Marico - On a slippery slope - Ambit

Marico's moderation in volume growth in both the coconut oils as well as edible oils segment is likely to continue going forward. Weak copra prices will continue to favour unorganised coconut oil players, thereby hampering the growth prospects of organised players. Also, a ~100% price premium of safflower oil over sunflower oil will keep Saffola at a disadvantage to Agro Tech's Sundrop. Price cuts and higher advertising spends will put pressure on margins. With an unimpressive track record of managing international expansion in the past, Marico's intended capital allocation towards becoming an 'emerging market MNC' is a substantial risk to future earnings. Execution-related issues in its MENA business and portfolio constraints in Bangladesh will continue to be a drag in FY14. We initiate coverage with a SELL stance.

Whilst the management has targeted double-digit volume growth from FY14 onwards, we expect only 13.9% revenue CAGR over FY13-16 driven by: Coconut oils - high penetration, competition from unorganised market:

Despite gross margin benefits from the 30-40% decline in copra prices over the past 18 months, intense competition from unorganised coconut oil players has constrained the growth in the organised market. Although market share gains from organised peers are likely due to recent price cuts and rise in advert spends to sales ratio, we expect Marico to record 11% revenue CAGR over FY13-15 in the coconut oils segment with pressure on EBITDA margins.

Edible oils - rising competition and adverse commodity price trends: Assuming no change in commodity prices from the current levels, we expect Saffola to face headwinds from: (a) ~100% higher raw material cost as compared to sunflower-based oils like Sundrop; (b) the recent increase in competitive intensity from rice-bran-based oil brand Fortune; and (c) drag on gross margins from ~2% price cuts undertaken recently.

Capital allocation risks: Based on our discussions with the management, Marico is targeting M&A in countries like Indonesia and Africa to become an emerging market MNC. This could be a significant risk to earnings growth given its historical track record of generating incremental returns through M&As and international expansions. Also, lack of execution capabilities around re-packaging of its hair cream portfolio in the MENA region and portfolio-related constraints around market share gains in Bangladesh are likely to continue to be a drag on performance in FY14.

Valuation: Given the correlation between commodity prices and volume growth of the coconut hair oil and premium edible oil segments, and given the uncertainty around growth prospects of international operations, we do not regard Marico to be as defensive as its peers in the broader FMCG sector. Our DCF-based valuation generates a TP of Rs. 198/share (including Rs. 6/share for Kaya), a 16% downside and an implied FY14 P/E multiple of 27.8x.

Source : Equity Bulls

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