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Preparing for a tough demand environment
Weakness in biscuits category led to further growth deceleration for Britannia (+2% volume in Q3), prompting fast action: (1) improving distributor health (lower inventory, pull-based model), (2) prioritising projects (pan-India expansion of croissants and salty snacks likely delayed by 1-2 quarters), (3) capacity extraction (try to get more out of same capacity rather than expansion – cut FY20 capex guidance to Rs1.9bn from Rs3.5bn) and (4) slowing distribution expansion. Given the commodity positions are expiring, profitability is also likely to take a hit in a high inflationary environment. Capital allocation concerns could gain prominence in a weak growth period – approval for issuance of commercial paper (upto Rs8bn) despite c.Rs5bn of inter-corporate deposits (ICDs) to group companies. REDUCE.
* Revenue growth deceleration continues: Consolidated revenue / EBITDA / PAT grew 5% / 11% / 23%. Standalone revenue grew 4% led by 2% volume growth. This performance has been driven by the weak demand situation. Out of this 4% growth, 2% was led by the core biscuits business, 1% was through product innovations and another 1% from new businesses (croissants, milk shakes, salty snacks and wafers). Adjusting for the one-off gains from commodity positions (Rs1.25bn in 9MFY20), adjusted gross and EBITDA margin declined 140bps / 120bps YoY.
* Altering short-term strategy to adjust to demand slowdown: Britannia is focusing on the following areas to drive efficiencies amid weak demand: (1) focus on pull-based model rather than channel filling to drive volumes, (2) improving distributor health (lowered inventory levels), (3) operational efficiencies (reducing wastage and tightening cost controls), (4) capacity extraction (trying to get more out of the same capacity rather than expansion – cut FY20 capex guidance to Rs1.9bn from Rs3.5bn), (5) process improvements (SAP implementation) and (6) prioritisation of projects (croissant, salty snacks pan-India expansion delayed by 1-2 quarters).
* Profitability improvement from commodity hedges, operational efficiencies: EBITDA margin improved 90bps to 16.8% despite a 40bps decline in gross margin (input inflation managed at 3-4% due to commodity hedges) driven primarily by operational efficiencies (opex down 130bps).
* Valuation and risks: Our estimates are largely unchanged; modelling revenue / EBITDA / PAT CAGR of 9% / 9% / 16% over FY19-22E. Maintain REDUCE with a DCF-based revised target price of Rs2,700 (was Rs2,800). At our target price, the stock will trade at 36x Mar’22E. Key upside risk to our thesis is faster-than-expected revenue growth in core biscuits.
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