Inside the delicate balancing act of FMCG firms

For Qazi, who lives with her husband – a construction worker who was rendered jobless by the lockdown – and their three children in the remote Mumbai suburb of Virar, the low income meant she had to cut back on essentials, branded consumer goods. Forget the products she was used to buying.

Pradeep Sheth, 55, runs a grocery store in the neighborhood of Virar, where Qazi lives. Sheth, who helps low-income laborers and domestic help, is one of those affected by the slowdown in the economy. Sheth says his customers opt for smaller packets or cheaper brands of products when it comes to buying cooking oils, detergents, soaps and skincare. Lower cost products mean lower margins for Sheth. But he has no other option.

Kazi and her groceries Sheth are not the only ones who are affected by the pandemic. Equally affected are companies whose products they once swear by, but are now forced to let go.

The high input cost has impacted the bottom line of leading fast-moving consumer goods (FMCG) players in India – one of the world’s largest markets. For example, the prices of palm oil (used in edible oil blends, soaps, cosmetics) have risen by about 32% to approx. 79 per kg in December 2021 versus the year-ago period; The prices of high-density polyethylene (used for packaging hair oils and hair care products) have increased by 35% over the same period. Palm oil can make up between 11% and 18% of an FMCG company’s cost of goods sold.

During the second quarter of 2021-22, the increase in raw material prices reduced the operating margins of most companies by 50-500 basis points compared to the same quarter two years ago. According to an Edelweiss report, on a two-year basis, Dabur’s gross margin declined by 200 basis points, while that of Hindustan Unilever (HUL) declined by 300 basis points, Godrej Consumer (GCPL) declined by 677 basis points. Recorded, and Marico suffered a gross loss. A contraction of 720 basis points in margins. Colgate was the only company to see its gross margin expand as inflation in its raw material cost was comparatively low.

So, what exactly have FMCG companies done to mitigate the impact of higher input cost on their margins?

passing on price

Well, for starters, the FMCG giants pass on the cost to the customers through well-spaced calibrated hikes, almost every month.

Consumers may continue to see holes in their pockets as prices of FMCG products continue to rise with no signs of moderation in raw material costs. The latest increase was in this month, and the trend is likely to continue for at least another quarter. FMCG companies said they may increase product prices by 4% to 10% in the next three months.

Continuing supply-chain and logistics issues around the world, after the pandemic, are one reason for the high cost of raw materials. In fact, prices of some commodities have reached 40-year highs. In addition, a nascent revival in demand for consumer goods has encouraged companies to make aggressive price hikes.

Edelweiss Securities is disclosing a note, dated 8 December. The firm’s executive director Avnish Roy wrote: “Companies have been aggressive about cost pass-through: paint companies with 18% price hikes, Pidilite with 11% hikes, and HUL with 7% hikes and the planned 10 Biscuit companies with 7% (7.5% by Q3FY22) growth in Q4FY22, all of which are much faster than the earlier years. Even staples companies impacted 7–10% price hikes in some segments has been added to the note.

“We have hiked prices by around 3-4% apart from taking several cost-saving initiatives to mitigate a part of this impact. In some categories like health care and food, we have completely mitigated the impact of inflation through price increases. Dabur Chief Executive Mohit Malhotra said, “We are monitoring the situation for now and if inflation continues, we may see another round of price hike in the fourth quarter of this year.”

Marico has partially passed on the increase in input cost to consumers as raw material cost has gone up by 50% in some categories. However, the company believes that it is not possible to pass on the entire amount of input cost to the consumers. “We have seen unprecedented inflationary trends, particularly in food and crude oil prices, and have not passed the full cost on to our consumers,” said Pawan Agarwal, Chief Financial Officer, Marico.

FMCG companies are aware that passing on higher cost to customers in the long run is not a permanent solution and hence they are renegotiated with suppliers to offset the input cost.

belt tighten

In addition to price increases, Marico is “aggressively driving cost efficiencies” through institutional cost management programs. The company has, in fact, created a separate vertical with a focus on cost optimization. “This has helped create a cushion for the organization with respect to inflationary pressures,” said Agarwal.

Sunil Kataria, CEO of India and SAARC, GCPL, told Mint that his company has taken several cost measures through Project Pai (Profit Improvement). Under this, the company negotiates with suppliers for better deals, seeks to offset the impact of inflation through strategic price increases, besides focusing on cost saving initiatives in operations.

“We are taking cost-cutting measures through Project PI, which is our regular multi-functional cost optimization project, to increase efficiency and generate cost synergies,” Kataria said. “Inflation is at record highs and it is impacting margins. We have calibrated price increases across categories and stock-keeping units to strike a balance between volume growth and margin management. Naturally, the full inflationary impact for consumers will be reduced. It is not possible to pass and hence, we have done it judiciously,” he said. The executive said that during the last one year, the average prices of GCPL across all categories have increased by about 9-10 per cent.

For Dabur, the other domestic FMCG giant, ‘Project Samridhi’ is the way forward. CEO Mohit Malhotra said that the project was launched with an eye on cost optimization and value addition across various levers of the business. “Everything is being looked at with a sharp lens to benchmark ourselves with best-in-class, apart from re-negotiating various cost elements. It is based on zero-based budgeting (evolving a new budget from the beginning) and we are exploring all avenues to manage costs in the new-normal scenario to transform Dabur into a more resilient company.”

While the process is in full swing, the major players were reluctant to share details due to competitive reasons.

According to Rajat Wahi, partner, Deloitte India, all large FMCG companies had the privilege of negotiating with suppliers, and companies that had long-term contracts have benefited. “However, the pandemic has been going on for over two years now and most contracts must be renewed at least once in between. Overall, inflation is so high that suppliers can provide relief to the big players only to a certain extent. Small manufacturers are suffering the most as they get raw deals from big suppliers,” Wahi said.

Market leader HUL said the company is running an affordable business model. A HUL spokesperson told Mint in an emailed reply, “We have been reducing cost inflation by toughening our savings agenda, looking at all cost lines with a laser-sharp focus and removing any non-value-added costs.” Huh.”

The company has effected “a prudent price hike” over the past year due to higher cost costs.

“Taking into account the inherent strengths of our brands and our execution prowess, we continue to take prudent and calibrated pricing action as needed using the principles of ‘Net Revenue Management’, our science of pricing. We deliver true value-to-consumer to the consumer. Prices are able to provide equalization, thus helping to protect our business model in an extreme inflationary scenario,” the spokesperson said.

what to expect

If costs do not come down, companies will continue to raise prices as they struggle to manage margins. For customers like Qazi, there is no relief at the moment. Kazi’s only hope is that his income will increase in the coming months.

Meanwhile, FMCG players have a delicate balancing act – to increase volumes at higher-than-normal retail prices. According to Deloitte’s Wahi, the price hike has not helped much in offsetting the impact of higher input costs. Supply-chain issues and other raw material costs are still rising. The current price hike will help offset only 75% of the input cost inflation. Companies fear that rising retail prices will scare away customers like Qazi who are yet to return to the market.

Technopak Chairman Arvind Singhal admitted that margins of FMCG companies will remain under pressure in the coming quarter as well. It is difficult to increase prices in certain price-sensitive categories, where companies are forced to bear the costs instead of passing on to consumers, he said.

However, steady demand for staples (essentials) and improved sales of discretionary, out-of-home consumption products, coupled with calibrated price increases, helped consumer companies post low to high double-digit revenue growth in Q2 . Urban demand outpaced rural demand with some moderation in rural consumption at the end of the quarter. But analysts have lowered the earnings estimates of FMCG companies for 2021-22 and 2022-23 due to continued raw material inflation. The new form of coronavirus, Omicron, is also a concern.

All is not lost yet. There is a glimmer of hope in the fall in oil prices, and the supply side issues for the industry in general are gradually easing.

In the past few weeks, crude WTI (West Texas Intermediate) has come down from $ 85 a barrel to $ 72 a barrel. OPEC (Organization of Petroleum Exporting Countries) has decided to increase production in January, which is again good on the price front. The price of palm oil has also been stable for the past few weeks and is slightly below its peak. Also, with the recent tax cuts by both the central and state governments, the logistics cost for consumer companies will start coming down. When deflation begins, consumer companies will enjoy a few quarters of higher margins because of their higher pricing power.

However, Technopak’s Singhal cautions. “With fuel prices volatile and unpredictable, it is too early to say that things are on track,” he said, adding that “we will have to wait and see for a few more months before one can confidently look at the supply chain and shipping costs.” The issues have been resolved, and commodity prices have come down. While things have improved from pre-Covid levels, we are still at a distance before everything gets back to normal.”

Dabur’s Malhotra agreed with Singhal’s warning, “With the softening of crude oil prices, there may be some moderation in inflation. It is too early to give any guidance on this, he said.