The Hindu Business Line : Consumer goods sector wary of VAT regime

THE fast moving consumer goods (FMCG) sector may be snapping out of its slump but leading players are cautious about rising input costs and the impact of value added tax (VAT) if it is implemented.

"Down-trading appears to have bottomed out and we would see normal growth in various categories. However, we will have to wait and see how VAT comes into effect," said Mr Hoshedar Press, Executive Director, Godrej Consumer Products Ltd.

Leading FMCG companies believe that VAT would eliminate the cascading tax impact and bring tax evaders within its net.

The FMCG market has been flooded by small and regional products, imported goods and counterfeits. While organised players fall into the tax net, a large number of unorganised manufacturers who have been avoiding tax would come within the VAT net, thereby making them cost-inefficient. "Unorganised players will be forced to shut shop. At present, their costs are minimal as they do not pay taxes," said Mr Mohan Goenka, Director, Emami Ltd.

There was also another angle. At present, more than 80 per cent of goods in the country are subject to first point tax, typically borne by manufacturers. "We are getting into a situation where trade margins are bigger than those in manufacturing. Now that vicious cycle has a chance to become a virtuous cycle," said a senior official of one FMCG company.

Most players agree that there will be hitches at the time of transition to VAT regime. "We are working with the Centre and at the State Government-level to design an education programme for the retail trade on VAT. We believe that 96 per cent of retailers will not be impacted by VAT," Mr M.S. Banga, Chairman, HLL, said at the time of announcing its full year results.

The FMCG sector is also battling price increases in most of its inputs resulting in an erosion of margins. Prices of linear alkyl benzene (LAB), the primary input in detergents, have risen by over Rs 10,000 per tonne over the last three months. LAB's price gain is directly related to the uptrend in crude oil price. "With demand for LAB going up its prices are seen firm, though there is a hope that they should start bottoming out," said Mr Nadir Godrej, Managing Director, Godrej Industries Ltd. He said prices of fatty alcohol are also expected to remain firm for the next two years.

According to Mr M.K. Sharma, Vice-Chairman, Hindustan Lever Ltd (HLL), the biggest change VAT would bring about is harnessing the domestic market's potential for economies of scale. This would help companies leverage their supply chains. "VAT is one of the most progressive tax reforms. If implemented it will be a win-win situation for consumers, companies, trade and the Government," he said.

Mr Press believes that VAT could negate some of the input cost rises, especially if the weighted average of tax on a company's portfolio is lower than the current levels. "Companies may want to hold back some of that gains and plough them into advertising spend or may pass it to consumers. Either way, it is beneficial," he said. However, the implementation of VAT at this point remains uncertain, as some of the State Governments are not keen on seeing it through on fears of a drop in revenues.

Meanwhile, the FMCG sector is seeing growth in some of the conventional categories, which had suffered a slowdown. For companies such as Marico Industries Ltd, Godrej Consumer Products Ltd, Emami and Dabur a presence in high-margin products has helped sustain growth.

HLL, which reported a 32-per cent fall in its full-year net profits and a two per cent decline in its turnover, believes that some of its initiatives such as supply chain restructuring for its foods division and increased advertising and promotional spend (which drove down its profitability for 2004) will help it grow in the coming quarters.

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