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Thou shalt stay in the past!

We remain hopeful that the market would be able to break the spell (or curse) of the 2010s decade with respect to their view of consumption stocks. The Street is still too enchanted with the past and is overlooking fundamental changes to the sector that warrant a different valuation framework and meaningfully lower multiples.

2020s decade could be very different from the 2010s decade

In our view, the sluggish financial and operating performance of consumption-oriented stocks in the past few years should provide incontrovertible proof that the 2010s decade is well and truly over. Parts of the market seem stuck in the past decade and oblivious to (1) the changed operating environment of the sector, (2) the weaker business models of the companies and (3) the inaptness of historical valuation multiples.

2010s decade saw strong compounding in earnings, rerating in multiples

The 2010s decade was a magical era for ‘consumption’ stocks with (1) EPS seeing strong compounding (see Exhibit 1) and (2) multiples seeing steady rerating (see Exhibit 2). The former reflected favorable market conditions and structure that resulted in (1) steady growth in volumes (income-led penetration and usage), (2) strong growth in revenues (inflation + premiumization) and (3) steady increase in margins given ability to pass on RM inflation or retain raw RM deflation. The latter driver reflected (1) the market’s confidence about strong growth in EPS and (2) very low global interest rates (see Exhibit 3).

2020s decade has seen an increase in competition, weaker business models

The 2020s decade has seen a more moderate operating and financial performance across companies (see Exhibit 4). In particular, the continued weakness in performance even three years after the Covid-19 pandemic highlights the deep structural issues in the sector. These include (1) growing competition across categories, (2) ongoing erosion of distribution moat with the emergence of new channels eroding the solid advantage of the incumbents in the general trade channel and (3) companies’ margin-focused strategy, which could possibly handicap them versus more aggressive competition.

Sector may be fast running out of narratives and time

Notwithstanding the sector’s muted performance, valuations have been buoyed by various narratives in the past 2-3 years—(1) periodic hopes of revival in rural and/or urban demand and (2) constant optimism about higher margins (see Exhibits 5-6), based on still-favorable market structures for incumbents (see Exhibit 7). The current narrative revolves around higher margins from declining (palm oil), expected-to-decline (tea) and low (crude oil) RM prices. In our view, the sector could see meaningful cuts in earnings and multiples if companies were to fail to show a decent uplift in margins. The market’s last hopes could be tested against the twin realities of (1) weaker market structure across sectors and (2) different strategies of companies (volumes or profitability).

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