Management Discussion and Analysis 2015-16

Overview - Year 2015-16

State of the Economy:

As per the latest Advanced Estimate (AE) of the Central Statistics Office (CSO), growth in India's GDP at factor cost at constant (2011-12) prices was estimated at 7.6 per cent in 2015-16 as compared to 7.2 per cent in 2014-15. Growth in India's GVA (Gross value added) at constant (2011-12) basic prices for the year 2015-16 was estimated to be 7.3 per cent as compared to the growth of 7.1 per cent in 2014-15. The growth in GVA was mainly contributed by, service sector and manufacturing sector. (Source: Monthly Economic Report, March 2016 published by the Ministry of Finance, Govt. of India)

The International Monetary Fund released an update to its World Economic Outlook report brdicting that India's economy will continue to improve in terms of its annual growth rate. Growth will continue to be driven by private consumption, which will be benefited from lower energy prices and higher real income. The estimates brdict that India's economy will grow by 7.5 % for the next two consecutive years. This will put India's projected growth in 2017 ahead of the estimates for many other economies, making India the fastest growing major emerging economy in the world.

The average Wholesale Price Index (WPI) Inflation rate for the last 12 months (April 15 to March 16) was (-) 2.5% (provisional) as compared to 2% during the corresponding period in 2014-15. It is for the first time since the introduction of the current series of WPI in 2004-05 that the WPI inflation was negative for the year as a whole. (Source: Monthly Economic Report, March 2016 published by the Ministry of Finance, Govt. of India)

Fast Moving Consumer Goods (FMCG) market

The overall Fast Moving Consumer Goods (FMCG) market in India is estimated to be ~ 180 Billion USD, out of which the branded market is ~ 65 Billion USD (34% of the overall market). The market has grown at 12% between 2005-2015. The sector is expected to grow at a CAGR of ~ 14% over next 10 years. (Source: Re-imagining FMCG in India, BCG CII report, December 2015)

This growth would be driven by significant demographic shifts viz. 70% increase in income levels, approximately 100 million youth entering the workforce, increasing nuclearization and approximately 35% of Indians living in urban centers.

The big expected consequence from the Union Budget 2016-17 for the FMCG sector, is the rise in demand from rural India. This is on the back of reforms that will raise the standard of living among rural citizens. Additionally, the Union Budget proposes increase in the tax rebate ceiling and deduction of additional interest for first time home buyers. All these initiatives are expected to increase disposable income which will eventually impact consumption.

Stable inflation and GDP growth rate, a disciplined Budget and stability in the face of global uncertainty augur well for the FMCG sector. On the other hand, continued investment in infrastructure and rural development will take time to show results, although it will certainly help in lifting the sentiments even in the short term. (Source- Towards an Inclusive and Empowered India- Budget 2016 Nielsen report extract)

Health & Wellness Foods:

Indian consumers consume health and wellness foods to feel confident and attractive, in addition to the basic benefits of staying disease-free. Work schedules are getting tougher for the average Indian and Indian consumers have been quick to realize that taking care of the family's health is the best way to combat stress and keep up with the pace of modern urban life. While India has been the strongest advocate of home-made and natural health fixes, the modern Indian, armed with product knowledge, is warming up to packaged health and wellness foods.

Indian consumers are increasingly becoming conscious about health and hygiene. There is also a willingness to move to evolved products and brands because of changing lifestyles and rising disposable incomes. Findings from a recent survey by Nielsen show that about 71 percent of Indians take note of the labels of packaged goods containing nutritional information compared to two years ago when only 59 percent of respondents read labels. The key to success for FMCG companies will be the strength of their "go to market strategy" and the ability to drive penetration and consumption for their respective brands.

Zydus Wellness Ltd. - a niche player in consumer health

Zydus Wellness is a niche but strong player in the health and wellness space in India. The focus for the year was to revive growth rates on the back of volume led initiatives. As the year progressed, the company has seen an improvement in the growth rates of Sugar Free and a turnaround in the EverYuth Peel Off business. Its portfolio of strong brands viz. Sugar Free, Everyuth and Nutralite have maintained leadership positions in their respective categories during the year 2015-16.

Sugar Free - India's largest selling low calorie sweetener

Sugar Free has maintained its leadership position in the sugar substitute category with market share of 93.7 %, which is an increase of 120 basis points over last year (Source: Nielsen, MAT March 2016). Both variants of Sugar Free, viz. Sugar Free Gold and Sugar Free Natura continue to lead in their respective segments.

The sugar substitute category, while being niche, had a moderate increase in growth rate in 2015-16 over the brvious year. This was primarily driven by new communication for Sugar Free Gold focusing on excess sugar consumption. Sugar Free also launched influencers program to connect with diabetics in key cities.

Another new area of focus in 2015-16 was in growing the culinary business for Sugar Free. For this Sugar Free ran an All-India "Sugar Free Dessert Challenge" with celebrity chef Sanjeev Kapoor being the final judge. The contest had very good participation by food enthusiasts.

Increasing awareness amongst health conscious individuals and diabetics offer significant potential for growth of the brand.

Everyuth - Discover Naturally Beautiful Skin!

In 2015-16, skin cleansing category was led by strong growth in Face Wash and Scrub segments.

In Peel Off segment, Everyuth had a significant turnaround in 2015-16. During the year, Peel Off segment off-take and internal growth rates have picked up significantly. The brand has restaged its Peel Off packs with new packaging and benefits. The new communication focused on special occasions has helped turnaround the performance of Everyuth and hence overall Peel Off segment. Everyuth Peel Off has maintained its number one position with a market share of 92.1 %, which is an increase of 80 basis points. (Source: Nielsen, MAT March 2016)

In the Scrub segment, Everyuth maintained its leadership position with market share of 30.7% (Source: Nielsen, MAT March 2016). Focus in 2015-16 was in establishing the new "Advanced Walnut Scrub" variant with television being the primary medium of building awareness and generating trial.

To address the challenges in the Face Wash segment, Everyuth re-launched its Face Wash range with fresh, new and contemporary looking packaging in March '16. This re-launch will be supported by communication across mediums. Focus in 2015-16 was also to further strengthen the Everyuth Tulsi- Turmeric variant in the market.

To further strengthen the credentials of Nutralite in health and food space, support across different communication mediums was provided throughout the year. This included new TV campaign to communicate functional benefits of the brand. Focus was also on metro cities, which are significant markets for the category, through outdoor and brss campaigns supported by distribution drives.

Go to Market - Capacity & Capability building

The Company saw stabilization of its revamped distribution system in the later part of the year gone by. The attrition of rebrsentatives in the field has also stabilized. The company rolled out distribution expansion program named "EnReach" during the year, which has resulted into a significant growth in the direct coverage. Through this program, channel wise thrust was provided to strengthen the brand brsence across general trade, modern trade and Hotel/Restaurants/Caterers (HORECA) segments. The company has launched program named "Passion" to enhance the capability of the field force for superior in-market execution.

Sales & Income from Operations

The gross sales revenue of the Company grew by 3.2% to Rs. 4,570 Mio. from Rs. 4,430 Mio. in 2014-15.

The income from operations of the brvious financial year ended 31st March, 2015 included Rs. 155 Mio., related to the additional excise duty credit received by Zydus Wellness - Sikkim - the partnership firm, for the years 2011-12 to 2013-14, pursuant to the order passed by the Office of the Commissioner of Customs, Central Excise and Service Tax for the fixation of special rate of excise duty. Excluding this, the total income from operations of the Company has gone up by 3.4% y-o-y to Rs. 4,295 Mio. from Rs. 4,152 Mio. in 2014-15.

Profits and margins

Excluding the impact of excise duty credit received during the brvious financial year, the EBITDA (Earnings before interest, tax, debrciation and amortization) increased by 8.0 % to Rs. 912 Mio. The EBIDTA margin as % of total operating income has increased by 90 basis points and now stands at 21.2% as compared to 20.3% (on a comparable basis) in 2014-15.

The profit before tax and exceptional items, on a like-to-like basis, increased by 10.7% y-o-y to Rs. 1152 Mio. PBT margin before exceptional items, on a like-to-like basis, as % of total operating income has also increased by 170 basis points and now stands at 26.8%.

Net profit after tax, on like-to-like basis, increased by 10.4% y-y to Rs. 1017 Mio. The net profit margin, on a like-to-like basis, as a % to total operating income, has also increased to 23.7% from 22.2% last year.

Net Worth

The net worth as at 31st March, 2016 stood at Rs. 4772 Mio., higher by 17.5 % from last year. Retained earnings of Rs. 711 Mio. (Net profit less interim dividend) contributed to this rise.

The book value per share increased to Rs. 122 as at 31st March 2016 from Rs. 104 last year. The return on adjusted net worth (RONW = Net Profit excluding exceptional items of tax / average net worth adjusted for deferred expenses and exceptional items) stood at 22.9 % for 2015-16.

Fixed Assets and Capital Expenditure

The gross block (including capital work in progress) at the end of 2015-16 was Rs. 1175 Mio. Capital expenditure during the year 2015-16 was Rs. 45 Mio.

Risk Identification, Risk Mitigation and Internal Controls

The Company's business comprises manufacturing and marketing of consumer wellness products. Its brsence in these segments exposes it to various risks which are explained below.

Risk of fluctuations in prices of key inputs

Prices of the key ingredients used in the products manufactured and marketed by the Company remain volatile due to several market factors, including changes in government policies and fluctuations in the foreign exchange rates. However, the Company keeps a close watch on the prices and enters into long term contracts, wherever feasible, to minimise the risk of fluctuations in the input prices.

Risk of competition and price brssure

Though the Company's products enjoy leading positions in their respective categories, the risk of competition from existing players as well as from new entrants remains high. However, the Company's strength in the market place, coupled with its continuous thrust on improving quality of its products and offering newer products in the wellness segment provide it an edge over competition. The Company supplies its products in both retail as well as institutional segments. Both segments have their own nuances in terms of customer expectations, competition and pricing. However, the company is well focused on increasing its share in all segments through sound marketing strategy and a balanced approach.

Risk of litigation related to quality of products, intellectual properties and other litigation

Being in the consumer healthcare and wellness segment, the Company's products and their manufacturing and supply chain processes are required to maintain high quality standards. Any deviation from brscribed regulations or any variation in quality from standards laid down by regulatory authorities can lead to actions from these authorities or litigation from its customers. The Company also faces the risk of litigation from its competitors or customers on claims it makes for values which its products offer. The Company always strives to ensure the highest standard of quality for its products and processes, and continuously works on improving quality. It also maintains a high level of accuracy in the area of product claims.

Having strong brand equity in each of the segments, the Company faces the risk of unauthorized and illegitimate use of its brand names, packaging designs and other intellectual properties related to its products by other players. The Company ensures protection of its intellectual property through appropriate registrations and other legal means.

Risk Management and Internal Control Systems

The Company has established a well-defined process of risk management, wherein the identification, analysis and assessment of the various risks, measuring of the probable impact of such risks, formulation of risk mitigation strategy and implementation of the same takes place in a structured manner. Though the various risks associated with the business cannot be eliminated completely, all efforts are made to minimize the impact of such risks on the operations of the Company. Necessary internal control systems are also put in place by the Company on various activities across the board to ensure that business operations are directed towards attaining the stated organizational objectives with optimum utilization of the resources. As mandated by the Companies Act, 2013, the Company has also implemented the Internal Financial Control (IFC) framework to ensure proper internal controls over financial reporting. Apart from these internal control procedures, a well-defined and established system of internal audit is in operation to independently review and strengthen these control measures, which is carried out by a reputed firm of Chartered Accountants. The Audit Committee of the Company regularly reviews the reports of the internal auditors and recommends actions for further improvement of the internal controls.