Inflation hits Nestle India but margins yet to bottom out

Surging cost of raw materials hit food and beverages major Nestle India’s profitability during the January-March quarter. While the company reported steep decline in its profit margins for the quarter, market analysts predict the worst may not be over for Nestle.

During the quarter, Nestle India reported a 9.8 per cent growth in its top-line, led by better domestic sales (grew 10.2 per cent). Its net sales surged to Rs 3,951 crore from 3,600 crore during the corresponding quarter previous year. The firm’s gross margin, however, declined by 313 basis points, while its earnings before interest, tax, depreciation and amortization (EBITDA) margin compressed 238 basis points. One basis point is 100th of a percentage point.

Suresh Narayanan, chairman and managing director, Nestle India attributed the margin squeeze to steep rise in cost of materials. “Cost of key raw and packaging materials are witnessing 10-year highs, and costs continued to surge this quarter which has impacted profit from operations. Continued inflation is likely to be a key factor in the short to medium term. We are confident of facing this turbulence with strategies of scale, efficiencies, mix and pricing all of which we will deploy judiciously”, he said.

While the company faced challenges from the competition in its milk products portfolio, growth in its sauces and Masala-ae-Magic products was impacted by high base and gradual shift from in-home cooking to out-of-home consumption.

With inflation surging further in April, market analysts are now predicting continued pressure on Nestle’s profitability in the short to medium term. According to Amnish Aggarwal, director-research at Prabhudas Liladher, near term margin pressure to sustain given inflation in coffee, palm oil, milk and SMP (skimmed milk powder). “We factor in EBIDTA margin decline of 140bps in CY22 (40bps over CY21-23) as scale efficiencies, mix and pricing actions won’t be able to neutralize 10-year high inflation. We estimate 12.4 per cent profit after tax CAGR over CY21-23. We expect back ended returns given near term margin pressures and rich valuations of 62.3 times CY23 EPS (earnings per share)”, he said.

“Commodity Outlook in Short to Medium Term:  Cost outlook for key commodities like edible oils, coffee, wheat, fuel remains firm to bullish while costs of packaging materials continue to increase amid supply constraints, rising fuel and transportation costs. Input costs are expected to be on bullish trend both globally and locally. Fresh milk costs are expected to remain firm with continued increase in demand and rise in feed costs to farmers,” said Narayanan.

According to Abneesh Roy, executive director, Edelweiss Financial Services, Nestle’s focus on innovation, launches, market share and premiumisation is likely to boost volume-led growth. However, “We expect inflation going forward, which could keep up the pressure on margins” he said.