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United Spirits Equity Research INDIA June 2, 2020 BSE Sensex: 33304 United Spirits ADD Maintained ICICI Securities Limited is the author and New distribution model opens up opportunities Rs589 distributor of this report Although liquor demand has historically been inelastic, steep tax increases by Q4FY20 result review states coupled with pressure on consumer incomes could drive downtrading. and earnings revision However, we believe (see our report - Opportunities in (perceived) adversity) United Spirits (USL) could potentially benefit from (relative) easing of competitive Consumer Staples & intensity – Pernod Ricard gets more impacted (only premium, greater on-trade Discretionary contribution). Potential new distribution model (online ordering and home delivery), if sustained, can be a structural positive for the industry – improve Target price Rs620 accessibility, help premiumise and remove in-home consumption stigma. In Earnings revision addition to cost saving initiatives, we see incremental levers of margin expansion (%) FY21E FY22E – operating leverage (in 2HFY21) and likely deflationary input cost environment. Sales ↓ 0.0 ↑ 0.7 Sharp fall in crude prices potentially leads to lower prices for ENA. Retain ADD. EBITDA ↑ 6.4 ↑ 4.0 PAT ↑ 3.3 ↑ 2.8 Downtrading: High tax increases by some states post the opening up of liquor sales can likely drive downtrading. USL has been working together with its franchisees to Target price revision be ready to capture any incremental demand that comes from a shift of consumption Rs620 from Rs570 from Prestige & Above to Popular. Although liquor has historically been resilient to Shareholding pattern downtrading, these are unprecedented times and management also awaits signs of Sep Dec Mar how demand is playing out. ‘19 ‘19 ‘20 Promoters 56.8 56.8 56.8 New distribution model (home delivery): Six states have allowed online ordering Institutional investors 28.6 28.4 28.0 and home delivery of alcohol, with order servicing being done by the retailers. MFs and others 5.4 5.2 6.7 Banks, FI’s,Ins 0.8 0.6 0.6 Management highlighted that the model is an inclusive model and is beneficial for all FIIs 22.4 22.6 20.7 stakeholders. Home delivery can drive structural benefits – (1) better accessibility, Others 14.6 14.8 15.2 (2) lower stigma of in-home consumption and (3) potential to premiumise (enhanced Source: BSE experience, better communication). Price chart On-trade: 20-25% of USL’s revenue is from on-trade (bars, pubs, weddings, 1,000 functions, etc.). USL management believes that some of this lost revenue is likely to 800 be compensated by higher in-home consumption. In terms of global markets, US 600 have a similar on-trade contribution (20%) and the in-home consumption has more (Rs) 400 than compensated for any lost sales. However, Europe (40-50% on-trade) has behaved differently – loss not compensated completely. 200 Launches/ relaunches: USL had recently had two key relaunches – Royal Jun-17 Jun-18 Jun-19 Jun-20 Dec-18 Dec-19 Dec-17 Challenge (launched in West Bengal) and McDowell’s No 1 (in Rajasthan and Orissa). Management highlighted that although both the launches got disturbed due to the lockdown, the initial signs had been encouraging. Market Cap Rs428bn/US$5.7bn Year to March FY19 FY20 FY21E FY22E Reuters/Bloomberg UNSP.BO/UNSP IN Net Revenue (Rs mn) 89,806 90,909 74,461 94,364 Shares Outstanding (mn) 726.6 Net Profit (Rs mn) 6,853 7,891 5,471 10,791 Research Analysts: 52-week Range (Rs) 730/448 Dil. EPS (Rs) 9.4 10.9 7.5 14.9 Manoj Menon Free Float (%) 43.2 % Chg YoY 24.0 15.1 (30.7) 97.3 [email protected] FII (%) 20.7 P/E (x) 62.5 54.3 78.3 39.7 +91 22 6637 7209 Daily Volume (US$'000) CEPS (Rs) 11.4 14.0 10.9 18.6 Vismaya Agarwal, CFA 25,380 Absolute Return 3m (%) EV/EBITDA (x) 33.4 28.6 43.0 25.9 [email protected] (14.1) +91 22 2277 7632 Absolute Return 12m (%) 6.4 Dividend Yield (%) - - - - Karan Bhuwania Sensex Return 3m (%) (12.7) RoCE (%) 20.4 23.9 14.4 24.5 [email protected] Sensex Return 12m (%) +91 22 6637 7351 (15.1) RoE (%) 24.3 22.7 13.4 22.0 Please refer to important disclosures at the end of this report United Spirits, June 2, 2020 ICICI Securities Quality of sales: USL continued its focus on tight controls on receivables. The company managed to reduce receivables in Mar’20 (to 92 days from 102 days in Mar’19) despite the lockdown and March-end being a key period for collections. Management highlighted that USL faced pressure in some states for some brands primarily due to not participating in price drops and extensions of credit periods, unlike competition. Profitability: Although improvement in EBITDA margin has been the largest tailwind for USL, management cautioned against some near-term pressures given the current environment. Ad-spends is one lever to drive savings though through potential to rationalise spends and use digital medium more efficiently. Input costs: Average ENA prices in Q4 have been stable QoQ, broadly in-line with the prices in Dec’19. Management does not expect any hyperinflation in ENA in FY21. Capacity utilisation: USL’s factories are currently working at 60-70% of their pre-COVID rates and management is hopeful of getting further approvals to increase production. Valuation and risks: We increase our earnings estimates by 3%; modelling revenue / EBITDA / PAT CAGR of 2% / 5% / 17% over FY20-22E. Maintain ADD with a DCF-based revised target price of Rs 620 (was Rs570). At our target price, the stock will trade at 42x P/E multiple Mar-22E. Key downside risks are significant downtrading due to tax hikes and a potential ban of spirits in states. Result highlights Q4 performance impacted by lockdown and demand slowdown: Revenue / EBITDA / PAT declined 11% / 4% / 18% respectively. Underlying sales (ex-bulk Scotch sale) declined 15% with 14% volume decline as the impact of the ongoing consumption slowdown was further impacted by the COVID related lockdown. Prestige & Above was disproportionately impacted (-20% volumes and -16% sales) due to fewer social occasions and closer of on premise channels. The premiumisation trend within P&A also took a hit – Bottled In Origin (BIO) declined more than Bottled In India (BII) brands. Popular segment sales declined 11% overall (volumes down 7%) and 5% in priority states. Profitability impacted by input cost pressure and negative operating leverage: Gross margin declined 430bps to 42.2% due to input cost inflation and the impact of bulk Scotch sale – adjusted GM declined 360bps to 42.9%. Reported EBITDA margin expanded 100bps to 13.6% driven by cost savings (staff costs and opex together down 23% YoY) and lower marketing expense (ad-spends down 33% YoY). However, underlying EBITDA margin (adjusting for bulk Scotch sale in Q4FY20 and restructuring cost in base quarter) declined 20bps to 13.2%. This decline, in our opinion, is even larger if we adjust for IndAS116 adjustment. Balance Sheet: UNSP’s cash generation took a hit given the weak performance (FY20 revenue / EBITDA grew 2% / 3%). OCF declined 22% to Rs 6.7 bn and FCF declined 20% to Rs 4.7 bn. Working capital improved by 6 days to 118 days (Mar’20) from 124 days (Mar’20) primarily driven by lower receivables (down by 10 days), offset by lower payables (down by 7 days) . Net Debt at Rs21 bn is down 20% YoY. 2 United Spirits, June 2, 2020 ICICI Securities Table 1: Q4FY20 results review (standalone) (Rs mn) Q4FY20 Q4FY19 YoY (%) Q3FY20 QoQ (%) FY20 FY19 YoY (%) Volume growth (%) (13) 1 -1423 bps (2) -1145 bps (2) 4 -606 bps Gross revenue 64,223 72,156 (11) 78,072 (18) 285,892 285,123 0 Excise Duty (44,285) (49,656) (11) (52,247) (15) (194,983) (195,317) (0) Net revenue 19,938 22,500 (11) 25,825 (23) 90,909 89,806 1 COGS (11,530) (12,038) (4) (14,366) (20) (50,220) (45,949) 9 Gross profit 8,408 10,462 (20) 11,459 (27) 40,689 43,857 (7) Staff cost (1,106) (1,704) (35) (1,266) (13) (5,214) (6,753) (23) A&SP (1,200) (1,799) (33) (2,511) (52) (7,153) (8,587) (17) Other opex (3,388) (4,123) (18) (3,442) (2) (13,261) (15,643) (15) Total opex (5,694) (7,626) (25) (7,219) (21) (25,628) (30,983) (17) EBITDA 2,714 2,836 (4) 4,240 (36) 15,061 12,874 17 Other income 41 119 (66) 176 (77) 455 952 (52) Finance cost (480) (605) (21) (455) 5 (1,907) (2,200) (13) D&A (678) (401) 69 (524) 29 (2,275) (1,445) 57 PBT 1,597 1,949 (18) 3,437 (54) 11,334 10,181 11 Tax (514) (622) (17) (849) (39) (3,443) (3,328) 3 Recurring PAT 1,083 1,327 (18) 2,588 (58) 7,891 6,853 15 Extraordinary items (844) (65) - (844) (267) PAT (reported) 239 1,262 (81) 2,588 (91) 7,047 6,586 7 EPS (Rs) 1.5 1.8 (18) 3.6 (58) 10.9 9.4 15 Common size statement (%) Revenue 100.0 100.0 100.0 100.0 100.0 COGS 57.8 53.5 432 bps 55.6 220 bps 55.2 51.2 407 bps Gross margin 42.2 46.5 -433 bps 44.4 -221 bps 44.8 48.8 -408 bps Staff cost 5.5 7.6 -203 bps 4.9 64 bps 5.7 7.5 -179 bps A&SP 6.0 8.0 -198 bps 9.7 -371 bps 7.9 9.6 -170 bps Other opex 17.0 18.3 -134 bps 13.3 366 bps 14.6 17.4 -284 bps EBITDA margin 13.6 12.6 100 bps 16.4 -281 bps 16.6 14.3 223 bps Income tax rate (%) 32.2 31.9 27 bps 24.7 748 bps 30.4 32.7 -232 bps Segment volume (EU mn) Prestige and Above 8.4 10.5 (20) 11.4 (26) 40.9 41.6 (2) Popular 9.9 10.6 (7) 10.1 (2) 38.8 40.0 (3) Total 18.3 21.1 (13) 21.5 (15) 79.7 81.6 (2) Segment revenue Prestige and Above 12,180 14,430 (16) 17,880 (32) 59,310 59,100 0 Popular 6,780 7,650 (11) 7,370 (8) 27,600 28,810 (4) Total 18,960 22,080 (14) 25,250 (25) 86,910 87,910 (1) Segment realisation (Rs/EU) Prestige and Above 1,450 1,374 6 1,568 (8) 1,450 1,421 2 Popular 685 722
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