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We believe demand slowdown, competitive pressure, distribution stress, and rising royalty rates are likely to have an overhang on HUL’s valuations (46x P/E for FY26). Management commentary on demand setting remains unexciting, as demand recovery remains a hope on the emergence of tailwinds. Reinforcing general trade moat is now an added pressure, with changes in distributor margin structure, in our view. Q3 results stood 3% below our and 5% below street’s expectations. Sales and EBITDA stood flat YoY, while adjusted earnings declined 1%. HUL was able to hold on to EBITDA margin at 23.3%, where gross margin expansion of 400bps was absorbed in a 265bps increase in A&P and 155bps increase in other expenses. As we cut our earnings by 3%, our TP has reduced to Rs2,700 (on 52x P/E) from Rs2,800. We maintain our ADD rating.

Topline recovery is still a concern; recovery remains a hope

Optical growth numbers continue to wane for HUL, where volume delivery slowed to 2% in Q3FY24. Volume delivery for the HPC and BPC segments stood in mid-single digits, responding favorably to price corrections. However, the food and refreshments (F&R) segment’s volume witnessed a low single-digit decline, as the company continued to take price hikes. Additionally, while the company is holding on to market share gains, share gains in >60% of the portfolio reduced from >75% earlier. On MAT basis, portfolio share gains are expected to dip under 60%, which management is expecting to recoup by yearend. Overall, management remains optimistic about volume recovery and expects to have marginal negative pricing ahead.

Focus on holding EBITDA margin delivery; gross margin to aid A&P spends

Continued margin thrust yielded stable OPM at 23.3%, up ~10bps YoY and down 10bps QoQ. Gross margin expanded 400bps YoY to 49.2%. Compared to pre-Covid-19 levels, there is still a 200bps gap in the gross margin, which the company is looking to achieve with a) mix improvement, b) net revenue management, and c) net productivity initiatives. Negative operating leverage, increased spending on capability development, and higher royalty (~50bps impact) led to a 155bps increase in other expenses. Renewed thrust on A&P spending absorbed 265bps of gross margin benefit. Absolute A&P spend increased 33% YoY and stood lower than our expectation of similar QoQ spends, which helped in EBITDA margin delivery. From Q4FY24, the margin profile is expected to have a bearing on the termination of the GSK OTC distribution arrangement.

Valuation asks for structural recovery, ADD with a new Dec-24 TP of Rs2,700

Capturing demand pressure, we have revised our topline expectations down by 3%, which led to a 3% cut in earnings. We are now 6-7% below consensus expectations for FY25 and FY26. The stock’s valuations at 46x for FY26, though factoring in near-term pressure, may see a derating if volume recovery remains elusive in FY25. Our new Dec24 TP is Rs2,700 vs. Rs2,800 earlier. We maintain our ADD rating with a limited upside.

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