It?s the preferred pick in mid-cap consumer space
Given the sharp decline in menthol prices of late, we believe Emami should be able to deliver significant improvement in margins in FY14F (forecast), which is not being built into the current stock price. We now factor in a 110bps margin improvement for FY14F (vs. flat margins previously). This is despite higher A&P (advertising, marketing and promotion) spend of closer to 18.5% in FY14F. Valuations at 19.7x FY15F EPS (earnings per share) vs. sector average of 23.9x (times) leaves plenty of room for upside potential from current levels. We reiterate our Buy rating and raise Emami to our preferred pick in the mid-cap consumer space.
Company has the benefit of timing: More importantly, the decline comes at a time, when the company?s current contract is about to expire. In Q3FY13, management had noted that it had menthol stocks for a couple of months. Management sees the current trend as being volatile and hence there remains scope for further softening in prices. This implies management is now sourcing menthol on a spot basis and is not committing to any long-term supply contracts.
What does this mean for margins? After menthol, the other key raw materials include chemicals, tubes and containers and packaging material. The prices of these inputs are largely linked to crude prices. We assume an average menthol price of R1,400 per kg for FY14F (down 18% from R1,700 in 9MFY13). However, this is still higher than the spot price of R1,285 per KG. For other raw materials, we assume prices to remain flat year-n-year. This implies that on 30% of input costs, we are building in an 18% decline, while on 70% of the input cost basket, we are building in a flat price. Hence, we estimate Emami should deliver 58% gross margins in FY13F. We see potential for gross margins to move up by 230bps y-o-y.
Revisiting the sales growth numbers: Emami has a strong product portfolio with several of the key categories having penetration level of less than 20%. With the company?s long-term strategies geared around increasing the penetration and usage of its products, we believe Emami is well placed to consistently deliver 15%+ top-line growth.
For FY14, we are building in a 16.6% top-line growth with 4% price increases and 10-12% volume growth. Management has in the past committed to taking moderate price increases irrespective of the input cost scenario. If, however, the gross margin benefit is significant, the company will pass on a part of it back to the consumer by way of promotions. We believe there could be some upside risk to the top-line numbers as well.
How does Emami compare with other mid caps? Emami?s peer group comparison is with other midcap consumer staple companies such as Dabur, Marico and GCPL (Godrej Consumer Products) . On our numbers, Emami will deliver 24% earnings growth in FY14F which compares favourably with 20%/21%/24% at Dabur, Marico and GCPL. We would also highlight that, given the raw material situation, the risk of a positive earnings surprise is the highest in Emami. We believe there could be upside risk both in top-line and bottom-line.
Reiterate Buy as our preferred pick among the mid-cap consumer names under our coverage.
Nomura