Can HUL's GSK unit acquisition revitalise health drinks business

GSK is the market leader in the HFD category, with iconic brands such as Horlicks and Boost, and a product portfolio supported by strong nutritional claims.

According to Euromonitor International 2018, GSK enjoyed the largest market share in HFD at 49 percent, followed by Mondelez (Bournvita) at 11 percent; Kraft Heinz (Complan), which is now under Zydus Wellness, at 7 percent; Abbott (Pediasure) at a percent; and others at 32 percent.

In a matter of few months, two of the topmost brands in the Indian HFD market have switched owners. Almost sequentially, Complan has been lapped up by Zydus Wellness and now Horlicks has found a new owner in HUL.

As far as the Indian HFD market is concerned, stagnancy in category growth might now change with HUL pushing for product innovation and premiumisation, advertising blitz and strengthening distribution reach.

According to a source, the healthcare business was no longer core to GSK and given the stagnation in the segment, it didn't see any future for it in that space. Also, there was not much scope to innovate and lack of growth in the malt-based health drink segment.

What's the deal? GSK will be merged with HUL in an all equity merger. The share swap ratio has been fixed as 4.39 shares of HUL for one share each of GSK (valuing the latter at Rs 31,700 crore).

The deal brings in GSK's full HFD portfolio -- Horlicks, Boost, Viva and Maltova -- and is expected to be closed by December 2019. It also includes a consignment selling contract to distribute OTC products like Sensodyne, Eno, Crocin, and Otrivin for a five-year period.

Post-merger, the Anglo-Dutch conglomerate's ownership would fall to 61.9 percent (from 67.2 percent) and GSK Plc would hold about 5.7 percent of the merged entity. Unilever doesn’t retain any call option to buy out GSK’s stake in the merged entity.

Your loss, my gain The acquisition will propel HUL to among the largest listed foods companies in India. "The turnover of our foods and refreshment business will exceed Rs 10,000 crore and we will become one of the largest foods and refreshment businesses in the country," Sanjiv Mehta, Chairman, and Managing Director, HUL, said.

HUL believes the category offers strong long term growth, given the low penetration and huge opportunity for market development and premiumisation. It believes higher distribution reach and innovation capabilities can help leverage these brands significantly.

Along with the three health drink brands, HUL will get three factories, 800 GSK distributors, close to 50 percent market share in HFD segment that GSK’s nutrition brands command and a century-old lineage of brand Horlicks that Indian mothers swear by.

Compared to GSK, HUL has the largest distribution base in the country with a reach of 7 million retail stores, or 8.7 times Horlicks’ direct reach of 8 lakh outlets. But Horlicks is also sold across a large number of chemist stores, which may be of some use for HUL to push its personal care products.

Besides, HUL will have to distribute GSK's over-the-counter products such as Crocin, Eno and Sensodyne for the next five years. The merger will also add around 4,000 GSK employees to HUL’s current strength of around 18,000 employees.

GSK's India business delivered a total turnover of around Rs 4,200 crore in FY18, primarily through its Horlicks and Boost brands.

Brokerage take Brokerages feel that the deal is likely to be EPS accretive for HUL.

Edelweiss Securities highlighted in a research note that due to the merger: i) The share of foods and refreshment (F&R) in the company's revenue pie would jump from 18.4 percent to 27.8 percent; ii) EBIT margin for the F&R segment would improve from 15.6 percent to 17.8 percent; and iii) EPS would increase 4.5 percent in FY20, without factoring in synergies and cost-savings for HUL.

It sees a lot of scope for cost rationalisation, particularly for heads like employee cost, rent and utilities. "Scale benefits are expected to kick in with regards to advertising and promotional cost and raw material sourcing. Similarly overlap in distribution and logistics can be reduced," it stated.

Motilal Oswal Financial Services sees the proposed merger as another demonstration of HUL’s ability to generate shareholder value, going forward, through acquisitions, thereby elevating growth prospects. HUL, it said, offers the best earnings growth visibility in the largecap Indian consumer space.

Challenges HUL has to continue paying royalty on Horlicks, which is about 2.9 percent of GSK sales. To that extent, other expenses would remain higher.

The malt-based drink segment is expected to grow more slowly than in the past, as consumers switch to less sugary drinks due to the growing problem of obesity and diabetes. Consumers globally as well as in India are moving away from sugary drinks rapidly and one-fifth of Horlicks is sugar.