United Breweries 'bold' suspension of beer supply in Telangana could pay off in FY26: Kotak

Telangana is a high-volume, low-margin state, with beer firms' net realizations at just 17-18% of MRP, compared to 25-30% in most other states.

Kotak Institutional Equities, in its latest note, highlighted United Breweries Ltd.'s decision to suspend beer supplies to Telangana due to pending price revisions and overdue receivables as a 'bold' strategic move. While this action may weigh on near-term profitability due to operating deleverage, it introduces potential upside to FY26 estimates if Telangana approves the long-awaited price hike, said Kotak.

"We believe that UB has taken a bold decision, but a necessary one. We note that UNSP’s (United Spirits) suspension of scotch supply in select states in 2023 pending price hikes paid off eventually," Kotak said in its note.

Telangana contributes 18% to United Breweries' volumes and 15% to its revenues. United Breweries has suspended beer supplies to Telangana Beverages Corporation Limited (TGBCL), the state-owned sole distributor, citing two key issues: no upward revision in base prices since FY20 despite rising costs, leading to EBIT losses, and overdue receivables.

UB's receivables from TGBCL stood at approximately Rs 900 crore (over six months of sales) as of June 2024, with total receivables rising 67% year-over-year to Rs 2,430 crore in September 2024. This is an industry-wide challenge, not limited to UB. While Telangana approved a price hike for spirits last year, the beer industry’s repeated requests for a similar revision remain unaddressed.

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Telangana is a high-volume, low-margin state, with beer firms' net realisations at just 17-18% of MRP, compared to 25-30% in most other states. Despite a dominant market share (40 million cases), UB is incurring EBIT losses, highlighting the unprofitable nature of the state for the beer industry. Over the past 25 years, beer volumes and consumer spending in the combined Andhra Pradesh and Telangana region have grown at a CAGR of 6% and 11-12%, reaching 80-85 million cases and Rs 19,000-20,000 crore, yet the industry is barely generating any EBIT.

Kotak estimates that UB needs a 30% price increase in Telangana to achieve ROCE above its cost of capital. Given that price hikes in the state occur every 3-4 years (the last was 5 years ago), a 15-25% increase is expected. UB’s net realisation in Telangana is currently Rs 27-29 per 650 ml bottle with an MRP of Rs 150-160.

If the state approves an 8% MRP hike and shares the increase with UB, it could result in a 20-25% boost in UB's net realization. Kotak believes UB’s request is reasonable and could be absorbed without significant consumer inflation. The price hike could lead to a Rs 200-250 crore EBITDA upside (200-250 bps margin expansion). However, the suspension of supply may impact near-term earnings due to operating deleverage, it added.