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Margin miss to limit upsides

* Q4CY20 earnings missed expectations by ~15% on account of lower margins from higher employee and marketing costs. Domestic sales growth at 10% was in line. Exports declined 8%, reducing overall growth to 9%.

* Domestic growth was steady but unlike some peers Nestle did not see an acceleration from Q3 despite the economy opening up further. Some moderation in in-home snacking (highlighted by Britannia) and slow recovery in the OOH channel have likely affected Q4.

* Operating margin miss despite 230bps GM expansion in Q4 is likely driven by one-off increase in staff and marketing costs. Input prices remain benign and moderation in opex should drive gains ahead. We estimate 200bps margins expansion over CY21-23.

* We retain CY21-22 estimates and introduce CY23 estimates. Growth has been steady but slower than peers’ recently. Margin miss and rich valuations (56x CY22) should limit nearterm upsides. Retain Hold with a revised TP of Rs16,200, rolling forward to Mar’23E EPS.

Domestic business grows in double-digits; sequential improvement lower vs. peers:

Nestle’s sales grew 9% to Rs34.3bn, with the domestic business growing 10%, similar to Q3CY20. Exports declined 8% due to lower coffee sales, reducing overall growth. Noodles, coffee and chocolates continued to grow in double digits, led by in-home consumption trends. Growth in the E-commerce channel remains strong and now contributes 3.7% to domestic sales. Domestic sales growth is indicative of ~6% volume growth (6.5% in Q3CY20). Compared to peers, growth is lower and has not seen a sequential pick-up, likely due to some moderation in-home consumption and slow recovery in the out-of-home-channel.

Margin miss on account of high employee and marketing costs:

Gross margin expanded 230bps YoY on account of lower input prices, particularly milk and wheat. EBITDA margin contracted 10bps due to a 26% increase in employee costs (likely driven by one-offs) and 12% increase in other overhead costs (led by higher marketing spends). Softer price trends in milk/wheat are likely to help sustain gross margin gains in the near term, in our view. Operating margins should expand as ad spends normalize. We estimate EBITDA margin expansion of 200bps over CY21-23.

Valuations limit upsides; maintain Hold:

We maintain CY21-22 estimates and introduce CY23 estimates. Growth has been steady but slower than peers’ recently. Margin miss and rich valuations (56x CY22) should limit near-term upsides. Maintain Hold with a revised TP of Rs16,200 (from Rs15,800), rolling forward to Mar’23E EPS.

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