Analyst Corner: Retain ‘buy’ on Hindustan Unilever with PT at Rs 2,650

HUL has historically shown resilience & has even outperformed its peers during disruptions like demonetisation & GST rollout. This has not been the case though during Covid-19 crisis due to pressures in its ‘high margin’ discretionary (grooming) portfolio. This is reflected in its share price underperformance versus the peers which we believe should reverse with improving economic activity driving a growth acceleration during 2HFY21. We remain buyers.

Discretionary portfolio: HUL has a fairly broad-based portfolio with presence across multiple categories. During Covid crisis, while laundry, skin cleansing, hygiene showed resilience, grooming (skincare, colour cosmetics) & out of home (ice cream) faced headwinds. For example, both these segments declined 45-70% y-o-y in 1QFY21 and despite sequential improvement, we forecast a y-o-y contraction even in 2Q. Trailing peers, HUL on an organic basis has been underperforming some of its peers on revenue as well as earnings growth due to pressures in its discretionary segment. This is evident from the fact that we forecast a near-flat revenues for HUL, even in 2Q, which is well below most of its peers which should see growth.

While the company has been able to offset some part of revenue pressure due to strong growth in hygiene portfolio, the impact has been higher on margins. This is because of much better gross margins in case of grooming products — even operating margins are also much ahead of company average despite higher A&P.

We estimate that discretionary portfolio contributes 20% to company revenues but given the superior margins, contributes nearly 30% to overall company profits.

We retain ‘Buy’ with PT of Rs 2,650 as HUL remains in our top picks in the Indian staples sector.

With further improvement in macro, we expect that there should be an improvement in HUL’s earnings in the 2HFY21 as grooming segment picks-up. On an organic basis, we forecast 11%/14% YoY revenue/earnings growth during 2H which is a marked improvement from 4% revenue decline in 1H.

FY22 onwards, Over FY22-23, we expect normalcy to return which should drive 16% EPS Cagr for HUL which is comparable to most peers.

Underperformance to reverse? HUL stock has underperformed most peers in the past 3/6M on concerns related to growth and margins. The stock now trades at 52x FY22 P/E – while valuation remains punchy, this should sustain in the context of an earnings acceleration in the coming quarters. The discount with peers is also narrowed to 5Y average.

Buy HUL, we retain Buy with Rs 2,650 PT and HUL remains in our top picks in the Indian staples sector.