Varun Beverages Ltd.‘s stock gained as Jefferies said it is set for multiple re-rating, citing a recovery in volumes, new launches, distribution expansion, margin normalisation and reduction in interest cost.
Jefferies has rated the company as a “high-conviction buy” and raised its target price to Rs 1,200 from Rs 930, a potential upside of more than 41%. That, according to Bloomberg data, is also the highest target price for the stock by any research firm.
“Varun Beverages was one of the most impacted in our staples coverage by Covid-19 disruption given a fair dependence on out-of-home consumption along with lockdowns/restrictions coinciding with the peak season (April-May) in both CY20 and CY21,” the research house said in a report. “While in-home consumption surged and partly compensated for lower out-of-home demand, India volume still declined more than 20% in CY20.”
But with the economy opening up and accelerating pace of vaccinations, the largest bottler of PepsiCo in the world outside of the U.S. should see a good acceleration in its volume growth in the second half of calendar year 2021 and 2022, Jefferies said. The company, it said, posted 40% year-on-year growth in the first half of CY21.
Varun Beverages, Jefferies said, saw 170-basis-points Ebitda margin contraction in CY20 due to negative operating leverage but CY22 should go back to historic levels as volume growth picks-up. “Reduction in net debt coupled with rate reduction should further help and we forecast CY20-23 EPS CAGR at 49%.”
Besides, before the pandemic hit, Varun Beverages in May 2019 had acquired the south and west territories from PepsiCo. The company, after acquisition, was expected to improve on-the-ground execution through a series of initiatives including additional visi-coolers, increased retail presence, among others, driving market share gains, the report said. But its ramp-up in these acquired territories was impacted by the Covid-19 restrictions.
Jefferies now expects that to change as the company is focusing on growth in 2022. “Pepsi also has a materially lower market share in south and west India versus north and east, and share gain is an opportunity that Varun Beverages will pursue.”
According to the report, Covid-hit visi-cooler distribution expansion is also expected to recover and accelerate to 40,000 annually from 25,000 added in 2020. Distribution expansion, it said, is an opportunity, especially in the south and west. “Of the 8,00,000 visi-coolers currently installed, only a third are in south and West, which provides headroom for an accelerated rollout in the next two years.”
Varun Beverages’ new launches — Sting and Mountain Dew Ice — have also been doing well, Jefferies said. “Sting is priced very aggressively, compared to competition such as Red Bull and Monster, with PET (packaging format) offering at 75-80% discount to these competitors.” Its distribution reach, too, has helped.
Mountain Dew Ice, a lemon-based fruit drink, opens up a new market for the company, the research firm said. “The product benefits from a lower 12% GST rate versus 40% for its carbonated soft drink portfolio.”
Jefferies also cited a few key risks to its target price:
Another Covid-related disruption.
A sharp rise in input costs, lower volumes due to renewed lockdowns.
Aggressive overseas acquisitions.
Shares of Varun Beverages Ltd. gained as much as 3.58% to Rs 914 apiece as of 2 p.m. on Friday. The stock is hovering near its all-time high of Rs 918.6. Of the 18 analysts tracking the company, 16 have a ‘buy’ rating and two suggest a ‘hold’, according to Bloomberg data. The average of 12-month consensus price targets implies a downside of 0.2%.
The relative strength index on the stock is at 76, indicating that it may be ‘overbought’.
So far this year, the stock has gained 48% versus the 22.1% rally for S&P BSE Sensex. Over the past year, the scrip has advanced 80.6% compared with a 49.9% jump in the Sensex.