Nibble at THIS biscuit-MAKER’s stock

The most commonly bandied about investment mantra today is that in a bear market you can't go wrong investing in defensive sectors

Sanjay Kr Singh & Niti Kiran | Published: February 23, 2009 4:06:15 am

The most commonly bandied about investment mantra today is that in a bear market you can’t go wrong investing in defensive sectors — specifically,in FMCG,Pharma,and telecom. What purveyors of this piece of wisdom forget to add is that it would have worked at a time when the economic slowdown was round the corner,but not now when every investor worth his salt has stampeded into these sectors and driven valuations up. This applies especially if you are looking for stocks that have both robust growth prospects and are available at bargain prices. While a number of stocks fulfil one criterion,few pass muster on both.

The search for value

This week we applied our selection filters to stocks from the BSE FMCG index. First,we ruled out stocks whose PEs are substantially higher than that of the Sensex (injunction one: never overpay). Next,we hunted for stocks whose earnings yield today is more attractive than the yield from a 10-year treasury bond (see box). Britannia met this criterion — one that Warren Buffett uses as one of his first screens. (see “How to pick stocks like Warren Buffett” by Timothy Vick.)

What we also liked about this company is its record of financial performance. Over the last ten years,its revenue has grown at a compounded annual growth rate (CAGR) of 12.3 per cent. Negative growth in revenue occurred only on one occasion during this span. Profit after tax has grown at a CAGR of 20.8 per cent (with negative growth on three occasions),and earnings per share (EPS) at a CAGR of 17.6 per cent over this period (which makes it a medium-growth company).

Currently,the trailing price to earnings ratio (P/E) of the stock (16.62) is lower than the average 10-year trailing P/E (calculated using data taken every two months for the last 10 years),which stands at 23.10. So there might be scope for re-rating when market sentiments improve.

The dividend history of the company is also quite strong (see box). Another attractive feature of Britannia Industries’ financials is its low debt to equity ratio,which for FY08 stood at 0.14. Its cash position is comfortable with net cash per share standing at Rs 111.64 for FY08.

On one count,return on capital employed (ROCE),at 25.8 per cent for March 2008 Britannia compares unfavourably with several other FMCG players like HUL (82.3 per cent),Colgate (99.1 per cent),Marico (43.3 per cent) and Dabur (70.2 per cent).

Business prospects

Britannia is into the manufacturing and sale of biscuits,cakes,rusks and dairy products.

The biscuit category grew at about 16-18 per cent last year. With about 34 per cent share,Britannia is the market leader in biscuits. Its six major brands — Tiger,Good Day,Milk Bikis,Treat,Marie Gold and NutriChoice — have been registering double-digit growth despite a slowing economy and a tough competitive environment. Tiger,its foremost brand,accounts for nearly 30 per cent of its sales. Britannia’s brands are market leaders in their respective categories except glucose,where Parle is the leader.

According to Sonam Udasi,vice president-research and group head -consumers sector,Brics Securities,“Britannia’s strengths are its brand and the single-category focus that appears endurable at least over the next decade. Britannia is a set player with a strong product portfolio that is focused on


Growth strategy

The growth strategy of all biscuit majors today is to migrate customers from the glucose category,which is low margin,to higher-end biscuits — above the Rs 5 price point. Britannia is doing this by regularly introducing a number of new variants,or brand extensions,of its major brands. Broadly,through these brand extensions,it is trying to address the health platform (iron-fortified Tiger brand,NutriChoice Digestive and NutriChoice without sugar) and the taste platform for indulgent customers (Good Day Classic Cookies).

Another part of its growth strategy involves acquisitions and joint ventures both in India and abroad. It has acquired a stake in Dubai-based Strategic Food and Oman-based Al Sallan Food. It has also struck an alliance with Bangalore-based Daily Bread to enter the premium bread and cake market.

Challenges. One of the biggest challenges to the company is the nearly 10-20 per cent annual increase in the price of its key food inputs — wheat flour,refined palm oil,sugar and skimmed milk powder (see MD’s interview below) for the last few years. But the situation could improve in future. “Recent correction in most of the raw material prices will cushion margins,as we could see in Q4 FY09,” says Vanmala Nagwekar,analyst at India Infoline. In biscuits,the ability to pass on cost increases to customers is limited (or else customers switch to similar products from another company),except by introducing new variants.

High import duty on fats and high value added tax of 12.5 per cent on biscuits (compared to only 4 per cent on fruit drinks) are other issues. A lower tax rate would perhaps spur higher consumption.

To deal with the problem of rising input costs,Britannia has been trying to improve its operational efficiencies,build a more efficient supply chain,and is adopting modern procurement strategies (including hedging in the commodities market).

Major competitors. Britannia has two major competitors in the biscuit market. One is ITC’s Sunfeast,which has managed to garner a 12 per cent share of the urban biscuit market. ITC’s entry is helping expand the market. Parle dominates the glucose category,but this is a low-margin category.

According to Ashish Kapur,chief executive officer of New Delhi-based Invest Shoppe India,“If ITC decides to get more aggressive in biscuits,it could pose a major threat to Britannia. With its high cash flows from other businesses,it could plough a lot of money into this business to capture market share. That it has managed to capture substantial market share despite the presence of two established players — Britannia and Parle — speaks volumes about the potential threat from it.” Compared to another FMCG major Nestlé,Britannia is present in a limited number of product categories.

The management

According to analysts,the promoters (the Bombay Dyeing group) and the management of the company are well regarded,but in the market’s perception the management of other FMCG majors like Nestlé,HUL and ITC enjoy a higher rating.

According to Udasi of Brics Securities,“So far they have been up to speed on consumer sentiment and competition. But compared to peers there is less clarity on strategy and way forward. Disclosure levels could become better.”

Should you buy?

According to analysts,based on forward earnings estimates for FY10,Britannia’s current valuations of 14-15X appear fair (in FY09 earnings growth is expected at 12-14 per cent ,which translates into a PEG of 1x). Investors could nibble at this stock on price dips. The lower the price at which you buy,the higher will your margin of safety be. Long-term returns from the stock should be in line with the growth rate in earnings. u

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