Wednesday, July 4, 2012

>STRATEGY: India’s consumption story has slowed down (CLSA)

Staples growth won’t hold

Slower GDP growth and the environment of economic uncertainty has impacted India’s discretionary consumption growth story. With the nominal GDP growth now expected to slow down by 3-4ppts, staples growth cannot remain immune to the slowdown. Valuation premium at an all-time high will mean that the potential slowdown is not factored in and the sector will not prove to be a defensive anymore. Pharma sector is the best defensive bet with stable domestic growth and some kickers from limited competition launches in the US and the weaker INR. We replace Tata Motors with Lupin in our top 5 buy ideas. Potential QE led rally remains a key risk to our defensive market view. 

India’s consumption story has slowed down…
 Several data points are now available that document India’s slowing consumption trends. Cars, two wheelers, same store sales growth, etc are all exhibiting a slowdown trend.

 The above is not unexpected given the issues pertaining to overall economic growth
and continued inflation etc. 

…yet staples growth holds on, but for how long?
 Consumer staples cos, have generally bucked the slowdown trend so far with a couple of small disappointments in Mar’12 quarter by Nestle and GSK which have been largely attributed to the slower offtake from the CSD (Canteen Stores Department) of Indian defence services.

 However, with the nominal GDP growth expected to slowdown from 16-17% over the last three years to c.13% for the next couple of years with a possible risk on the downside, staples cannot remain immune to the broader slowdown trend. 
 The previous economic downturns saw the growth slowdown for staples with a lag.

Valuation premium at all time high and hence not a defensive
 A 3-4ppts revenue / earnings deceleration for staples companies is not a disaster but we do not believe that the same has been anticipated by the market as yet.

 Investor focus on cashflow and balance sheet has taken the sectoral valuation to an all-time high PE premium of 109% as against 57% as the average for the last 10 years. The premium valuations makes the sector less defensive in our view.

 Additionally, our analysis of previous deficient monsoon conditions indicate that consumer stocks tend to underperform in the deficient monsoon period. 

Pharma is the best defensive, raise Lupin to the top five Buy ideas
 Sentiment in Tata Motors has deteriorated over the last few months with disappointments on JLR margins and the non-Evoque volumes. While the valuations appear attractive at 6xFY13CL earnings, we do not foresee any near-term trigger and replace the stock with a more defensive Lupin in our top 5 buy ideas.

■ Pharma sector offers good revenue growth visibility and the INR depreciation should drive a 5-6% earnings upgrade. Our top pick Lupin, sees triggers from launch of limited competition products like Tricor and Cipro OS in the US market that can l lead to a potential 11-13% upgrade to our and consensus FY13 EPS (expected in July 2012). We expect the company's profits to grow at c. 29% cagr over FY12-14 and find the stock attractive at under 20x 1-year forward.

 Our other top five BUY ideas remain ICICI Bank, Yes Bank, BPCL and Power Grid.

■ Within consumption stories, we like ITC (pricing power driving earnings growth resilience), Zee (regulatory upside) and private sector banks.

To read report in detail: STRATEGY