• Abstract and Figures
• Public Full-text

“Inelastic Proxy for Consumption Growth” Liquor Sector in Sri Lanka March 2016 Analyst- Hiruni Perera [email protected] 011 5889809 LOLC Securities Limited (An LOLC Group Company) Contents Investment Case Industry Dynamics Liquor industry to reap benefits from expected increase in GDP Inelastic demand for Arrack consumption Arrack Consumption to maintain a modest growth of 1.7% Inelastic demand for malt liquor (Beer) consumption Beer consumption growth to slow with recent excise duty hike Excise duty for 1% of alc. strength of Beer > Excise duty paid for 1% of alc. strength of Arrack However demand growth for Beer to outpace growth for Arrack in mid-long term We estimate 4% growth in total recorded liquor consumption for 2016 Growth in tourism can be a key catalyst for the growth in the liquor sector LOLC Securities Limited | Sector Research 2 Contents contd. Industry Dynamics contd. A gradual reduction in the illicit and illegal liquor consumption Budget 2016 is trending positive for big players Excise duty on liquor to play an important role in the Gvt. Fiscal revenue Less likelihood of a complete ban of liquor in Sri Lanka However certain countries exists in the world with prohibition of liquor Tight regulations to govern the liquor industry in Sri Lanka Cultural and demographic factors to influence liquor consumption We estimate liquor consumers to represent 25% of population Key Players in the industry Appendices LOLC Securities Limited | Sector Research 3 Investment Case LOLC Securities Limited | Sector Research 4 Investment Case Inelastic proxy for consumption growth……. Liquor consumption in Sri Lanka is expected to be supported from the increase in GDP per capita income due to its strong positive correlation between total liquor consumption and GDP. During the last 5 years, Sri Lanka's total liquor consumption has seen a CAGR of 6% in relation to the average real GDP growth of 7.4%. We expect increasing per capita income to improve affordability of liquor products and thereby to improve liquor consumption. Accordingly we expect total liquor consumption to record a YOY growth of 4% for 2016 and 2017 with total per capita liquor consumption to be 11.45 Litres for 2016. Generally liquor industries have been resilient with an inelastic demand due to its importance as a social lubricant among consumers. In Sri Lanka also despite being heavily taxed liquor has been an inelastic product due to its inherited chemical ability to impact on the human state of mind. We estimate arrack consumption for next 3 years to post a modest growth of 1.7% YOY capped by high penetration of the industry. Growth of 1.7% is estimated considering the higher penetration, expected per capita income growth , potential shift from cheaper liquor to legal products on rise of disposable income and curtailing the availability of illicit liquor through tight regulatory controls. We also expect soft liquor consumption growth over hard liquor to slow down in 2016 due to the excise duty hike in 2015. According to the tax change in November 2015, duty of locally produced strong Beer increased by 28.5% relative to the tax hike of 15.9% for Arrack. Further in 2015, total tax hike for strong Beer is 70% compared with the excise duty hike for Arrack of 25%. Despite the absence of a negative correlation of beer consumption with excise duties, we expect recent duty hike to result in lower “kick per buck” for Beer than Arrack and accordingly malt liquor (Beer) consumption growth over hard liquor to slow down. However there is a higher potential for beer consumption to grow in mid to long term due to low penetration. A substantial increase in tourist arrivals can be considered as a key catalyst for growth in liquor consumption of the country. Considering the current tourist arrivals growth rate and the tourist arrival target of 2.5 Mn by 2016, we expect a further increase in the liquor consumption in the country. LOLC Securities Limited | Sector Research 5 Investment Case Inelastic proxy for consumption growth……. We see a gradual decline of illicit and illegal liquor in line with GDP per capita rise reflecting that people are encouraged to consume legally produce liquor with their income growth. We believe this will enable big players to gain their lost market share from illicit liquor manufacturers in years to come. Policies introduced by the government from Budget 2016 seem to have a positive impact on big players while negatively influencing smaller spirits manufacturers. Certain policies are expected to discourage illicit production of liquor while also making illegal players to pay more taxes in the future and causing them to leave the industry if policy execution took place properly. Hence there can be an increase in legal liquor consumption in the country. Excise duty on liquor production plays an important role in government's total fiscal revenue as it represented 27% of the total excise duty revenue and 6% of the total government revenue in 2014. Therefore despite the strong pressure and concerns raised by certain communities in the society to ban liquor, it is highly unlikely that government will impose a complete ban of liquor products due to its substantial contribution to Gvt. revenue. Since a ban in liquor is unlikely in Sri Lanka due to high tax revenue for the Gvt. it is more likely that liquor consumption will only be controlled through tight regulations. Tight regulations imposed by the government on the liquor industry such as restrictions relating to distribution and marketing of alcoholic products make entry barriers for new players to the industry while creating an advantage for large and established players. Sri Lanka’s cultural and demographics factors to have a greater influence on the liquor consumption. Approximately 9% of population consists of Muslims who have been prohibited from consuming alcohol . Another 70% and 13% consist of Buddhists and Hindus who are encouraged to refrain from consuming according to their religion although there are consumer among both of these communities. Further 52% of total population consists of women who consume only insignificant amount of alcohol. Accordingly we estimate 25% of total population as potential liquor consumers. LOLC Securities Limited | Sector Research 6 Industry Dynamics LOLC Securities Limited | Sector Research 7 Industry Dynamics Liquor industry to reap benefits from the expected increase in GDP……. Figure 1: Increase in the Food, Beverage and Tobacco expenditure in Sri Lanka has recorded an average real GDP growth of 7.42% during past 5 years (2010- par with GDP rise 2014) in tandem with the turnaround of the country’s macro environment after end of civil 10,000,000 conflict in 2009. Along with the increase in GDP, private consumption expenditure is 8,000,000 expected to increase as a result of more spending on discretionary items along with the 6,000,000 increase in consumption of other essential goods. 4,000,000 Millions 2,000,000 Expenditure on Food, Beverage and Tobacco (nominal) has depicted a CAGR of 11.8% over 0 the five year period of 2010-2014 compared with the CAGR of 14.9% in GDP (nominal) 2010 2011 2012 2013 2014 Food Beverage and Tobbacco Total private consumption expenditure GDP reflecting that people have proportionately increased the consumption expenditure on Source: Annual Report 2014 of Central Bank of Sri Lanka Food, Beverage and Tobacco in par with their income level. Figure 2: Total liquor consumption has shown a steady growth inline with GDP Sri Lanka's total liquor consumption has seen a CAGR of 6% during last 5 year period 250 12,000 (2010-2014) while looking ahead we expect that liquor consumption to record a YOY 200 10,000 8,000 Bn growth of 4% for 2016 and 2017 driven by expected GDP growth of 6.5%* in the medium 150 6,000 term. Mn 100 4,000 GDP in GDP in LKR Consumption Consumption Litres in 50 2,000 Liqour 0 0 Total 2010 2011 2012 2013 2014 Note*- IMF forecasts Total Liqour Consumption (Litres) GDP at market prices (LKR) Source: Annual Report 2014 of Central Bank of Sri Lanka and Sri Lanka Excise Department LOLC Securities Limited | Sector Research 8 Industry Dynamics Liquor industry to reap benefits from the expected increase in GDP……. Figure 03: Strong positive correlation between GDP and liquor Past 6 year data for total liquor consumption has shown a strong positive correlation with consumption (litres ) the GDP indicating that people tend to consume more liquor in line with the rise in their Coefficient of correlation with the GDP income. Total Liquor Consumption 0.79 (litres) Sri Lanka has a higher per capita recorded alcohol consumption in the South Asian region although it is still below the world average. Source: Annual Report 2014 of Central Bank of Sri Lanka, Performance Reports of Sri Lanka Excise Department Figure 04: Per capita recorded alcohol consumption for SL is higher than most of the countries in the region 7 6.4 6 4.7 5 4 3.2 3 2.2 2.2 1.8 2 0.7 1 0.4 0.2 In Litres In Litres pure of alcohol 0 0.1 0.1 0.1 0 *Excludes tourist consumption Source: World Health Organization, (2010) LOLC Securities Limited | Sector Research 9 I. Arrack Consumption LOLC Securities Limited | Sector Research 10 Industry Dynamics Inelastic demand for Arrack Consumption……. Figure 05: People have continued the arrack consumption despite Historically, Arrack has been resilient with an inelastic demand, despite regular excise duty regular price increases increase in retail prices of liquor bottles. We believe that Arrack consumption to be backed 90.00 by price inelasticity of demand resulting in manufacturers passing down incremental taxes 85.00 and inflationary pressure to customers through increasing selling prices.

Load more

  50

Copy Link