This is Part 1 of a series on rising input costs. Read Part 2 on rising costs for the Cement Industry, and Part 3 on rising costs for the Auto Industry.

Early 2020 saw the pandemic and a standstill in economic activity, resulting in staggered supply chains. This caused a shortage in the supply of raw materials like copra and palm oil for FMCG companies, crude oil and petroleum for construction companies, and steel and copper for automobile companies. 

As economic activity improved from Q2FY21, the supply of these inputs recovered. But the demand for their resulting products overtook the supply. As demand exceeded supply, the price of these inputs began to rise.

This led to a massive price increase in everything from copra to crude oil in Q3FY21. Many companies witnessed this input price rise as early as June 2020. However, they expected the prices would moderate in Q4FY21, as supply recovered. That did not happen in 2021. That did not happen in 2021, instead, prices rose even further.

With India entering FY22 amid a second Covid-19 wave, inputs were once again hard to source due to lockdowns. Now, with one quarter of the new financial year already over, how are companies dealing with the input costs storm? And what does this indicate for their Q1FY22?

Rising agro-inputs force FMCG companies to hike prices, abandon volume growth

An inkling of input costs-related pressures began in Q1FY21 for the FMCG industry. Godrej Consumer Products (Godrej Consumer) felt the pinch of higher palm oil prices in its margins which declined by 4.1 percentage points in Q1FY21. In August 2020, the company’s management noted in their call that cost pressures should ease off by Q2FY21. This was based on the rising level of economic activity in Q2FY21 and the lower premium on palm oil derivatives till the end of 2020. Senior management across other FMCG companies echoed this sentiment. 

Based on this optimistic outlook on the input prices front, there were no price hikes in FMCG companies in Q1FY21 or even in Q2FY22. Companies like Hindustan Unilever (HUL) and Tata Consumer Products (Tata Consumer) planned on hiking tea and coffee prices. However, they held off price hikes as coffee and tea farmers resumed production in Q2FY21

Consumer spending on FMCG products ramped up in Q3FY21 due to the festive season and pent-up demand, leading to a rise in sales volumes. In order to keep volumes going, FMCG companies limited their price hikes to a minimum. In October 2020, the largest domestic FMCG company HUL said it would focus on volume growth for the rest of FY21. To enable this, price hikes on its FMCG portfolio (barring soap) would be held off despite rising input prices. This helped HUL’s volumes recover from Q2FY21.

In Q4FY21, with input prices still elevated, FMCG companies began hiking prices in concert as they could no longer absorb the inflation in the raw materials like copra, rice bran, palm oil, high-density polyethylene, or HDPE (a chemical used to make packages for FMCG products), and crude oil. Hence, these companies passed on higher raw material prices to consumers through price hikes.

For the majority of Q4FY21, economic activity was strong, sustaining higher sales volumes. And with price hikes, albeit mild ones (3-4% increases), implemented, FMCG companies’ revenues rose. 

In Q4FY21, FMCG companies indicated that consumers absorbed these ones. In Q1FY22, input prices continued to stay elevated as demand was hit due to the second wave and resulting lockdowns. In order to pass on input costs once again, FMCG companies like HUL, Marico, Tata Consumer, and Godrej Consumer, hiked prices for the second time in four months. 

Marico hiked the price of Saffola vegetable oil by 50% between September 2020 and April 2021 (30% in H2FY21, and 20% in April 2021). Emami and Dabur raised hair oil prices by 5-7%. HUL raised the price of Lux and Lifebuoy soaps by 7%. Tata Consumer and HUL raised prices on their tea and coffee products by 10%. Even Amul, the largest milk producer in the country raised milk prices by Rs 2 per litre across India due to higher costs of edible palm oil, tea, and packaging materials.

These price hikes were the result of a continued increase in inputs like rice bran and palm oil, which are up even in July 2021. Copra and HDPE prices have dropped by 21% and 18% since April. 

With the second round of price hikes in place, what investors in the FMCG space will hope for is continued volume growth in Q1FY22 and Q2FY22. Companies have suggested that volumes continued to sustain in Q1FY22, in part because e-commerce distribution was strengthened in H2FY21, helping FMCG companies to cope with the second wave. 

Another factor is the contraction in companies’ earnings before interest taxes depreciation and amortization (EBITDA) margins. With input prices rising, FMCG companies need to take pressure off their bottom line by reducing costs. Analysts suggest FMCG companies will reduce non-operating costs (primarily marketing expenses) in H1FY22 in order to help margins recover. 

For companies relying on agricultural inputs like copra, rice bran, palm oil, coconut oil, tea, coffee, etc, the challenge will be in sustaining volumes. At the risk of maintaining higher volumes, FMCG companies delayed price hikes to 2021. The companies that hiked prices early (Marico, Tata Consumer, Nestle India) in H2FY21, saw volumes taper in the last quarter of FY21. Now, heading into FY22, as price hikes are at an industry level, the companies that delayed price hikes could see revenues declining sequentially as volumes take a beating. 

With some inputs’ prices like rice bran and palm oil still elevated, we have not seen the last of price hikes in the FMCG space.

This is part 1 of 3 in a series on rising input costs.