Brokerages positive about medium-term outlook for liquor stocks

Analysts believe that the sector could experience a reversal of fortunes due to better demand and margin improvements.

After underperforming its peers in the consumer space in 2022–23, and experiencing a mixed bag in the 2023-24 (FY24) April-June quarter (first quarter, or Q1), brokerages are positive about the medium-term outlook for liquor stocks.

Higher raw material costs, concerns regarding increased duties, regulatory changes, and competitive pressures weighed on performance returns in the past quarters.

Analysts believe that the sector could experience a reversal of fortunes due to better demand and margin improvements.

Commenting on the sector’s performance after Q1FY24 results, analysts of Nuvama Research, led by Abneesh Roy, point out that events and marriages are back to pre-pandemic levels and will drive a spike in alcohol consumption.

This could offset the urban slowdown, which is plaguing other forms of discretionary consumption such as quick-service restaurants, apparel, and footwear, according to analysts at the brokerage.

Other brokerages, such as Nirmal Bang Research and Motilal Oswal Research, have highlighted in their June quarterly reviews that the demand environment for alcoholic beverages remains healthy and has not worsened much, unlike other consumer discretionary categories.

Among alcoholic beverage makers, United Spirits (USL), the largest listed player, posted better-than-expected performance in the June quarter.

The company’s sales growth in the quarter, at 17 per cent, was on a favourable base, with a strong showing in the prestige-and-above (P&A) segment.

Aided by a 10 per cent growth in volumes and a similar jump in realisations, P&A segment revenues were higher by 21 per cent.

United Breweries (UB), on the other hand, had a muted quarter.

Volumes fell by 12 per cent and were impacted by route-to-market (RTM) changes, supply challenges (Telangana and Haryana), and lower interstate sales.

Excluding RTM, volumes fell by 4 per cent. In the premium segment, volumes, excluding RTM changes, were flat.

Brokerages believe RTM changes will be in the base from the October-December quarter of FY24.

The company indicated that it is optimistic about the long-term potential of the sector, led by increasing disposable income, favourable demographics, and premiumisation.

The key gain in the quarter has been on the margin front. While there is volatility and uncertainty on the margin front, brokerages highlight that the worst is over.

Nuvama Research believes that the sector is finally witnessing some green shoots in margins after three tepid quarters, led by improvement in mix, hike in prices, and some deflation in raw material costs.

The worst is likely behind us, but pricing trends in extra-neutral alcohol remain a concern, it says.

USL stood out among peers on margin expansion.

While gross margins expanded by 270 basis points (bps) year-on-year (Y-o-Y) to 43.6 per cent, operating profit margin gains were higher at 390 bps, reaching 17.7 per cent.

The higher gains were led by lower staff and other expenses, even as advertising spends increased by 5 per cent compared to the year-ago quarter.

IIFL Research has upgraded its earnings per share estimates for the company by 2–5 per cent for FY24 and 2024–25 (FY25) due to the Q1 beat and a revision in margin forecasts.

Despite the earnings revisions, it has maintained an ‘add’ rating on the stock, given the rich valuations.

At the current price, the stock, which has gained 21 per cent over the past three months, is trading at around 50x its FY25 earnings estimates.

UB, on the other hand, posted a gross margin decline of 370 bps Y-o-Y to 40.6 per cent due to weak volumes and raw material cost inflation.

Gross margins on a sequential basis, however, were up 200 bps.

Krishnan Sambamoorthy and Sunny Bhadra of Nirmal Bang Research believe that the company will benefit in subsequent quarters from the ongoing sharp reduction in barley costs.

After nearly flat stock performance over the past four and a half years, the outlook is improving, say the analysts who have an ‘accumulate’ rating on the stock.

They expect the operating profit to grow by 70 per cent in FY25 after four years of flattish annual growth that ended in FY24.

Since the start of September, the stock has gained 11 per cent, with half of those gains coming in the last couple of trading sessions after the company announced the appointment of Vivek Gupta as managing director and chief executive officer.

Like its larger peer, UB is also richly valued at 51x its FY25 earnings estimates.

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