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Delayed Winter and weak festival demand drag Q3 volumes

Q3FY24 presents continued challenges to demand for FMCG products, adversely affecting sector volume growth. Weak rural volume, trailing urban figures in the past year remain persistent. Further, low farm income and emergence of small regional firms are hurting large, listed companies. A delayed Winter has shrunk demand for seasonal categories during the quarter, notably for skin creams and Chyawanprash, falling short of initial expectations across FMCG companies. In terms of categories, food and beverages is anticipated to outperform home and personal care.

FMCG universe to report mid single-digit value and volume growth

We expect our FMCG universe to report revenue and volume growth of 5% each YoY in Q3FY24E with a four-year CAGR 10.4% vs 10.6% in Q2FY24. Companies that prioritize expanding their distribution networks, such as BECTORS, JYL, NEST and TATACONS experience stronger revenue growth. In several categories, such as biscuits, honey and laundry, regional firms are experiencing a resurgence due to better product offerings. The competitive landscape in these categories remains intense, dragging companies, such as HUVR, BRIT, and DABUR. However, JYL is set to benefit due to improved distribution and better value offering for consumers. VBL and DABUR are likely to benefit from increased demand in foods and beverages. CLGT may report a high single-digit growth through pricing actions while GCPL anticipates double-digit growth in the domestic business through inorganic acquisitions. MRCO faces challenges with subdued demand for hair oil and premium edible oil, compounded by price cuts in edible oil.

Most key RM in deflation, leading to resurgence of smaller firms

In Q3, prices of essential raw materials, excluding wheat, sugar, and milk, have decreased from their peak last year. The fall in input cost prices has led to resurgence of local regional firms, offering good quality products and are gaining market share. While incremental price cuts are small, companies are increasing advertising and offering extra incentives to channels to remain competitive with regional brands.

Margin expansion trend to continue in Q3

For Q3FY24E, we estimate a gross margin expansion of 230bp YoY and 50bp QoQ (ex-ITC, up 370bp YoY & 40bp QoQ), with an EBITDA margin gain of 30bp YoY but flat QoQ (ex-ITC, up 90bp YoY & down 50bp QoQ), led by benign input prices, partly offset by higher spend on advertising. We expect our FMCG universe to post EBITDA growth of 6.2% YoY (exITC growth of 9.5% YoY). Barring ITC and BRIT, which could experience a decline in EBITDA margin, our coverage companies are expected to achieve margin expansion. JYL, HMN, CLGT, and MRCO are likely to post a margin expansion of more than 250bp YoY. Our preferred picks are ITC, Godrej Consumer and Varun Beverages

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