United Spirits: Spirited performance

United Spirits has set its sights firmly on portfolio premiumization as it moves away from volume/economy brands that have hampered margins and suppressed return ratios in the past 1-2 years. We believe the shift in focus combined with the Diageo deal proceeds would improve margins and reduce leverage, hitherto a major concern. Diageo is likely to bring its best practices in working capital management; we estimate even a 10% reduction in debtor days can free up an equivalent of ~4.6% of debt capital, signifying the potential for savings over next few years. We expect Prestige and above category brands to post 16% cagr over FY13-15, much faster than the overall volume growth and raise their share from 22% in FY12 to ~33% by March 2015. We have factored in ~Rs2.1bn in post tax interest savings in FY14 and expect ~61% earnings cagr over FY13-15. Revise our EPS estimates but retain BUY with 9-12 month target of Rs 2,150.

Premium brands to post ~16% cagr over next 2 years

United Spirits (UNSP) has improved its market share in the Prestige and above category in the current fiscal as 9m FY13 volumes increased 18% yoy compared to 12% industry growth. Although company expects Prestige brands to post ~22% cagr over next 2-3 years, we have conservatively built in a ~16% compounded growth over FY13-15.  

Diageo deal, portfolio shift to improve key metrics; retain BUY

In the medium term, UNSP is likely to reap gains from its premiumization strategy as revenue mix shifts towards higher priced brands. In addition, deal with Diageo would help lower net leverage to 0.5x and provide an incremental 30% upside to FY14 EPS based on post tax interest cost savings. We expect EBIDTA to outpace revenue cagr of ~8% over next 2 years supported by margin expansion. Revise our EPS estimates but retain BUY for a 9-12 mth target of Rs2,150 (earlier Rs1,815).