PC - HLL Co Visit - Dec 2014 FINAL 20141224150219 PDF

INSTITUTIONAL
EQUITY RESEARCH

Hindustan Unilever (HUVR IN)
Near term challenging but positive surprises ahead

24 December 2014
INDIA | FMCG | Management Meet Update
We recently met the management of Hindustan Unilever (HUL) to understand the challenges BUY (Maintain)
and growth prospects ahead. The industry has continued to remain sluggish but decline in CMP RS 756
raw material prices is likely to provide a fillip to both volume and earnings growth in the
TARGET RS 870 (+15%)
forthcoming quarters. Considering the significant exposure of around 35% of costs to crude

derivatives, HUL will be able to realize sizeable benefits. The improving overall
COMPANY DATA
macroeconomic scenario will also throw in some positive surprises in FY16 & FY17. Our key O/S SHARES (MN) : 2163
observations are as follows: MARKET CAP (RSBN) : 1659
MARKET CAP (USDBN) : 26.2
Marginal pickup seen but near term remains challenging; Q3FY15 likely to be a mixed bag: 52 ‐ WK HI/LO (RS) : 829 / 536
LIQUIDITY 3M (USDMN) : 11.7
According to Nielsen data the FMCG market is seeing marginal pickup in activity across
PAR VALUE (RS) : 1
categories but it cannot be classified as any form of recovery and the market still continues
to remain sluggish. Winter across northern India has been late which could impact the SHARE HOLDING PATTERN, %
winter portfolio of products for HUL. Q3 is the strongest quarter for HUL and uninspiring PROMOTERS : 67.2
winter quarter could translate to muted earnings for the quarter. The management FII / NRI : 15.5
FI / MF : 3.9
indicated that promotional activity in the soaps segment (one of the largest categories) has
NON PROMOTER CORP. HOLDINGS : 0.9
been stepped up from October on account of sharp decline in palm oil prices‐ volume PUBLIC & OTHERS : 12.6
growth could see improvement. However, the high base of personal products due to re‐
launch of Fair and Lovely (September 2013) and aggressive promotional activity in Oral care PRICE PERFORMANCE, %
segment (in base quarter), coupled with weaker winter this quarter could translate to 1MTH 3MTH 1YR
ABS 1.7 3.4 35.0
disappointment in Personal Care category.
REL TO BSE 3.9 1.5 3.6

Volume growth to pickup in the medium term on lower raw material cost benefits: Sharp PRICE VS. SENSEX
decline in crude oil prices is beneficial to the FMCG industry‐ Gross margins improve, savings
340
on freight and energy costs, rising consumer savings, product price cuts/promotions; all lead
300
to pick up in volume growth. Detergents is the largest category for HUL on revenue terms 260
and promotional activity in the category will pick up sharply from Q4FY15 leading to uptick 220
in volume growth. Thus, FY16 volume growth is more likely to surprise positively. 180
140
Personal Products category will see a revival on inflation moderation & improving 100
consumer sentiments: According to AC Nielsen, the FMCG industry growth will improve to 60
10% in 2015 & 12% in 2016 from 7% in 2014, with half of the growth to be contributed by Apr‐11 Apr‐12 Apr‐13 Apr‐14
volumes as compared to pricing led of 2014. We believe that a significant portion of growth HUL BSE Sensex
will be led by discretionary categories of Personal Products. As per our talks with HUL
management, one of the major reasons for non‐performance of the largest brand personal Source: Phillip Capital India Research

products brands Fair and Lovely (FAL) has been the very high inflation. With moderation of
KEY FINANCIALS
inflation and improving consumer sentiments; discretionary spending will rise, leading to a Rs mn FY15E FY16E FY17E
sharp pick in growth for brands like FAL, Ponds and others. Net Sales 306,824 347,817 396,018
EBIDTA 59,496 68,576 79,840
Profitability and competitive activity both will see ascendance: Lower crude prices will Net Profit 39,897 46,155 53,567
make the unorganized market more competitive as they will be able to push more volumes EPS, Rs 18.5 21.4 24.8
in the market. Notwithstanding the rise in competitive activity, HUL will continue to see PER, x 41.0 35.4 30.5
significant rise in profitability as the premium portfolio accounts for 60% of the overall EV/EBIDTA, x 27.0 23.0 19.4
revenues and 70% of the profitability. In our discussions with the management the P/BV, x 33.5 23.4 16.9
ROE, % 81.8 66.1 55.3
management indicated that actions for managing competition in the wake of decline in
Source: PhillipCapital India Research Est.
crude prices will be swifter.

Naveen Kulkarni, CFA, FRM
Valuation, Raise price target and Maintain Buy recommendation: In the wake of an (+ 9122 66679947)
imminent uptick in volume growth, we believe that the rich valuations are likely to sustain nkulkarni@phillipcapital.in

over the medium term. Earnings growth will be robust in FY16 and FY17 at 15.7% yoy and Jubil Jain (+ 9122 66679766)
16.1% yoy respectively. With improving earnings visibility, we roll over our valuation jjain@phillipcapital.in
multiple on FY17E earnings, valuing the company at 35x FY17E earnings at Rs 870.

Page | 1 | PHILLIPCAPITAL INDIA RESEARCH

HINDUSTAN UNILEVER MANAGEMENT MEET UPDATE
Decline in Raw Material Costs: Favorable for volume growth

Detergents Formulation
Material Proportion of total weight Proportion of total RM costs
Linear Alkyl Benzene (LAB) 15% 50%
Soda Ash/Other Builders 25%
Dolomite/Other Fillers 50% 50%
Others 10%
Total 100% 100%
Source: PhillipCapital India Research

The quality of detergent depends on the LAB content and formulation. While LAB
accounts for only 15% of the weight but it accounts for 50% of the value of the total
raw material costs. LAB is crude derivative and its prices bear a strong correlation to
crude oil prices. Crude Oil prices have declined by 40% and are expected to stay in
the range of $60‐65 per barrel in FY16. We expect LAB prices to decline by around
20% for FY16 translating to raw material cost savings of 10% for detergents.

Historical Price Growth & Volume Growth for Detergents
25% Volume growth Price growth
20%
15%
10%
5%
0%
‐5%
‐10%
‐15%


10% savings in raw material costs account for 7% of detergent revenues. We believe
that HUL will pass on benefits in the mass market categories. On an average, the last
10 years volume growth and price growth for detergents has been 7% yoy and 6%
yoy respectively. Assuming a flattish price scenario in FY16, we estimate that
Detergents volume growth will jump to around 10% n FY16 from 5.2% in FY15.

Crude Oil Prices vs LAB prices (Base 100)
110 LAB Crude Oil
100
90
80
70
60


Palm Oil Prices (Base 100)
120
100
80
60
Jan‐14 Mar‐14 May‐14 Jul‐14 Sep‐14 Nov‐14


Palm Oil prices have declined by 15% in H2FY15. Palm Oil account for 70% of raw
material costs for soaps translating to cost savings of 10% on raw material costs for
soaps in H2FY15. We expect the prices to stabilize revert back to Jan 2014 levels by
Q1FY16. The management of HUL informed us that some benefits have been passed
in strategic SKUs by a 5% price cut. This will help the company to register stronger
volume growth in the Personal Wash category and gain market share.

Rise in disposable income: Favorable for Personal Products
growth

The rise of Mass and Masstige brands: The Rs 17 bn Fair & Lovely brand is the largest
brand in Personal Products (PP) category contributing to around 20% of PP net sales
& 25% of PP EBIT. PP contributes to 30% of HUL sales but contributes to 46% of EBIT.
As per our analysis, 1% increases in sales of Fair & Lovely Brand increases the total
HUL EBIT by 0.3%. Similarly a 1% increase in overall PP net sales increases the HUL
EBIT by 1.1%.

So, PP which contributes to only 30% of HUL net sales will contribute to 1.1% increase
in overall HUL EBIT for every 1% rise in PP sales.

FY14 Net Sales Gross Profit (Est.) EBIT
Fair & Lovely (Est.) 17000 11900 5050
Personal Products 81209 48725 20681
HUL 279208 130647 44580
Source: Company, PhillipCapital India Institutional Research

Fair & Lovely is an aspirational brand and its target consumers belong to lower
middle class or below. The consistently high inflation & high interest rates put a
severe stress on disposable income of target customers of FAL in last few quarters. It
has been observed that FAL consumers have reduced their usage quantity &
frequency owing to inflationary pressures. Fair & Lovely being a part of discretionary
category, and catering to very inflation‐sensitive customers, has faced a severe
challenge in growth in last few quarters. With the consumer sentiment improving, we
expect Fair & Lovely to rebound in FY 16 & FY17. We expect similar revival in growth
for masstige and premium brands like Ponds, Lakme and others because of upward
mobility to masstige & premium brands.


The trio of consumer inflation, crude prices and interest rates was at worst possible
levels in last few quarters leading to significant stress on disposable incomes.
Consumer Inflation which had been hovering around 10% for last few quarters has
moderated to below 6% levels. The interest rates will soon be gradually reduced by
RBI once the inflation is fully under control. The prices of crude have dropped by 40%
and are expected to stay within satisfactory levels in the next year. The moderation
of all the three factors together will significantly help to increase the disposable
income of consumers.

Consumer Inflation (CPI)
12%
10%
8%
6%
4%
2%
0%


HUL categorizes target consumers in 18 different LSM groups (Living Standards
Measurement). The LSM of a consumer is determined by the income, education,
durables ownership, media consumption, entertainment preferences, etc. A declining
inflation and higher savings will lead to some upward mobility in the LSM category.

Demand Elasticity Personal care/beauty/foods Explosion

Source: Company, PhillipCapital India Institutional Research.

The chart on the left shows the increase in spending on HUL products as the LSM of
an individual increases. The chart on right shows how Personal Products share of the
spend increases with increase in LSM. We expect upward mobility in LSMs & this
trend to be followed in FY16 & FY17. This will lead to superior growth in Personal
Products, leading to a positive surprise in Sales and Earnings in FY16 & FY17.


Rise in disposable incomes & upward mobility across LSMs will lead to growth
expansion across PP categories. We expect an overall additional volume growth of 3‐
4% in PP category in FY16 & FY17 thereby improving HUL EBIT by 3‐4%.

Increase in competitive activity: Higher Ad spends but profitable
growth intact
In the FMCG industry, low inflation environment leads to an increase in activity from
local and regional competitors. HUL will face a very fierce competition in detergents
category from local and regional players. Other categories will also see some increase
in competitive activity. We were informed by HUL management that the company
will not hesitate to take any actions to guard its market share. It will rather be
proactive in tackling competition. We have assumed that savings in costs will be
invested into promotional activity in trade channels and also into advertisements.
Advertising expenses as percent of sales will see an increase in FY16 & FY17.
Inspite of increase in competitive activity, HUL will be able to beat the market in sales
and volume growth due to strong brand equity, proclivity to defend market share &
windfall savings in raw material & fuel costs.

Advertising/Net Sales
13.6%
13.2%
12.8%
12.4%
12.0%
11.6%
11.2%
FY12 FY13 FY14 FY15 FY16E FY17E



Net Impact on movement in Profit Margins & EPS: Favorable
Strong volume growth across Detergents, revival in Personal Products, savings on
Raw Material costs will more than offset the increase in costs to tackle competition.
This will also lead to superior growth in Net Sales, as well as superior growth in profit
margins and EPS.

Rise in EBITDA margin Net profit Margin, Increase in EPS)
EBITDA Margins Net Profit Margins EPS growth of CAGR 15.9%
30
16%
25
15%
20
14% 15
10
13%
5
12%
0
FY15E FY16E FY17E
FY15E FY16E FY17E


Financials

Income Statement Cash Flow
Y/E Mar, Rs mn FY14 FY15e FY16e FY17e FY14 FY15e FY16e FY17e
Net sales 274,083 306,824 347,817 396,018 Pre‐tax profit 47,997 56,190 65,002 75,977
Growth, % 8.7 11.9 13.4 13.9 Depreciation 2,606 2,956 3,226 3,515
Other income 12,319 13,017 15,539 18,428 Chg in working capital 4,814 ‐2,867 2,894 3,837
Total income 286,402 319,841 363,355 414,446 Total tax paid ‐12,966 ‐12,146 ‐17,938 ‐21,179
Raw material expenses ‐143,436 ‐159,647 ‐181,104 ‐207,318 Cash flow from operating activities 42,451 44,133 53,184 62,150
Employee expenses ‐14,360 ‐15,585 ‐17,134 ‐18,842 Capital expenditure ‐4,939 ‐4,000 ‐4,500 ‐4,999
Other Operating expenses ‐77,643 ‐85,113 ‐96,542 ‐108,446 Cash flow from investing activities ‐12,573 ‐3,997 ‐4,496 ‐4,995
EBITDA (Core) 50,963 59,496 68,576 79,840 Free cash flow 29,878 40,136 48,688 57,155
Growth, % 10.5 16.7 15.3 16.4 Dividend (incl. tax) ‐29,485 ‐29,832 ‐24,601 ‐25,849
Margin, % 18.6 19.4 19.7 20.2 Cash flow from financing activities ‐24,132 ‐23,803 ‐8,597 ‐4,849
Depreciation ‐2,606 ‐2,956 ‐3,226 ‐3,515 Net chg in cash 5,746 16,332 40,091 52,306
EBIT 48,357 56,541 65,351 76,325
Growth, % 10.5 16.9 15.6 16.8
Margin, % 17.6 18.4 18.8 19.3 Valuation Ratios
Interest paid ‐360 ‐360 ‐360 ‐360
FY14 FY15e FY16e FY17e
Pre‐tax profit 47,997 56,190 65,002 75,977
Per Share data
Tax provided ‐11,014 ‐16,292 ‐18,847 ‐22,409
EPS (INR) 17.1 18.5 21.4 24.8
Profit after tax 36,983 39,897 46,155 53,567
Growth, % 10.5 7.9 15.7 16.1
Net Profit 36,983 39,897 46,155 53,567
Book NAV/share (INR) 15.2 22.6 32.3 44.8
Growth, % 10.5 7.9 15.7 16.1
FDEPS (INR) 17.1 18.5 21.4 24.8
Net Profit (adjusted) 36,983 39,897 46,155 53,567
CEPS (INR) 18.3 19.8 22.8 26.4
Unadj. shares (m) 2,162 2,162 2,162 2,162
CFPS (INR) 19.6 20.9 24.6 28.7
Wtd avg shares (m) 2,162 2,162 2,162 2,162
DPS (INR) 13.0 9.5 10.0 10.5
Return ratios
Return on assets (%) 30.0 28.7 28.6 27.3
Balance Sheet Return on equity (%) 112.9 81.8 66.1 55.3
Y/E Mar, Rs mn FY14 FY15e FY16e FY17e Return on capital employed (%) 125.1 98.4 78.3 64.5
Cash & bank 22,210 29,540 53,612 84,903 Turnover ratios
Debtors 8,164 9,497 11,064 12,837 Asset turnover (x) (158.2) (205.1) (419.5) (140.6)
Inventory 27,475 29,671 32,176 35,104 Sales/Total assets (x) 2.2 2.2 2.1 2.0
Loans & advances 11,432 12,273 13,739 15,405 Sales/Net FA (x) 10.4 11.0 12.0 13.0
Other current assets 719 719 719 719 Working capital/Sales (x) (0.2) (0.1) (0.1) (0.1)
Total current assets 70,000 81,700 111,310 148,968 Fixed capital/Sales (x) ‐ ‐ ‐ ‐
Investments 30,941 30,941 30,941 30,941 Working capital days (65.8) (54.4) (52.5) (51.3)
Gross fixed assets 44,429 48,429 52,929 57,929 Liquidity ratios
Less: Depreciation ‐20,208 ‐23,163 ‐26,389 ‐29,904 Current ratio (x) 0.7 0.8 1.0 1.2
Add: Capital WIP 3,198 3,198 3,198 3,198 Quick ratio (x) 0.4 0.5 0.7 1.0
Net fixed assets 27,418 28,463 29,737 31,222 Interest cover (x) 134.2 156.9 181.4 211.8
Non‐current assets 2,968 3,925 3,926 3,926 Dividend cover (x) 1.3 1.9 2.1 2.4
Total assets 132,946 146,647 177,532 216,675 Net debt/Equity (%) (67.8) (60.6) (76.8) (87.6)
Current liabilities 78,182 80,639 89,072 99,279 Valuation
Provisions 19,034 17,233 18,683 20,448 PER (x) 44.2 41.0 35.4 30.5
Total current liabilities 97,216 97,872 107,755 119,727 Price/Book (x) 49.9 33.5 23.4 16.9
Non‐current liabilities 0 2 3 0 Yield (%) 1.7 1.3 1.3 1.4
Total liabilities 97,216 97,874 107,758 119,727 EV/Net sales (x) 5.9 5.2 4.5 3.9
Paid‐up capital 2,163 2,163 2,163 2,162 EV/EBITDA (x) 31.6 27.0 23.0 19.4
Reserves & surplus 30,606 46,610 67,612 94,783 EV/EBIT (x) 33.3 28.4 24.2 20.3
Shareholders’ equity 32,769 48,773 69,775 96,944
Total equity & liabilities 129,984 146,647 177,532 216,671

Source: Company, PhillipCapital India Research Estimates


Management
Vineet Bhatnagar (Managing Director) (91 22) 2300 2999
Kinshuk Bharti Tiwari (Head – Institutional Equity) (91 22) 6667 9946
Jignesh Shah (Head – Equity Derivatives) (91 22) 6667 9735
Research
Automobiles Engineering, Capital Goods Pharma
Dhawal Doshi (9122) 6667 9769 Ankur Sharma (9122) 6667 9759 Surya Patra (9122) 6667 9768
Priya Ranjan (9122) 6667 9965 Hrishikesh Bhagat (9122) 6667 9986
Retail, Real Estate
Banking, NBFCs Infrastructure & IT Services Abhishek Ranganathan, CFA (9122) 6667 9952
Manish Agarwalla (9122) 6667 9962 Vibhor Singhal (9122) 6667 9949 Neha Garg (9122) 6667 9996
Pradeep Agrawal (9122) 6667 9953
Paresh Jain (9122) 6667 9948 Technicals
Midcap Subodh Gupta, CMT (9122) 6667 9762
Consumer, Media, Telecom Vikram Suryavanshi (9122) 6667 9951
Naveen Kulkarni, CFA, FRM (9122) 6667 9947 Production Manager
Jubil Jain (9122) 6667 9766 Metals Ganesh Deorukhkar (9122) 6667 9966
Dhawal Doshi (9122) 6667 9769
Ankit Gor (9122) 6667 9987
Cement
Vaibhav Agarwal (9122) 6667 9967 Oil&Gas, Agri Inputs
Gauri Anand (9122) 6667 9943 Sr. Manager – Equities Support
Economics Deepak Pareek (9122) 6667 9950 Rosie Ferns (9122) 6667 9971
Anjali Verma (9122) 6667 9969
Sales & Distribution Corporate Communications
Ashvin Patil (9122) 6667 9991 Sales Trader Zarine Damania (9122) 6667 9976
Shubhangi Agrawal (9122) 6667 9964 Dilesh Doshi (9122) 6667 9747
Kishor Binwal (9122) 6667 9989 Suniil Pandit (9122) 6667 9745
Sidharth Agrawal (9122) 6667 9934 Execution
Bhavin Shah (9122) 6667 9974 Mayur Shah (9122) 6667 9945

Contact Information (Regional Member Companies)

SINGAPORE MALAYSIA HONG KONG
Phillip Securities Pte Ltd Phillip Capital Management Sdn Bhd Phillip Securities (HK) Ltd
250 North Bridge Road, #06‐00 Raffles City Tower, B‐3‐6 Block B Level 3, Megan Avenue II, 11/F United Centre 95 Queensway Hong Kong
Singapore 179101 No. 12, Jalan Yap Kwan Seng, 50450 Kuala Lumpur Tel (852) 2277 6600 Fax: (852) 2868 5307
Tel : (65) 6533 6001 Fax: (65) 6535 3834 Tel (60) 3 2162 8841 Fax (60) 3 2166 5099 www.phillip.com.hk
www.phillip.com.sg www.poems.com.my
JAPAN INDONESIA CHINA
Phillip Securities Japan, Ltd PT Phillip Securities Indonesia Phillip Financial Advisory (Shanghai) Co. Ltd.
4‐2 Nihonbashi Kabutocho, Chuo‐ku ANZ Tower Level 23B, Jl Jend Sudirman Kav 33A, No 550 Yan An East Road, Ocean Tower Unit 2318
Tokyo 103‐0026 Jakarta 10220, Indonesia Shanghai 200 001
Tel: (81) 3 3666 2101 Fax: (81) 3 3664 0141 Tel (62) 21 5790 0800 Fax: (62) 21 5790 0809 Tel (86) 21 5169 9200 Fax: (86) 21 6351 2940
www.phillip.co.jp www.phillip.co.id www.phillip.com.cn
THAILAND FRANCE UNITED KINGDOM
Phillip Securities (Thailand) Public Co. Ltd. King & Shaxson Capital Ltd. King & Shaxson Ltd.
15th Floor, Vorawat Building, 849 Silom Road, 3rd Floor, 35 Rue de la Bienfaisance 6th Floor, Candlewick House, 120 Cannon Street
Silom, Bangrak, Bangkok 10500 Thailand 75008 Paris France London, EC4N 6AS
Tel (66) 2 2268 0999 Fax: (66) 2 2268 0921 Tel (33) 1 4563 3100 Fax : (33) 1 4563 6017 Tel (44) 20 7929 5300 Fax: (44) 20 7283 6835
www.phillip.co.th www.kingandshaxson.com www.kingandshaxson.com
UNITED STATES AUSTRALIA SRI LANKA
Phillip Futures Inc. PhillipCapital Australia Asha Phillip Securities Limited
141 W Jackson Blvd Ste 3050 Level 37, 530 Collins Street Level 4, Millennium House, 46/58 Navam Mawatha,
The Chicago Board of Trade Building Melbourne, Victoria 3000, Australia Colombo 2, Sri Lanka
Chicago, IL 60604 USA Tel: (61) 3 9629 8380 Fax: (61) 3 9614 8309 Tel: (94) 11 2429 100 Fax: (94) 11 2429 199
Tel (1) 312 356 9000 Fax: (1) 312 356 9005 www.phillipcapital.com.au www.ashaphillip.net/home.htm
INDIA
PhillipCapital (India) Private Limited
No. 1, 18th Floor, Urmi Estate, 95 Ganpatrao Kadam Marg, Lower Parel West, Mumbai 400013
Tel: (9122) 2300 2999 Fax: (9122) 6667 9955 www.phillipcapital.in

PHILLIPCAPITAL INDIA RESEARCH | 8 | P a g e

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specified above, then it should not act upon this report and return the same to the sender. Further, this report may not be copied, duplicated and/or transmitted onward to any U.S. person,
which is not the Major Institutional Investor.

In reliance on the exemption from registration provided by Rule 15a‐6 of the Exchange Act and interpretations thereof by the SEC in order to conduct certain business with Major Institutional
Investors, PhillipCapital (India) Pvt Ltd. has entered into an agreement with a U.S. registered broker‐dealer, Marco Polo Securities Inc. ("Marco Polo").Transactions in securities discussed in this
research report should be effected through Marco Polo or another U.S. registered broker dealer.

PhillipCapital (India) Pvt. Ltd.
Registered office: No. 1, 18th Floor, Urmi Estate, 95 Ganpatrao Kadam Marg, Lower Parel West, Mumbai 400013

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