Detailed Rationale

CRISIL Ratings has reaffirmed its ‘CRISIL AA+/Stable’ rating on the bank loan facilities of Varun Beverages Ltd (VBL; part of the Varun Beverages group).

 

The reaffirmation factors in healthy strong revenue growth of 51% on-year in calendar year (CY) 2022, driven by strong recovery in domestic demand post pandemic and early onset of summer. This revenue growth reflects the full year benefits of previous price hikes, strategic expansion in lower penetrated territories and increasing distribution in south and west India. CRISIL Ratings expects the revenue growth to remain strong in CY2023 as well despite unfavorable weather conditions in second quarter supported by healthy demand growth in carbonated soft drink (CSD) segment and scaling up of non CSD portfolio.

 

The operating margin in CY2022 improved to 20.9% due to operating leverage and on account of focus on backward integration and cost optimisation.  CRISIL Ratings expects operating margin to remain at ~21% over the medium term as the company will benefit from moderation in raw material prices especially packaging costs with correction in Pet chips prices in this year.

 

The financial risk profile remains strong with comfortable capital structure and gearing less than 1x as on 31st Dec 2022. Debt to operating earnings before interest depreciation taxes and amortisation (EBIDTA) ratio improved to ~1.3x in CY2022 from ~1.9x in the previous year supported by higher profitability. The company has sizeable ongoing capex of ~Rs.2500 crore in CY2023. While the financial risk profile is expected to remain strong, any further debt funded capex and its impact on the financial risk profile will remain a monitorable. VBL has a strong financial flexibility supported by modest fund-based bank limit utilisation and expected healthy cash accruals  in CY2023.

 

The ratings also reflect the leadership position of the group in the franchisee operations of PepsiCo, diversity in geographical reach and robust operating efficiency. These strengths are partially offset by debt funded expansion plans and susceptibility of business to changes in regulations and customer preferences.

Analytical Approach

CRISIL Ratings has combined the business and financial risk profiles of VBL and all its subsidiaries, including Varun Beverages Lanka (Pvt) Ltd, Varun Beverages Morocco SA, Varun Beverages (Nepal) Pvt Ltd, Varun Beverages (Zambia) Ltd, Varun Beverages (Zimbabwe) (Pvt) Ltd and Lunarmech Technologies Pvt Ltd. All these entities, collectively referred to as the Varun Beverages group, have business and financial linkages.

 

Please refer Annexure - List of Entities Consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description

Strengths:

• Market leadership and geographical diversity in domestic and global markets: The Varun Beverages group is the second largest franchisee for PepsiCo outside US and the largest in India. Following the acquisition of the southern and western territories of PepsiCo in 2019, VBL has presence in 27 States and 7 Union Territories in India (except Andhra Pradesh, Jammu and Kashmir and Ladakh), accounting for more than 90% of the beverage sales of PepsiCo in India.  It also has sole franchisee operations in Nepal, Sri Lanka, Morocco, Zambia and Zimbabwe. Furthermore, VBL continues to expand internationally and has incorporated new subsidiaries in the Democratic Republic of Congo (DRC) and in South Africa in last two years. Consistent ramp-up in operations via organic and inorganic routes has helped significantly strengthen the market position and enhance geographical diversity. VBL has over 15 brands across CSD, non-carbonated beverages and packaged drinking water segment, with CSD and non-carbonated drinks contributing to ~70% and 23% of the volumes respectively in CY22. The non-carbonated drink portfolio consisting of Juice Based Drinks and ambient temperature value added dairy beverages primarily cater to North India region. VBL is also focused on expanding its Vale Added Dairy beverages and Juice Based Drinks’ manufacturing facilities across India and the same is reflected in the capacity expansion plans of the company.

 

Benefits from the dominant position of VBL in the franchisee operations of PepsiCo in India, extensive domestic distribution network and overseas geographies will continue to aid the business.

 

• Strong operating efficiency: The group continues to derive efficiency from backward integration of operations, with facilities to manufacture crown corks, PET pre-forms, corrugated boxes, shrink wrap sheets, plastic cap closures and plastic shells. Furthermore, presence in contiguous territories helps efficiently manage logistics and other operating costs and maintain economies of scale. Operating margin improved to 20.9% in 2022, supported by better operating leverage, cost optimisation measures and strong growth in realisations in a few product segments. Operating margin is expected to remain healthy at ~21.0% in the medium term with decrease in cost of raw materials such as pet chips.. Moreover, few territories remain relatively underpenetrated, and the volume and profitability margin contribution from these regions is expected to ramp up with those from  current territories over the medium term, which will remain a key monitorable.

 

• Strong financial profile: Financial risk profile continues to remain strong with improvement in debt coverage metrics. Debt to operating EBIDTA ratio reduced to ~1.3 times as on December 31, 2022, compared with ~1.9 times as on December 31, 2021 mainly due to higher profitability. CRISIL Ratings expects the debt to operating EBITDA to sustain below 1.1 times over the medium term despite the capex, supported by accretive cash flow due to better penetration in existing territories, product diversification and geographic expansion strategies deployed by the group. However, any large debt funded capex continues to remain a key monitorable.

 

Weaknesses:

• Susceptibility of business to changes in regulations and customer preferences: The domestic beverage industry remains susceptible to regulatory changes regarding the content in soft drinks and increasing environmental concerns over ground water depletion and discharge of effluents by bottling plants in India. Evolving environmental concerns like disposal of plastic bottles and of single use plastic straws in ready to drink beverages may have continuing impact on the industry. The company has expanded from CSD to non-CSD category with presence in Juice based drinks and value added dairy beverages as it plans to cater to customer preference across categories. Even catering to a wide variety of taste preferences of the consumers in new geographies may involve spending on market research, advertising and promotion efforts that may lead to variations in return expectations over medium term.  

 

• Debt funded Expansion Plans: VBL continues to incur large capex as it plans to scale up its operations and increase its penetration to drive its revenue growth. In CY2023, VBL has plans to incur capex of Rs.2500 crore focused on expansion in CSD segment as well as juice based drinks and value added dairy beverages segments. The company is expected to incur large capex going forward as well to support the strong demand as it plans to expand its footprint in both domestic as well as international markets. The company has strong track record of improving its capital structure and coverage metrics in the past. However, any large debt funded capex plans continues to be a key monitorable.

Liquidity: Strong

Cash accrual remains healthy at Rs 1957 crore for CY2022 (Rs 1169 crore in the previous year). With ramp up of capacities and scaling up of non-carbonated beverages, CRISIL ratings expects the cash accrual to remain healthy in CY2023. The repayments, however, are expected to be sizeable over Rs 1300 crore in CY2023. Furthermore, given the seasonal nature of the beverage business, the working capital requirement is moderate. Cash and bank balance was around Rs 228 crore as on December 31, 2022. Utilisation of bank lines (sanctioned limit of Rs 570 crore) averaged 36% over the 12 months through May 2023.

 

Environment, social and governance (ESG) profile

The ESG profile of VBL supports its strong credit risk profile. The fast-moving consumer goods sector has a moderate environmental and social impact, primarily driven by plastic waste generation, intensive water usage and direct impact of its products on the health and wellbeing of its customers.

 

Key ESG highlights

• VBL has implemented phase-wise recycling of used PET bottles, has recycled 80% of its used PET bottles sold over calendar year 2022 and has a target for recycling 100% of used PET bottles by 2025.
• VBL aims to reduce the Carbon Emissions per litre of beverage produced, by 50% by 2030 over base year – 2020. It has achieved 36% reduction in carbon emissions in 2022 over base year of 2020.
• VBL aims to reduce Water Usage Ratio from 1.92x in 2020 to 1.60x by 2025 (1.7x water usage ratio in 2022) and has implemented several measures toward water conservation.
• In order to sustain the water recharge of 2.0x of the total water consumption, VBL has adopted 116 ponds and check dams, rejuvenated ponds in water stressed zones and 100% of water discharged from its manufacturing facilities goes to effluent treatment plant to ensure sufficient quality of discharged water.
• VBL has implemented the prevention of sexual harassment and corporate social responsibility policies.  It has a 100% resolution rate of sexual harassment cases, which is in line with peer average.
• The company’s governance structure is characterised by 60% of its board comprising independent directors, split between the chairman and CEO positions, dedicated investor grievance redressal system and extensive disclosures.

 

There is growing importance of ESG among investors and lenders. The commitment of VBL to the ESG principle will play a key role in enhancing stakeholder confidence given shareholding by foreign portfolio investors and access to both domestic and foreign capital markets.

Outlook: Stable

CRISIL Ratings believes the VBL will sustain healthy business and financial risk profiles over the medium term, supported by strong accruals due to growth in new territories and integration benefits as well as gradual reduction in debt.

Rating Sensitivity factors

Upward factors:

• Debt to EBITDA ratio sustaining below 1 time in the absence of any large, debt-funded capex
• Significant and sustained improvement in operating performance, leading to higher-than-estimated cash accrual

 

Downward factors:

• Weakening of the financial profile on account of large, debt-funded capex or acquisition leading to debt to EBITDA ratio deteriorating above 1.5 times on a sustained basis
• Lower-than-expected operating performance leading to a significant decline in cash accruals

About the Company

VBL was established in 1995 by the promoter, Mr Ravi Kant Jaipuria, to cater to the beverage operations of PepsiCo in India. The company manufactures and distributes sweetened aerated water (soft drinks), non-sweetened aerated water (soda), packaged drinking water and juice-based drinks. It is the largest franchisee for PepsiCo in India. It has 33 manufacturing units in India. In 2019, VBL acquired franchise rights for southern and western sub-territories from PepsiCo India and third-party bottlers , and expanded its presence to 27 States and seven Union Territories.

 

Operations outside India includes franchise operations in Nepal under Varun Beverages (Nepal) Pvt Ltd; in Sri Lanka under Varun Beverages Lanka (Pvt) Ltd; in Morocco under Varun Beverages Morocco SA; in Zambia under Varun Beverages (Zambia) Ltd; and in Zimbabwe under Varun Beverages (Zimbabwe) (Pvt) Ltd. VBL has incorporated new subsidiaries in the Democratic Republic of Congo (DRC) and in South Africa in last two years however operations are yet to start in these regions.

 

For the six months ended June 30, 2023, revenue from operations was Rs 9,504 crore and profit after tax (PAT) was Rs 1444 crore, against Rs 7,782 crore and Rs 1073 crore, respectively, in the corresponding period of the previous year.

Any other information: Not applicable

Annexure - Details of Instrument(s)

ISIN	Name of the instrument	Date of Allotment	Coupon Rate (%)	Maturity Date	Issue size (Rs. Crore)	Complexity Level	Rating assigned with outlook
NA	Bank Guarantee&	NA	NA	NA	85.6	NA	CRISIL AA+/Stable
NA	Cash Credit	NA	NA	NA	60	NA	CRISIL AA+/Stable
NA	Cash Credit	NA	NA	NA	50	NA	CRISIL AA+/Stable
NA	Cash Credit	NA	NA	NA	80	NA	CRISIL AA+/Stable
NA	Cash Credit	NA	NA	NA	90	NA	CRISIL AA+/Stable
NA	Cash Credit	NA	NA	NA	100	NA	CRISIL AA+/Stable
NA	Cash Credit	NA	NA	NA	40	NA	CRISIL AA+/Stable
NA	Cash Credit	NA	NA	NA	30	NA	CRISIL AA+/Stable
NA	Overdraft Facility	NA	NA	NA	20	NA	CRISIL AA+/Stable
NA	Overdraft Facility	NA	NA	NA	50	NA	CRISIL AA+/Stable
NA	Proposed Long Term Bank Loan Facility	NA	NA	NA	5.2	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-24	24	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-26	110	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-26	200	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-27	500	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jul-25	58.33	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-24	80	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-27	210	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jul-27	165	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-25	40	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-27	143	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-27	300	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-25	100	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-25	40	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-25	75	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-24	16.67	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-27	150	NA	CRISIL AA+/Stable
NA	Term Loan	NA	NA	Jun-26	300	NA	CRISIL AA+/Stable

& - Long-term bank guarantee