GlaxoSmithKline Consumer Healthcare: Buy

The company's dominant position in the promising health beverages category, its successful forays into new food segments and pricing power make it a healthy food play.

Most FMCG companies struggled to expand profits in the recent December quarter as they grappled with rising input costs, recalcitrant consumers and newly aggressive competitors. Horlicks maker, GlaxoSmithKline Consumer, Healthcare (GSK Consumer) managed these pressures quite well, closing the quarter with a 58 per cent surge in net profits on the back of a 21 per cent expansion in its sales. It even managed to improve its operating margins from 12.3 to 14.7 per cent.

This good show is likely to continue over the next couple of years, thanks to the company's dominant position in the promising health beverages category, its successful forays into new food segments and pricing power and lower input pressures in its categories, which should hold up margins.

Yet, the stock has been punished in the recent market rout, its price-earnings multiple dipping from a peak of 43 times to its current 29 times trailing 12-month earnings. This makes the stock the cheapest ‘food' play among FMCGs. At the current price of Rs 2,101, GSK Consumer trades at about 24 times the estimated earnings for 2011, a big discount to Britannia Industries and Nestle India at 34 and 38 times respectively.

Boost to health drinks

From holding a dominant share in just one segment of the health drinks market with its white beverage brand, Horlicks, GSK Consumer has in recent years, significantly scaled up both the depth and breadth of its brand portfolio. The buyout and re-launch of Boost, Maltova and Viva, the extension of Horlicks into premium variants (Women's Horlicks, Junior Horlicks, Horlicks Lite) and new nutritional supplements such as ActiGrow and ProHeight have endowed the company with a wider portfolio and geographical presence.

The health drinks category is underpenetrated and has offered opportunities for GSK Consumer to drive volumes through rural distribution initiatives and low unit packs too. With consumers outside of the urban centres upgrading, health drinks have managed to grow volumes alone by 8-9 per cent annually in recent years. This has been topped off by annual price increases of 5-6 per cent, made possible by the category's focus on health and wellness, and GSK Consumer's dominant market position.

Both these factors have lifted the annual sales growth for GSK Consumer from a sedate 12 per cent between 2004 and 2007 to 20 per cent-plus in the latest three years. A good monsoon, strong increase in support and market prices for farm produce and higher rural spends by the government, may all keep the rural segment of GSK Consumer's business growing strongly this year.

Foods foray clicks

GSK Consumer has also made parallel forays into new urban-centric categories such as healthy snacks (Horlicks Nutribar), biscuits and cookies and noodles (Foodles). Despite stiff competition in these segments, these launches seem to have clicked.

That's evident from the 3 per cent all-India market share garnered by its brand, Foodles, and the 71 per cent growth in the biscuits and cookies portfolio in the latest quarter. While GSK Consumer has managed to differentiate its noodle brand on the multi-grain plank, it is hoping to occupy the premium end of the biscuits and cookies market, which is characterised by fixed price points and limited margins. Contributions from these new categories are expected to rise from 5 per cent to 15 per cent of sales, in three years.

Adspends in check

The entry of players such as Hindustan Unilever and Dabur into GSK's home turf — health drinks — has ushered in more competition. However, the company has so far managed to ward off this threat reasonably well. In fact, it was Boost's relaunch on the “More stamina” plank which aided the brand's market share gains (to 15 per cent) and its 25 per cent growth for 2010. The company has also retained its 71 per cent share of the health drinks market. What is more, with the new brands being launched at similar or higher price points, pricing power in this segment may continue.

That all this has been managed without any sharp expansion in GSK Consumer's adspends, suggests both its pricing power and its ability to manage its product mix. Despite the slew of new launches, GSK Consumer's adspend to sales ratio climbed only marginally (15.3 to 15.6 per cent) in 2010, much less than for most of its peers.

Less pressure

Rising raw material prices today pose the biggest risk to profit growth for most FMCG players, with prices of key soap and detergent inputs shooting up by as much as 40-60 per cent year-on-year on a rising crude oil price table. In contrast, the inflation in GSK Consumer's key inputs — milk, wheat, sugar and malt extracts — has been at a more moderate 10-15 per cent this year. Currently, while malt and milk prices are on the rise globally, prices of wheat and sugar are on a flat or declining trend, helped by higher domestic output. Overall escalation in input costs for GSK may be in the low double-digits this year.

The stock is suitable for conservative investors. A cash-rich status, rising dividends and no debt (which makes the company neutral to rising interest rates), add the icing on the cake. Or should we say topping on the biscuit?

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