GlaxoSmithkline Consumer Healthcare - Valuations discomfort - HDFC Securities

Post the announcement of open offer, there has been a steep jump in the valuation of the stock which is now trading at 31x CY13E (as against 5-year avg valuation multiple of 20x). Thereby risk reward ratio has turned unfavourable as 1) GSK consumer is single product company (MFD contributes 93% to revenues), 2) FMCG pack is trading at 25x with HUL trading at 30x one yearfwd, 3) New product launches - more failures than success 4) Major food companies (discretionary in nature) have witnessed dampening in volume growth incl. GSK consumer (though it being least impacted). Recommend UPF with a target price of INR 3,550 primarily on valuation concern.

Malted food segment (MFD) rules the roost

A confluence of factors, including low penetration (overall household penetration of 22% and rural penetration being even lower at 11%), incremental rural reach ~10,000 villages (total villages: ~50,000) in year 2012 and launch of specialized packaging in smaller SKUs (INR 5) to capture rural demand, expand its footprint in Northern and Western India which has 34% and 23% market share respectively, successful brand extension leading to premiumisation, high pricing power and strong entry barrier (Nestle, HUL and Dabur have failed to build inroads into the category despite many serious attempts) will lead to sustained long-term consumption growth.

Non-MFD business to provide diversification

Business auxiliary income (distribution of OTC products like Crocin, Eno, Iodex, Sensodyne) has witnessed buoyant growth and we expect it to grow at a robust 20% CAGR for next 2 years. Also, the company, leveraging its strong brand equity, has ventured into other fast growing categories like biscuits, oats, etc in line with its strategy of developing products in the health and wellness segment. However, we expect biscuits and oats would take long to meaningfully contribute to the revenue. Also, the company's track record of new product launches concerns us as Noodles, Sports drink, Nutribar, and glucose powder segment failed to enthuse consumers.

Valuations looks stretched

At current market price, the stock is trading at 31x CY13E and 26x CY14E. Post the announcement of open offer, there has been a steep jump in the valuation of the stock which is now trading at 31x CY13E (as against 5 year avg valuation multiple of 20x). On account of sustained revenue growth and profitability we expect it to trade at higher valuation than 5 year avg. Recommend UPF on the stock with TP of INR 3,550 (25x CY14E EPS).

Source : Equity Bulls

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