Sell Nestle India - Volume growth under pressure - Centrum

Nestle posted 7.8% YoY growth in revenue on the back of price hikes across products with volume growth expected to be negative. Gross margin expansion helped the company maintain operating margins of ~21% while high depreciation related to capex along with higher tax muted profitability growth to 2.4%. We have marginally reduced our volume growth estimates and downgrade our rating to Sell.

Results lower than expectations: Nestle posted mere 7.8% YoY growth (lowest growth in last 30 quarters) in revenues to Rs21,156mn (3.8% below our expectations). Domestic net sales grew by 7.6% and exports by 10.5%. Operating profit was at Rs4,434mn (up 8.1% YoY) on the back of 6bps margin expansion while PAT was 7% below our expectations at Rs2,751mn (up 2.4% YoY).

Sales growth lowest in 30 quarters: Net domestic sales increased by 7.6% on the back of net realisations and product mix. Domestic sales growth during the quarter was adversely impacted by portfolio/channel optimization and pricing for value in certain products. Volume growth will be negative for the company against 1.1% growth for H1CY12. Sales growth during the quarter was the lowest in the last 30 quarters and we believe some pain is still remaining. While exports to Nestlé affiliates declined by 4.7%, to other third parties it grew by 29.7%. Rupee depreciation has favorably impacted total exports growth by 11.6%. Total exports grew by 10.5% to Rs949mn.

Margins continue to expand: Gross margins of the company grew by 225bps to 54.1% due to higher realizations and product portfolio/channel mix, partially offset by higher input cost. We expect gross margin levels to remain firm. Employee cost grew by 17.4% due to an increase in headcount to support capacities for business expansion along with salary hikes during the quarter. Hence, operating margin expanded by mere 6bps to 20.96%.

Other highlights: Total amount outstanding from the parent remains at $192mn with no fresh drawdown during the quarter. Exchange differences amounting to Rs178mn (Rs33mn and Rs145mn for CY11 and H1CY12 respectively) spent in earlier periods were reversed in the current quarter and capitalized with the cost of the fixed assets. The one off favorable impact on net profit during the quarter was Rs120mn (net of tax). The company has completed its Rs25bn manufacturing expansion.

Downgrade to Sell: We have lowered our CY12/CY13 earnings by 4% and 8% respectively as the management believed that some actions such as portfolio rationalisation, channel prioritization and focused innovations had started to yield results, while other corrective actions on demand generation in specific categories was taking time. The stock currently trades at 42.5x and 36.5x CY12E and CY13E PE. We value the stock at 33x CY13E EPS of Rs131.2 and arrive at a target price of Rs4,327 and downgrade our rating to Sell.

Source : Equity Bulls

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