ITC vs Varun Beverages: Which is a better FMCG stock for long term?

The FMCG sector has witnessed substantial growth in both urban and rural markets, driven by businesses’ adept understanding of consumer preferences, significant innovations, portfolio enhancements, distribution network expansions, streamlined operations, and effective digital strategies. The index has witnesses stellar recovery post COVID and going ahead the experts see strong growth potential in this space.

Amid this backdrop, let's analyse between FMCG majors ITC and Varun Beverages, which stock has better opportunities in the long term.

Stock Price Trend

In the last one year, Varun Beverages has outperformed ITC, and both stocks outperformed the benchmark Nifty FMCG index. Shares of Varun Beverages have rallied almost 72 percent in this period while ITC has advanced 40 percent. In comparison, the Nifty FMCG index gained over 18 percent in the last 1 year.

Meanwhile, in 2023 YTD as well, both stocks have performed better than the benchmark. Varun Beverages jumped over 35 percent, giving positive returns in 6 of the 8 months so far in the current calendar year. On the other hand, ITC has risen 33 percent, giving positive returns in 7 of the 8 months. In comparison, the Nifty FMCG has added over 16 percent in 2023 YTD.

Varun Beverages hit its 52-week high of ₹934.50 in the previous session on Thursday, August 17, 2023. It has now surged 106 percent from its 52-week low of ₹454, hit on August 22, 2022.

On the other hand, currently trading at ₹450, ITC is now around 10 percent away from its 52-week high of ₹499.60, hit on July 24, 2023, whereas it has gained 46 percent from its 52-week low of ₹308.65, hit on August 29, 2022.

Meanwhile, even in the long term, 3 years, Varun Beverages has emerged as the winner even though both stocks have delivered multibagger returns. Varun has soared over 415 percent in this period while ITC has surged 122 percent.

Earnings

ITC reported a nearly 18 percent year-on-year (YoY) rise in net profit for the quarter ended June 2023 to ₹4,903 crore versus ₹4,462.25 crore in the same period the last fiscal. However, its revenue from operations declined 8.5 percent YoY to ₹15,828.20 crore in Q1FY24 as against ₹19,831.27 crore in the year-ago period.

Meanwhile, its earnings before interest, tax, depreciation and amortisation (EBITDA) rose 10 percent YoY to ₹5,083 crore in the quarter and its operating margin also expanded sharply by 541 basis points to 32.11 percent. The company said that the fall in revenue was mainly due to a drop in sales in the agriculture business on a high base effect. Revenue from agribusiness declined nearly 24 percent YoY to ₹5,705.40 crore.

“Amidst a challenging operating environment and high-base effect in some of its operating segments, the company sustained its strong growth momentum during the quarter driven by a focus on customer centricity, accelerated digital adoption, execution excellence and agility,” the company stated.

The company’s board also approved the demerger of the hotel's business and set an indicative timeline of listing the new firm in 15 months.

Varun Beverages, on the other hand, reported a 25.3 percent rise in its consolidated net profit to ₹1,005.4 crore for June FY24 versus ₹802 crore in the same quarter of the previous financial year. Its total revenue for the quarter under review also rose 13.5 percent to ₹5,699.7 crore as against ₹5,017.57 crore in the year-ago period, driven by an increase in net realisation.

The company's EBITDA also jumped almost 21 percent to ₹1,511 crore in the June quarter while EBITDA margin improved 169 basis points to 26.9 percent, driven by higher gross margins and operational efficiencies.

“We have delivered a resilient performance in the quarter, despite facing a soft demand environment in India due to abnormally high unseasonal rains throughout the quarter," chairman Ravi Jaipuria said in an investor presentation.

Which stock has better long-term investment opportunities? Here's what experts say:

T Manish, Research Analyst, SAMCO Securities, has picked ITC over Varun Beverages

Both Varun Beverages & ITC shares have been on a bull ride since February 2022. ITC’s businesses are on track as its cigarette division is growing decently due to stable taxation which helped it to launch new products and also increase in market share. FMCG business is growing better than expected due to the effective implementation of localisation strategies, increase in outlet reach, and premiumisation. Further demerger of its hotel business into separate entities would make ITC an asset-light entity and improve its financial ratios. VBL also had a meteoric rise in its share price during the same period due to its strong growth prospects and the management had also managed to achieve the same but hereafter whether such growth is achievable or not is a matter of question. With ITC’s PE 28.1 and VBL’s PE 62.1, there is a lot of headroom for ITC to grow.

Preeyam Tolia, Senior Research Analyst - FMCG, Axis Securities, likes both ITC and Varun Beverages.

We like both stocks from a long-term perspective, and one should definitely have a position in these as both companies have more significant growth levers than other FMCG peers. We believe that the ITC business continues to strengthen as all businesses are on track:

1) Growth in cigarette volume is stable due to stable taxation, market share gains and new product launches

2) FMCG business has reached the inflexion point as EBIT margins continue to increase, driven by – the ramp-up in the outlet coverage, effective implementation of localisation strategy, premiumisation, use of increased tech assets across demand and supply chain, and moderating raw material input cost

3) Demerger of the Hotel's business will strengthen ITC's balance sheet and improve return ratios

4) Stable and decent performance in paperboard and agribusiness.

In addition, the reasonable valuation provides a considerable margin of safety compared to other FMCG peers.

Moreover, in the case of Varun Beverages, we expect it will continue its market-leading performance on account of the following:

1) Normalisation of operations along with market share gains in newly-acquired territories led by market development initiatives

2) The management's continued focus on the efficient go-to-market execution in acquired and underpenetrated territories through commissioning new plants

3) Expansion in its distribution reach to 3.5 Mn outlets in CY23 from 3 Mn currently

4) Focus on expanding high-margin sting energy drink across outlets coupled with the increased focus on the expansion of Value-Added Dairy, sports drink (Gatorade), and Juice segment

5) Robust growth in the international geographies led by focused execution.

In a contrarian view, Suman Bannerjee, CIO, Hedonova, a US-based hedge fund, prefers Varun Beverages between the two

I feel Varun Beverages is the best pick for the long term. Moreover, considering its close association with global beverage giant Coca-Cola, Varun Beverages is positioned to leverage the expertise and resources of a renowned industry leader. The company is quite undervalued.

Manoj Dalmia, CEO of Proficient Equities, has also chosen Varun Beverages over ITC.

In the recent earnings, both companies displayed strong performances, marked by impressive chart breakouts. Nonetheless, the upward momentum for ITC appears to be facing profit booking after a prolonged surge, while Varun Beverages (VBL) stands out as more resilient.

Taking a long-term perspective, Varun Beverages seems to hold a more favorable position compared to ITC. ITC has exhibited consolidation tendencies following an extended upward trend, indicating the potential for an upward trajectory, boosted by heightened demand expectations during the upcoming festive months.