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Add United Spirits Ltd For Target Rs.640 

Gradual revenue recovery; resilient margins

UNSP continued its recovery in 3QFY21, with revenue/EBITDA decline of 4/10% YoY (HSEI -5/-17%). Recovery in P&A was strong with value/volume decline of 1/0% YoY, despite the heavy base (strong new year demand in base quarter). Underlying growth in P&A (ex-AP impact) was strong at 4.5%. The reopening of pubs and bars and targeted marketing campaigns for in-home occasions supported the recovery. Popular continued to remain under pressure as excise-led price hikes (West Bengal) kept demand muted. IMFL industry volume was down by ~1%. Gross margin remained healthy on the back of improved product mix and benign RM inflation, which is expected to sustain. Cost control initiatives by UNSP also led to a healthy EBITDA margin of 15.4%. We expect the recovery trend to continue, led by improvement in sentiment and occupancy of bars. We maintain our EPS estimates for FY21/FY22/23. We value UNSP at 42x P/E on Mar-23E EPS to derive a target price of Rs 640. Maintain ADD.

* Gradual revenue recovery: Net revenue declined by 4% YoY (+3% in 3QFY20 and -7% in 2QFY21), better than our estimated decline of 5% YoY. P&A/Popular revenue declined by 1/7% YoY as higher in-home consumption and opening of pubs and bars aided partial recovery. Popular segment was impacted by an adverse state mix. P&A volumes remained flat YoY (+3% in 3QFY20 and flat in 2QFY21) while Popular volumes declined by 2% YoY (-7% in 3QFY20 and -7% in 2QFY21). Revenue recovery was supported by focused marketing campaigns for in-home occasions and renovation of core brands.

* Resilient margins: Gross margin expanded by 24bps YoY to 44.6% (-421bps in 3QFY20 and -283bps in 2QFY21), ahead of our expectation of 100bps YoY contraction. The expansion was driven by benign RM inflation. Employee costs grew by 23% YoY while A&P/Other expenses declined by 7/2% YoY. A&P improved 28% QoQ as the company resumed investing in its brands. A&P investment remained healthy at 9.4% of sales. EBITDA margin contracted by 100bps YoY (+207bps in 3QFY20 and -553bps in 2QFY21) to 15.4% (HSIE 14.3%). EBITDA declined by 10% YoY (HSIE 17% decline). PBT was down 12% YoY while PAT declined by 11% YoY. We expect both revenue and EBITDA margin recovery in FY22.

* Call takeaways: (1) 85% of bars are now operational, but occupancy remains low; (2) home consumption growth has remained resilient; (3) excise hike in West Bengal has adversely impacted the hard liquor industry; (4) the company expects no RM inflation over the next few months; (5) if regulatory changes in Delhi go through, it will be a huge positive for the industry.

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