. The company deferred spend on A&P by a quarter, given the relaunch of ‘Strong Teeth’ in the current quarter. Brokerages expect margins to improve due to lower raw material costs and price hikes taken in FY23.

Overall revenues were up 3.8 per cent which was broadly in line with its four-year average growth. While exports were muted, domestic growth came in at 5.4 per cent YoY, led by higher consumption, premiumisation and innovation. The company indicated that the toothpaste category delivered high single-digit value growth (volumes fell 1 per cent) even as demand trends in the category were sluggish, especially in the rural segment. The company expects overall category growth to improve in the coming quarters.

Triggers for the stock and valuations, according to Amnish Aggarwal and Harish Advani of Prabhudas Lilladher Research are the resurgence of rural demand, new launches in oral/personal care and category growth. Although the company’s growth is unexciting, favourable financial parameters -- including a 2.5 per cent dividend yield, 90 per cent plus pay out and 85 per cent return on capital employed -- limit the downside. The brokerage has a ‘hold’ rating on the stock.

Nuvama Research, too, has a ‘hold’ rating. Analysts, led by Abneesh Roy of the brokerage, expects Colgate’s innovation funnel and brand investments to keep flowing. Toothpaste side (muted since last few quarters), has started to see a decent recovery. However, the brokerage awaits market share gains with higher focus on naturals and non-oral care segments.

With target prices of brokerages in the Rs 1,600 to Rs  1,725 band, there is little upside in the stock from the current market price of Rs 1,635. The stock is trading at 38 times its FY24 earnings estimates.