Hindustan Unilever Ltd (HUL), one of India’s leading FMCG companies, faces a complex business landscape in Q2 of FY24. While the company anticipates sequential improvements in gross margins due to softened input costs and price cuts in select categories, several challenges pose potential risks to its growth and profitability. We shall explore the key factors influencing HUL’s performance in Q2FY24 –
1) Gross Margin Improvement
– HUL is expected to witness its fourth consecutive quarter of improved gross margins, with Q1FY24 showing a margin of 49.9%. This trend is attributed to declining input costs.
– Despite reducing prices in specific product categories, HUL’s practical management of costs has contributed to margin enhancement.
2) Stagnant Consumer Demand
– Mihir Shah of Nomura Financial Advisory and Securities highlights that Q2FY24 has seen unchanged consumer demand compared to previous quarters. It defies earlier expectations of gradual improvement.
– Urban demand remains stable and continues to be the primary growth driver, while rural demand, although buoyant, is still impacted (-3.5%) compared to a two-year CAGR.
3) Volume-Driven Revenue Growth
– Given the market dynamics, HUL’s future revenue growth is anticipated to be driven by volume.
– However, rural demand recovery, crucial for HUL’s growth, is progressing slowly due to an unfavourable monsoon season.
4) Increasing Competitive Intensity
– The FMCG sector is experiencing heightened competitive intensity, with unorganized players returning.
– This competitive environment and cooling inflation pose challenges to HUL’s pricing strategy.
5) Advertising & Promotion Expenses
– A potential increase in advertising and promotion (A&P) expenses is expected to impact the EBITDA margin.
– HUL intends to maintain a significant share of voice in the market, which has led to rising A&P spending, reaching nearly 10% in Q1.
6) Festival Season Outlook
– The post-Q2 period will be closely monitored to gauge demand during the festival season.
– Price cuts may stimulate volume growth, but the results may materialize after a lag.
7) Impact of Rising Crude Oil Prices
– The increasing price of crude oil poses an additional challenge for FMCG companies.
– If elevated oil prices persist, HUL’s profitability could be affected, especially with packaging costs potentially rising.
8) Stock Performance
– HUL’s shares have underperformed in 2023, declining by 2%, while the Nifty FMCG index led by ITC has gained 18%.
– HUL’s current valuation, trading at 46 times its FY25 estimated earnings, is relatively high, which may limit short-term upside potential.
Summary
Hindustan Unilever Ltd (HUL) faces a mixed outlook in Q2FY24. While it expects continued improvement in gross margins and relies on volume-driven revenue growth, stagnant consumer demand, competitive pressures, and the impact of rising crude oil prices present challenges. The company’s performance in the festival season will be critical, and its ability to adapt to changing market conditions will determine its success in FY24. Investors should remain cautious and keep their expectations in check, given the prevailing uncertainties in the FMCG sector.
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