Nestle’s 10 per cent year-on-year growth in its domestic sales (95 per cent of revenue) in Q4 is noteworthy in light of the poor consumption environment. Success of new launches and lower exposure to rural markets (25 per cent of revenue) are supporting Nestle’s topline growth. The caution however is, that year-on-year domestic revenue growth has been continuously drifting down since past 5 quarters, thanks to weakening consumer sentiment. Domestic revenue growth was 17.5 per cent in September 2018 quarter.
Beyond the good, albeit slowing topline growth, Nestle
continues to witness inflationary pressure, mainly related to milk, which is 45 per cent of its raw material costs. In Q4, its gross profit margin shrunk by a whopping 217 basis point year-on-year to 56.5 per cent, the lowest in last 10 quarters. Notably, strong operating leverage fully negated the gross margin impact at the Ebitda (earnings before interest, tax, depreciation and amortisation) level. Nestle’s Ebitda margin improved by 22 basis point year-on-year to 20.9 per cent in Q4.
As per the management, the trend of higher commodity prices witnessed in recent quarters is likely to continue in the near future. While analysts at Prabhudas Lilladher estimate Nestle’s Ebitda margin to contract by 40 basis points in CY2020, others expect Nestle’s select price hikes and operating leverage to support margins. Thus, it would be interesting to see how this plays out.
Overall, while Nestle’s sharp focus on new launches with higher marketing spends suggests that its structural growth story remains intact, investors could await some correction in the stock given its rich valuation of 57 times CY2021 estimated earnings.