United Spirits Backs Growth Guidance Despite Cost Pressure, Demand Woes

United Spirits Ltd. maintained its 'double-digit growth' guidance even as the company warned of continuing cost pressure and subdued demand.

The country's largest spirits-maker is seeing no material uptick in consumption in the lesser-priced 'popular' segment—which includes McDowell's No. 1, Vat 69 and Royal Challenger brands—on the back of high inflation and increased competition, the company's Managing Director and CEO Hina Nagarajan, told analysts during the post-earnings conference call on Wednesday.

The company's performance in the October-December quarter showed signs of stress on the volume front, even as margin expansion remained stable and strong, despite higher ad spends to stave off competition.

"The pressure on wallet is essentially on the lower-end of the market," she said. The prestige and above segment, however, continues to do well, driven by out-of-home consumption. "The new consumers are willing to go out and spend. They want to drink better and not necessarily drink more."

Volume in the 'prestige and above' segment grew 4.6% to 13.4 million cases, with value growth of 10% year-on-year. But it failed to buoy the overall volume, which declined 1.8% year-on-year to 16.5 million cases. That's because the popular segment saw a steep 22.8% decline in volume to 3.1 million cases, leading to a 12.4% decline in value terms over the previous year. The 'popular' segment comprises 10.2% of the company's net sales.

Unlike other consumer goods categories, Nagarajan said tipplers are not downtrading or shifting to cheaper brands. The dip in sales was on account of consumers now drinking more occasionally than ever, reacting to persistent inflation. She expects this trend to last for a few more quarters.

The slack in volume was also a result of a slump in business in two of the salient states for its popular category—Karnataka and Maharashtra, which, according to the company, is due to higher excise duties imposed by them last year.

The company's gross margin rose 290 basis points to 43.4% over the previous year. It, however, stood flat sequentially. Savings in staff cost of 110 basis points and other expenses of 30 basis points on a year-on-year basis was offset by 100 bps increase in advertising and promotion costs. Ebitda margin was up 320 basis points to 16.4% over the previous year.

Cost pressure remains high albeit "manageable", according to the USL management. Inflation is largely restricted to one commodity now—ENA or extra neutral alcohol. ENA costs for the company were 7% higher in Q3. "There is no reason to expect any relief in ENA costs at least in the next couple of years," the management said. However, glass prices are seeing a downward revision and is partially offsetting the ENA inflation, it said.

In the coming months, the maker of Johnnie Walker whisky and Smirnoff vodka will have to address the challenge of rising expenses, at a time when the top line is unable to grow at a faster pace due to sluggishness in the regular category of its spirits. The management of the company expects higher marketing spends will help in boosting flagging sales.

"The January-March quarter will see high A&P spend," said Pradeep Jain, chief financial officer of United Spirits. Part of the spends will be to market United Spirits' tequila brand, Don Julio, that was launched in the country in December last year. There are discussions about the Indian Premier League and the Women's Premier League being advanced to February and March due to the upcoming general elections, and so the company wants to keep its advertisement spends intact, according to the management.

Jain further said that United Spirits will also be injecting some of the advertising spends in its 'popular' category to regain lost volume.

Higher ad spends and persisting high inflation, however, would mean there would be limited upside in operating margin, Jain said.

He, however, maintained the guidance of 15-16% for FY24.

Along with the associations, the company is continuing to advocate for price increases with the state governments to counter inflationary pressures on margin, Jain said. However, he warned that the company's ability to execute its plans would be limited in an election year.

United Spirits is consciously front-loading spends. It will remain "as salient as possible" with the consumers while maintaining margins, Jain explained.

Over the next 2-3 years, the management of United Spirits said it expects to achieve its operating margin target in the range of mid-to-high teen digits. It is also confident of a sustainable double-digit revenue growth.

"The medium-term fundamentals remain intact on the back of continued investments, pipeline of innovations and renovations," said Nagarajan.