The trend in Q4FY21 among consumer products companies is rising raw material costs. This has dented quite a few companies’ margins, and as a result their profitability. Tata Consumer Products is no different. It was already facing headwinds on raw tea costs since the beginning of FY21. The inflation in raw tea prices did temper a little in Q3, but in Q4 this has dented the company’s margins and profits.

On the surface, it appears that Tata Consumer had a muted Q4FY21 with flat revenues year-on-year and margins & profits down. But that’s not the full story.  The company’s India foods and beverages business grew at over 20% in volume terms. This helped make up for the impact of the slowing international beverages business.

This probably led the market to rethink its overexuberance on Tata Consumer Products’ future prospects a little bit, and as result valuations (80 TTM PE in April 2021) have muted somewhat. The stock currently trades at nearly a TTM PE (trailing twelve month price-to-earnings multiple) of 69. It’s still the highest in the FMCG space.

Does its high valuation mean that the street believes Tata Consumer can deliver? Let us find out.

Banking on the Tata brand

The basic premise of the merger of Tata Group’s consumer products businesses into one company was to cash on the Tata brand. This can be seen with Soullfull being rebranded Tata Soulfull. Tata Consumer bought Soulfull, a millets-based snacks maker, to enhance its foods portfolio. The integration of the India foods business has been completed in Q4FY21.

Then comes the Tata Sampann brand of spices and pulses. This line of products is what the company believes will drive volumes of the India foods business. There was some volatility in Q2 and Q3 in FY21 due to movement in commodity prices, which decelerated growth a bit, especially in the pulses category. However, the company says the Sampann line of products will grow far ahead of the India foods business.

For context, the India foods business ended up growing 21% YoY in volume terms in Q4FY21, and at 11% YoY in FY21. So, the growth in Sampann will be far higher than this. The company hopes to fine tune its strategy in FY22 to accelerate growth.

This expected growth in the India foods business is what seems to justify Tata Consumer’s sky-high valuations as even analysts agree that Sampann is going to be the growth driver for the company.

Another driver for growth is the salt business, which was acquired from Tata Chemicals during the reorganisation of the consumer products businesses of the Tata Group. Salt revenues grew by 26% YoY in Q4FY21, and 17% in FY21. The premium salt products business grew by 75% YoY in FY21.

Higher raw tea prices cause margin pain

The tea business is impacted by inflation in raw tea prices. The company hiked prices to protect its margins, and is waiting to see if the new tea crop manages to cool prices a bit. In case this doesn’t happen, the company says it will hike prices.

The company is also trying to gain market share in various regional markets in India for Tata Tea, and as a result its advertising and promotion spends have been rising. This also dented margins.

But the growth in the India beverages business in Q4FY21 of 53% YoY in value terms (23% volume growth) shows that the company is making market share gains in the packaged tea space. Tata Consumer’s subsidiary NourishCo also saw stellar revenue growth of 86% YoY in Q4. Some of this growth is due to lower sales in the corresponding quarter in FY20 due to the impact of lockdowns, as out-of-home consumption slumped.

Valuation is still steep

The future prospects of Tata Consumer’s India foods business still don’t justify its steep valuations. As the most expensive listed FMCG company, Tata Consumer has to deliver impressive growth to keep investors interested at current P/E levels. With the resurgence of lockdowns, out-of-home consumption for joint venture company Tata Starbucks will be severely hit.

In-home consumption of products will not be able to compensate for the loss of revenues from out-of-home consumption in Q1FY22. The company is leaning on other channels like ecommerce to increase sales of its products.

In FY21, Tata Consumer’s sales through ecommerce doubled to 5.2% of total sales from 2.5% a year ago. This will help limit the impact of lockdowns a lot as many consumers are preferring branded products to non-branded ones. And the Tata brand instils trust across the board.

For now, investors should know that Tata Consumer Products’ stock has priced in substantial future growth, and the company has to deliver to keep up these lofty valuations. The performance of the India foods business over the past year suggests that Tata Consumer might just be able to deliver on its promise.