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Please refer to the Disclaimers at the end of this Report.

AMBIT INSIGHTS 19 July 2016

DAILY

Top export plays

Stock Rating FY17 P/E (x)

Bajaj Auto SELL 20.2

Cummins India SELL 28.6

Bharat Forge NR 22.7

PI Industries BUY 25.9

AIA Engineering BUY 24.4

Vardhman Textiles NR 9.5

Balkrishna Industries SELL 11.4

Atul Industries NR 20.5

Aarti Industries NR 14.2

Sundaram Fasteners NR 18.0

Indo Count Industries NR 10.4

Himatsingka Seide NR 13.3

Kitex Garments NR 17.0

Source: Bloomberg, Ambit Capital research

NR – Not Rated

Note: For detailed discussion on these names, please refer our note dated Sept 09, 2015

Updates

Consumer/Retail

Meetings with CavinKare, Senco and Nykaa.com

JSW Energy (SELL)

Bina acquisition value-accretive

Results Update

Hindustan Unilever (BUY)

Macro weakness slows volume growth

Derivatives

Alpha This Week

An alternative take on the markets

(Click here for detailed note)

Analyst Notes: Capital Goods: Suzlon Energy – Noisy winds Bhargav Buddhadev, +91 22 3043 3252

Suzlon, in analyst meet, highlighted commissioning of 5.5GW over FY17-22 (3.5GW in FY16) for wind-power industry vs our expectation of 2.7GW. Suzlon’s bullishness is due to much-talked-about hybrid model (wind+solar) and improvement in wind PLF on technological upgrades. We remain bearish given limited potential for hybrid as solar radiation is typically low in windy sites and technology-led PLF improvement is costly, implying per unit cost may not decline. Also, Suzlon expects to get orders from 1GW competitive bidding for non-windy states. We remain skeptical given higher competition from pure equipment suppliers (Vestas, Nordex, Goldwind) as Government facilitates land acquisition and power evacuation. Lastly, IPPs/states are shifting focus from wind to solar given latter’s better predictability, untapped potential and falling tariffs (now in-line with wind). We expect WTG ordering to decline by ~29% to 2.5GW in FY17 led by expiry of GBI in Mar 2017. Reiterate SELL on Inox Wind. Source: Ambit Capital research

Please refer to our website for complete coverage universe

http://research.ambitcapital.com

http://research.ambitcapital.com

http://reports.ambitcapital.com/reports/Ambit_AlphaThisWeek_19Jul2016.pdf

http://reports.ambitcapital.com/reports/Ambit_Economy&Strategy_ExportThematic_09Sept2015.pdf

AMBIT INSIGHTS

Ambit Capital Pvt Ltd 19 July 2016

Consumer/Retail Meetings with CavinKare, Senco and Nykaa.com We hosted CavinKare, Senco Gold and Nykaa.comat Ambit’s Unlisted Consumer Day to better understand underlying trends in FMCG, jewellery and specialty e-commerce. CavinKare, market leader in several staples categories in South India, is expanding to become a pan-India player led by product innovation. In jewellery, new regulations should favour organized players like Titan given: (1) rising compliance cost for unorganised players, and (2) entering new markets is time-consuming for regional players as they have to invest in branding consistently. In beauty & wellness, there is huge untapped demand in Tier 2/3 cities, which e-commerce is fulfilling. Reiterate BUY on Titan. A series of successful new product launches with product differentiation in categories such as hair colors, beverages and pan-India expansion of personal care categories could pose challenges to firms like Godrej Consumer (SELL), Nestle (SELL) and HUL (BUY) in future.

CavinKare – Pan-India expansion with focus on R&D

We hosted CavinKare’s founder and chairman, Mr. C K Ranganathan, who comes from the family which started the sachet revolution in consumer staples in India. Key takeaways:

Current business: CavinKare generated revenues of Rs12bn in FY16 with an EBITDA margin of ~10.5%. The firm’s key product categories include: a) personal care (Rs7.5bn revenues; ~15% EBITDA margins in FY16), with presence in shampoos, hair color, skin creams and deodorants); b) dairy products (Rs2.5bn revenues in FY16); and c) other categories like beverages, snacks, salon products, and tie-ups for distribution of Adidas’ personal care products and ‘Tiger Balm’

Recent growth trajectory: After a series of small acquisitions between 2009 and 2012, CavinKare invested resources and management bandwidth significantly behind integrating operations and injecting the firm’s culture into the newly acquired teams. As a result, revenue growth rates were stagnant for the firm during FY14 and FY15. Having completed this process of integration, CavinKare has delivered over 20% YoY revenue growth during 2HFY16 and ~25% YoY growth in 1QFY17; management is expecting ~25% YoY growth to be delivered during the rest of FY17.

Strong focus on R&D for product development: Product differentiation through R&D and innovation has been built strongly in the firm’s DNA. The company supports this through its R&D team of over 60 people with an average product development pipeline of 16-18 months and hence strong visibility at any given point in time of revenue growth drivers for the next two years. Some of the recent examples of innovative and differentiated product launches include: a) Indica Easy Hair Color, which is targeted to gain market share from Godrej’s Crème format hair colors; b) an upcoming fruit drink in pouch format, offering 150ML at a Rs5 price point (roughly twice as much as that offered by existing fruit drink players); and c) Cavin’s curd, which is preferred over Nestle’s curd in modern retail outlets in south India.

Pan-India distribution expansion: CavinKare currently reaches out to ~0.8mn outlets directly and ~3mn outlets in total. The firm generates ~50% of its overall revenues from South India. Going forward, whilst there will be substantial revenue growth coming from South India through new product launches, over the next 5 years the firm intends to expand across the country in all categories.

A&P and brand building: Having invested significantly in the back-end over the past 3-4 years, the firm is not looking to invest significantly behind brand-building and A&P initiatives. With an advertising budget of ~Rs2bn in FY17, the firm intends to spend 13-15% of its revenues on advertisements in FY17 with the likelihood of an increase in annual ad-spend budget to Rs4bn in another three

POSITIVE Quick Insight

Analysis Meeting Note News Impact

Titan BUY Bloomberg Code: TTAN IN

CMP (`): 414

TP (`): 404

Mcap (` bn/US$ mn): 367/5,477

3M ADV (` mn/US$ mn): 685/10

Arvind SELL Bloomberg Code: ARVND IN

CMP (`): 317

TP (`): 311

Mcap (` bn/US$ mn): 82/1,222

3M ADV (` mn/US$ mn): 657/10

HUL BUY Bloomberg Code: HUVR IN

CMP (`): 920

TP (`): 990

Mcap (` bn/US$ bn): 1,995/29.7

3M ADV (` mn/US$ mn): 1,330/19.8

Nestle SELL Bloomberg Code: NEST IN

CMP (`): 6,620

TP (`): 6,000

Mcap (` bn/US$ bn): 638/9.5

3M ADV (` mn/US$ mn): 277/4.1

GCPL SELL Bloomberg Code: GCPL IN

CMP (`): 1,585

TP (`): 1,116

Mcap (` bn/US$ bn): 540/8.0

3M ADV (` mn/US$ mn): 383/5.7

Research Analysts

Consumer

Rakshit Ranjan, CFA [email protected] Tel: +91 22 3043 3201

Retail

Abhishek Ranganathan, CFA [email protected] Tel: +91 22 3043 3085

mailto:[email protected]


AMBIT INSIGHTS


years. Promotional spends account for another 3.5-4% of revenues in a normal year for CavinKare.

Investment implications: A series of successful new product launches with product differentiation in categories such as hair colors, beverages and pan-India expansion of personal care categories could pose challenges to firms like Godrej Consumer (SELL), Nestle (SELL) and HUL (BUY) in future.

Senco Gold – The changing landscape of Indian jewellery market

We hosted Senco Gold’s Suvankar Sen, Executive Director, and A Parthasarathy, CFO, to get a perspective of the Indian jewellery market. Key takeaways:

Senco Gold, from East India, is one of India’s largest jewellery retail chains with presence across India through a chain of 77 stores. The 77-year-old company has presence in Bengal, Orissa, Jharkhand, Assam, Bihar, Madhya Pradesh, Delhi, Mumbai and Lucknow. Close to 50% of the stores are company-owned and the rest are owned by exclusive franchises. The company controls manufacturing to retailing and is positioned at offering light weight offerings.

Competition: Jewellers who forayed outside the domiciled geographies did manage to make an initial impact with heavy advertisements. However, they have not been able to make a mark due to various issues such as brand building and customer loyalty only comes from consistent messaging and positioning - something even Tanishq has been able to achieve over two decades.

Regulations: The purpose of excise duty is to identify the source of gold (if or not it’s duty-evaded gold) as well as ensure trail of transactions for better tax compliance from buyers as well as jewellers. So, the cost of compliance will force the industry to gradually move to a handful of jewellers; some jewellers will move out of the business. New PAN norms can affect wedding jewellery also. However, it may result in consumers buying multiple pieces of jewellery, which is likely given changing preferences towards light weight jewellery.

Changing customer profile: Women are increasingly buying jewellery to wear rather than to store. Moreover, there are more spending avenues like holidays, mobile phones, etc., and hence the product offering needs to be compelling. The company sees an opportunity in the non-wedding jewellery (adornment wear; ticket sizes of Rs30,000-150,000 are a sweet spot). Also, customers do not mind paying a premium or higher prices for buying experience as long as they believe that the brand is premium.

We are BUYers on Titan whose target market is the Rs700bn adornment space. Moreover, competitive intensity is a fading threat due to structural changes like change in deposit rules, low but non-viable making charges, and excise duty/PAN, which would result in market share gains for Titan. Our fair value of Rs404 (35x FY18E EPS) reflects the strengthening competitive position. Titan will be declaring 1QFY17 results on 3 Aug 2016.

AMBIT INSIGHTS


Exhibit 1: Titan’s share in Indian jewellery market

Source: Company, Ambit Capital research

Exhibit 2: India’s domestic jewellery market segmentation


Nykaa.com – Turning beauty on its head

We hosted Nykaa.com’s Sachin Parikh, CFO, and Nihir Parikh, CBO, India’s leading beauty portal to better understand the dynamics of ecommerce in Beauty & Personal Care. The key takeaways:

Business model beyond discounts: Nykaa’s management states that its business has evolved beyond the discounting associated with ecommerce. While the company operates on inventory (sale or return) model, it doesn’t offer too many discounts beyond those offered by the brand. The focus is on premium offering within make-up, skin care, etc., and, hence, the company has an average order value of Rs1,500+. The company has consistently improved gross margins and plans to achieve operating breakeven in 2QFY17 and EBITDA breakeven in FY18. The company will be adding a range of private labels to improve profitability.

Solving the problem of range and reach: Nykaa offers over 45,000 SKUs and has strict control over the quality of products and products nearing expiry (returned to brands) to ensure genuine products reach its customers. Moreover, the company has a pan-India reach with Tier 2 and 3 cities accounting for 40% of revenues. Management believes that the range, reach and trust (over fresh stock and genuine products) have resulted over 50% customers every month being repeat consumers. The company has embarked on an omni-channel strategy with a few stores in select cities to offer the in-store experience.

So what do Indian women buy? Make-up and skin care account for over two-third of Nykaa’s revenues. The company has seen a lot of experimental behaviour (colors bought) by customers in categories such as make-up (which conventionally have been sold by offering store experience). Detailed content like DIY videos and beauty book articles (the company has in-house content team) have helped customers make purchase decisions and keep them updated on latest trends. Herbal is a category which currently contributes a small share of Nykaa’s GMV but the growth in the category is one of the highest.

Investment Implications: In our coverage universe, Arvind Ltd (SELL, TP Rs311) has an exposure in this phase through its license of Sephora. While Sephora has a strong portfolio of own brands and Arvind will boost Sephora’s ecommerce through its ecommerce portal, Nykaa has established itself as credible player and its popularity and bargaining power (brands signing up) should be watched.

1,500,000

300,000

700,000

Market size (` mn)

Wedding Occasion Dailywear

Titan's share - 8%

Titan's share - 1%

Titan's share - 3%

400,000

2,100,000

Domestic Jewellery Market (` mn)

Diamond Gold

Titan's share - 7%

Titan's share - 3%

AMBIT INSIGHTS


Exhibit 3: Nykaa.com’s popularity is evident from its search interest

Source: Google trends, Ambit Capital research. Note: LHS indicates search interest of the website relative to the peak

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Nykaa Sephora MAC Cosmetics Clinique

AMBIT INSIGHTS


JSW Energy Bina acquisition value-accretive JSWE has agreed to acquire Jaiprakash Power Venture’s 500MW Bina plant for EV of Rs27bn, which is linked to a base enterprise value as on 1st Sept 2015. The transaction is likely to be completed before May 2017 (subject to regulatory/other approvals). We believe the deal will be value-accretive to the extent of Rs6bn (Rs3.7/share) ascribing 1.5x to its regulated portfolio (350MW) and 0.5x invested equity to merchant portfolio (150MW). With Rs20bn debt outstanding as of Mar 2015, our equity value for Bina is Rs12.4bn, for which JSWE is paying Rs7bn. A key positive for JSWE is its exposure to merchant (volume terms) will decrease to 50% from 53%. With completion of transaction pending, we do not ascribe any valuation this acquisition. We remain SELLers with a TP of Rs74 (1.3x FY18E P/B).

Acquisition de-risks JSWE’s merchant portfolio Bina is largely a regulated power plant with 70% of its 500MW capacity tied up in a regulated PPA. It has 325MW PPA with MPSEB to be sold on regulated ROE of 15.5% with 100% fuel pass-through and the remaining 25MW to be sold to the Madhya Pradesh government at variable cost. Fuel linkage for 350MW is from the South Eastern Coal field. The balance 150MW does not have any PPA and is not operational.

From a portfolio match perspective, this acquisition is positive as it de-risks JSWE’s exposure from the risky merchant portfolio. Currently, 53% of JSWE’s 4.3GW operational capacity is sold on a merchant basis.

Exhibit 1: JSWE’s exposure to merchant sales in volume terms will reduce from 53% in FY16 to 50% after the acquisition

Offtake (MW) Offtake (mu) (FY16) Linkage (MW)

Plant Merchant PPA Merchant PPA Imported/ e-auction

coal

FSA/captive mine

Vijayanagar 860 0 6,259 - 860 0

Ratnagiri 427 773 4,225* 3,421* 1,200 0

Barmer - 1080 - 6,396 0 1080

Baspa II - 300 - 358* NA NA

Karcham Wangtoo 120 704 1,193* - NA NA Pre-acquisition total 1,407 2,857 11,677 10,175 2,060 1,080

Pre-acquisition Share (%) 33% 67% 53% 47% 66% 34%

Bina 150 350 - 1,308 150 350

Post-acquisition 1,557 3,207 11,677 11,483 2,210 1,430 Post-acquisition Share (%) 33% 67% 50% 50% 61% 39%

Source: Company, Ambit Capital research, Note – * as per Ambit estimate

Acquisition is value-accretive If it fructifies, this acquisition will be value-accretive for JSWE’s shareholders. Our equity valuation of the Bina plant is Rs12.4bn (for which JSWE is paying Rs7bn), which assumes 1.5x invested equity multiple being ascribed to 350MW and 0.5x invested equity ascribed to the merchant portfolio.

SELL Quick Insight Analysis Meeting Note News Impact

Stock Information Bloomberg Code: JSW IN

CMP (Rs): 80

TP (Rs): 74

Mcap (Rs bn/US$ bn): 131/2.0

3M ADV (Rs mn/US$ mn): 283/4.2

Stock Performance (%)

1M 3M 12M YTD

Absolute (5) 12 (23) (6) Rel. to Sensex (9) 4 (20) (12) Source: Bloomberg, Ambit Capital research

Ambit Estimates (Rs bn)

FY16 FY17 FY18

Revenues 99.7 103.1 102.9 EBITDA 41.4 47.3 45.8 EPS (Rs) 7.9 7.6 9.0 Source: Bloomberg, Ambit Capital research

Research Analysts

Bhargav Buddhadev [email protected] Tel: +91 22 3043 3252

Deepesh Agarwal, CFA [email protected] Tel: +91 22 3043 3275



AMBIT INSIGHTS


Exhibit 2: We value Bina at EV of Rs33bn…

Rs mn Investment Multiple (x) Value Comment

PPA - 350MW - Equity 7,160 1.5 10,740 Value at 1.5x invested equity given

15.5% regulated equity - Normative debt 14,178 1 14,178 - EV 24,917 Merchant - 150MW

- Equity 3,293 0.5 1,646 Value at 0.5x invested equity given non-operational status due to lack of FSA/PPA

- Normative debt 6,520 1 6,520 - EV 8,166

Total EV 33,083 Source: Ambit Capital research

Exhibit 3: …implying value accretion for equity shareholders of Rs3.7/share

Particulars Rs mn unless specified

Transaction value A 27,000

Ambit's fair value for Bina B 33,083

Value accretion C = B - A 6,083

Number of shares (mn) D 1,640

Value accretion (Rs/share) E 3.7

Source: Ambit Capital research

Exhibit 4: Bina - key financial highlights for 350MW PPA portfolio

Rs mn Capacity 350MW

Equity Investment 7,316

Project debt 17,000

Total Capex 24,317

FY15 key highlights Normative debt 14,487

Depreciation 1,208

Interest on loan 1,869

Interest on Working Capital 468


Where do we go from here?

The transaction will take time to materialise; the hard stop for this transaction is May 2017. Consequently, we are not ascribing any valuation to this transaction now. If this transaction fructifies, we believe JSWE may put plans to acquire Monnet Ispat’s 1,050MW power plant on the backburner given rise in leverage.

We reiterate our SELL stance with a TP of Rs74/share (implied FY18E P/B of 1.2x). We continue to be concerned about the following:

Risk of decline in South merchant tariff persists: Vijayanagar’s profitability (contributes 66% of consolidated PAT) may get impacted as JSW is likely to sign short-term PPA of 3 years for 750MW at Rs4.38/unit compared with current realization of ~Rs5/unit. Though this will reduce exposure to South’s merchant market, uncertainty over Vijayanagar’s realisation after 3 years remains as: (a) southern grid is likely to be fully synchronized by FY17-end; (b) coal-based capacity in South India is likely to double to 68GW by FY19; (c) low probability of case 1 bids opening up in the next three years given 16GW of NTPC’s capacity, which has already signed MOU with SEBs, is scheduled for commissioning.

AMBIT INSIGHTS


Imported coal prices appear to have bottomed out: The sharp declining trend in imported coal prices seems to have been arrested for the time being, with Indonesian coal indices for 4,200kcal coal grade (accounts for 90% of imported coal consumed by JSWE) remaining flat in 1QFY17 compared with a 15% decline in FY16.

JSWE is trading at expensive valuations of 1.5x FY17E P/B despite FY17-18E RoE of 14.5% being lower than cost of equity of 15% and growth challenges due to power surplus situation. We expect 3% decline in FY17 EPS due to fall in profitability at Vijayanagar. When compared with peers, JSWE is trading at a premium of 5% on FY18E P/B.

Exhibit 5: JSWE is trading at a 5% premium to peers on FY18E P/B

Company CMP Mcap (US$mn)

P/B (x) P/E (x) RoE (%) CAGR (FY16-18) (%)

FY16 FY17 FY18 FY16 FY17 FY18 FY16 FY17 FY18 Revenue EPS

CESC 601 1,187 1.3 1.3 1.1 22.2 11.7 8.2 5.9 10.1 13.0 9.6 NA

KSK 169 1,211 NA NA NA 8.0 8.9 NA 14.3 11.4 NA NA NA

JSPL 80 1,955 1.5 1.4 1.2 10.4 9.8 9.4 15.6 14.8 13.9 4.3 (4.8)

JP Power 28 1,403 1.7 1.4 1.3 NA NA NA (18.9) 1.9 6.6 2.8 NA

NHPC 25 4,171 0.9 0.9 0.8 10.8 9.9 8.8 8.2 10.0 10.8 7.9 (9.8)

Adani Power 28 1,403 1.7 1.4 1.3 NA NA NA (18.9) 1.9 6.6 2.8 NA

NTPC 158 19,358 1.5 1.4 1.4 12.7 14.9 11.9 12.0 9.7 11.7 14.1 3.5

Tata Power 74 2,974 1.5 1.3 1.1 17.3 14.2 8.7 8.8 9.8 13.6 2.1 41.2

Torrent Power 173 1,214 1.2 1.1 1.0 16.2 18.5 10.7 7.4 6.1 9.7 (5.2) 23.3

JSW Energy 80 1,950 1.5 1.4 1.3 10.1 10.5 8.9 16.1 14.0 14.9 1.6 6.7

Sector median 1.5 1.3 1.2 12.7 11.7 9.1 8.2 9.8 11.3 3.5 3.5

Divergence 3% 5% 5% -20% -11% -2% 800bps 420bps 360bps -190bps 320bps

Source: Bloomberg, Ambit Capital research; Note: Prices as on 18 July 2016

AMBIT INSIGHTS


Balance Sheet

Year to March (Rs mn) FY14 FY15 FY16 FY17E FY18E

Networth 65,712 75,180 85,358 93,949 104,764

Loans 101,065 92,941 155,681 139,494 123,308

Other Liabilities 2,436 3,477 4,934 4,934 4,934

Sources of funds 169,212 171,598 245,973 238,377 233,005

Net block (incl. CWIP) 142,387 136,346 222,267 211,438 200,608

Net current assets 12,274 15,549 17,073 16,479 15,477

Cash 5,675 3,515 3,949 7,777 14,237

Investments 8,877 16,188 2,684 2,684 2,684

Application of funds 169,212 171,598 245,973 238,377 233,005


Income statement

Year to March (Rs mn) FY14 FY15 FY16 FY17E FY18E

Revenue 87,054 93,802 99,689 103,074 102,907

EBITDA 32,514 36,234 41,446 47,347 45,764

Depreciation 8,099 7,898 9,502 11,622 11,622

Interest expense 12,059 11,375 15,032 16,337 13,910

Other income 2,022 2,301 2,100 439 1,201

PBT 14,378 19,263 19,013 19,827 21,434

Provision for taxation 2,834 5,150 6,051 7,289 6,671

Extraordinaries - - - - -

Consolidated adj PAT 11,544 14,113 12,962 12,538 14,763

EPS diluted (Rs) 7.0 8.6 7.9 7.6 9.0


Cash flow statement

Year to March (Rs mn) FY14 FY15 FY16E FY17E FY18E

PAT 10,600 18,921 20,513 19,827 21,434

Others 19,572 18,175 25,212 27,519 24,330

WC changes (4,894) 1,322 (7,923) 594 1,002

CFO 25,279 38,417 37,802 47,941 46,766

Net capex (5,324) (4,879) (7,883) (353) 409

Net Investments 1,699 671 13,504 - -

CFI (3,625) (4,208) 5,621 (353) 409

Borrowings (2,701) (8,124) (8,260) (16,187) (16,187)

Others (15,889) (15,149) (18,979) (20,285) (17,858)

CFF (18,591) (23,272) (27,240) (36,471) (34,044)

FCF 21,654 34,210 43,424 47,589 47,175


Ratio analysis / Valuation parameters

Year to March (Rs mn) FY14 FY15 FY16E FY17E FY18E

Revenue growth (%) (2.6) 7.8 6.3 3.4 (0.2)

EBITDA margin (%) 37.3% 38.6% 41.6% 45.9% 44.5%

Net margin (%) 13.3% 15.0% 13.0% 12.2% 14.3%

RoCE (%) 11.6 12.7 11.6 10.9 9.8

RoE (%) 18.1 20.0 16.1 14.0 14.9

Net debt / Equity (x) 1.4 1.0 1.8 1.4 1.0

P/E (x) 11.4 9.3 10.1 10.5 8.9

P/B(x) 2.0 1.7 1.5 1.4 1.3

EV/EBITDA(x) 7.0 6.3 5.5 4.8 5.0


AMBIT INSIGHTS


Hindustan Unilever Macro weakness slows volume growth HUL reported sales and PAT growth of 4% YoY to Rs81.3bn and Rs11bn respectively. Demand moderation in rural and urban areas led to volume growth of 4% YoY vs our expectation of ~5% YoY. Given new reporting standards, we would only look at YoY comparison. EBITDA margin expanded by ~85bps YoY driven by lower input costs and premiumisation. With rural volume recovery expected by 2HFY17, we expect HUL to deliver 4-5% YoY volume growth in 1HFY17, followed by recovery-led increase in volume growth rate to 7-8% in 2HFY17. We believe DBT of rural subsidies, particularly food subsidy in FY17, should drive rural demand growth. HUL will be the biggest beneficiary of such a rural demand revival (see our 3rd Nov’15 DBT report). We expect HUL to deliver sector-leading sales/EPS growth of 15%/22% over FY16-FY20 with >100% RoCE. We maintain our FY17-18 estimates with TP to Rs990/share (8% upside), implying FY18E P/E of 36x.

Volume growth slows down to 4% YoY on the back of weak macro

HUL reported sales growth of 4% YoY to Rs81.3bn while PAT also grew 4% to Rs11.0bn. Demand moderation in rural and urban areas led to volume growth of 4% YoY vs our expectation of ~5% YoY. Given changes in reporting of various line items under Ind AS, our estimates for 1QFY17 are not comparable to the reported numbers. Hence, we look at only YoY comparison for the reported numbers. Gross margin expanded by ~100bps YoY due to input cost benefits and premiumisation in certain parts of portfolio. However, EBITDA margin expanded by only 85bps YoY to 20.1% due to one-off expense in employee cost. A&P spends, which under Ind AS will largely denote advertising and consumer promotion spends, were lower by only ~60bps YoY as percentage of sales. Despite margin expansion, PAT grew by only 4% YoY to Rs11bn due to higher finance and depreciation cost (+25% YoY) and lower other income (-12% YoY).

Exhibit 1: Category performance – driving premiumisation and new category development

Category % of total Sales for 1QFY17

1QFY17 YoY% value growth Comments

Domestic FMCG 100% 4% volume and value growth

Volume growth slowed down to 4% YoY led by deceleration in both urban and rural demand. Market growth for 1QFY17 was significantly lower than the growth in 4Q and 1QFY16. HUL has managed to grow ahead of the broader market.

Home Care 32% 7% Volume growth in detergents was led by the premium segment (Surf). Vim liquids continues to do well; Water also witnessed robust growth

Personal Care 48% 2% Volume growth in this category was off-set by price deflation in the soaps category

Price deflation continued in soaps as commodity benefits were passed on to consumers. Lifebuoy, Pears and Dove led volume growth

Skin care - FAL premium segment performed well

Hair Care - Volume led growth with all key brands continuing to perform well

Oral care – Continued to disappoint and lose market share despite Pepsodent’s re-launch >4 months ago

Refreshment 15% 5% Tea - Red Label Natural Care and Green Tea continued to do well; Coffee - Bru maintained its market share; Ice cream delivered good quarter on distribution expansion

Foods 3% 5% Growth was impacted by overall demand slowdown and one-off event in Jams


All-round consumer demand weakens; rural continues to trail urban

According to management, consumer demand weakened in both urban and rural areas, with FMCG volume growth for 1QFY17 being half of that in 4QFY16 and almost one-fourth of that in 1QFY16. Rural growth trailed urban growth as demand was particularly weak in drought-hit areas. In line with the rural weakness, General Trade sales channel grew slower than Modern Trade. This resulted in mass market brands growing slower than mid and premium brands. Smaller SKU growth was lower

BUY Result Update Stock Information Bloomberg Code: HUVR IN

CMP (Rs): 920

TP (Rs): 990

Mcap (Rs bn/US$ bn): 1,995/29.7

3M ADV (Rs mn/US$ mn): 1,330/19.8

Stock Performance (%)

1M 3M 12M YTD

Absolute 5 3 0 7

Rel. to Sensex 0 (5) 2 1


Ambit Estimates (Rs bn)

FY16 FY17 FY18

Revenues 319.6 363.1 418.5

EBITDA 57.3 66.8 80.3

EPS (Rs) 18.8 22.9 27.8


Research Analysts

Rakshit Ranjan, CFA [email protected] Tel: +91 22 3043 3201

Ritesh Vaidya, CFA [email protected] Tel: +91 22 3043 3246



http://reports.ambitcapital.com/reports/Ambit_Consumer_Thematic_DBTOportunidadesIndia_03Nov2015.pdf

AMBIT INSIGHTS


than medium and larger consumer packs. Overall, competitive intensity remained high but there was no incremental pricing action across categories.

HUL driving premiumisation in detergents portfolio to improve margins

In Soaps and Detergents, where penetration levels are very high, over the last six quarters HUL has used the lower input cost environment to drive premiumisation in these categories. While this has been successful in detergents, making Surf HUL’s largest brand by sales, premiumisation has been slower in the soaps category. Lower perceived benefit from premiumisation in soaps vs detergents is seen as a possible reason for this differential in premiumisation trend across the two categories. As per our estimates, detergents contribute ~20% of EBIT but have only ~12% EBIT margin vs overall EBIT margin of 18%. Hence, premiumisation in detergents which would help drive overall EBIT margin expansion for HUL.

Where do we go from here?

Pick-up in rural growth to be the key driver for sales growth

Recovery in rural demand remains the key catalyst for HUL over the next 12 months. We expect a recovery in rural demand earliest by 2HFY17. Over 1HFY17, we expect HUL to deliver only 4-6% YoY volume growth with 2-3% price inflation. In 2HFY17, along with an good monsoon we expect the benefits from direct benefit transfer (DBT) of food subsidy and other welfare schemes to start showing up in increased rural spends (Refer our 03 Nov15 DBT report). We believe HUL is best placed to benefit from incremental rural spends as explained below.

More than 80% of HUL’s revenues are derived from categories which will be the biggest beneficiaries of DBT-induced incremental spends, such as soaps, detergents, shampoos, packaged tea, skin care and oral care. Moreover, HUL is the market leader in all these categories except for oral care, in which it is the #2 player. Also, >50% of HUL’s revenue from these categories is derived from rural India and, thus, it has the highest exposure to segments that will benefit the most from the DBT rollout of subsidies.

HUL’s direct distribution increased by 3x over the last 4 years to >3mn outlets. The quality of its distribution improved, with the number of outlets billing higher than its internal benchmark of ‘throughput-per-store’ being ~80% in FY15 vs ~57% in FY14. Its latest marketplace execution strategy, WIMI (Winning In Many Indias), has allowed faster execution of region-specific product development and consumer promotions. Thus, HUL is best placed to expand in an improved macro environment over the next 2-3 years.

Valuation – reiterate BUY with TP of Rs990/share Beyond the weakness in volume growth for 1HFY17, given the benefit that HUL can derive from the DBT-induced pick-up in rural demand from 2HFY17, we expect HUL to deliver sector-leading sales/EPS growth of 15%/21% over FY16-FY20 with >100% RoCE. We maintain our FY17-18 estimates with TP to Rs990/share (8% upside), implying FY18E P/E of 36x. These premium valuations vs sector average are justified, as: (a) HUL is best positioned to benefit from a rural macro demand recovery over the next 3-5 years, with our FY17 EPS factoring in only 25% of the benefits of DBT implementation; (b) HUL’s practice of talent hiring and retention allows it to execute expansion efficiently and sustainably over longer time periods vs peers. Maintain BUY.

HUL’s product portfolio is best placed to benefit from the DBT rollout

HUL has improved its depth and quality of distribution over FY13-FY16

http://reports.ambitcapital.com/reports/Ambit_Consumer_Thematic_DBTOportunidadesIndia_03Nov2015.pdf

AMBIT INSIGHTS


Exhibit 6: Quarterly snapshot (Rs mn)

1QFY17 4QFY16 1QFY16 YoY QoQ

Net Sales 79,877 75,849 77,127 3.6% 5.3%

Other Operating Income 1,404 1,363 1,318 6.6% 3.1%

Total Sales 81,282 77,212 78,445 3.6% 5.3%

Cost of materials consumed 29,181 28,442 28,334

Purchases of stock-in-trade 10,892 9,769 10,222

Changes in inventories (518) (522) 420

Total COGS 39,555 37,688 38,976 1.5% 5.0%

Gross Profit 41,727 39,523 39,469 6% 5.6%

Gross margin 51.3% 51.2% 50.3% 102 15

Employee benefits expense 4,265 4,426 3,579 19.2% -3.6%

Advertising & Promotions 8,798 8,655 8,927 -1.5% 1.7%

Other expenses 12,306 11,740 11,842 3.9% 4.8%

Total expense 25,368 24,820 24,349 4.2% 2.2%

EBITDA 16,359 14,703 15,120 8% 11.3%

EBITDA margin 20.1% 19.0% 19.3% 85 108

Finance costs 60 16 47 27.4% 276.6%

Depreciation 933 875 749 24.5% 6.6%

EBIT 15,367 13,812 14,324 7.3% 11.3%

Other income 1,076 1,014 1,230 -12.5% 6.1%

PBT 16,442 14,826 15,554 5.7% 10.9%

Tax expense 5,411 4,203 4,960 9.1% 28.7%

PAT 11,031 10,624 10,594 4% 3.8%

Exceptional Items 708 512 98 625.1% 38.2%

PAT after exceptional items 11,739 11,135 10,692 9.8% 5.4%

EPS 5.1 4.9 4.9 4.1% 3.8%

As % of sales YoY ch (bps) QoQ ch (bps)

Employee cost 5.2% 5.7% 4.6% 68 (48)

A&P spends 10.8% 11.2% 11.4% (56) (39)

Other expenditure 15.1% 15.2% 15.1% 4 (7)


AMBIT INSIGHTS


Balance sheet

Year to March (Rs mn) FY13 FY14 FY15 FY16 FY17E FY18E

Net Worth 26,740 32,771 37,248 36,873 42,547 48,477

Total Debt - - - - - -

Deferred Tax Liability (2,048) (1,617) (1,960) (2,309) (2,309) (2,309)

Current Liabilities 88,385 97,214 99,093 104,797 118,949 137,100

Total Liabilities 113,077 128,367 134,381 139,362 159,187 183,268

Fixed Assets 25,085 27,418 29,365 33,007 32,813 32,644

Investments 23,307 30,941 32,779 29,666 41,666 56,666

Current Assets 64,685 70,007 72,236 76,689 84,709 93,958

Total Assets 113,077 128,367 134,381 139,362 159,187 183,268


Income statement


Net Income 258,102 280,191 308,056 319,872 363,066 418,467

% Growth 17% 9% 10% 4% 14% 15%

Gross Profit 123,214 136,755 151,821 166,742 190,275 220,565

EBITDA 40,038 44,753 52,082 57,299 66,813 80,265

PBIT 43,746 48,357 55,399 59,098 70,636 85,692

PBT 43,495 47,997 55,231 59,096 70,636 85,692

PAT 32,048 35,598 37,299 40,679 49,650 60,176

EPS 14.8 16.5 17.2 18.8 22.9 27.8

EPS Growth 20% 11% 5% 9% 22% 21%


Cash flow statement


EBIT 43,746 48,357 55,399 59,098 70,636 85,692

Depreciation 2,360 2,606 2,867 3,208 3,194 3,169

Others (11,927) (13,110) (18,921) (18,769) (21,897) (26,565)

Change in working capital 7,454 8,638 2,816 3,464 7,521 9,646

Cash flow from operations 41,633 46,491 42,162 47,001 59,454 71,943

Cash flow from investments (2,741) (12,573) (6,652) (3,735) (15,000) (18,000)

Cash flow from financing (40,114) (28,787) (32,344) (41,053) (43,065) (53,197)

Change in cash (1,222) 5,131 3,166 2,213 1,389 745

Free cash flow 37,817 41,552 37,348 40,152 56,454 68,943


Ratio analysis / Valuation parameters


Gross margin (%) 47.7% 48.8% 49.3% 52.1% 52.4% 52.7%

EBITDA margin (%) 15.5% 16.0% 16.9% 17.9% 18.4% 19.2%

Net profit margin (%) 12.4% 12.7% 12.1% 12.7% 13.7% 14.4%

Net debt: equity (x) (1.4) (1.4) (1.4) (1.4) (1.5) (1.6)

RoCE (%) 103.1% 117.9% 105.5% 109.8% 122.7% 129.9%

RoE (%) 102.6% 117.0% 105.2% 109.8% 122.7% 129.9%

P/E (x) 66.8 60.1 57.4 52.6 43.1 35.6

Price/Sales (x) 8.3 7.6 7.0 6.7 5.9 5.1

EV/EBITDA (x) 53.0 47.3 40.6 36.9 31.6 26.3


Ambit Capital and / or its affiliates do and seek to do business including investment banking with companies covered in its research reports. As a result, investors should be aware that Ambit Capital may have a conflict of interest that could affect the objectivity of this report. Investors should not consider this report as the only factor in making their investment decision.

Alpha This Week

July 19, 2016

Derivatives

Securities featured in this note

Company Near Term

Medium term

Nifty () ()

Ultratech Cement () ()

Idea () ()

Hero Moto () ()

Zee Entertainment () ()

() denotes positive view, () denotes negative view, <-> denotes no major view/ consolidation. Research Analyst

Prashant Mittal, CFA +91 22 3043 3218 [email protected]

An alternative take on the markets 17th Sept 2013 After recovering smartly from levels close to 8000 post the ‘Brexit’ verdict in end Jun’16, the Nifty has been steadily moving upwards over the current month. Going forward, we expect the index to consolidate in the near term on the back of negative divergence seen on momentum indicators (MACD and RSI). That said, any correction on the index is likely to be limited with levels close to 8300 acting as the near-term support. On stocks, we continue our longs on Ultratech Cement and Idea Cellular and our shorts on Hero Motocorp and Zee Entertainment.

Index: After recovering smartly from levels close to 8000 post the ‘Brexit’ verdict in end Jun’16, the Nifty has been steadily moving upwards over the current month. Going forward, we expect the index to consolidate in the near term on the back of negative divergence seen on momentum indicators (MACD and RSI). That said, any correction on the index is likely to be limited with levels close to 8300 acting as the near-term support.

Stocks: On stocks, we continue our longs on Ultratech Cement and Idea Cellular and our shorts on Hero Motocorp and Zee Entertainment.

Nifty- Consolidation likely!

Source: Metastock

Bank Nifty: The Bank Nifty has been trading in a narrow channel pattern throughout its upmove from Feb’16 lows to come close to levels near 19000 now. Currently, the index faces resistance near these levels from both the upper trendline of the channel pattern and from the trendline connecting previous highs near these levels. Further, the momentum indicators, the MACD and RSI, also suggest negative divergence with the price movement and overbought levels respectively. Given these negative technical indicators, we expect the index to consolidate in the near term with 18000 levels likely to provide support on any correction.

Institutional flows: FIIs were strong BUYers of Indian equities last week and bought equities worth Rs42bn. Overall, since May 2015, FIIs have sold Indian equities worth Rs413bn. DIIs were strong SELLers and have sold equities worth Rs675bn since May 2015. Further, DIIs, as a class, are currently buyers of Indian equities worth Rs663bn since the General Elections in May 2014. MFs have bought equities worth Rs1.1tn since the elections, indicating robust retail inflows which have been, in part, offset by outflows driven by insurance selling.

AMBIT INSIGHTS


Institutional Equities Team Saurabh Mukherjea, CFA CEO, Institutional Equities (022) 30433174 [email protected]

Research Analysts

Name Industry Sectors Desk-Phone E-mail

Nitin Bhasin - Head of Research E&C / Infra / Cement / Industrials (022) 30433241 [email protected]

Aadesh Mehta, CFA Banking / Financial Services (022) 30433239 [email protected]

Aakash Adukia Oil & Gas / Chemicals / Agri Inputs (022) 30433273 [email protected]

Abhishek Ranganathan, CFA Retail (022) 30433085 [email protected]

Achint Bhagat, CFA Cement / Home Building (022) 30433178 [email protected]

Anuj Bansal Mid-caps (022) 30433122 [email protected] Ashvin Shetty, CFA Automobile (022) 30433285 [email protected]

Bhargav Buddhadev Power Utilities / Capital Goods (022) 30433252 [email protected]

Deepesh Agarwal, CFA Power Utilities / Capital Goods (022) 30433275 [email protected] Dhiraj Mistry, CFA Consumer (022) 30433264 [email protected]

Gaurav Khandelwal, CFA Automobile (022) 30433132 [email protected] Girisha Saraf Mid-caps / Small-caps (022) 30433211 [email protected]

Karan Khanna, CFA Strategy (022) 30433251 [email protected]

Kushank Poddar Technology (022) 30433203 [email protected] Pankaj Agarwal, CFA Banking / Financial Services (022) 30433206 [email protected]

Paresh Dave, CFA Healthcare (022) 30433212 [email protected]

Parita Ashar, CFA Metals & Mining / Aviation (022) 30433223 [email protected]

Prashant Mittal, CFA Strategy / Derivatives (022) 30433218 [email protected]

Rahil Shah Banking / Financial Services (022) 30433217 [email protected]

Rakshit Ranjan, CFA Consumer (022) 30433201 [email protected]

Ravi Singh Banking / Financial Services (022) 30433181 [email protected]

Ritesh Gupta, CFA Oil & Gas / Chemicals / Agri Inputs (022) 30433242 [email protected]

Ritesh Vaidya, CFA Consumer (022) 30433246 [email protected] Ritika Mankar Mukherjee, CFA Economy / Strategy (022) 30433175 [email protected]

Ritu Modi Automobile (022) 30433292 [email protected]

Sagar Rastogi Technology (022) 30433291 [email protected]

Sumit Shekhar Economy / Strategy (022) 30433229 [email protected]

Utsav Mehta, CFA E&C / Industrials (022) 30433209 [email protected]

Vivekanand Subbaraman, CFA Media (022) 30433261 [email protected]

Sales

Name Regions Desk-Phone E-mail

Sarojini Ramachandran - Head of Sales UK +44 (0) 20 7614 8374 [email protected]

Dharmen Shah India / Asia (022) 30433289 [email protected]

Dipti Mehta India / USA (022) 30433053 [email protected]

Hitakshi Mehra India (022) 30433204 [email protected]

Krishnan V India / Asia (022) 30433295 [email protected]

Nityam Shah, CFA USA / Europe (022) 30433259 [email protected]

Parees Purohit, CFA UK / USA (022) 30433169 [email protected]

Praveena Pattabiraman India / Asia (022) 30433268 [email protected]

Shaleen Silori India (022) 30433256 [email protected]

Singapore

Pramod Gubbi, CFA – Director Singapore +65 8606 6476 [email protected]

Shashank Abhisheik Singapore +65 6536 1935 [email protected]

USA / Canada

Ravilochan Pola - CEO Americas +1(646) 361 3107 [email protected]

Production

Sajid Merchant Production (022) 30433247 [email protected]

Sharoz G Hussain Production (022) 30433183 [email protected]

Jestin George Editor (022) 30433272 [email protected]

Nikhil Pillai Database (022) 30433265 [email protected]















































AMBIT INSIGHTS


Titan Co Ltd (TTAN IN, BUY)


Arvind Ltd (ARVND IN, SELL)


Hindustan Unilever Ltd (HUVR IN, BUY)


0

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TITAN CO LTD

050

100150200250300350400

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Arvind Ltd

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Hindustan Unilever Ltd

AMBIT INSIGHTS


Godrej Consumer Products Ltd (GCPL IN, SELL)


Nestle India Ltd (NEST IN, SELL)


JSW Energy Ltd (JSW IN, SELL)


0200400600800

1,0001,2001,4001,6001,800

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Godrej Consumer Products Ltd

01,0002,0003,0004,0005,0006,0007,0008,000

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Nestle India Ltd

020406080

100120140

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JSW ENERGY LTD

AMBIT INSIGHTS


Explanation of Investment Rating

Investment Rating Expected return (over 12-month)

BUY >10%

SELL <10%

NO STANCE We have forward looking estimates for the stock but we refrain from assigning valuation and recommendation

UNDER REVIEW We will revisit our recommendation, valuation and estimates on the stock following recent events

NOT RATED We do not have any forward looking estimates, valuation or recommendation for the stock POSITIVE We have a positive view on the sector and most of stocks under our coverage in the sector are BUYs

NEGATIVE We have a negative view on the sector and most of stocks under our coverage in the sector are SELLs Disclaimer This report or any portion hereof may not be reprinted, sold or redistributed without the wri tten consent of Ambit Capital. AMBIT Capital Research is disseminated and available primarily electronically, and, in some cases , in

printed form. Additional information on recommended securities is available on request. Disclaimer 1. AMBIT Capital Private Limited (“AMBIT Capital”) and i ts affiliates are a full service, integrated investment banking, investment advisory and brokerage group. AMBIT Capital is a Stock Broker, Portfolio Manager and

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However, such information has not been independently verified by AMBIT Capital and/or the analyst(s) and no representation or warranty, express or implied, is made as to the accuracy or completeness of any information obtained from third parties. The information, opinions , views expressed in this Research Report are those of the research analys t as at the date of this Research Report which are subject to change and do not represent to be an authority on the subject. AMBIT Capital may or may not subscribe to any and/ or all the views expressed herein.

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