Why is everyone surprised by the sale of rural FMCG?

There are concerns that the once enthusiastic rural demand is fading away. Against the backdrop of the fact that FMCG companies are still battling severe input cost inflation, sluggish rural demand adds to investor unease. Moreover, the management comments of large FMCG companies do not provide much clarity on what lies ahead on this front.

For instance, the management of Hindustan Unilever Ltd (HUL) became a bit cautious on rural demand after its September quarter earnings. This contrasted with its own views at an annual investor meeting in August, in which management said rural demand is resilient and it expected a satisfactory year.

In its Q2FY22 earnings conference call with analysts, HUL management said it is not clear whether some moderation in demand due to unseasonal rains or other factors is intermittent. Management indicated that it prefers to watch rural demand carefully for a few months before jumping to any conclusions.

Along with HUL, the management of competitor Dabur said rural demand was strong in July and August, but saw a slowdown in September and October due to liquidity pressure from the wholesale channel.

However, Godrej Consumer Products Limited (GCPL) doesn’t seem too upset. According to its management, the slowdown in rural markets appears to be an optical illusion due to the unnatural premise of the Covid-hit months.

GCPL expects rural demand to be a key growth driver behind the two major categories- hair color and pesticides. It should be noted that the rural market currently contributes less than 30% of GCPL’s sales.

“Slowdown in FMCG markets is a risk exposed by us as well as some FMCG companies. However, the picture on the ground is not yet clear, and while the risks remain, we really refrain from calling bearish till further data is available,” said analysts at IIFL Securities Ltd. said in a report on Nov.

An analysis by Motilal Oswal Financial Services Ltd showed that after a double-digit average growth in H1CY21, rural consumption finally lost steam in the last quarter, declining 2.4% year-on-year in Q2FY22.

“Seven out of 11 indicators were used to determine rural consumption trends in the second quarter of FY22, with only one indicator – agricultural credit in double digits,” the domestic brokerage house said in a report on 23 November. was increased.”

“Some FMCG companies are said to have raised prices, so inflation concerns may start to ease. But the outlook on rural demand has worsened due to excess rains spoiling crops and reduction in rural wage growth,” said an analyst at a domestic brokerage house, requesting anonymity. There is yet another downside risk that needs to be addressed, which is likely to weigh on valuations and share prices, he said.

According to media reports, HUL, ITC and Parle have increased prices in select categories of products including soaps and detergents to beat input cost inflation.

According to IIFL, the inflationary environment and the rise in prices are complicating the picture. “As per our experience FMCG products are priced at ~-0.5x, which means volume growth will be negatively impacted, but price growth will be positively impacted,” the report said.

It is not surprising that the Nifty FMCG index lags behind the benchmark Nifty 50. So far this calendar year, the former has increased by only 9%, while the latter has increased by 22%.

Meanwhile, on the valuation front, top FMCG companies like HUL, Nestle and Britannia are trading at over 55 times the one-year forward price-to-earnings multiple. Also, their valuation multiplier is at a premium higher than their 10-year average. Analysts said the above risks could reduce the valuation multiples of FMCG companies.