Consumption Demand Rises Modestly in Q3, but Outlook Stays Cautious: Morgan Stanley

The consumer staples sector witnessed a sequential improvement in demand trends during the December quarter. However, demand remained subdued compared to expectations, reflecting the ongoing challenges in the market. International brokerage Morgan Stanley predicts that demand will remain moderate in the near term, as macroeconomic factors continue to weigh on consumer sentiment.

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Company-Specific Performance

Despite the overall cautious environment, Marico and Varun Beverages remain optimistic about achieving double-digit growth, driven by strong brand positioning and strategic initiatives. On the other hand, most other consumer goods companies have maintained a conservative growth outlook. While margins remained within their guided range, profitability was impacted by rising costs. Companies continue to focus on cost optimization strategies to mitigate the effects of input cost inflation.

Impact of Input Cost Inflation

High input cost inflation was a key factor affecting profitability this quarter, forcing companies to implement price hikes across product categories. Price increases ranged between 2% and 10%, aimed at offsetting higher raw material and operational costs. Despite these price adjustments, volume growth remained weak due to muted consumer demand.

Urban vs. Rural Demand Trends

Rural consumption continued to outperform urban consumption for the fourth consecutive quarter, reflecting a gradual recovery in rural demand. However, the urban slowdown offset the gains in rural areas, leading to overall sluggish growth. Analysts noted that urban consumers remained cautious with discretionary spending, limiting the sector’s overall expansion.

For the broader consumption basket, demand during Q3 was primarily driven by the festive season, similar to the trends observed in the September quarter. Morgan Stanley highlighted that tier-2 and tier-3 cities demonstrated stronger consumption trends compared to tier-1 metro cities, suggesting that smaller urban centers are driving growth.

Retailers’ Strategy and Store Expansion

To navigate the challenging demand environment, companies are shifting their focus toward upgrading and consolidating smaller stores. Retailers are prioritizing store expansions in metro and tier-2 markets while also refining their supply chain strategies to optimize efficiency. Despite the slowdown, expansion plans remain largely intact, with companies aiming to strengthen their presence in high-growth regions.

Stock Market Performance and Outlook

The BSE FMCG index has declined by 17% over the past six months, reflecting the impact of slowing sales volumes, margin pressures, and earnings stagnation. Market sentiment remains cautious as investors await signs of a stronger recovery in consumer demand.

During earnings calls, management teams from major FMCG companies have maintained a cautious stance, acknowledging the persistent challenges in both urban and rural markets. While rural demand is expected to continue improving, a significant revival in urban demand is crucial for FMCG companies to achieve higher sales growth. Without stronger urban consumption, the sector may struggle to regain momentum in the coming quarters.

Moving forward, the focus will be on how companies adapt to changing market dynamics, manage input cost pressures, and drive innovation to attract consumers. The industry’s ability to navigate inflationary pressures and shifting consumer preferences will play a critical role in shaping future growth trajectories.