India is the world's second largest producer of food after China. It is the largest producer of milk, second largest producer of fruits and vegetables and the third largest fish producer in the world. Armed with a huge agriculture sector, abundant livestock and cost competitiveness, India is fast emerging as the sourcing hub of processed food. As per Indian Council of Agricultural Research, the food processing industry was valued at $121 bn in 2012 and is expected to reach $194 bn by 2015. Food processing currently enjoys a share of less than 10% of production while for the countries; the processing share is 30%-50% with developed countries having a share of almost 100% (Source: McKinsey & CII report).
The food processing industry is segmented into dairy, fruit & vegetable processing, grain processing, meat & poultry processing, fisheries and consumer foods that include packaged foods and beverages. The industry is characterized by a huge presence of small scale operations with the unorganized sector forming 70% share by volume and 50% share by value. The dairy sector, which has the highest share of processed foods, is dominated by unorganized players. A few corporate players including MNC's such as Nestle and Britannia have forayed into emerging segments such as Ultra Heat Treated (UHT) and flavoured milk. Even ITC wants to enter the dairy sector in a big way. In fruits and vegetables, juices and pulp concentrate are largely manufactured by the organized sector whereas traditional items such as pickles, sauces and squashes are manufactured by the unorganized sector.
The cigarette industry faces discriminatory taxation. This is reflected in the fact that though cigarettes account for only 15% of the total tobacco consumption (including non-smoking forms such as bidi, gutkha, khaini and zarda), it contributes over 74% to the government exchequer in the form of tax revenues. Excise duty on cigarettes accounts for more than 50% of its selling price. The cigarette industry is not only subject to frequent revision in excise duty but faces differential VAT rates in various states. A plethora of 29 different tax rates are applicable on cigarettes across states in India that has compelled manufacturers to adopt state specific pricing.
How to Research the Beverages, Food & Tobacco Sector (Key Points)
Abundant supply through a distribution network of over 8 m stores across the country. Distribution networks are being strengthened in the rural areas. Tobacco enjoys high penetration even in rural areas as bidis are manufactured by the unorganized sector.
Processed food demand is growing at a robust pace. Rising contribution of women to the working force and growing nuclear families has led to higher demand for convenience foods, especially in urban areas. Tobacco demand being habit-forming is largely inelastic.
Barriers to entry
Huge investments in establishing brand identity and setting up distribution networks. Cigarettes, in addition, suffer from punitive taxation policies of government.
Bargaining power of suppliers
Suppliers being small and fragmented have limited bargaining power. Companies like ITC source their agri-inputs internally thereby reducing their dependence on suppliers. Most tobacco companies have integrated backwards and have their own supply chains. Therefore, the bargaining power of suppliers is not high.
Bargaining power of customers
In packaged foods, the bargaining power of customers is restricted to the mass or the lower end of the price segment which is price-sensitive. As tobacco consumption is more or less a habit, the bargaining power of consumers is only to the extent of choice of the brand.
Domestic unorganized players pose competition. The recent inflationary environment has led to increased demand for private label brands that are available at a discount. In case of tobacco, branded cigarettes, bidis and contraband compete with each other.
In FY14/CY13, food and beverage companies reported a mixed financial performance. Nestle's topline growth in CY13 slipped to single-digits for the first time in eight years on sluggish volume growth. Due to sluggish coffee sales, Tata Coffee reported a 1.2% fall in sales whereas Tata Global Beverages saw its topline grow by a muted 5.3% in FY14. Britannia has posted a robust 11.8% growth in revenues. Glaxo SmithKline Consumer Healthcare (GSKCH) registered a huge 53% jump in its sales for the 15-month period as the company is changing its financial year from December to March ending. Both cigarette companies ITC and VST Industries clocked robust growths of 11% and 18%, respectively in FY14.
Easing commodity prices have enabled companies like Britannia and ITC to post incremental margins whereas GSKCH and Tata Coffee have managed to keep margins in-tact. However Nestle saw its operating margin contract by 0.7% due to higher ad-spends and other expenses. Even Tata Global Beverages reported lower operating margin due to fall in profitability of coffee segment. Barring Tata Coffee and Tata Global Beverages, all companies reported robust growth in profits. Nestle saw a subdued 4.6% profit growth due to higher interest and depreciation charges and increased provisioning.
Backed by growing population and rising affluence, India's overall food consumption is expected to increase by 4% from Rs 11 trillion in 2010 to Rs 23 trillion in 2030. The per capita consumption is expected to rise by 3% from Rs 9,355 to Rs 15,731 over the same period. The packaged food industry has been forecast to grow by a faster 9% to reach Rs 6 trillion by 2030 (Source: McKinsey & CII report). Demand drivers such as urbanization, increase in the number of nuclear families and growing number of working women, higher disposable income and the changing consumption pattern are likely to boost demand for processed foods. Widening reach of organized retail will also boost growth.
To attract investments, the government has allowed 100% FDI in the food processing industry. Additionally, an income tax deduction of 100% of profit for five years and 25% of profit for the next five years is allowed in case of new agro processing industries. Also machinery used in the installation of cold stores has been fully exempted from excise duty.
Punitive taxation on cigarettes has risen with steep hikes in excise duty for three years in a row. In the recently announced Budget for 2014-15, the the micro (< 65 mm) and regular (65-70 mm) filter segments were subject to steep increase in excise duties by 72% and 17%, respectively. The excise increases in the long (70-75 mm) and kingsize (75-85) segments were 11% and 21%, respectively. The government maintains a strong stance against cigarette smoking as proposals such as ban on sale of loose cigarettes, higher fines of Rs 20,000 on public smoking and raising the age limit on smoking from 18 to 25 years are in consideration.
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