The premium valuation (45 times FY20e earnings) factors in limited earnings volatility, innovation profile and strong execution capability. The recent correction in the stock provides a reasonable entry point to take exposure to a high quality defensive bet.
Hindustan Unilever (HUL) posted a strong set of Q2 FY19 earnings on double-digit volume growth, which was broadly as per our expectation. Domestic consumer sales grew 12 percent year-on-year, ahead of industry growth, aided by sustained revival in rural growth (1.25 times urban growth).Double-digit sales growth for all divisions in Q2
This is also the first quarter after the rollout of the Goods & Service Tax (GST) where YoY reported numbers are comparable. Overall operating sales grew 11 percent backed by double-digit sales growth in all three divisions. The management reported its fourth consecutive quarter of double-digit volume growth (10 percent).
However, pricing growth of around 2 percent was the lowest in recent times. Recent price hikes would be fully reflective in the third quarter. Gross margin declined around 70 bps YoY due to higher crude oil and currency-related impact on input cost, but was partially offset by benign food/vegetable prices. Pressure from raw material inflation was particularly seen in the home care division (33 percent of sales).
Earnings before interest, tax, depreciation and amortisation (EBITDA) margin improved on account of cost efficiencies, operating leverage and moderation in advertising spend run rate (12 percent of sales in Q2 FY19 versus 12.3 percent in Q2 FY18). Higher other income helped adjusted net profit growth of 23 percent YoY.
Competitive intensity reduces: The management said that competitive intensity has waned in the last quarter and doesn’t appear to be a key near term concern. This appears to be a key positive for the company, which has over the past one-year has seen lowered competitive threat from the key disruptor in the naturals category: Patanjali Ayurved.
While competitive landscape is a dynamic phenomenon in the consumption space, the company seems to have benefited in recent times from being ahead of the curve in terms of responsiveness to GST requirements, nimble supply-chain, promotional spending and innovation profile.
Oral care a problem area: A couple of product categories/segments remain a problem area for the company. The prominent among them being oral care. Improved commentary for the same in the previous couple of quarters was absent this time round. Except for north and central India, performance was below our expectation. The company seems to be losing share to Dabur and Patanjali in this category.
Investors need to keep a close watch on the performance of purifiers and personal wash.Outlook
The quarterly result is broadly as per our expectation. It remains our key stock pick and will benefit from a growth in rural consumption (40 percent sales exposure). Growing natural portfolio and its positioning in it remains a key positive.
The premium valuation (45 times FY20e earnings) factors in limited earnings volatility, innovation profile and strong execution capability. The recent correction in the stock provides a reasonable entry point to take exposure to a high quality defensive bet.Moneycontrol Research page