Detailed rationale

CRISIL Ratings has upgraded its rating on the long-term bank facilities of SLMG Beverages Private Limited (SLMG) to ‘CRISIL BBB+/Stable’ from ‘CRISIL BBB-/Stable’.

 

The upgrade reflects the strengthened business risk profile after integration of territories from Hindustan Coca-Cola Beverages Pvt Ltd (HCCB) in Uttar Pradesh (UP). These territories were acquired in fiscal 2020. As per revised arrangement with HCCB, sales of all other bottlers of HCCB for UP (like Amrit Bottlers Private Ltd, Brindavan Agro Pvt Ltd, Brindavan Bottlers Pvt Ltd and Brindavan Beverages Pvt Ltd) to be routed through SLMG shall have distribution rights solely for the entire UP and part of Uttarakhand. The integration of territories and revised arrangement of sales led to significant increase in revenue to Rs 1,576 crore in fiscal 2021 from Rs 532 crore in the previous fiscal, despite the impact of Covid-19 on volumes, especially during the peak season.

 

Operating margin is estimated to have improved in fiscal 2021 to 7.6% from 5.4% previous fiscal. Despite the second wave impacting volumes during April-May 2021, overall volumes are expected to be higher than the previous fiscal, while still being marginally lower than the pre-pandemic level. Therefore, revenue is expected to increase further in fiscal 2022. Operating profitability is also expected to improve by 150-250 basis points on the back of better absorption of fixed costs.

 

CRISIL Ratings takes cognizance of moderately leveraged capital structure, as reflected in adjusted debt to adjusted networth ratio of 3.04 times as on March 31, 2021, because of sizeable debt contracted for acquisition of territory from HCCB. However, with expectation of improvement in profitability and better accretion to reserves, capital structure is expected to moderate to less than 2 times over medium term. 

 

The rating continues to reflect the extensive experience of SLMG's promoters in the non-alcoholic beverages industry, support from group companies, benefits from the acquisition of additional territories in UP and improved market position post acquisition, aided by franchisee agreement with The Coca-Cola Company (Coca-Cola; rated ‘A+/Negative/A-1’ by S&P Global Ratings). These strengths are partially offset by leveraged capital structure, change in consumer preferences, and susceptibility to adverse regulatory changes.

Analytical Approach

Unsecured loan of Rs 351 crore as on March 31, 2021, from the promoters and related parties has been treated as 75% equity and 25% debt as it is subordinate to bank debt and likely to remain in the business for the entire tenure of debt.

Key rating drivers & detailed description

Strengths:

Extensive experience of the promoters in the non-alcoholic beverages industry and support from group companies:

The promoters' extensive experience of around three decades, strong understanding of market dynamics, and healthy relationships with Coca-Cola support the business. Continuous operational and financial support from group companies, Amrit Bottlers Pvt Ltd ('CRISIL A-/Stable/CRISIL A2+'), Brindavan Bottlers Pvt Ltd ('CRISIL BBB+/Stable), Brindavan Agro Industries Pvt Ltd ('CRISIL A-/Stable/CRISIL A2+'), and Brindavan Beverages Pvt Ltd also benefit credit risk profile.

 

Significantly improved market position post-acquisition, aided by franchisee agreement with Coca-Cola

After integration of acquired territories and revised arrangement of distribution rights, the company now caters to the entire UP region (excluding part falling in the National Capital Region), where SLMG is the sole distributor for carbonated soft drinks (CSD), juices and packaged drinking water for Coca-Cola. This makes SLMG one of the largest bottlers for Coca-Cola in India, in terms of volume (combining CSD and packaged water). There is sufficient scope to penetrate further in the acquired territories and volumes for fiscal 2022 are expected to be marginally lower than pre-pandemic levels. This gives the company a headroom to grow and strengthen market position further. Demand for beverages has been healthy in the first quarter of fiscal 2022 compared to the first-half of the previous fiscal. Therefore, market position should sustain over the medium term.

 

Modest operating efficiency

Operating margin remains low compared to other bottlers due to blended effect. As the routing of sales of group companies through SLMG happens on cost plus fixed margin basis, margin from this segment (referred as trading) remains low at less than 2%. However, the margin from manufacturing operations is comparable to other bottlers or group companies.

 

Operating margin is estimated to improve to 7.65% in fiscal 2021 from 5.4% in fiscal 2020, and is expected to increase further to over 9% over the medium term on the back of better absorption of overhead costs. Moreover, support from Coca-Cola is expected to continue to its bottlers amid Covid-19 (higher proportion of reimbursement of promotion expenses and discount on concentrate pricing, which is a key input cost).

 

Weaknesses:

Moderately leveraged capital structure:

SLMG has a weak capital structure despite considering goodwill as a tangible asset. High leverage is on account of the debt-funded acquisition in fiscal 2020, full benefits of which are yet to take place. However, leverage moderated to 3.8 times as on March 31, 2021, from 4.66 times as on March 31, 2020, on the back of benefits arising from integration of acquired territories and ramp-up in operations from manufacturing plant.

 

Capital structure is expected to improve further with total outside liabilities to tangible networth ratio expected to moderate to 2.5 times over the medium term backed by increase in cash accrual and accretion to reserves, which will help improve networth. Better cash accrual should also reduce reliance on external debt to fund capital expenditure and working capital requirement over the medium term.

 

Limited growth opportunities due to geographical concentration in revenue and change in consumer preferences:

While there is scope for further penetration in the acquired territories, the exclusive franchise agreement restricts SLMG’s sales and growth potential to the defined territories. Furthermore, with consumers increasingly turning health conscious, CSDs are losing market share to non-carbonated drinks. The company also faces stiff competition from PepsiCo India and other beverage manufacturers in the CSD segment. Incremental sales growth will, therefore, depend on the success of non-carbonated products.

 

Susceptibility to adverse regulatory changes:

SLMG is vulnerable to any unfavourable government regulations over the contents of aerated drinks, and rising environmental concerns in the country regarding water depletion and discharge of effluents by bottling plants. Furthermore, evolving concerns related to disposal of plastic may impact the beverages industry.

Liquidity: Adequate

While net cash accrual (estimated at Rs 40.5 crore in fiscal 2021) was insufficient to meet debt obligation of Rs 50.5 crore in fiscal 2021, unsecured loans from the promoters aided the shortfall. Accrual is expected at Rs 105-130 crore against debt obligation of Rs 53-60 crore per annum, over the medium term. Utilisation of working capital limit of Rs 94 crore averaged 69% for the 15 months through June 2021. Liquidity is also supported by unsecured loan of above Rs 350 crore (as on March 31, 2021) from the promoters and group companies. The group companies have also provided letter of comfort/corporate guarantee for debt contracted by SLMG.

Outlook: Stable

Business risk profile will continue to benefit from improved market position resulting from acquired territories and higher profitability driven by synergies post acquisition.

Rating Sensitivity Factors

Upward factors:

• Improvement in financial risk profile with moderation in capital structure and gearing below 2 times
• Sustained increase in scale of operations along with improvement in operating profitability to over 9%, leading to higher-than-expected net cash accrual

 

Downward factors:

• Sharp decline in revenue or fall in operating profitability by more than 150 basis points, leading to lower-than-expected cash accrual and narrowing gap between accrual and debt obligation
• Further weakening of financial risk profile, especially capital structure

About the company

SLMG was incorporated in April 2017 and commenced operations in May 2019. It is promoted by Mr Prakash Ladhani, Mr Paritosh Ladhani, Mr Rakesh Ladhani and Mr Vivek Ladhani. The company recently completed setting up a CSD and juice manufacturing plant in Barabanki district, UP. It will be marketing its products under the Coca-Cola brand.