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Addressing portfolio gaps; margin headroom adequate

* We note that under Sudhir Sitapati's leadership, there has been a noticeable shift in approach at Godrej Consumer (GCPL) over the last 12-18 months. The company, under his astute guidance, has adopted a growth-centric strategy, including pursuing inorganic growth, crossselling, entering new categories, expanding the total addressable market (TAM) for existing products, and more. Additionally, there has been an increase in reinvestment, particularly in marketing spending, and the company has made tough decisions such as improving inventory management for RCCL & Indonesia and closing the non-core businesses.

* In an environment where demand recovery is being delayed, GCPL’s internal initiatives are expected to outperform those of its competitors. The inclusion of incense sticks and liquid detergent not only expands the target market but also showcases GCPL's backend competence and growth-oriented approach. Indonesia and GAUM still offer enough headroom for EBITDA margin expansion in the coming years (details shared in specific sections). With domestic business already outperforming in volume growth, improvements in demand should further lead to a better growth trajectory for GCPL. The stock is trading at 54x and 47x P/E on FY25E and FY26E, respectively. We believe earnings surprises will keep the stock in flavor. Reiterate BUY with a TP of INR1,500.

* India business – steady improvement: GCPL is accelerating growth through new verticals such as expanding the TAM for Home Insecticides (HI), launching liquid detergent for the mass market, and acquiring RCCL. The India business has experienced a sequential increase in volume, and with demand improvement, the company can continue to drive growth trends further. In 9MFY24, GCPL’s volume and EBITDA growth stood at 6% and 24%, respectively.

* Indonesia growth recovering with ample margin headroom: The consumer index in Indonesia is showing a steady improvement, reflecting a demand recovery. The Goodknight liquid vaporizer has a high-growth opportunity as its market penetration is only 1-2% in Indonesia vs. 25% in India. We view this as a significant opportunity to enable growth and improve margins. The EBITDA margin recovery is healthy during 9MFY24; however, there is still room for margin improvement. Margin is down by 700-800bp vs. the pre-Covid level of 25-28%. With steady growth and stable macros, we model a 200bp margin improvement to 21-22% during FY24-26; nevertheless, there is still a possibility of a beat against our estimates.

* GAUM – focusing on relevant businesses: GCPL has recently divested its stake in East Africa for a consideration of INR300m. This will have an adverse impact of INR5b on consolidated revenue but a positive impact of INR500m on PAT. The transaction is expected to be completed between 4QFY24 and 1QFY25. East Africa was a slow-growing and low-margin business for GCPL. The company is looking to focus on relevant business areas where it has the right to win in the medium term. GCPL is aiming to achieve more than 15% EBITDA margin in the next two years, compared to the historical average of 9%.

* Valuation: GCPL is consistently working to expand the TAM for its India business through product innovation to drive customer engagement. Besides, there has been a continuous effort to address the gaps in profitability and growth within its international business. We reiterate our BUY rating with a TP of INR1,500 (based on 55x FY26E EPS).

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SEBI Registration number is INH000000412