Growth rates in the FMCG space have been impacted by slowing rural demand impacted by income effect, reduced sops for rural and unseasonal rainfall. In addition, slackness in real estate activities in the urban centres and moderation in lad prices have had an adverse impact on rural sector both in terms of cash flows and wealth effect. On the urban areas, there has been some impetus coming on the back of lower commodity prices, specially fuel and decline in inflation, which has at the margin created scope of some revival. While these have begun to neutralize, the impact of historically high inflation over past several years, the income generation part for the urban sector has not picked up yet.
Channel checks depict that overall volume trends have been tepid, but growth in the Hindi-speaking belt has been robust, thereby supporting overall volume growth. Growth in Hindi-speaking belt has been robust both in mass as well as premium segment. Moreover, volume trends have been further supported by marriage season in rural India. Companies have passed on input cost benefits to consumers via price cuts/volume offers and promotional activities in most categories, which is also aiding volume growth.
Categories like biscuits, premium detergents, hair care, home insecticides, health supplements, ayurvedic based products, etc have reported healthy growth trends, while mass detergents, soaps, malted foods, premium edible oils, beverages, etc have seen moderation in growth rates. While, consumption trends have gradually improved in urban markets in last few quarters owing to benign inflation, urban demand is yet to show healthy signs of uptick. Rural growth, which used to grow at about 2x the growth rate of urban, has now moderated and converged with urban growth rates.
Competition has intensified in the staples space, with the advent of Patanjali, given huge fan following of Baba Ramdev, quality products at reasonable prices and rising acceptance of ayurvedic products. The impact of Patanjali is felt both in urban as well as rural areas, but the pressure is felt in few categories like Ghee, honey, toothpaste, hair care, etc.
Outlook: Going forward, we expect the rural demand to be under pressure in the interim; thus it is imperative for urban markets to improve its growth rates, in order to sustain volume growth trends. Factors like 7th pay commission, OROP and likely improvement in investment activity are triggers to revive demand sentiments.
On the margin front, weak input prices have aided strong gross margin expansion and given the benign sentiments on commodities, gross margins are likely to sustain at current levels. However, owing to rise in competitive intensity and slowing volume growth, players are likely to channelize partial gross margin benefits towards ad & promotion spends. Thus, companies will have to focus on increasing volume growth and better product mix in order to improve gross and EBITDA margin profile.
Based on the above thesis, we continue to like urban themes and companies with strong pricing power. Our top picks in the Consumer staples space are Britannia and Colgate.