Back to school: Remember, when you thought you had scored well in school but your report card always said "Can Do Better!"
Relatable?
That is probably how Hindustan Unilever Limited feels after its September quarterly results!
Why? Even though the company saw its profit increase by 9% year-on-year and its revenue grew by 11.2% year-on-year, many analysts chose only to focus on its "lower-than-expected" 4% volume growth.
However, HUL’s chairman, Mr. Sanjiv Mehta, explained that this volume growth wasn't really "lower-than-expected".
Then what’s the deal? And, who’s right?
Glass Half Full or Half Empty
Well, it’s a matter of perception. When we compare the company's current volume growth of 4% to its 9% volume growth in the June quarter (Q1 FY22), it seems disappointing. But, such straightforward reading of numbers can be deceptive.
You see, in the June quarter of FY21, HUL's volume growth fell by 8%. So, the overall gain in the June FY22 quarter was just 1% (9%-8%). Seen from this perspective, the current 4% growth is an improvement!
So, all’s well at HUL? Not really.
Supply Issues
Mehengaai spares no one. When inflation hits, even an FMCG company like HUL has to loosen its pocket strings when it goes out shopping for raw materials. This, of course, will increase costs and reduce profits.
Now the company cannot helplessly sit through the situation. What options does it have?
Increase prices and pass on the burden to its consumers?
Absolutely! And that's what HUL has done. It has increased the prices of its products like Lux, Lifebuoy, and Wheel detergent.
But, this doesn't sit well with some customers.
Imagine you are a regular customer of Kwality Walls. And every other year, they raise the prices of your favourite frozen dessert. Won't you feel outraged? Maybe even start looking for other frozen dessert brands?
So increasing prices also entails losing customers. Especially the price-sensitive customers, the ones who can’t afford to buy products in big packets. But HUL can't always afford that. So the cost is going up, but the sales price cannot be changed. Now, what other option does it have?
Reduce the quantity of the small packet items! So, a product that cost Rs. 20 will still cost the same, but now weighed 20 grams instead of 25 grams. This is called shrinkflation. Many companies had adopted this strategy during the pandemic. This helped them cut costs while retaining customers, killing two birds with one stone.
But, why is the company facing inflationary pressure?
Well, well, well.
Prices of raw materials like palm oil have almost doubled since last year, thanks to labour shortage and unpredictable weather in Malaysia, the world's second-largest palm oil producer. And how could we forget our current favourites: the pandemic and the global supply chain crisis!
Not just palm oil. Prices of other edible oils have also gone up by 48% as many countries are now using them as biofuels.
Demand Issues
The company has, to some extent, successfully handled the inflationary pressure. But now it is facing a more painful problem: lack of demand.
Rural demand for goods has been projected to decline.
We have now spent about one and a half years in the uncertainties of the pandemic. But the rural economy has managed to live through all that. How? Because the government supplied the rural population with direct cash and job opportunities through MNREGA. This increased the purchasing power of the rural people which in turn helped companies maintain good revenue.
But the government could only hold the fort for so long.
With this cash inflow gone now, demand is also dying down. Plus, the increased prices due to the rising inflation have further killed the demand. So, how can HUL, or for that matter, any other FMCG company get out of this situation?
Well, Sanjiv Mehta isn't too worried about it. Rather, he is "cautiously optimistic" that demand will rise. Why?
Because of the government's Rs. 100 lakh crores Gati Shakti infrastructure plan. The plan will spur growth and development in the country by infusing cash into the economy. Mehta hopes that this will start a virtuous cycle of development. What is that, you ask?
Well, providing employment opportunities to the public will ensure that people have enough money to buy goods and services. This, in turn, will help companies grow, and when they grow, they will hire more people, who will now be able to buy more goods. And the cycle continues.
Sounds good?
But the government does need to keep a sharp eye on inflation. Too much liquidity could cause inflation to rise sharply.
Are you also optimistic about HUL’s growth?
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Defensive stocks usually lose favour in momentum driven markets (like we have one right now). You see resurgence of highly levered stocks outperforming on the bourses. HUL in itself is a cashflow generating machine, and is like that wine which gets only stronger with age. Some of its recent investments in tech and D2C may pay huge dividends as the rural economy's potential unlocks.