Royalty hike dulls HUL’s Q3 shine


Hindustan Unilever Ltd (HUL) announced an increase in royalty fees, in an unexpected move. On Thursday, the fast-moving consumer goods giant said its board has approved a proposal to increase the royalty and central services fees payout to parent Unilever Plc from about 2.65% in FY22 to 3.45% in phases over three years.

Even so, this is expected to be a drag on the company’s earnings in the coming years and investors would view this as a negative development, albeit marginally. Royalty increase will impact earnings per share by 2-2.8% for FY24 and FY25, said Prabhudas Lilladher in the December quarter (Q3FY23) results first-cut note.

Graphic: Mint

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Graphic: Mint

The royalty hike comes at a time when HUL has seen a stellar growth in profitability. Earnings before interest, taxes, depreciation and amortization (Ebitda) margin has expanded by as much as 10 percentage points over the last decade. In FY22, HUL’s Ebitda margin stood at around 25%.

Note that this arrangement with Unilever, which is proposed to come into effect from February, is for a period of five years. The earlier one was for 10 years. So, the risk of another hike after five years is clearly there, according to Nuvama Research. They also added that even after this hike, HUL’s royalty fees would still be lower than most of its peers such as Nestle India Ltd. To be sure, investors in HUL stock also need to watch the benefits that accrue from Unilever.

Against this backdrop, it helps that inflationary pressures are easing. HUL’s net material inflation last quarter stood at 18%, lower by 4 percentage points sequentially. Consequently, Q3 gross margin rose by 170 basis points (bps) to 47.5%. One basis point is 0.01%. But the complete benefit did not reflect at the Ebitda level given a step-up in marketing spends. Ebitda margin rose by 33bps sequentially to 23.2%.

Further, according to Nielsen data, FMCG markets are seeing a sequential revival in demand in urban and rural markets both. However, growth in the rural markets in Q3 was lower than urban. “But we are looking at green shoots in rural demand. Instead of deteriorating, it has started improving but albeit too early to declare victory,” said Sanjiv Mehta, chief executive and managing director, HUL, in a call with reporters.

The company’s Q3 revenues were better than expectations at 15,228 crore, up 16% year-on-year (y-o-y) and primarily led by pricing gains. HUL saw a 5% y-o-y volume growth last quarter. In comparison, in Q1 and Q2, volume growth was 6% and 4%, respectively.

The home care segment stole the show last quarter, clocking almost 32% y-o-y revenue growth and double-digit volume growth. Here, in the fabric wash category, the company saw market share gains in terms of value and volume both. The beauty & personal care segment saw almost 11% revenue growth, followed by the foods & refreshment business, which saw nearly 7% revenue growth.

While inflationary pressures are easing sequentially, some key commodities are still elevated on a y-o-y basis. For instance, prices of soda ash and barley in Q3 were higher by 35-40% y-o-y. Also, the strong US dollar is a concern.

HUL expects growth to continue to be price-led and remains cautiously optimistic in the near-term. Shares of HUL are flirting with their 52-week highs of 2,741.60 apiece seen last month, suggesting investors are capturing the brighter picture adequately. The stock trades at 53 times FY24 estimated earnings, according to Bloomberg data. That’s not exactly cheap.

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