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Performance subdued; all eyes on rural recovery

Hindustan Unilever (HUVR)'s performance was below expectations in 3QFY24. The company reported a 2% volume growth (estimate of 2%) and nearly flat revenue growth (estimate of 4%). Volume recovery is being delayed, especially in rural areas, despite price cuts and consumer promotions. The trend of urban growth outpacing rural areas, and the premium segment outperforming the mass market, has continued. 

The benign raw material inflation continued to drive gross margin (up 400bp YoY, down 100bp QoQ), despite partial benefits being passed on to consumers. The gross profit was up 8% YoY; however, higher A&P (up 35% YoY) offset the benefits and resulted in flat EBITDA. Management is increasing brand investments to stimulate volume growth in preparation for the volume recovery phase and to counter local competition. 

Volume recovery is slower than expected so far, but price cuts across categories (mass segment is highly price-sensitive), benign headline inflation, and government’s initiatives should aid rural demand in 2024. HUVR is one of the best growth recovery plays. Reiterate BUY with a revised TP of INR 2,900.

Miss on estimates; flat growth on all fronts

HUVR reported flat net sales YoY at INR151.9b (est. INR159b). EBITDA was flat YoY at INR35.4b (est. INR39.0b). PBT too was flat YoY at INR34.6b (est. INR37.8b), while PAT (bei) was down 2% YoY to INR25.4b (est. INR28.2b). 

Underlying volumes grew 2% YoY (est. 2%), sustaining the similar trend. 

Segmental performance: Home Care (36% of total sales) revenue was down 1.3% YoY to INR54.5b (4-year CAGR: 12.0%), Personal Care (38%) revenue was flat YoY at INR57.0b (4-year CAGR: 7%), while Food & Refreshment business sales (25%) rose 0.9% YoY to INR37.3b (4-year CAGR: 19%).

Segmental EBIT: Home Care margin contracted 150bp YoY to 17.7%, while Personal Care margin improved 50bp YoY to 25.6%; Food & Refreshment segment margin expanded 120bp YoY to 19% during the quarter. 

Overall gross margin expanded 400bp YoY, while it was down 120bp QoQ to 51.5% (est. 52.0%). 

As a percentage of sales, an increase in ad spending (+260bp YoY to 10.5%), and other expenses (+150bp YoY to 13.4%), as well as stable staff costs of 4.3% resulted in a flat EBITDA margin of 23.3% (est. 24.6%). 

During 9MFY24, HUVR’s Net sales/EBITDA/Adj. PAT grew 3%/6%/4% YoY.

Management conference call highlights

-      The impact of uneven monsoon on Kharif crops was adverse and hit agricultural yields and rural incomes. Concerns persist over lower reservoir levels for Rabi crops despite recovering crop sowing rates.

-      Urban markets consistently outpaced rural markets, growing at 3% vs. rural growth of 1%. Urban-rural disparities are evident in consumption patterns across different sales channels and price segments, with modern trade outpacing traditional trade.

-      The premium portfolio remains the primary driver of growth, expanding at a rate more than 2.5x that of the mass portfolio.

-      HUVR has a direct reach to 3m outlets; the distribution network covers 2.3m outlets, while Shakti Entrepreneurs handle the remainder in rural areas.

Valuation and view

-      We cut our EPS estimates by ~3-4% for FY24/FY25 to reflect the slower demand recovery, and higher competitive intensity that elevates A&P spending.

-      As highlighted in our annual report note earlier in Jun’23, HUVR continues to exhibit remarkable nimbleness, despite its size, led by: 1) its WIMI and cluster-based approach, 2) technological edge over its peers; and 3) strategy of funneling cost savings back into the business for growth.

-      We continue to believe that HUVR is one of the best plays in rural recovery. The compounding of earnings should continue with a high probability of scaling the F&R portfolio along with strong competitiveness in the home care segment.

-      Buoyed by improving commentary on rural recovery and moderating commodity costs, we are optimistic that HUVR will rebound with its healthy earnings trajectory. We Reiterate BUY with a revised TP of INR 2,900.

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