Markets
Varun Beverages has the right ingredients in place, but keep an eye on margins
Summary
- The company’s focus on improving the product mix augurs well for margins, but rising oil prices are a key headwind.
Varun Beverages Ltd (VBL) – one of the largest PepsiCo franchisees outside the US – appears to have all the right ingredients in place. After growing revenue at a compound annual growth rate (CAGR) of more than 22% over 2019-2023, its momentum may well continue.
This optimism stems from the company’s strategies. For one, it aims to enhance its manufacturing facilities. Its combined capital expenditure for 2023 and 2024 (VBL follows a January-to-December financial year) is expected to boost peak-month capacity in India by roughly 45% from 2022 levels. Besides expanding existing plants, VBL also plans to set up new ones, which would further boost earnings.
The company is also strengthening its distribution network and expanding its geographical footprint. VBL recently agreed to acquire a 100% stake in South Africa’s The Beverage Company Ltd. While this will bolster its presence in Africa, the extent of the synergies from this acquisition need to be monitored.
VBL also plans to manufacture and package Cheetos in Morocco, where it is currently only a distributor. “We believe that going ahead, VBL will tap into the snack food market by targeting regions where PepsiCo lacks manufacturing facilities and relies on imports," analysts at Motilal Oswal Financial Services wrote in a report on 14 March.
VBL’s focus on improving the product mix augurs well for margins. For instance the energy drink Sting, which has high margins, has seen its share in overall volumes grow. In 2023, VBL’s consolidated Ebitda margin stood at 22.5%. A key margin headwind is the recent increase in the price of Brent crude oil as this will raise packaging costs. How margin shapes up going forward will need to be tracked closely.
“VBL has undertaken a lot of initiatives, which will eventually play out in the long run and aid earnings growth," said Preeyam Tolia, an analyst at Axis Securities. He does not expect major earnings downgrades even if there is no meaningful growth in the near term.
Meanwhile, VBL’s debt increased by nearly 39% to ₹4734.5 crore in 2023, though the net debt-to-Ebitda ratio is comforting at 1.3 times. To be sure, VBL’s investors have little to complain about, with the stock gaining 108% amid strong earnings growth. Valuations are no doubt expensive – the stock trades at 57 times its estimated FY25 earnings, according to Bloomberg data.
