Higher incomes and improving regulatory conditions can help India become a more attractive destination for foreign consumer firms.
India offers a unique regulatory environment relative to other regions we’ve explored in this report. Despite the compelling demographic and wealth creation characteristics we outlined above, the benefits to consumer staples companies have been somewhat muted because of what we describe as “policy paralysis.” This gridlock stems from dissention among the country’s local governments’ (spanning 28 different states and seven territories) opposing viewpoints regarding FDI regulation, and a lack of state infrastructure investments.
We see several ways for the new India government led by new prime minister Narendra Modi and the governing Bharatiya Janata Party (BJP) to reshape the regulatory environment into one more conducive for growth. Among the government’s key opportunities should be an overhaul of India’s banking system and reduction in bad debt rates. In 2014, India’s bad debt (nonperforming assets as a percentage of total loans) ratio had increased close to 4% using World Bank estimates (which exclude recently restructured loans), well ahead of many of the primary countries we’ve examined in this report. According to the Reserve Bank of India, three fourths of total lending from the country comes from public-sector state-owned banks (which also account for roughly 90% of the country’s bad and stressed loans). The banking situation is partly a byproduct of a rising trade deficit, which has in turn led to the devaluation of the rupee relative to other currencies and pushed inflation higher.
It has also made India a less attractive environment for foreign investment, which obviously has negative consequences for wage creation and disposable income increases. The currency devaluation, however, has helped export-oriented businesses such as IT services, pharmaceutical manufacturing, and certain automobile manufacturers that were more reliant on export-sales. A reduction in government fuel and food subsidies, the rolling out of the national goods and service tax, and a wider tax base (as many global economists have called for) should help to reduce India’s fiscal and trade deficit, alongside promoting stronger anti-inflation policies, creating the right macroeconomic environment to stimulate future growth in GDP and disposable incomes.
Some of the companies under our coverage with significant India, and emerging markets exposure are mentioned below. We are recommending these stocks from a long-term value creation perspective. A good entry point would of course be at a Price/ Fair Value of less than 1.0.
Dabur
With more than 15 different herbal products, a well-diversified product portfolio gives Dabur revenue stability across business cycles and seasons. The company has made large strides in establishing a distribution network in the more remote regions of India (reaching 38,250 villages in March 2014, from 33,000 villages in June 2013 and 15,000 in March 2011). In addition, the firm has begun building out its business beyond personal care into the food category, where Dabur is already estimated to control about half of the fruit juice market. The firm is also experimenting with other noncarbonated beverages (like yogurt-based beverages and coconut water), where heavyweights such as Coca-Cola and PepsiCo have less dominant market share.
To read a detailed report on Dabur, click here.
Marico
Marico competes at the premium end of the hair oil and edible oil markets, which together account for 60% of sales. The company’s brands hold equity beyond hair oil and cooking oil, as evidenced by successful brand extensions into new product categories such as Parachute body lotion and Saffola breakfast oats. Further, we think the firm’s brand intangible asset enables it to price these products at a premium. However, Marico isn’t immune to competitive pressures. For one, Procter & Gamble has taken back control of its Indian aftershave and deodorant brand, Old Spice, and as such, the threat of foreign competition in the deodorant market is intensifying.
To read a detailed report on Marico, click here.
Godrej Consumer Products
GCPL operates in three consumer segments: home insecticides, hair products, and soaps. While historically focused on the Indian market, Godrej has aggressively expanded via acquisitions into Asia, Africa, the United Kingdom, and Latin America. Godrej is currently playing on its strength of selling value-for-money products in India. This unique selling proposition should work in other developing economies it plans to enter, where per capita incomes are equally low. However, while Godrej is in the clear lead in some of the markets in which it competes, we remain skeptical about its ability to charge the level of premium comparable to other local and global entrants.
To read a detailed report on GCPL, click here.
Hindustan Unilever
With significant distribution scale, a portfolio of iconic brands and leading market share in many categories, we think India’s largest consumer products firm has garnered a competitive edge. Hindustan Unilever’s products reach about 7 million outlets across India, the largest distribution network among peers. In addition, 11 of the company’s brands each drive over Rs 10 billion in annual sales, while another eight generate annual revenue in excess of Rs 5 billion each. To ensure that its dominance remains intact, the company is constantly investing in product innovation and supporting brands with marketing investments, which we view favorably. These advantages will become even more relevant as the parent company focuses more on India, as it upped its equity stake in the region (to 67.3% from 52.5%).
To read a detailed report on HUL, click here.
ITC
India’s largest cigarette manufacturer by revenue has garnered leading market share through its popular brands. India accounts for close to 90% of ITC’s top line. It is a market with growing consumption and the potential for premium pricing, which provides the perfect macro environment for exerting its pricing power. We believe ITC will continue to hold a dominant position in the Indian cigarette market for over a decade, and we think Indian smokers will trade up to more premium brands as the prevalence of smoking increases (unlike in developed economies, where smoking is declining). However, the company has expanded beyond its most moat-worthy cigarette business into other operations—which possess few to no competitive advantages—and is in no hurry to divest its less profitable businesses, moves we would welcome.
To read a detailed report on ITC, click here.
Coca-Cola and Pepsi
According to Beverage Digest, on average, Indian consumers each drink fewer than 20 servings of carbonated soft drinks per year, well below that of the United States (north of 700), the global average (about 127), and even other emerging countries such as Brazil (330), China (44), Nigeria (45), and Russia (155). As such, Coca-Cola and Pepsi have invested heavily in brand awareness and distribution capabilities to capture rising consumer spending and changing taste preferences. Coke has noted that it has subsequently enjoyed 19% compound annual growth over the past four years in the core Coca-Cola brand, and although Pepsi saw volume gains slow somewhat in 2013, the company enjoyed double-digit gains in its snacks and beverage segments in prior years. Both firms have outlined sizable planned investments as well, with Coke noting in 2013 its planned $5 billion of spending through 2020, and Pepsi an even greater $5.5 billion over the same time frame. We ultimately believe Coke’s market share leadership will continue, but growth rates should remain above the global average for both firms for the next several years, in our opinion.
Diageo
Following its initial investment about two years ago, Diageo has finally garnered control of United Spirits, the leading Indian spirits company (with about 40% share of the market, which exceeds the combined share of the next five largest players). Unlike many other markets, the Indian alcohol market is predominantly skewed toward spirits and away from beer and wine. In particular, whiskey is quite popular in India, and USL has numerous whiskey brands across a variety of price points to meet consumers’ tastes (Bagpiper, Signature, Royal Challenge, Black Dog, and Whyte & Mackay). We believe this tie-up is especially attractive as it combines Diageo’s premium worldwide brands (especially Johnnie Walker) with USL’s enormous distribution system, and should lead to increased share gains for some time to come.
