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Result in line; material cost outlook improves notably

* Godrej Consumer (GCPL) declared an in-line set of numbers in its 2QFY23 results. While there was some sequential gains on the gross margin front in 2QFY23, the steep ~50% fall in palm oil cost from peak will result in markedly higher gross margin gains in 2HFY23E and FY24E. The company is using part of the gains to bolster its ad-spends (up ~50% YoY in 2QFY23, bucking the trend of peers for the quarter) to boost medium-term revenue growth prospects.

* The management retained its double-digit sales growth target in the current year and medium-term sales outlook is also attractive. This along with steep material cost reduction is likely to lead to extremely strong earnings growth from 4QFY23. Balance sheet improvements are also remarkable with 25% SKU reduction in India contributing to doubling of India business operating cash flows (OCF) YoY. Maintain BUY.

Sales and operating profit in line with our estimates

* GCPL’s 2QFY23 consolidated net sales grew 7.2% YoY to INR33.9b (in line). Its two-/three-year sales CAGR stood at 7.9%/8.8%, respectively.

* Gross profit was flat YoY at INR16.2b (in line). EBITDA declined 15.4% YoY to INR5.7b (in line); PBT declined 20.8% YoY to INR4.8b (in line), while Adj. PAT decreased 20.6% YoY to INR3.8b (in line) in 2QFY23.

* Consolidated comparable constant currency sales grew 8% YoY in 2QFY23. Three year comparable constant currency CAGR stood at 9.

* Gross margin contracted 190bp YoY to 47.9% (est. 48.1%).

* As a percentage of sales, higher ad spends (+240bp YoY to 8.4%), other expenses (+70bp YoY at 14.9%) and lower staff costs (-50bp YoY to 7.6%) led to EBITDA margin contraction of 450bp YoY to 16.9% (est. 17.1%).

* Volumes fell 5% YoY on consolidated basis. Three-year CAGR stood at +1%.

* Sales grew 7.6% to INR65.2b in 1HFY23. EBITDA/Adj. PAT declined 14.2%/18.7% YoY to INR11.1b/7.3b, respectively.

Highlights from the management commentary

* There has been 25% reduction in SKUs in India and around 33% reduction in GAUM segment. India business’ operating cash flows have doubled YoY.

* Soap volumes are reviving after price drop, while Household Insecticides volumes are witnessing a much more favorable base in 2HFY23.

* Indonesia reported 12% growth (ex of defocused product Saniter) and even including the same, sales growth is likely to be strong from 4QFY23.

* Management maintained its double-digit sales growth target for FY23 with low single-digit volume growth.

Valuation and view

* There are no material changes to our EPS forecasts for FY23 and FY24.

* Three factors hurt GCPL’s performance in the last three quarters viz.: a) massive increase in palm oil costs leading to RM basket inflation well ahead of staples peers; b) weaker-than-expected Household Insecticide (HI) season and c) currency translation impact as a result of which international business was adversely affected. Among these, palm oil costs have come down steeply and Household Insecticides outlook is better leaving only the currency translation as an uncertainty. Other domestic businesses are seeing good momentum.

* GCPL’s domestic businesses had demonstrated a track record of strong sales growth in the first half of the last decade, before losing their way in the second half. Domestic and consolidated sales growth has crossed double digits in the last two years and appears set to do so in FY23 as well, far better than the 4.1% sales CAGR between FY16 and FY20.

* With investments by the new CEO focused on boosting growth in the highmargin, high-RoCE domestic business, GCPL’s medium-term earnings growth outlook is strong as highlighted in our recent detailed CEO meet note. Valuation at 36x FY24E EPS is inexpensive and is at a steep discount to staples peers. We maintain our BUY rating with a TP of INR1,005 (premised on 40x Sep’24E EPS).

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