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Automobile Sector ReportFeedback from Automobile Dealers Survey
We traveled We interviewed What we are changing Over 25 days Across 12 states 40+ towns and villages More than 6,000km on road
35+ auto dealers and sub-dealers 20+ village heads 10+ govt/elected officials Farmers and villagers
Increase volumes estimates across the board Downgrade two-wheelers on fuller valuations Upgrade passenger vehicles to play on urban recovery Remain positive on CVs to play the investment cycle Our top picks: Maruti, M&M, Tata Motors
Indian Alcoholic Beverages SectorIn high spirits!
Varun Lohchab Gaurang Kakkad Bandish Mehta
(91-22) 6766 3458 (91-22) 6766 3470 (91-22) 6766 3471
[email protected] [email protected] [email protected]
December 2010
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Alcoholic Beverages Sector Report 16 December 2010
1
RCML: Winner of LIPPER-STARMINE broker award for Earnings Estimates in Midcap Research 2008 |Honourable Mention in Institutional Investor 2009 | Voted amongst Top 5 most improved brokerages by
Asia Money Poll 2009 | RCML Research is also available on Bloomberg FTIS and Thomson First Call
Varun Lohchab Gaurang Kakkad Bandish Mehta
(91-22) 6766 3458 (91-22) 6766 3470 (91-22) 6766 3471
[email protected] [email protected] [email protected]
Sector Report 16 December 2010
Recommendation snapshot
Company CMP Target Rating
United Spirits 1,421 1,650 BUYUnited Breweries 427 400 HOLD
Radico Khaitan 164 190 BUY
Stock performance
Returns (%) 1-mth 6-mth 1-yr 3-yr 5-yr
United Spirits 1.6 13.1 13.0 (28.1) 225.7
United Breweries 2.4 102.1 153.9 26.6 521.6
Radico Khaitan (6.0) 36.6 47.0 (8.7) 18.1
BSE FMCG Index (3.8) 13.9 26.3 56.4 121.1
BSE Sensex (3.3) 12.8 16.4 (1.9) 111.6
Sector performance relative to BSE Sensex
-
50
100150
200
250
300
350
Dec-06
Jun-07
Dec-07
Jun-08
Dec-08
Jun-09
Dec-09
Jun-10
Dec-10
RCML Research Alcobev index Sensex
2 years relative price performance
-
100
200
300
400500
600
Dec-08
Feb-09
Apr-09
Jun-09
Aug-09
Oct-09
Dec-09
Feb-10
Apr-10
Jun-10
Aug-10
Oct-10
Dec-10
RDCK UNSP UBBL Sensex
Alcoholic Beverages
In high spirits!
We initiate coverage on the Indian alcoholic beverages sector with a positivelong-term view on growth prospects and the potential for margin expansion. Weexpect strong topline growth in both the beer (2225% CAGR) and spirits (1720% CAGR) segments over FY10-FY13. Margins should expand 100300bpsduring this period due to stable input costs and strong volume growth.Moreover, corporate balance sheets have been fortified by the raising of equity,while free cash flows (FCF) are expected to strengthen, thus buoying ROEs.However, valuations for the sector are also rich relative to its cash flowgeneration and ROE profile, thereby largely factoring in the strong earningsgrowth expected through FY13.
We prefer Radico Khaitan (RDCK) over United Spirits (UNSP) in the Indian-made foreign liquor (IMFL) space due to the formers pure India exposure andlower debt burden. We also like United Breweries (UBBL) business profile butwould advise buying on declines given the rich valuations.
Strong volume growth potential: We believe both spirits and beer offer strongvolume growth potential in India over the medium to long term, with beerexpected to outpace the growth in spirits over the next couple of decades. IMFLwould continue to witness strong volume momentum driven by consumerupgrades from country liquor and positive demographics. Beer consumption isabysmally low in India due to taxation policies and should rise with greateracceptability of social drinking and improving affordability as income levels
move up. We model in an 1820% volume CAGR for beer and a 1215%volume CAGR for spirits over FY10-FY13 and beyond.
Margin expansion over FY10-FY13: Lower molasses/ENA prices, product miximprovement and stable glass costs would help spirits companies improvemargins over FY10-FY13. Stable barley prices and strong volume growth will alsolead to margin expansion for UBBL. Unlike the FMCG sector, alcoholic beveragecompanies would face lower input cost pressures over FY10-FY12.
Balance sheets have improved, FCF generation to pick up: Companies haveraised equity over the last 18 months, resulting in improved balance sheetsfollowing the FY08-FY10 period of low margins, high capex and rising workingcapital. UBBL is expected to show a marked improvement in FCF generation due
to lower working capital. RDCK should also report improvement on this frontgiven lower capex post-expansion of distillery capacity.
Valuations factor in most positives: Sector valuations have run up strongly overthe last 12 months and now factor in most positives, leaving limited room for afurther re-rating. Though valuations look reasonable relative to historicalaverages (mainly due to euphoric valuations in FY08), we find them high on anabsolute basis when compared with the ROE profile of companies and their FCFgeneration potential. However, given strong earnings growth over FY10-FY13and improving ROEs, we believe the current valuations could sustain goingforward.
Prefer selective buying at current levels, buy on declines: We prefer RDCK
(rated BUY) over UNSP (BUY) in the IMFL space given lower valuations and pureIndia exposure. We would advise buying on declines in UBBL (rated HOLD) toplay the beer market growth potential.
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Contents
Section Page No.
Indian alcobev market 3
Spirits the dominant form of alcohol consumption 3
Indian alcobev market growing well; trend to continue 4
Liquor heavily regulated and a state subject 5
Pricing: Beer and wine relatively more expensive 6
Growth potential 7
Sector financials 10
Appendix I 12
Global spirits industry 12
Appendix II 14
Manufacturing process of IMFL 14
Companies
United Spirits - Domestic business to drive growth 16
United Breweries - Compelling long-term story but pricey 30
Radico Khaitan - Premiumisation holds the key 42
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Indian alcobev market
Spirits the dominant form of alcohol consumption
Spirits dominate alcohol consumption in India. In contrast, beer is the primary alcoholicbeverage consumed in most parts of the world. This is primarily due to lower taxationon beer and wine as governments the world over seek to promote consumption of thesebeverages over spirits given their lower alcohol content (and hence lower risk to health).
The Indian market, though, differs in the following key aspects:
a) The drinking pattern in India is skewed towards binge drinking as against socialdrinking (the prevalence of drinking is more concentrated considering that only~30% of the male and ~5% of the female population consume alcohol).
b) There is no differential taxation in case of beer due to which beer gets priced out(in terms of price per gm of alcohol).
c) Availability of beer and wine is as controlled as that of spirits, whereas in mostcountries, beer and wine distribution is not regulated.
Fig 1 -Broad structure of Indian alcoholic beverage industry
Beer(181mn cases)
Rs 130bn
Strong(127mn cases)
Alcohol content :5.25-15% v/v
Alcohol Industry(660mn cases)
IMFL(236mn cases)
Country Liquor(242mn cases)
Distilled Spirits(478mn cases)
Wine
Mild(54mn cases)
Licensed
Brown Spirits(226mn cases)
White Spirits(10mn cases)
Whisky
(136mn cases)
Gin
(5mn cases)
Brandy(50mn cases)
Vodka(5mn cases)
Rum(40mn cases)
Rs 566bn Rs 240bn
Rs 806bn
Rs 942bn
Rs 6bn
Alcohol content :Upto 5.25% v/v
Alcohol content :30% v/v
Alcohol content :12% v/v
Alcohol content :42.8% v/v
Beer(181mn cases)
Rs 130bn
Strong(127mn cases)
Alcohol content :5.25-15% v/v
Alcohol Industry(660mn cases)
IMFL(236mn cases)
Country Liquor(242mn cases)
Distilled Spirits(478mn cases)
Wine
Mild(54mn cases)
Licensed
Brown Spirits(226mn cases)
White Spirits(10mn cases)
Whisky
(136mn cases)
Gin
(5mn cases)
Brandy(50mn cases)
Vodka(5mn cases)
Rum(40mn cases)
Rs 566bn Rs 240bn
Rs 806bn
Rs 942bn
Rs 6bn
Alcohol content :Upto 5.25% v/v
Alcohol content :30% v/v
Alcohol content :12% v/v
Alcohol content :42.8% v/v
Source: RCML Research | Industry size in volume terms is denoted in brackets within the boxes
Absence of differential taxation impliesthat milder drinks like beer get priced
out
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Indian alcobev market growing well; trend to continue
The Indian alcobev market has been growing at a 1011% volume CAGR over the lastfive years and we expect the healthy growth momentum to continue, given thefavourable demographics. Within the alcobev market, country liquor is the slowest
growth segment (~23% volume CAGR), while IMFL is growing at ~1213%, beer at~15% and wines at ~30% CAGR, albeit from a low base.
Fig 2 -Indias alcoholic beverages market (value breakup)S pirits
85%
Beer
14%
Wine
1%
Source: RCML Research, Industry data
Fig 3 -Favourable demographics
58.6
60.9
64.165.7
66.4
54
5658
60
62
64
66
68
1991 2001 2011E 2021E 2031E
Percentage of population in India between15-64 years of age
(%)
Source: RCML Research, Businessworld Marketing Whitebook 2010-11
We believe the consumption of spirits (country liquor plus IMFL) in India is at par withthe global average (with a high preference for whisky in particular; refer Fig 16 & 17).However, due to extremely low per capita consumption of wines and beer as comparedto other countries and the global average, the overall per capita consumption ofalcoholic beverages in India appears dismal. A comparison of pure alcohol consumptionwithin the penetrated population (i.e., average consumption per alcohol drinker) showsthat India is almost in line with the global averageimplying that Indians (who drink)actually drink alcohol at par with their global peers.
Fig 4 -Per capita consumption of drinks
0.0 0.11.3 1.2 1.8
40.5
44.2
7.9
15.7
22.1
3.2
21.9
29.130.6
37.4
3.9
05
10
152025
303540
4550
Fruit
Beverage
Bottled
Water
Beer
Distilled
Spirits*
Coffee
CSD
Milk
Tea
India Global(litres /p.a.)
Source: All India Brewers Association, RCML Research |* Includes Country Liquor for India
Fig 5 -Penetration of alcoholic drinksPenetration Adult males Adult females
India 30% 5%
China 80% 30%
Source: RCML Research, Industry
Rising drinking-age population to drive
healthy growth in the sector
Per capita pure alcohol consumption
among drinking population is in line
with the global average
Only ~30% of men and ~5% of women
consume alcohol in India
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Fig 6 -Per cap consumption of pure alcohol (15 yr + popln)12.9
10.48.5
5.34.5 5.0
1.5
0
2
4
6
8
1012
14
Germany UK US A Brazil China World India*
(Litres p.a.)
Source: RCML Research, WHO |* Includes Country Liquor consumption
Fig 7 -Per cap consumption of pure alcohol among drinkers
13.6 12.9
11.8 11.08.7
7.7 7.2
02468
10121416
Germany
USA
UK
Brazil
China
World
Average
India*
(Litres p.a.)
Source: WHO, RCML Research | *Includes Country Liquor consumption
We believe the volume growth potential in spirits will be mainly led by consumers
upgrading to IMFL from country liquor (as big a market as IMFL) and illicit liquor(estimated to be as big as IMFL and country liquor combined). Positive demographics,with the drinking-age population (18yrs+) growing at ~3% CAGR, and greateracceptance of social drinking remain the other vectors of growth. However, we believethat given the quantity already being consumed per user, there is little potential for afurther increase and we could in fact see a decline as social (and not binge) drinkingbecomes more prevalent.
Volume growth potential would appear to be structurally higher in beer, due to(a) increasing social drinking; (b) possible deregulation of distribution; and(c) improving affordability with rising income levels.
Liquor heavily regulated and a state subjectThe liquor industry is heavily regulated with restrictions on both manufacturing andretail sales (licences needed to set up facilities and to sell alcohol), resulting incontrolled availability. About 65% of Indias states have strict regulations (governmentcontrols both wholesale/retail channels and buys directly from liquor companies,usually at an annually negotiated price). Only 20% are free markets (sales throughdistributor/retailer, free pricing), while the remaining 15% are auction-controlled(government appoints 12 central distributors in a state).
Taxation structure no differentiation due to alcohol contentThe taxation structure in India does not differentiate between lower-alcohol (beer, wine)and higher-alcohol content (country liquor, IMFL). In fact, the taxation is quite similar
and is more a function of pricing of the product rather than alcohol content.
Liquor taxation is a state subject and hence duties vary across states. In addition, withineach state there are different types of levies/taxes such as excise, VAT, import fee, exportfee, permit fee and annual licence fee, which serve to make for a complex structure.Inter-state movement of liquor involves additional taxation, thus requiring the use ofown distilleries located in the state or resort to contract bottlers, which further pushesup costs.
Volume growth potential higher for
beer than spirits
Liquor industry in ~80% of Indian states
government-controlled in some form
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Fig 8 -Taxation structure on Alcobev in the union territory of ChandigarhAlcohol Type Excise duty VAT Import fee
Country Liquor* Rs 6/- per PL 12.5% Rs 2.25/- per PL
IMFL (60 degree) Rs 6/- per PL 12.5% Rs 2.25/- per PL
IMFL (75 degree) Rs 20/- per PL 12.5% Rs 2.25/- per PLWines, Champagne, Cider,RTD and Liqueurs
Rs 10/- per BL 12.5% Rs 3/- per case
Beer
- Bottled Beer havingalcoholic content upto5.25% v/v
Rs 6/- per bottle of650ML
12.5% Rs 2/- per case
- Bottled Beer havingalcoholic content exceeding5.25% and upto 8.25% v/v
Rs 10/- per bottleof 650ML
12.5% Rs 2/- per case
- Draught Beer havingalcoholic content upto5.25% v/v
Rs 10/- per BL 12.5% Rs 0.25/- per BL
- Draught Beer havingalcoholic content exceeding5.25% and upto 8.25% v/v
Rs 15/- per BL 12.5% Rs 0.25/- per BL
Denatured Spirit Rs 0.75/- per BL 12.5% -
Source: Chandigarh Excise department, RCML Research | *Export fee of Rs 0.20/- per PL is also charged on Country Liquor
Fig 9 -Global alcohol taxation structureCountry % Sales tax/VAT Tax as a % of Retail price
Beer Spirit
India 4 to 12.5 45.0 40.6
Nepal 25.0 40.0 40.0
China 17.0 8.0 25.0
Japan 5.0 46.5
South Africa 14.0 18.4 26.3
Russia 20.0 4.0 35.0
France 16.9 8.8 33.2
Germany 16.0 6.6 13.8
Italy 20.0 11.0 20.0
Source: WHO, RCML Research
Pricing: Beer and wine relatively more expensive
Owing to higher taxation, the relative prices of beer and wine in India are higher thanthat of spirits. Wine is the most expensive relative to global averages while beer comes
next and spirits are the least expensive.
Fig 10 -Relative price* of per gram of alcohol in India vs global median500ml beer @4.5% alc/vol
750ml wine @12% alc/vol
750ml spirits @40% alc/vol
Pure alcohol content (gm) 22.5 90 300
Relative prices in India 11 53 29
Relative price of per gram alcohol India 0.489 0.589 0.097
Global Median 0.156 0.097 0.044
Source: WHO, RCML Research ** the ratio of the price of pure alcohol to the price of GDP per capita (local currency)
Globally, there is differential taxationwith beer usually taxed lower than
spirits
Globally, the typical price ratio for
beer: wine: spirits is 1:2:4 while the
same for India is 1:5:3
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Fig 11 -Relative price* of alcoholic beveragesBeer Wine Spirits
Country500ml 750ml 750ml
Brazil 1.51 5.35 9.42
Canada 0.37 1.62 5.75
Mexico 1.47 8.11 22.36
France 0.28 0.95 4.90
Germany 0.32 1.19 2.15
Russian Federation 2.41 12.05 14.45
United Kingdom 1.00 2.12 7.27
India 11.00 53.00 29.00
Australia 0.64 2.80 7.01
Iceland 0.76 5.32 9.97
Republic of Korea 1.61 2.03 45.52
United States 0.21 0.85 1.82China 6.63 26.52 26.52
Spain 0.41 0.46 5.53
World median 3.50 8.70 13.20
Source: WHO * the ratio of the price of alcoholic beverages to the price of GDP per capita (local currency)
Growth potential
IMFL: Volume potential due to upgrades from illicit and country liquorIndias IMFL market size is estimated at 236mn cases, growing at a 1213% CAGR overthe last five years. In FY10, the industry grew by 14.2% in volume terms. Whiskydominates the IMFL segment with a 58% market share, while brandy (21%) and rum
(17%) are other dominant forms. The white spirits segment is small (~4% of IMFLvolumes) but growing rapidly due to its preference among the younger generation,especially for vodka.
Fig 12 -IMFL volume breakup, 2009
Whis ky
58%
Brandy
21%Rum
17%
Gin
2%
Vodka2%
Source: Euromonitor, International Wine and Spirit Research, Industry data
Fig 13 -IMFL volume growth rate, FY10
6.8
12.014.3
16.8
29.7
14.2
7.0 7.7
0
510
15
20
25
30
35
Rum
Whisky
Vodka
Gin
Brandy
Total
IMFL
Country
Liquor
Beer
(%) FY10 Grow th rate s
Source: Radico, Euromonitor
IMFL continues to gain market share from country liquor, a trend we expect to continuegiven the relatively low price differential (country liquor sells at ~Rs 90100/bottle vs.the starting price of ~Rs 140150/bottle for IMFL). In terms of regional trends, SouthIndia (four states put together) dominates IMFL, accounting for ~5560% of total sales.
Rum the slowest growing segment;
vodka the fastest
Brandy and rum more popular in the
south and west, while whisky dominates
the north and east
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Fig 14 -Rising share of IMFL in total spirits sales in India
68 6660 61 57
53 51
32 3440 39
4347 49
0
10
20
3040
50
6070
80
FY 04 FY 05 FY 06 FY 07 FY 08 FY 09 FY 10
Country Liquor IMFL(%)
Source: RCML Research, Company
Fig 15 -Region-wise sales of IMFL
82
47
7358
27
8
2
42718
24 19 20
6572
8
10
0
20
40
60
80
100
North S outh Eas t Wes t CS D
Whisky Others Brandy Rum(%)
Source: RCML Research, Company
Whisky: Growth all-roundWhisky, unlike in the rest of the world, remains the favourite spirit among Indians. Itconstitutes 58% of the total sales volume in India as compared to the global average of25%. Consequently, all of the worlds top 10 fastest growing whisky brands are Indian,with Old Tavern from UNSPs stable leading the pack.
Fig 16 -Whisky the clear favourite* among Indians compared to RoW
25
5815
21
13
17
48
4
0
10
20
30
40
5060
70
80
90
100
World India
Whiskey Rum Brandy White S pirits(%)
Source: UNSP presentation * In terms of total sales voulume
Fig 17 -Worlds top 10 fastest growing millionaire whiskies
6.8
10.212.0
2.01.1
2.3
8.4
4.8
13.5
2.7
05
101520
2530354045
OldTavern
Original
Choice
Officers
Choice
DSPBlack*
Signature
Blenders
Pride
RoyalStag
Imperial
Blue
McDowells
No.1 G
old
Riband
0
2
4
6
8
10
12
14
16CAGR 2005-09 Volume-RHS(%) (mn cas es )
Source: RCML Research, Drinks international |*CAGR (2006-09)
Whisky the favourite spirit among
Indians
All of the worlds top 10 fastest growing
whisky brands over 200509 have been
Indian
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Fig 18 -Growth rates of leading whisky brands in India
Bagpiper McDow ells No 1
Officers Choice
Original Choice
Royal Stag
Old Tavern
Directors Special
Hayw ards
8PM
Blenders PrideGreen Label
Gold Riband
Royal Challenge
Signature
(10)
0
10
20
30
40
50
(5) 0 5 10 15 20 25 30 35 40CAGR 2005-09
%c
hange09-08
Source: RCML Research, Drinks international | Labels colored red are brands of UNSP, Colored blue are brands of Radico; Colored green are brands of Pernod Ricard India; Colored black arebrands of Other IMFL players
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Sector financials
Fig 19 -Sales growth trend
(20)
(10)
0
10
20
30
40
50
60
FY07 FY08 FY09 FY10 FY11E FY12E FY13E
Radico Khaitan United Spirits United Breweries(%)
Source: RCML Research
Fig 20 -EBITDA margin trend
0
5
10
15
20
25
FY07 FY08 FY09 FY10 FY11E FY12E FY13E
Radico Khaitan United Spirits United Breweries(%)
Source: RCML Research
Fig 21 -D/E ratio trend
0.0
1.0
2.0
3.0
4.0
FY07 FY08 FY09 FY10 FY11E FY12E FY13E
Radico Khaitan United Spirits United Breweries(%)
Source: RCML Research
Expect a steady 1520% topline CAGR
for the sector over FY10-FY13; UBBL to
deliver highest topline growth
Margins on an uptrend for IMFL led by
gross margin improvement due to lower
molasses prices
Leverage ballooned in FY09equity
issuances in FY09/10 by all players have
helped improve capital structures
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Fig 22 -Net working capital-to-Sales trend
0
20
40
60
80
100
FY07 FY08 FY09 FY10 FY11E FY12E FY13E
Radico Khaitan United Spirits United Breweries(%)
Source: RCML Research
Fig 23 - ROE trend
(10)
(5)
0
5
10
15
20
25
30
FY07 FY08 FY09 FY10 FY11E FY12E FY13E
Radico Khaitan United Spirits United Breweries(%)
Source: RCML Research
Fig 24 -Sector Valuation matrixMCap EPS CAGR EBITDA M (%) ROE (%) Adj. D/E (x) P/E (x) EV/EBITDA (x) P/B (x)
CompanyCMP(Rs)
Target(Rs)
Reco(Rs mn) FY10-13E FY12E FY13E FY12E FY13E FY12E FY13E FY12E FY13E FY12E FY13E FY12E FY13E
United Spirits 1,421 1,650 Buy 171,471 49.5 19.1 19.0 14.8 15.9 1.2 1.0 26.2 21.2 15.4 13.4 3.6 3.2
United Breweries 427 400 Hold 102,000 63.4 13.7 14.5 22.8 25.6 0.6 0.4 39.0 29.1 21.1 16.7 8.2 6.8
Radico Khaitan 164 190 Buy 21,620 42.2 16.9 17.2 15.4 17.6 0.3 0.3 20.1 15.5 14.1 11.5 2.9 2.6
Aggregate - - - 295,091 16.6 16.9 28.4 21.9 16.9 13.9 4.9 4.2
Source: RCML Research
UBBL has best working capital control.
Companies to improve working capital
turns
Expect ROEs to trend up after dismal
FY09; UBBL has the highest ROE
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Appendix I
Global spirits industryThe global spirits industry, which witnessed volume growth of 2.6% in 2009, is
estimated at over 2.1bn cases. Regional spirits like Japanese shochu (~130mn cases) andSouth Korean soju (~110mn cases) dominate global sales volumes with a 46% share(~990mn cases). White spirits (vodka and gin) form the next dominant category with a23% share (~470mn cases).
Fig 25 -Global spirits market breakup (volume)
White s pirits23%
Whis key
12%Rum
7%
Brandy &
Cognac
6%
Liqueurs
5%
Tequila
1%
Other s pirits
46%
Source: RCML Research, Drinks International
Fig 26 -Global consumption of spirits in 2009
222 880 1,182 1,3972,396 4,252
8,900
19,228
-
5,000
10,000
15,000
20,000
25,000
Tequila
Liqueurs
Brandy
Rum
Whiskey
White
spirits
Other
spirits
Total
(mn litres )
Source: RCML Research, Company
Fig 27 -Alcohol preference (in volume terms) across continents
0%10%20%30%40%50%60%70%80%90%
100%
Whiskey Cognac/Brandy White spirits Rum Tequila (&
Mezcal)
Liqueurs Other s pirits
As ia Pacif ic Aus tralas ia Eas tern Europe Latin America ME and Af rica North America Western Europe
Source: RCML research, Drinks international
Fig 28 -Worlds top 10 largest selling Vodkas in 200976.1
24.3
54.2
- (1.6)(0.6)2.210.7
22.53.0
0
5
10
15
20
25
30
Smirnoff
Zelenaya
Marka
Khlibniy
Dar
Absolut
Khortytsa
Nemiroff
P
yatOzer
C
zystade
Lu
xe(ZG)
Absolwent
Grey
Goose
(10)0102030405060708090
Vodka Sales - 2009 CAGR 2005-09-RHS(mn cas es ) (%)
Source: RCML Research, Drinks international
No Indian brand among the top 10
largest selling vodkas, indicating lower
preference for white spirits in India
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Fig 29 -Worlds top 10 largest selling Rums in 2009
19.8
5.79.0
(1.6)
5.6
(4.3)
0.0(1.9)
6.3
14.7
02468
101214161820
Bacardi
Tanduay
MCDNo.1
Celebration
Captain
Morgan
Havana
Club
Contessa
OldCask
Montilla
Cacique
OldPort
Rum
(10)
(5)
0
5
10
15
20
25
Rum Sales - 2009 CAGR 2005-09-RHS(mn cas es ) (%)
Source: RCML Research, Drinks international
Fig 30 -Worlds top 5 largest selling Brandies in 2009
14.9
65.1
29.0
17.5
2.7
0
1
23
4
5
6
78
9
10
McDow ells
No.1
Mans ion Hous e
Brandy *
Honey Bee Dreher Old Admiral(5)
5
15
25
35
45
55
65
75
Brandy Sales - 2009 CAGR 2005-09-RHS(mn cas es ) (%)
Source: RCML Research, Drinks international | * CAGR 2006-09
Fig 31 -Worlds top 6 largest selling Gins in 2009
(4.3) (2.1)(0.8) 2.3 -
3.2
0
1
2
3
4
5
Gordons Gin S eagrams
Gin
Beef eater Bombay Tanqueray Blue Riband
Gin
(15)
(5)
5
15
25
35
45
55
65
75
Gin Sales - 2009 CAGR 2005-09-RHS(mn cas es ) (%)
Source: RCML Research, Drinks international
3 Indian brands in top 10 largest selling
rums in the world
All (except one) of the worlds top 5
largest selling brandy brands are Indian
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Appendix II
Manufacturing process of IMFLRectified Spirit
(Strength-94-95% v/v)
Redistilled in Extra NeutralAlcohol Plant ( Total Deooxidice
Copper plant)
Reduce withDemineralized
Water
Reduce withDemineralized
Water
Denatured withDenaturet
Blending with Color& Essences for C&L
Denatured Spirit/SpecialDenatured Spirit (Not for
Human Consumption
ENA (Extra Neutral Alcohol)-95to 96% v/v
Reduced with D.M.Water
Blending with Color &Essence / Malt Spirit etc. (for
IMFL)Bottling (Procedure)
Empty Bottle
Washing / Rinsing
Filterisation (Liquor)
Bottle Filling
Sealing
LabelingPacking (Finished
Goods)
Rectified Spirit(Strength-94-95% v/v)
Redistilled in Extra NeutralAlcohol Plant ( Total Deooxidice
Copper plant)
Reduce withDemineralized
Water
Reduce withDemineralized
Water
Denatured withDenaturet
Blending with Color& Essences for C&L
Denatured Spirit/SpecialDenatured Spirit (Not for
Human Consumption
ENA (Extra Neutral Alcohol)-95to 96% v/v
Reduced with D.M.Water
Blending with Color &Essence / Malt Spirit etc. (for
IMFL)Bottling (Procedure)
Empty Bottle
Washing / Rinsing
Filterisation (Liquor)
Bottle Filling
Sealing
LabelingPacking (Finished
Goods)
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Companies
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United Spirits Ltd Initiating Coverage 16 December 2010
16Varun Lohchab Gaurang Kakkad Bandish Mehta
(91-22) 6766 3458 (91-22) 6766 3470 (91-22) 6766 3471
[email protected] [email protected] [email protected]
Profitability and return ratios
(%) FY10 FY11E FY12E FY13E
EBITDA margin 16.2 16.9 19.1 19.0
EBIT margin 14.7 15.5 17.7 17.6
Adj PAT margin 3.5 6.0 8.0 8.6
ROE 7.2 10.4 14.8 15.9
ROIC (1.3) 7.6 9.6 10.3
ROCE 2.0 8.2 10.4 11.3
Financial highlights
(Rs mn) FY10 FY11E FY12E FY13E
Revenue 63,623 69,145 81,518 94,128
Growth (%) 16.4 8.7 17.9 15.5
Adj net income 2,218 4,118 6,551 8,081
Growth (%) (907.2) 85.7 59.1 23.4
FDEPS (Rs) 20.0 34.1 54.3 67.0
Growth (%) (850.7) 70.4 59.1 23.4
United Spirits Ltd
Domestic business to drive growth
We initiate coverage on United Spirits (UNSP) with a BUY rating and aSeptember 11 price target of Rs 1,650. We like the companys domestic IMFLbusiness given its dominant market share and expected pick-up in profitabilityover FY10-FY13. UNSPs focus on strengthening the back-end by raising primarydistillation and bottling capacities should help improve its profitability profile.However, Whyte & Mackays (W&M) numbers are likely to remain lacklustre inthe near term given the discontinuation of bulk scotch sales in order to focus onbranded salesalbeit a positive move from a longer-term perspective. The stockis currently trading at 26.2x FY12E and 21.2x FY13E earnings. Our SOTP pricetarget of Rs 1,650 comprises 15x September 12 domestic EBITDA, 8x subsidiary(including W&M) EBITDA, and W&Ms scotch inventory value at 50% discount.
Dominant market position a key advantage: UNSP is a clear leader in the domestic
spirits sector with 43% market share, and continues to widen its lead over its nearestcompetitor. Given the entry barriers raised by regulatory constraints, this competitivelead looks sustainable and will enable the company to capture the longer-termconsumption shift from country liquor to IMFL, resulting in healthy volume growth.We expect a 18.3% topline CAGR over FY10-FY13 from domestic operations.
Domestic business to show improved profitability: Lower input costs (molasses)along with continuing product mix improvement should aid a 350bps expansionin domestic business margins over FY10-FY13. In our view, the key to significantvalue creation over the longer term would be a product mix shift to premiumspirits where UNSP has a relative weaker portfolio and tends to face toughercompetition from foreign players selling aspirational brands.
W&M performance to be weak in the near term: Following its takeover by UNSPin FY08, W&M has enhanced its focus on the branded scotch business rather thanon bulk sales. While this strategy should pay off in the longer run, we expect a45% drop in W&Ms EBITDA in FY11 (GBP 31 mn) given discontinuation of bulksales. Post this one-time adjustment, we expect W&M EBITDA to grow at ~ 14%CAGR in FY11-13 driven by growth in branded and private label sales.
Improvement in balance sheet but modest free cash flow generation: Followingthe QIP and treasury stock sales, UNSPs balance sheet has improved, with D/Ecoming down (3.1x in FY09 to 1.3x in FY11E). However, considering theexpected EBITDA contraction in W&M and rising capex trajectory for thedomestic business, free cash flows are unlikely to pick up significantly.
Initiate with BUY: We initiate coverage with a BUY rating and a September 11
target of Rs 1,650. Key risks for the stock are an increase in input prices, ahardening of interest rates, and disappointments on growth at W&M.
CMP TARGET RATING RISK
Rs 1,421 Rs 1,650 BUY MEDIUM
BSE NSE BLOOMBERG
532432 MCDOWELL UNSP IN
Company data
Market cap (Rs mn / US$ mn) 171,471 / 3,777
Outstanding equity shares (mn) 121
Free float (%) 70.9
Dividend yield (%) 0.2
52-week high/low (Rs) 1,688 / 1,057
2-month average daily volume 271,976
Stock performance
Returns (%) CMP 1-mth 3-mth 6-mth
United Spirits 1,421 1.6 (11.7) 13.1
BSE FMCG 6,537 (1.8) 13.7 17.0
Sensex 19,648 (3.3) 0.7 12.8
Valuation matrix
(x) FY10 FY11E FY12E FY13E
P/E @ CMP 70.9 41.6 26.2 21.2
P/E @ Target 82.4 48.3 30.4 24.6
EV/EBITDA @ CMP 23.3 20.6 15.4 13.4
RCML vs consensus
FY12E FY13E
Parameter RCML Cons RCML Cons
Sales (Rs mn) 81,518 80,168 94,128 89,703
EPS (Rs) 54.3 58.3 67.0 72.1
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Investment rationale
Domestic business Growth intact, margins to move up
UNSPs business comprises two segments: domestic IMFL and the Whyte & Mackay(W&M) scotch business (acquired in 2007). However, domestic operations still
contribute a bulk of consolidated revenues and profits and remain the key value andstock price driver.
Fig 32 -Revenue break-up
0%
20%
40%
60%
80%
100%
FY08 FY09 FY10 FY11E FY12E FY13E
Standalone W&M
Source: RCML Research, Company
Fig 33 -EBITDA break-up
0%
20%
40%
60%
80%
100%
FY08 FY09 FY10 FY11E FY12E FY13E
Standalone W&M
Source: RCML Research, Company
Domestic volume growth to remain strongUNSP is the dominant market leader in IMFL with ~43% market share. The companyhas been improving on its market share through higher-than-industry growth, therebywidening the gap to its nearest competitor (now Pernod Ricard, earlier Radico Khaitan).
We expect UNSP to hold onto its market share going forward and grow in line with theindustry at a 1213% volume CAGR over the next three years.
Fig 34 -IMFL industry sales vs UNSP
133
190214
236
59 66
158
74
88 100
45
42
39
4143
0
50
100
150
200
250
FY06 FY07 FY08 FY09 FY10
34
3638
40
42
44
46
IMFL industry sales
UNSP sales
UNSP's market share-R
(mn cas es ) (%)
Source: RCML Research, Company
Fig 35 -UNSPs volume growth ahead of industry
18.820.3
12.610.3
12.511.3
19.5
13.5
0
5
10
15
20
25
FY07 FY08 FY09 FY10
IMFL Industry vol. growth rate UNSP's vol. growth rate(%)
Source: RCML Research, Company
Domestic operations remain key value
and stock price driver
IMFL business expected to deliver
1213% volume CAGR over FY10-13
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Focus on backward integration steps in the right directionUNSP is currently deficient in primary distillation, meeting only ~11% of its total spiritsrequirement in-house through primary distillation (molasses to ENA), 33% throughin-house secondary distillation (rectified spirits to ENA), and the balance 56% throughpurchased ENA. Thus, the company has been unable to capture the full value in the
entire chain given that ENA prices have tended to be less volatile than molasses andprimary distillers have captured the upside. The management is looking to plug this gapin the value chain, which we believe is a step in the right direction. UNSP intends tospend ~Rs 6bn7bn over the next 24 months to bring the proportion of in-house primarydistillation to 37%.
The company is also looking to augment its in-house bottling capacity (62% currently),to save the mark-up paid to bottlers, which will further aid profitability. It intends tospend ~Rs 1.5bn in capex on the same. This apart, it will expand on in-house malt spiritcapacity (65% currently) with a capex of ~ Rs 1bn1.25bn.
Fig 36 -Expansion of ENA manufacturing capacity
11
37
89
63
0
10
20
30
40
50
60
70
80
90
100
Current After 2 years
Conversion of RS to ENA / Sourcing of ENA from o ther players
Own ENA manufacturing
(%)
Capex of Rs 6-7bn
Source: RCML Research, Company
Raw material costs trending down; positive for margins in FY11 and FY12Molasses (a byproduct from sugarcane crushing) is the primary raw material forpreparing rectified spirit, which is in turn processed into extra neutral alcohol (ENA), akey raw material for distilled spirits. Since UNSP is deficient in its own primarydistillation capacity, it directly purchases ENA instead of molasses. The price ofmolasses, and consequently of ENA, went up sharply during FY08-FY10 due to lowersugarcane production, resulting in pressure on gross margins. But prices have softenedin FY11 YTD due to strong sugarcane production in the last season. We expect molassesprices to stabilise around current levels (~5% below peak) given the strong sugarcanecrop expected in the upcoming season (DecemberMarch) as well.
The key to a raw material cost decline for the company would be lower ENA costs. Thiswill come through when the company increases primary distillation capacity in FY12and FY13, potentially leading to savings of ~Rs 10/case on a blended basis, implying~20% higher PBT.
Glass, the other key input cost for the company, has seen stable pricing of late.However, the rising crude rates could put pressure on glass prices in FY12. We expectstable raw material costs (per case) over FY10-FY12 while packaging cost per case willinch up gradually given the 45% CAGR inflation in glass prices.
Expanding primary distillation, bottling
and malt spirit capacities to lower
COGS
Key for raw material cost decline is ENA
cost which would come down with
increased primary distillation in FY12.
Rs 10/case saving on blended basis
could lead to ~ 20% increase in PBT
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Fig 37 -Molasses price trend for UNSP
4.0
4.9
2.5
3.9
4.8
6.6
-
20
40
60
80
100
120
140
160
FY05 FY06 FY07 FY08 FY09 FY10
-
1
2
3
45
6
7
Molas s es quantity consumedCost/litre-R
(mn kg) (Rs /kg)
Source: RCML Research, Company
Fig 38 -Spirits (ENA) price trend for UNSP
3133 33
31
4745
-
50
100
150
200
250
FY05 FY06 FY07 FY08 FY09 FY10
-
10
20
30
40
50
Spirits quantity consumedCost/litre-R
(mn litres ) (Rs /litre)
Source: RCML Research, Company
Fig 39 -Soda ash prices relatively stable
0
200400
600
800
10001200
1400
1600
Dec-
06
J un-
07
Dec-
07
J un-
08
Dec-
08
Jun-
09
Dec-
09
Jun-
10
Dec-
10
S oda As h prices(Rs /50 kg)
Current : 950
Source: RCML Research, Company
Fig 40 -but crude oil prices steadily inching up
0
20
40
60
80
100
120
140
160
Mar-07
Aug-07
Jan-08
Jun-08
Nov-08
Apr-09
Sep-09
Feb-10
Jul-10
Dec-10
Brent Crude oil prices in London(US$/barrel)
Current : 90.4
Source: RCML Research, Company | *CAGR (2006-08)
Fig 41 -Raw material price per case of own unit sales
158170
140
193 201 200 191 193
-50
100
150
200
250
FY06
FY07
FY08
FY09
FY10
FY11E
FY12E
FY13E
RM per case(Rs/case)
Source: RCML Research
Fig 42 -Packing material price per case of own unit sales
158 161169 179 166 174
183 192
-50
100
150
200
250
FY06
FY07
FY08
FY09
FY10
FY11E
FY12E
FY13E
PM per case(Rs/case)
Source: RCML Research
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Fig 43 -Economics of UNSP on a per case* basis(Rs per case) FY05 FY06 FY07 FY08 FY09 FY10 FY11E FY12E FY13E
Gross Realisation 1,080 1,164 1,290 1,337 1,344 1,438 1,510 1,585 1,633
Excise duty 395 538 573 603 636 697 732 768 791
Net Realisation 685 626 717 734 708 741 778 817 841Raw Material 146 158 170 140 193 201 200 191 193
Packing Material 151 158 161 169 179 166 174 183 192
Gross Profit 389 310 386 425 336 374 403 443 456
A&P* * 17 38 44 41 39 47 54 56 58
Conversion costs** 360 237 278 303 226 250 262 280 291
EBITDA* * 12 36 64 81 71 77 88 106 108
Source: RCML Research | *1 case comprises 12 bottles of 9 liters each **Includes tie-up unit cases
Product mix uptrading key for longer-term marginsUNSPs portfolio spans across various price segments of the IMFL market, with a bulk of
the sales volume coming upper regular and deluxe segments, which would help in termsof capturing the uptrading potential from country liquor to IMFL. However, over thelonger term, the primary profit pool for the industry will come from the premiumsegment, as the current tax structure leaves little to be made at the mass end. This willbe a key metric to monitor when looking at the longer-term value creation potential forUNSPs business model, which is currently high on volumes but low on profits.
The management plans to augment the premium end portfolio in brandy and vodka. Inaddition, McDowell Platinum has been launched in the whisky segment to competewith Royal Stagwhisky at the Rs 300 price point. We believe these steps augur well formargin expansion of the company over the longer term.
Bulk of current sales volume coming
from upper regular and deluxe (Rs. 200-300 per bottle) segment
Taking steps to beef up portfolio at top
end in vodka, brandy and whisky
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Fig 44 -Price pyramid of UNSP brands and volumes for each of themSegment
Price Range (Rsper 750ml bottle)
BrandsType ofIMFL
Volumes in2009 (mn cases)
Economy 100-120 Old Adventurer Rum 1.23
Regular 150-200 White Mischief Vodka 1.9
Haywards Whisky 4.06
Gold Riband Whisky 2.68
UpperRegular
200-250 Honey Bee Brandy 3.6
John Exshaw Brandy 1.48
Blue Riband Gin Gin 1.09
McDowells No.1Celebration
Rum 11.17
Old Cask Rum 2.21
Romanov Vodka 1.25
Bagpiper Whisky 16.26
Old Tavern Whisky 6.84
Directors Special Whisky 4.39Directors Special Black Whisky 2.03
McDowells Green Label Whisky 1.99
Deluxe 250-300 McDowells No.1 Brandy 13.52
McDowells No.1 Whisky 13.52
Prestige 300-400 - -
Premium 400-550 Royal Challenge Whisky 1.27
Signature Whisky 1.14
Super-premium
>550 Antiquity Rare Whisky < 1
Antiquity Blue Whisky < 1
Pinky Vodka < 0.1
Black Dog Scotch < 0.2
Source: RCML Research
Wines and IPL Small but interesting
UNSP also operates in the wines business through its 100% subsidiaries, Four SeasonsWines and Bouvet Ladubay. The Four Seasons business caters to the mass- and mid-endsegments (prices range from Rs 200 to Rs 700/bottle) and offers home-grown productswith wineries in Maharashtra. The Bouvet Ladubay portfolio was acquired by UNSP in2007 and provides a presence at the top end of the imported wines market. We believethe wines segment in India offers strong growth potential over the long term and UNSP
has positioned itself well to capture the opportunity. However, given the relatively smallsize of the business, we do not see a significant impact on the companys financials overthe next five years.
UNSP also owns IPL franchise, Royal Challengers Bangalore, through its 100%subsidiary, Royal Challenger Sports. Via this entity, the company has obtained perpetualrights to the Bengaluru IPL team, involving annual payments to Indias cricket board, theBCCI. Revenue streams for the company include sponsorship rights, stadium tickets andmerchandise. The entity is only just breaking even and we do not expect a meaningfulcontribution to earnings in the near future. However, given the recent bids for two newIPL teams, we believe the franchise has created value for UNSP shareholders. Apart fromeconomics of the IPL team, this move also helps build brand equity for its key offering atthe premium end, Royal Challenge, given restrictions on advertisement in the sector.
Limited volumes in segments upward of
deluxe; absent in premium/super-
premium brandy, rum, vodka and gin
Wines business and IPL franchise
provide option value in distant future;
near-term impact to be limited
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Whyte & Mackay Lacklustre in near term
W&M amongst top 5 scotch players globallyUNSP acquired a 100% stake in W&M in FY08 in an all-cash deal valuing the companyat 595mn. The company produces ~8% of global scotch whisky consumption withsingle malt brands such as Dalmore and Isle of Jura and blended scotch brands such as
Whyte & Mackay,John Barrand Claymore.
Fig 45 -Scotch whisky growing at a faster rate in EMs
58 59
20
47
020
40
60
80
100
120
1988 2008
Mature Markets Emerging markets(mn cases)
20 years
CAGR: 4.4%
20 years
CAGR: 0.1%
Source: RCML Research, Company
Fig 46 -Growth trend in Scotch whisky in key EMs33
21 20
13
5 5
05
10
15
20
25
30
35
China Rus s ia* India Africa Brazil Korea
CAGR (2004-08))(%)
Source: RCML Research, Company | *CAGR (2006-08)
Fig 47 -Product pyramid of W&M
Source: Company
W&M produces ~8% of global scotch
consumption
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Fig 48 -More focus on branded sales by W&MSegment At the time of acquisition Currently
Bulk and private label sales as a %of total sales
56 50
Branded sales as a % of total sales 44 50
Coverage of Duty Free channels(nos)
5 30
Source: Company
Proportion of bulk scotch sales to dip further near-term negativePost-acquisition, W&M has enhanced its focus on the branded business. W&Msnumbers will take a hit in FY11 as the company has decided to cut back on bulk scotchsales (post-expiry of the Diageo contract), which will likely result in sales declining to110mn and EBITDA falling ~45% to ~32mn in FY11.
Fig 49 -Category-wise split of W&M sales (volume)
13
50
13
50
73
0%
20%
40%
60%
80%
100%
FY10 FY11E
Matured bulk spirit Branded sales Pvt. Lable sales
Source: RCML Research
Fig 50 -Volume and EBITDA per case for W&M FY10
9.5
1.7 1.682.7
9.3 9.4
0
2
4
6
8
10
Bulk Private Label Branded
0
2
4
6
8
10
Volume (mn cases ) EBITDA per case-RHS(mn cases ) (GBP)
Source: RCML Research, Company
Fig 51 -W&M financials
34.3
32.3
33.1
0
20
40
6080
100
120
140
160
180
200
FY08 FY09 FY10
30
31
32
33
34
35
Sales EBITDA EBITDA Margin - R(GBP mn) (%)
Source: Company, RCML Research
Building branded business longer-term gain, near-term painW&M has a clear strategy focusthat of building its branded scotch business (whichoffers ~4x the sales value of the bulk segment) and utilising its bulk inventory for thesame over a period of time. The bottled business has grown at a 20% CAGR since the
acquisition in FY08, while bulk sales (net of the Diageo agreement and UNSPrequirements) have fallen at a 28% CAGR.
Greater focus on branded over bulk to
cause ~50% EBITDA drop in FY11
Emerging markets (incl India) remain
the best opportunity for W&M to tap
into for branded scotch
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In order to generate greater visibility for its branded business, the company hasenhanced coverage of duty-free channels from 5 to 30 key locations. It has alsoestablished new importer/distributor tie-ups in China, Taiwan, South Korea, Middle Eastand South Africa. Further, distribution of scotch brands in India has been scaled up40%, a move which is integral to UNSPs rationale for taking over the business.
The Indian scotch market, albeit small at ~1.2mn cases p.a., is growing at a heady3040% CAGR, making it imperative for UNSP to build its presence here. Overall,though, we believe a ramp-up of branded scotch sales, beyond scale up potential inselect emerging markets, would prove an uphill task given the strong competition fromglobal scotch majors.
Financial overview
Overall topline CAGR of 13.9% over FY10-FY13Growth in the domestic business would be largely volume-led. W&M is expected to seea decline in FY11 topline due to the discontinuation of bulk scotch sales.
Fig 52 -Consolidated sales* growth trend
6.1
37.9
56.2
18.2 16.48.7
17.9 15.5
72.7
--
20,000
40,000
60,000
80,000
100,000
FY05
FY06
FY07
FY08
FY09
FY10
FY11E
FY12E
FY13E
0
10
20
30
40
50
60
70
80
Consolidated Sales Growth-R(Rs mn) (%)
Source: RCML Research | *Includes other operating income
Fig 53 -Standalone sales* growth trend
7.8
32.8
16.6
28.920.5 20.6 18.7 15.6
77.2
-
20,000
40,000
60,000
80,000
100,000
FY05
FY06
FY07
FY08
FY09
FY10
FY11E
FY12E
FY13E
0102030405060708090
Standalone Sales Growth-R(Rs mn) (%)
Source: RCML Research | *Includes other operating income
EBITDA margins to expand led by domestic businessWe expect strong margin expansion in the domestic business over FY10-FY12 due tolower input prices and continued volume growth momentum. Consolidated marginswould mirror the growth trend of standalone operations as W&Ms margins are expectedto remain steady at 28%.
Fig 54 -Consolidated EBITDA and margin trend
5.1
14.7
23.1
14.116.2 16.9
19.1 19.0
9.0
--
5,000
10,000
15,000
20,000
FY05
FY06
FY07
FY08
FY09
FY10
FY11E
FY12E
FY13E
0
5
10
15
20
25
Consolidated EBITDA Margins-R(Rs mn) (%)
Source: RCML Research
Fig 55 -Standalone EBITDA and margin trend
5.5
15.7
18.8
15.3 15.716.7
19.3 19.2
10.2
-
3,000
6,000
9,000
12,000
15,000
18,000
FY05
FY06
FY07
FY08
FY09
FY10
FY11E
FY12E
FY13E
0
5
10
15
20
25
Standalone EBITDA Margins-R(Rs mn) (%)
Source: RCML Research
Domestic growth to be strong but W&M
weak in FY11
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Fig 56 -Free cash flow
--
2,000
4,000
6,000
8,000
10,000
12,000
14,000
FY05
FY06
FY07
FY08
FY09
FY10
FY11E
FY12E
FY13E
FCF(Rs mn)
Source: RCML Research
Fig 57 -D/E ratio
--
0.5x
1.0x
1.5x
2.0x
2.5x
3.0x
3.5x
4.0x
FY0
5
FY0
6
FY0
7
FY0
8
FY0
9
FY1
0
FY11
E
FY12
E
FY13
E
D/E ratio
Source: RCML Research
Fig 58 -Net capex
--
500
1,000
1,500
2,000
2,500
3,000
3,500
4,000
4,500
FY05 FY06 FY07 FY08 FY09 FY10 FY11E FY12E FY13E
Net Capex(Rs mn)
Source: RCML Research
Free cash flow generation improving,
but just enough for W&M debt
repayment
Capital structure has improved after
equity issuances but still on the higher
side.
100 bps increase in interest rates could
lead to PBT decline of ~8 %
Capex trajectory shifting up due to
planned backend investments in India
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United Spirits Ltd Initiating Coverage 16 December 2010
26
Valuation
Trading at middle of historical band; initiate with BUYThe stock is currently trading close to the average of its historical band, especially onEV/Sales and EV/EBITDA which are the best metrics to look at given the capital structureand earnings volatility. Historically, UNSP has traded in a forward EV/EBITDA band of1017x and current valuations at 15x forward are near its historical averages. We alsolook at trailing multiples since forward multiples based on actuals could be misleading.Given the ROE profile of the business and growth prospects, we believe the stock shouldtrade at 1315x forward EV/EBITDA.
We value W&Ms scotch inventory of 102mn litres at a 50% discount to the lastreported independent third party valuation of 425mn. Our discount aims to capture thevolatility in bulk scotch prices and is on a post-tax basis. We don t value IPL separatelyas we include the revenues and costs of the same in our subsidiary numbers. We initiatecoverage on the stock with a BUY rating.
Fig 59 -1-year forward EV/Sales
--
1
2
3
4
5
6
Dec-04
Dec-05
Dec-06
Dec-07
Dec-08
Dec-09
Dec-10
1yr fwd EV/Sales Average
+1Std Dev -1Std Dev(x)
Current : 3.0x
Source: RCML Research, Company
Fig 60 -Trailing EV/Sales
--
1
2
3
4
5
6
7
Dec-04
Dec-05
Dec-06
Dec-07
Dec-08
Dec-09
Dec-10
Trailing EV/Sales Average
+1Std Dev -1Std Dev(x)
Current : 3.0x
Source: RCML Research
Fig 61 -1-year forward EV/EBITDA
--5
10
15
20
25
30
35
Dec-04
Dec-05
Dec-06
Dec-07
Dec-08
Dec-09
Dec-10
1yr fwd EV/EBITDA Average
+1Std Dev -1Std Dev(x)
Current : 15x
Source: RCML Research, Company
Fig 62 -Trailing EV/EBITDA
--10
20
30
40
50
60
Dec-04
Dec-05
Dec-06
Dec-07
Dec-08
Dec-09
Dec-10
Trailing EV/EBITDA Average
+1Std Dev -1Std Dev(x)
Current : 17.0x
Source: RCML Research
Barring FY08, UNSP has usually traded
in a forward EV/EBITDA band of
1017x
Our SOTP price target of Rs 1,650
comprises 15x September 12 domestic
EBITDA, 8x subsidiary (including W&M)
EBITDA, and W&Ms scotch inventory
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United Spirits Ltd Initiating Coverage 16 December 2010
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Fig 63 -1-year forward EV/Sales
0
100,000
200,000
300,000
400,000
500,000
Dec-03
Dec-04
Dec-05
Dec-06
Dec-07
Dec-08
Dec-09
Dec-10
EV 0.4x 1.6x
2.8x 4x 5.2x(Rs mn)
Source: RCML Research, Company
Fig 64 -1-year forward EV/EBITDA
0
100,000
200,000
300,000
400,000
500,000
Dec-03
Dec-04
Dec-05
Dec-06
Dec-07
Dec-08
Dec-09
Dec-10
EV 7.2x 13.5x 19.9x26.3x 32.7x
(Rs mn)
Source: RCML Research, Company
Fig 65 -SOTP valuation(Rs mn) September 12Domestic EBITDA 14,622
Target Multiple 15
W&M and other Subs EBITDA 1,620
Target multiple 8
Total EV 232,290
Add: W&M Inventory 15,088
Less: Net debt 49,256
Equity value 198,122
Rounded off September 11 Price Target (Rs) 1,650
Source: RCML Research
Global distillers, on average, are trading at ~12x forward EV/EBITDA and 15x P/E. Giventhe higher sustainable growth rate of UNSPs domestic business and higher ROCE(domestic business ROCE ~30%), we believe a 2030% premium to global peers iswarranted for the domestic business. On the other hand, we believe W&M deserves a1520% discount to global peers given its relatively weaker market position.
Global peer valuation
Company MCap DividendEPS
CAGREBITDA Margin
(%)ROE (%) P/E (x) EV/EBITDA (x)
($ mn) Yield (%)FY11-13E
FY12E FY13E FY12E FY13E FY12E FY13E FY12E FY13E
Constellation Brands 4,516 - 10.7 25.9 26.3 13.5 13 11.4 10.6 9.2 8.6
Brown-Forman Corp 9,975 2.5 8.7 25.0 25.0 25.5 24 19.2 18.0 12.2 11.7
Davide Campari-Milano Spa 3,664 1.6 11.5 26.7 27.2 14.3 14 15.2 13.4 11.2 10.3
Jinro Ltd 1,315 4.3 2.3 21.2 21.7 16.7 17 13.5 13.5 11.8 11.1
Diageo Plc 46,569 0.0 9.5 32.6 33.4 38.9 35 13.8 12.5 10.9 10.1
Pernod-Ricard SA 23,921 2.1 11.8 28.7 29.2 12.1 12 14.5 12.8 12.8 11.9
Remy Cointreau 3,319 2.7 14.4 22.5 23.7 11.2 12 19.3 17.1 14.1 12.5
Average 93,278 9.8 26.1 26.7 18.9 18.2 15.3 14.0 11.7 10.9
Source: RCML Research, Bloomberg
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Consolidated financials
Profit and Loss statement Balance sheet
Y/E March (Rs mn) FY10 FY11E FY12E FY13ERevenues 63,623 69,145 81,518 94,128
Growth (%) 16.4 8.7 17.9 15.5
EBITDA 10,315 11,696 15,582 17,915
Growth (%) 33.9 13.4 33.2 15.0
Depreciation & amortisation 950 979 1,173 1,383
EBIT 6,778 9,365 10,717 14,409
Growth (%) - 38.2 14.4 34.5
Interest 6,069 5,475 5,682 5,704
Other income (1,597) 934 1,027 1,130
EBT 1,700 6,176 9,755 11,958
Income taxes 1,932 2,057 3,204 3,877
Effective tax rate (%) 113.6 33.3 32.8 32.4
Extraordinary items - - - -
Min into / inc from associates (13) - - -
Reported net income (227) 4,118 6,551 8,081
Adjustments (2,445) - - -
Adjusted net income 2,218 4,118 6,551 8,081
Growth (%) (907.2) 85.7 59.1 23.4
Shares outstanding (mn) 120.7 120.7 120.7 120.7
FDEPS (Rs) (adj) 20.0 34.1 54.3 67.0
Growth (%) (850.7) 70.4 59.1 23.4
DPS (Rs) 2.8 3.4 5.4 6.7
Y/E March (Rs mn) FY10 FY11E FY12E FY13ECash and cash eq 7,686 6,036 5,577 4,921
Accounts receivable 13,401 14,550 16,511 19,249
Inventories 17,462 18,869 20,762 23,862
Other current assets 11,029 12,028 14,156 16,360
Investments 1,265 1,265 1,265 1,265
Gross fixed assets 18,474 22,126 26,086 30,121
Net fixed assets 12,260 14,933 17,720 20,372
CWIP 943 943 943 943
Intangible assets 47,435 47,435 47,435 47,435
Deferred tax assets, net 715 715 715 715
Other assets 1,861 1,861 1,861 1,861
Total assets 114,058 118,634 126,944 136,982
Accounts payable - - - -
Other current liabilities 14,912 15,275 16,808 19,316
Provisions 2,819 3,397 4,390 4,783
Debt funds 55,062 55,062 55,062 55,062
Other liabilities 3,529 3,529 3,529 3,529
Equity capital 1,207 1,207 1,207 1,207
Reserves & surplus 36,529 40,165 45,949 53,085
Shareholder's funds 37,735 41,372 47,156 54,292
Total liabilities 114,058 118,634 126,944 136,982
BVPS (Rs) 312.7 342.9 390.8 449.9
Cash flow statement Financial ratiosY/E March (Rs mn) FY10 FY11E FY12E FY13E
Net income + Depreciation 723 5,097 7,723 9,464
Non-cash adjustments 19,768 5,475 5,682 5,704
Changes in working capital (4,577) (2,614) (3,456) (5,138)
Cash flow from operations 15,914 7,959 9,948 10,030
Capital expenditure (2,866) (3,652) (3,959) (4,035)
Change in investments - - - -
Other investing cash flow (853) - - -
Cash flow from investing (3,719) (3,652) (3,959) (4,035)
Issue of equity - - - -
Issue/repay debt - - - -
Dividends paid - (482) (766) (945)
Other financing cash flow (8,999) (5,475) (5,682) (5,704)
Change in cash & cash eq 3,196 (1,651) (459) (656)
Closing cash & cash eq 7,686 6,036 5,577 4,921
Y/E March FY10 FY11E FY12E FY13E
Profitability & Return ratios (%)
EBITDA margin 16.2 16.9 19.1 19.0
EBIT margin 14.7 15.5 17.7 17.6
Net profit margin 3.5 6.0 8.0 8.6
ROE 7.2 10.4 14.8 15.9
ROCE 2.0 8.2 10.4 11.3
Working Capital & Liquidity ratios
Receivables (days) 64 74 70 69
Inventory (days) 201 196 189 183
Payables (days) 165 163 153 148
Current ratio (x) 3.3 3.4 3.4 3.3
Quick ratio (x) 0.9 1.0 1.0 1.0
Turnover & Leverage ratios (x)
Gross asset turnover 3.5 3.4 3.4 3.3
Total asset turnover 0.5 0.6 0.7 0.7
Interest coverage ratio 1.5 2.0 2.5 2.9
Adjusted debt/equity 1.5 1.3 1.2 1.0
Valuation ratios (x)
EV/Sales 3.8 3.5 3.0 2.6
EV/EBITDA 23.3 20.6 15.4 13.4
P/E 70.9 41.6 26.2 21.2P/BV 4.5 4.1 3.6 3.2
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United Spirits Ltd Initiating Coverage 16 December 2010
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Quarterly trend
Particulars Q2FY10 Q3FY10 Q4FY10 Q1FY11 Q2FY11
Revenue (Rs mn) 10,801 13,468 12,521 14,630 13,542
YoY growth (%) 19.7 30.8 37.9 17.8 25.4
QoQ growth (%) (13.0) 24.7 (7.0) 16.8 (7.4)
EBITDA (Rs mn) 1,821 2,212 1,813 2,811 2,191
EBITDA margin (%) 16.9 16.4 14.5 19.2 16.2
Adj net income (Rs mn) 662 996 622 1,219 830
YoY growth (%) (28.1) 158.4 1.7 15.3 25.4
QoQ growth (%) (37.4) 50.5 (37.6) 96.0 (31.9)
DuPont analysis
(%) FY09 FY10 FY11E FY12E FY13E
Tax burden (Net income/PBT) 8.7 130.5 66.7 67.2 67.6
Interest burden (PBT/EBIT) (46.8) 18.1 57.6 67.7 72.3
EBIT margin (EBIT/Revenues) 12.4 14.7 15.5 17.7 17.6
Asset turnover (Revenues/Avg TA) 49.6 54.7 59.4 66.4 71.3
Leverage (Avg TA/Avg equtiy) 493.8 377.4 294.1 277.4 260.2
Return on equity (1.2) 7.2 10.4 14.8 15.9
Company profile
United Spiritss (UNSP) business comprises two segments: domestic
IMFL and the Whyte & Mackay (W&M) scotch business (acquired
in 2007). UNSP is the dominant market leader in IMFL with ~43%
domestic market share. The company has been improving on its
market share through higher-than-industry growth, thereby
widening the gap to its nearest competitor.
Shareholding pattern
(%) Mar-10 Jun-10 Sept-10
Promoters 29.1 29.1 29.1
FIIs 49.3 47.3 48.9
Banks & FIs 6.8 5.3 4.5
Public 17.8 18.3 17.5
Recommendation history
Date Event Reco price Tgt price Reco
16-Dec-10 Initiating Coverage 1,421 1,650 Buy
Stock performance
1,300
1,400
1,500
1,600
1,700
Sep-10 Oct-10 Nov-10 Dec-10
Buy
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United Breweries Ltd Initiating Coverage 16 December 2010
30Varun Lohchab Gaurang Kakkad Bandish Mehta
(91-22) 6766 3458 (91-22) 6766 3470 (91-22) 6766 3471
[email protected] [email protected] [email protected]
Profitability and return ratios
(%) FY10 FY11E FY12E FY13E
EBITDA margin 10.3 12.9 13.7 14.5
EBIT margin 5.7 8.9 9.9 10.8
Adj PAT margin 3.9 7.5 7.6 8.5
ROE 9.1 22.4 22.8 25.6
ROIC 4.3 10.6 11.1 14.0
ROCE 6.8 13.6 13.7 16.4
Financial highlights
(Rs mn) FY10 FY11E FY12E FY13E
Revenue 22,755 31,739 37,876 45,220
Growth (%) 17.9 39.5 19.3 19.4
Adj net income 895 2,377 2,877 3,834
Growth (%) 96.1 165.7 21.0 33.3
FDEPS (Rs) 3.4 9.0 10.9 14.7
Growth (%) 113.7 166.9 21.8 34.3
United Breweries Ltd
Compelling long-term story but pricey
We initiate coverage on United Breweries (UBBL) with a HOLD rating and a
September 11 price target of Rs 400. While we find the structural growthpotential in the Indian beer market coupled with the companys marketdominance compelling from a longer-term perspective, we believe currentvaluations already capture in most positives. We therefore advise buying thestock on declines below Rs 350/sh to ensure a favourable risk-reward.
Topline growth to remain in high-teens: Indias per capita beer consumption isabysmally low at 1.3 litres versus the global average of 22 litres, which is partlydue to a high taxation policy and resultant high pricing relative to income levels.We believe the beer industry will continue to grow at a 1215% volume CAGR(1518% value CAGR) on a long-term basis with an upside bias (if lower taxationor distribution deregulation materialises).
Relative market share improving: UBBL now enjoys a 51% value market sharewhile its nearest competitor (SAB Miller) holds a 25% share. The company hasbeen growing ahead of the industry and has improved its relative market sharefrom ~1.28x in FY05-FY06 to ~2x in FY10. This would allow it to fully capturethe volume growth potential given its superior brand equity.
Portfolio premiumisation; potential improves with Heineken: The addition ofHeineken (local production to start in April 11) complements UBBLs productportfolio well as it strengthens the premium end, which will aid margins over thelonger term and protect market share.
Margins to inch up gradually: UBBL has recently taken initiatives to reducebottle costs over the medium term. This along with stable raw material prices and
strong topline growth in the near term will help improve EBITDA margins. Weexpect margins to expand from 10.3% in FY10 to 14.5% by FY13 and potentiallyto 18-19% over the long term as scale benefits (fixed-cost efficiency and lowerA&P/Sales) kick in.
Cash flows to strengthen with lower working capital: UBBL has been able to loweroperating working capital days by ~30% with a greater focus on paring debtor andincreasing payable days. The company plans to incur annual capex of Rs 2bn2.5bn over the next few years which can be easily funded via internal accruals.
Valuations full; initiate with HOLD: We initiate coverage on UBBL with a HOLDrating and a September 11 price target of Rs 400 based on 18x September 12EBITDA. Since we are positive on the longer-term attractiveness of the business,we would recommend buying on declines below ~Rs 350 levels.
CMP TARGET RATING RISK
Rs 427 Rs 400 HOLD MEDIUM
BSE NSE BLOOMBERG
532478 UBL UBBL IN
Company data
Market cap (Rs mn / US$ mn) 102,000 / 2,247
Outstanding equity shares (mn) 240
Free float (%) 25.0
Dividend yield (%) 0.2
52-week high/low (Rs) 495 / 143
2-month average daily volume 142,479
Stock performance
Returns (%) CMP 1-mth 3-mth 6-mth
UBBL 427 2.4 (2.2) 102.1
BSE FMCG 6,537 (1.8) 13.7 17.0
Sensex 19,648 (3.3) 0.7 12.8
Valuation matrix
(x) FY10 FY11E FY12E FY13E
P/E @ CMP 126.9 47.5 39.0 29.1
P/E @ Target 118.9 44.5 36.6 27.2
EV/EBITDA @ CMP 46.9 26.7 21.1 16.7
RCML vs consensus
FY11E FY12EParameter
RCML Cons RCML ConsSales (Rs mn) 37,876 39,508 45,220 47,806
EPS (Rs) 10.9 12.7 14.7 14.0
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Investment rationale
Strong volume growth potential for beer
Per capita beer consumption very low in IndiaIndia stands much below the global average (and even below similar per-capita
countries) in terms of beer consumption. This is mainly due to high taxation levels andlow affordability. Beer taxes in India, at ~45% of MRP, are much higher than the globalaverage of ~2025%.
Fig 66 -Per capita consumption of beer158.6
110.0 104.7 99.0 95.083.8
68.3 60.0 58.9 51.8 51.3 47.6
1.3
30.0
81.6
05,000
10,000
15,00020,000
25,000
30,000
35,000
C z e c
h R
e p
u b
l i c
G e r m
a n y
A u s
t r a
l i a
U n
i t e
d K
i n g
d o
m
P o
l a n
d
S p
a i n
U n
i t e
d S
t a t e
s
C a n a
d a
S o u
t h A
f r i c
a
R u s s
i a
M e
x i c
o
J a
p a n
B r a
z i l
C h
i n a
I n
d i a
020
406080100120140160180
Total annual consumption Consumption per capita (RHS)(mn litres) (litres)
Source: Wikipedia, RCML Research
Fig 67 -Per capita consumption of beer v/s Per capita GDP
Source: RCML Research, Company
Fig 68 -Tax on Beer as a % of retail price46.5 45.0
40.0
22.018.4
11.0 8.8 8.0 6.6 4.0
0
10
20
30
40
50
Japan
India
Nepal
Global
Average
South
Africa
Italy
France
China
Germany
Russia
(%)
Source: RCML Research, Company
Beer highly taxed vis-a-vis spirits; hence priced outGlobally, beer is taxed at a 50% lower rate than spirits (on a pure alcohol basis), so as toencourage consumption of beer given its lower alcohol content. However, India has nosuch differential tax structure. On the contrary, beer taxation is higher than that onspirits (on a pure alcohol basis), with ~60% differential in certain states. We believegrowth in the beer market could reach inflection point if taxation and consequentlyaffordability issues are addressed. As the country adjusts to the concept of socialdrinking, people might prefer lower alcohol products such as wine and beer.
Indias annual beer consumption low at
1.3 litres per capita
Owing to high taxes, beer gets priced
out due to much lower kick per rupee
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Fig 69 -Relative price* of alcoholic beveragesBEER WINE SPIRITS
500 ml 750 ml 750 ml
Brazil 1.51 5.35 9.42
Canada 0.37 1.62 5.75
Mexico 1.47 8.11 22.36
France 0.28 0.95 4.9
Germany 0.32 1.19 2.15
Russian Federation 2.41 12.05 14.45
United Kingdom 1.0 2.12 7.27
India 11.0 53.0 29.0
Australia 0.64 2.8 7.01
Iceland 0.76 5.32 9.97
Republic of Korea 1.61 2.03 45.52
United States 0.21 0.85 1.82
China 6.63 26.52 26.52Spain 0.41 0.46 5.53
World median 3.5 8.7 13.2
Source: WHO, RCML Research | *Derived as a ratio of the price of alcoholic beverages to per capita GDP of the country*10,000
Distribution regulations on par for beer and spirits; deregulation a possibilityAnother impediment to growth of the beer industry has been regulated distribution, withlicence requirements being the same as that for spirits. Overall, alcoholic beverages inIndia sell through ~65,000 licenced outlets. Globally, wine and beer are usually freefrom distribution regulation and hence available even in supermarkets. We see apossibility of beer being de-linked from spirits over a period of time in India, resulting inimproved availability. For instance, the state of Maharashtra has introduced separate
licences to sell wine and beer which are available at much lower licence fees.
Indian beer industry now at ~200mn cases; 12% CAGR over last 5 yearsThe domestic beer market has grown in line with the spirits segment despite the relativeunder-consumption due to the factors mentioned above. However, over the nextdecade, we believe beer will outgrow the spirits market.
Fig 70 -Indian beer market
91
181.4
0
20
40
60
80
100
120
140
160
180
200
FY05 FY10
(Rs bn)
CAGR: 14.8%
Source: Company
Indias beer industry has grown in line
with the spirits market so far
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Strong beer dominant and growing much fasterStrong beer (7.5% alcohol content vs 4.5% for lager) remains the dominant form of beerconsumption in India and is growing ahead of the lager market. Lager (mild) beer, infact, registered a decline over FY08-FY10, returning to positive growth only in FY11.This is primarily due to taste preferences for heavier bodied strong beer comparedto lager.
UBBL has improved its market share in the strong beer segment over the years whereSAB Miller was traditionally the stronger player. In the mild segment, the company haslost some market share to top-end foreign players such as Carslberg and Heineken.
Fig 71 -Indian beer market segmentation
0
10
20
30
40
50
60
70
80
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
Current
Mild S trong(%)
Source: Company
Fig 72 -UBBLs beer portfolio
30
80
70
20
0
20
40
60
80
100
Current 10 years back
Lager Strong(%)
Source: RCML Research, Company
Fig 73 -UBBLs market share within beer segments
70 71 66 65
35 39 3845
0
20
40
60
80
100
FY05 FY06 FY07 Current
Mild Beer S trong Beer(%)
Source: RCML Research, Company
UBBL the clear market leader in Indian beers with ~51% share...UBBL is a strong leader in the overall beer market in both volume and value terms. Inthe case of individual brands, the gap is even higher with Kingfisherbeing a very strongbrand versus nearest competitor Haywards.
Strong beer now 70% of the total beer
market versus ~50% five years ago
UBBL has ~47% volume and ~51%
value share in Indian beer market
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Fig 74 -Sales volume and volume market share of beer companies in FY10Company
Volume (mnhecto litres)
Vol. Marketshare (%)
Brands
UBBL 6.747.3
Kingfisher, Zingaro, SandPiper, UB Export,London Pilsner, Kalyani Black Label, Turbo,Guru, Charger, Bullet, Marco Polo,
SABMiller 428.3
Haywards, Knock Out, Royal challenge, Foster's
Mohan Meakin 0.85.7
Golden Eagle, Black Knight
Mount Shivalik 0.453.2
Cobra, Thunderbolt
Carlsberg India 0.42.8
Carlsberg, Tuborg, Palone
Leelasons 0.211.5
Khajuraho
Anheuser-Busch Invev
0.181.3
Budweiser, Armstrong
Other 1.4110.0
Total 14.15 100
Source: IWSR
Fig 75 -All-India value market share (%)
Others
24%SABMiller
25%
UBBL
51%
Source: RCML Research, Company
Fig 76 -All-India market share of beer brandsOthers
50%
Haywards
13%Kingfisher
37%
Source: RCML Research, Company
...and still growing ahead of market and improving market shareUBBL has improved its overall market share and also increased its lead over the No. 2player over the last five yearsa notable achievement given the rising competitiveintensity in the sector with the entry of top foreign brands such as Carslberg, Heinekenand Budweiser.
Fig 77 -Movement of value market share
46 48 50 4751
31 3132 33 25
6 55
4
17 16 13 13
620
0
10
20
30
40
50
60
70
80
90100
FY04 FY05 FY06 FY07 Current
UBBL SABMille r Mohan Meakin Other(%)
Source: Company, RCML Research
Higher A&P spends