We maintain ‘neutral’ on Nestle India and cut our FY16e and FY17e EPS by 4% and roll forward our price target date to Sept 2016. Our new target is R5,870 a share based on a forward P/E multiple of 36x, a ~15% discount to its past three-year average (of ~42x), considering uncertainty related to food safety concerns and the lower volume growth trends currently being registered by the company.
While we are optimistic about the company’s long-term potential, given low penetration levels and the dominance of unorganised players in the Indian processed foods industry, we believe the negative impact of food safety concerns for the noodles portfolio and volume growth/market share challenges pose downside risk to earnings. Valuations of 44.7x CY16E P/E are not cheap either, in our view.
Nestle India’s Q3CY15 operational performance was below expectations owing to a higher-than-estimated adverse impact from the Maggi recall. It appears that sales off-take for the non-noodles portfolio also felt a significant rub-off impact on trade from the Maggi issue and from price reductions/promotions undertaken for some dairy products. Gross margins benefited from lower RM inflation and improved mix.
The Maggi issue now stands resolved, as Nestle has started manufacturing the noodles. We expect them to be re-launched over the next one to two months. Regaining consumer confidence and the pace of re-launch across the country will be key earnings growth catalysts, in our view.
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