Drop in copra prices to help Marico's margin expansion

Fast moving consumer goods company Marico is expecting its margins to increase as copra prices are likely to correct in the upcoming fiscal 2020.

Copra, a key ingredient that also accounts for 40-50% of the coconut oil market leader's raw material costs, had seen prices slip by 23% year on year (YoY) and 12% quarter on quarter (QoQ) in the third quarter of fiscal 2019. However, prices spiked in the aftermath of cyclone Gaja in Tamil Nadu in November 2018 thereby impacting margins.

According to a company note by Edelweiss Securities' research analysts Abneesh Roy and Alok Shah, copra prices are expected to ease further with the onset of the flush season in the first quarter of FY20 and that should boost margins in the fiscal. The note further said that Marico MD and CEO Saugata Gupta is expecting 'copra prices to drop 15–20% in FY20 and that will aid margin expansion'.

"Considering this, the company has not taken any major pricing action and has adopted a wait-and-watch strategy. If its prediction holds good, margin should get a boost from first half of FY20," the analysts said in the note adding that Marico is confident of clocking volume growth of 8-10% and Ebitda (earnings before interest, tax, depreciation and amortisation) margin of over 18% over the medium term.

The analysts also cautioned that coconut oil forms the biggest share of Marico's top line and bottom line and that copra prices have been hardening over the past few quarters. "A greater-than-expected inflation can hurt the margins substantially. Also, appreciation of rupee against Egyptian pound, Bangladeshi taka and other international currencies puts the growth in revenues and profits at risk," the analysts said.

According to December 2018 moving annual total (MAT), Marico has a volume market share of 59% in coconut oil category. However, the company's premium edible oil business under the brand Saffola is struggling in the market and needs drastic steps to improve its market positioning.

Saffola makes up around 18% of Marico's India business and has been struggling for seven to eight quarters now, the analysts said in the note. Its top two variants Saffola Gold and Saffola Total sell at 1.6x and 2x of the mass edible oil pricing.

"Since a flurry of edible oils have hit the market at Rs 110 price point (a 20% discount to Saffola's base products) claiming comparable health claims as that of Saffola, the company has struggled to differentiate its product to charge a premium. Besides, the company also heavily marketed its base offering Saffola Active claiming more general health benefits compared to its top variants, which led to downtrading by consumers. The company feels the right strategy is to focus on its premium offering and rebuild its brand equity as a provider of differentiated healthy blended oil," the analysts said in the note.

While Saffola edible oil is the highest gross margin making edible oil in the country Marico isn't keen on diluting the brand equity and increase volumes. The problem with this strategy, the Edelweiss analysts said, is that it is very difficult for a price sensitive product like edible oil when all the competitors are making the similar health claims while offering the product at a significant discount to Saffola's premium offering.

Another factor affecting the off-take, according to the analysts, is the rise of aggregators in urban India and a rising tendency of eating out among the younger generations, wherein the oil being used will be basic rice bran oil rather than blended oil.

"The overlap between consumers of premium oil and people eating outside in urban India is quite high and thus is impacting volumes somewhat. Along with this, Saffola also faces a challenge from a section of customers that are focusing on healthier ways of living and therefore reducing oil consumption. This, according to us, could also be resulting into slower offtakes for Saffola," the analysts said in the note.

RAW MATERIAL LEVERAGE

• 40-50% – Raw material costs of coconut oil makers comprises of copra prices
   
• 15-20% – Expected drop in copra prices for FY20