Key takeaways from the Banking and FMCG sectors for Q1FY23

Banking- Buoyant credit growth, stable asset quality kept earnings trajectory on a strong footing 

- The banking sector witnessed a continued revival in earnings in Q1FY23. While credit growth continued to remain buoyant and asset quality remained steady, rising yields on treasury impacted operating profit, though lower provision led to jump in bottom-line. Lag in passing rate hike led to steady margin vs our expectation of a sequential increase 

- Asset quality trend continued to improve led by healthy recoveries and steady incremental slippages. GNPA ratio for banks in our coverage declined in the range of 6-35 bps with average drop (all banks) at ~10 bps. Even on an absolute basis, GNPA declined ~1% QoQ, 12.1% YoY for banking sector. Restructured book also declined by an average of 20 bps QoQ, thus indicating overall reduction in stress 

- In the PSU space, SBI reported 8 bpsQoQ decline in GNPA and 7 bps decline in restructured book. Bank of Baroda continued to maintain its healthy run on the asset quality front as GNPA was down 35 bps while restructuring also declined ~7 bps QoQ. We believe asset quality trend should continue to improve as well and management commentaries have also indicated incremental stress will be lower 

- The business momentum was healthy in Q1FY23, attributable to robust demand in retail and MSME segment. Lower base of previous year (last year business activities was impacted by pandemic) also enabled higher growth trajectory. Loan growth for the quarter came in at 15.4% YoY and 2.2% QoQ at | 114.9 lakh crore. Among peers, private banks continued outperformance with 18% YoY growth, PSU banks also put up a good show.  

- Sectoral data shows that retail segment was up 18.1% YoY and agri credit jumped 13% YoY. Large corporate credit, which had been a drag on overall banking credit growth has started to enter the positive territory and now was up 3.3% YoY. Management commentaries and data has indicated that improving capex, WC limits have seen better utilisation, thus aiding credit-offtake in this segment 

- NII grew at a healthy pace of  13.5% YoY and 2.5% QoQ, mainly due to healthy loan growth. Lag in transmission of rate hike led steady to marginal dip in margins against our expectation of a sequential rise in NIMs. Kotak, Axis & Federal Bank saw NIM expansion while other banks in our coverage universe witnessed a decline in NIMs. Other income was down 24.3% YoY led by treasury loss attributable to hardening yields. However, core fee based income has shown healthy growth 

- Cost/Income ratio inched up by 177 bps QoQ from 49.0% to 50.8%, mainly on account of increased business activities, higher tech, marketing and employee cost coupled with lower topline owing to treasury loss 

- Credit cost (provisions) for the quarter declined both QoQ and YoY due to better asset quality performance and lower slippages. Thus, growth trajectory in earnings remain abated. However, earnings growth pace moderated sequentially due to weaker topline. Net profit grew 32.4% YoY but de grew 10% QoQ at | 41242 crore 

- Overall, Q1FY23 witnessed healthy business momentum continuing from last quarter (despite Q1 is seasonally weak for banks) and also improvement in asset quality. Kotak Bank outperformed its comparable peers on growth front (with 28.8% YoY) while other banks in our coverage universe posted healthy loan growth trajectory (average 20% YoY) 

- Momentum in credit growth and operational performance is expected to continue ahead. In FY23E, credit growth is likely to witness expansion. Firing up unsecured book to aid in initial quarters of FY23E; recovery in corporate credit offtake to revive credit growth from H2FY23. Gradual transmission of rate hike to offset rising competitive intensity on deposits. Deposit mobilisation and thus trend in CD ratio to be watched 

FMCG- Volume uptick & margin recovery expected from H2FY23 onwards 

- FMCG companies witnessed robust sales growth in Q1FY23 led by splendid growth in ITC and Varun Beverages (VBL). Cigarettes and carbonated drinks categories not only saw full recovery but also surpassed its pre-Covid volumes significantly. Our coverage universe revenue grew 27.9% led by 10-15% price hikes by most FMCG companies and strong volume growth by ITC and VBL. HUL and Nestlé saw 6-7% volume growth, mainly on account of low base quarter last year impacted by second Covid wave. However, on a three year CAGR basis, HUL’s volumes were flat while Nestlé volumes were growing at mid-single digits. Similarly, Zydus Wellness also reported 10% volume growth on a low base and three-year volume CAGR was merely 3% 

- On the one hand, discretionary and out of home categories fully recovered & saw strong growth, essential & immunity boosting health care products de-grew from a high base. With benign copra & tea prices, Marico & TCPL have taken price cuts in coconut hair oil & tea brands, respectively. However, most other commodities remain at elevated levels leading to aggressive price hikes. Dabur witnessed 5% volume growth despite high base of health supplement. The company witnessed robust growth in the beverage category. Colgate continued to witness dismal sales growth on the back of volume de-growth. Oral care category stagnated over the last five year while the consumer trend is gradually shifting towards naturals & herbal products (30% of category sales). We believe strong growth in beverage category (VBL & Dabur) has been driven by extreme summer, low base quarter sales & foray in larger addressable categories (energy & milk beverages by VBL, Fruit drinks by Dabur). ITC specifically witnessed strong growth across segments (paperboard, agri, hotels) on low base, strong agri exports & higher paperboard prices 

- FMCG companies are increasing their addressable market by foraying into categories with a large opportunity and presence of local or regional players. Some such examples are (1) pulses, spices, dry fruits, nutrition based products by TCPL, (2) Fruit drinks, dry fruits, edible oil by Dabur, (3) energy & milk based beverages by VBL, (4) oats, honey, healthy noodles, soya chunks by Marico, (4) chocolate, milk products by ITC. Moreover, the industry continues to focus on expansion of direct distribution network & ecommerce channel 

- Commodity inflation remain at an elevated level for most of Q1FY23. Crude, caustic soda, edible oils, fuel prices were up 40-50% YoY during the quarter. Similarly, milk, wheat & other agri commodities have seen inflation specifically after the Russia-Ukraine war. However, copra & tea prices were benign during the quarter after 15-20% fall in last one year. Our coverage universe gross margins were down 146 bps. HUL, Nestlé, Colgate & Varun Beverages saw 300 bps contraction whereas Dabur, ITC & Zydus witnessed 100-200 bps contraction. Due to favourable tea & copra prices, Marico & TCPL saw 400 bps & 190 gross margin expansion, respectively. Most companies cut their advertisement spends to safeguard operating margins. Our coverage universe saw small 17 bps operating margin dip & 25.6% growth in net profit 

- In the last few quarters, volume growth was adversely impacted due to slower demand conditions specifically in rural regions considering consumer started shifting towards economy brands & lower SKUs. Grammage reduction in smaller packs also impacted volume growth. Given inflation in palm oil & crude started cooling off in last two months, FMCG companies would be able to re-store grammges and prices. We believe volume growth as well as gross margins would recover from Q3 onwards. Moreover, companies foraying into large opportunity size categories would be able to grow at a sustainable pace in the long run 

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