Shareholders of India’s largest liquor maker, United Spirits (USL), would be better served with current chairman Vijay Mallya stepping down in favor of Diageo, industry analysts say. Mallya has so far been defiant to the USL board’s call for resignation, claiming that the internal report that talks of fund diversion was not true. However, analysts report the company had been underperforming under his management with focus on volumes than profitability. Most major brands failed to receive adequate investments, leading to competitors gaining share.
“We note that premium brands were under-invested for the last few years under the erstwhile management. Hence, the brands appear fatigued, in our view. Second, USL’s key competitor in the premium space, Pernod Ricard India (PRI), has outspent it by a wide margin in the marketplace,” Manish Poddar, analyst at Motilal Oswal Securities said.
According to an analyst at Edelweiss, the primary reason behind the large gap between the value of market shares of PRI and USL is the former’s premiumisation focus. USL, which has shifted focus on premiumising its portfolio recently, has a long way to go to match PRI, which operates only in the prestige and above categories in India.
“PRI net sales during FY13 grew seven times and profit surged seven times led by successful implementation of premiumisation strategy. Despite USL being four times bigger than PRI in terms of volumes, its Ebitda per case is a fourth of PRI’s. The difference in profitability is on account of the latter operating primarily in the premium end of the IMFL space whereas USL is a dominant player in the mass segment. With Diageo now in control, we expect things to change for USL, and it is likely regain its top position in the IMFL segment on the profitability front as well,” Edelweiss sources added.
USL’s net profit rose 21.39% to Rs 78.81 crore on a 2.3% rise in net sales to Rs 2,318 crore in Q3 FY15. The company owns some of India’s biggest alcohol brands, including Royal Challenge.
India’S IMFL market is estimated to be 70% of the total liquor market, worth Rs 30,000 crore ($4.7 billion). According to Euromonitor, IMFL volume is expected to reach 2,979 million litres or 331 million cases. During 2014-18, IMFL sales value is expected to grow at a CAGR of 7.9%. Key drivers of this growth are changing preference of customers due to rising per capita income, higher aspiration levels, favourable demographic profile, increasing urbanisation and better penetration.
By virtue of its strong presence in the mass segment, USL captures 40 % volume share in India, followed by PRI with 10% share. In the past few years, USL has lost some market share due to reduced focus by management, Edelweiss reports.
The optimism around post-acquisition benefits is what may be holding up USL’s share price at these levels, Anas Rahman Junaid, Partner of Nash Capital Partners told FE. “It is indeed favourable news for USL shareholders that Diageo is finally taking control at USL. In addition to the above, 76.3% of the shareholders approved the licensing and manufacturing pact with Diageo. This equips USL with an opportunity to ‘make’ the premium brands at a cheaper cost and ‘sell’ at a good margin. USL’s shares appreciated 58% during July 2014-April 2015,” he said.
“However, it is also interesting to note that most of this appreciation was during the period January 2015-April 2015 (up 36%). This could be the after-effect of the ‘make and sell’ pact with the parent company. This situation proves that robust cash flow strategies always rule when it comes to impact on valuation,” Anas added.
Said Manish Poddar, “Though early, we expect several signs to emerge from the steps being undertaken to restage the long term business mix of USL. We expect the company to enhance brand and ad spend over the next two years as it revamps the premium brand portfolio. We believe the recalibration of brand spends is on the anvil.”
Edelweiss believes premiumisation is undoubtedly one of Diageo’s prime priorities. “The strong performance of prestige and above brands over the past few years indicates ample growth potential for this segment. Other favourable factors like increase in disposable incomes, attractive demographics and higher social acceptance further underscore the premiumisation theory,” Edelweiss sources report.