MANAGEMNET DISCUSSION AND ANALYSIS

Industry Overview

Macroeconomic Overview and the India Consumption Story

The global economic recovery remained slow and fragile during CY2015. According to the International Monetary Fund's (IMF's) April 2016 World Economic Outlook, global output grew at 3.1% in CY2015. The global economic growth during the year was impacted by increasing financial turbulence, softening of industrial activities in the advanced economies and ongoing brssures in the major emerging economies. Unfavourable demographic trends, low productivity growth and legacies from the global financial crisis continued to impact the pickup in activity for the advanced economies. As a result, the advanced economies recorded a modest growth of 1.9% in CY2015. The Euro Area registered a growth of 1.6% during the calendar year. The risk of a de-anchoring of inflation expectations coupled with huge debt overhangs in several countries in the region remains a concern. China, the largest economy in the world on purchasing power parity basis, is currently transitioning towards a more sustainable growth based on consumption and services. In CY2015, the Chinese economy recorded a growth of 6.9% compared to 7.3% in the brceding year. The emerging market and developing economies slowed down further from 4.6% in CY2014 to 4.0%  in CY2015.

Overall, the global output is anticipated to grow by 3.2% in CY2016 and further improve to 3.5% in CY2017. The economic recovery is projected to strengthen in CY2017 and beyond, driven primarily by emerging market and developing economies, as conditions gradually start to normalize.

Indian economy continued to build on the initial momentum generated during the last fiscal year. Improvement in domestic consumption driven by better consumer sentiment and easing of inflation benefited the economy. As per Fitch Ratings, India's GDP is expected to grow at 7.5% in FY2016 and accelerate to 7.7% the next fiscal. Going ahead,  the domestic demand is also expected to accelerate upon execution of the 7th Pay Commission and One Rank One Pension (OROP) recommendations.

The FMCG sector is one of the key components of domestic consumption in India. For the last decade, the Indian FMCG sector has been growing at a compounded annual growth rate (CAGR) of 11.9%. It is expected to grow further at a CAGR of 20.6% to touch US$ 103.7 billion during 2016-2020.

The improvement in the overall macro-economic scenario coupled with India's favourable demographic profile supports the attractiveness of the long term consumer growth story. In addition, various initiatives undertaken by the government such as 'Jan Dhan Yojana' and the direct transfer of subsidies are expected to provide impetus to the growth. Easing of inflation is also anticipated to have a positive effect on the purchasing power and support the consumer growth story.

The Indian Spirits Industry

The Indian spirits industry has slowed down in recent years from double digits to low single digit growth in volumes. However, the high-value brmium segment has not been impacted by this slowdown. As such, the slowdown has been felt entirely in the regular segment, where profitability is significantly lower. The operating environment has not been supportive to the industry performance. Increase in excise duties and input costs without corresponding price increases have been some of the key issues faced by the industry. Furthermore, a ban in the states of Kerala and most recently Bihar have had a negative impact on the industry volumes, particularly in the regular category.

Most of the leading IMFL companies are now driving brmium category sale volumes. With respect to the regular category, companies aim to grow these brands only where it is profitable to do so. Certain manufacturers have even resorted to franchise model whereby manufacturing and distribution is outsourced to a franchisee that has a lower cost structure.

As per Euromonitor International, IMFL volume declined by 1.7% during CY2015 to 285 million cases2. Despite this subdued volume, sales value increased marginally by 0.7% compared to CY2015. This clearly reflects the changing industry trends towards brmium segment volume growth.

In the short term, the spirits industry has faced a lot of challenges. Growing disposable incomes, rapid urbanization  of rural population, greater acceptance of social drinking, higher proportion of young population entering the drinking age as well as commitments to the World Trade Organization to reduce quantitative restrictions on alcohol imports, had the cumulative effect of global IMFL majors identifying India as one of their top markets. The entry of multinationals into the Indian spirits market provided additional impetus to the industry transition towards brmium and newer products.

During CY2015, whisky volumes decreased by 0.6%, whereas value growth was at 1.5% compared to the same period last year. Brandy, White Spirits and Rum, all registered volume declines compared to the last year.

Brown spirits which includes whisky, brandy and rum continues to be the largest segment comprising 96.4% of market share by volume in CY2015. The remaining 3.6% includes white spirits such as vodka and gin. In terms of geographic split, South India forms 46% of the IMFL volume sales followed by 21% share each from North India and West India.

Within the White Spirits category, vodka continued to demonstrate growth with sales for the year at 70 million litres. Over the past five years, the overall vodka category has registered a compounded growth of 5.3% whereas in comparison brmium vodka volume has grown at 9.7%. During the same period, flavoured vodka demonstrated a strong growth rate of 12.1%. Vodka is positioned as a drink for women and the younger generation, which has led to the strong volume growth. During CY2015, brmium and super brmium category vodka accounted for about 52.7% of the total vodka volumes compared with around 42.8% five years ago. This trend is expected to continue and the share of brmium category vodka is anticipated to increase further.

Despite a sharp decline in the prices of crude oil and other commodities, there has been no fall in ethanol prices as the government has supported these prices through increased blending norms into petrol, which has increased demand. With weak monsoons in the past two years, even the production of cane has been impacted, causing supply-side issues as well. However, during FY2015, the key input prices, i.e. Extra Neutral Alcohol (ENA) and glass bottle, which have been increasing started to stabilize. This was a welcome relief in an otherwise difficult environment. Industry margins are expected to improve with the expected price increases that the state governments may allow from time to time

India is in the process of revamping its indirect tax structure through the proposed implementation of the Goods and Service Tax (GST). Though GST is expected to be a major positive to the economy and to most of industries, spirits industry is expected to be adversely impacted by it as alcoholic beverages is kept out of its purview. Once GST is implemented, the alcoholic beverages will have a different taxation system whereas the input raw materials such as ENA and glass bottle will follow GST and hence there will be complexities in claiming credit of the tax paid on raw materials. This may adversely affect the cost of production and margins for the manufacturers.

The Indian Spirits Industry Outlook

After a de-growth in 2015, IMFL volumes are expected to rebound and register a growth of 4.7% in 2016. IMFL consumption in India is expected to reach 3,141 million litres or 349 million cases by CY2020 rebrsenting a 2016-20 CAGR of 4.0%. During the same period, IMFL consumption value is expected to grow at 5.8%. To drive brmiumization further, companies will need to invest in brand rejuvenation and upgrading the existing regular category brands with brmium variants. Industry players will also need to focus on further enhancing the sales & distribution platform to provide optimum outreach to their products.

The recent ban on spirits in the states of Kerala and Bihar indicates that 'prohibition' may find its way back in the political manifesto. However, it has been seen that historically prohibition on spirits has not been sustainable as, in addition to loss of state revenue, it leads to increase in illicit alcohol demand which poses a bigger threat. Reversal of recent ban is possible in few years but in the interim it may have an adverse impact on the industry volumes particularly on the regular segment.

Performance Overview

Net Sales (including CBU sales) decreased by 3.1% to Rs. 1,789 Crore which is a clear reflection of the current industry trends. Total IMFL volume declined by 6.6% primarily due to reduced focus on the low margin category brands in Tamil Nadu. However, the Prestige & Above brands volume continued its robust performance and increased by 8.9%. As a percentage of total IMFL volumes, these brands now contribute 24.2% compared to 20.7% last fiscal year

Operational EBITDA increased by 14.2% and margins improved by 165 basis points to 10.9% compared to the brvious year. Margin for the year benefitted due to better product mix and ongoing cost optimization efforts. Overall, raw material prices, in particular ENA and glass bottle, have remained stable during FY2016 and are expected to remain at these levels in the near term.

During FY2016, the Company's joint venture (JV) in Maharashtra, Radico NV Distilleries Maharashtra Ltd. paid dividend on its cumulative brference shares. Radico Khaitan received a dividend of Rs. 6 Crore from its brference shares in the JV which has been included under Other Income. Radico Khaitan holds a 36% strategic stake in this JV which became debt free in FY2016.

Net Income increased by 13.7% over FY2015. This growth is despite an increase in effective tax rate (ETR) from 22.4%  in FY2015 to 28.6% in FY2016. Interest Expenses declined from Rs. 89.9 Crore in FY2015 to 84.7 Crore FY2016 as a  result of ongoing long term debt reduction.

Margin  Liquidity

As of March 31, 2016, Total Debt was Rs. 851.4 Crore, Cash & Cash Equivalents were Rs. 10.6 Crore resulting in Net

Debt of Rs. 840.9 Crore (vs. Rs. 838.9 Crore as of March 31, 2015). Total Debt consists of Rs. 509.9 Crore of Working Capital loans and Rs. 341.5 Crore of Long Term loans, including Long Term loans maturing within 12 months of the balance sheet date. Total Debt includes a sum of Rs. 15.5 Crore being the notional impact of the debrciation of the rupee on foreign currency loans (ECB). During FY2016, the Company reduced the Long Term ECBs from $53.2 million to $41.4 million.

Credit Rating

Radico Khaitan's long term and short term credit facilities are rated by CARE Ratings. Radico Khaitan's long term credit facilities are rated CARE A+ (Single A Plus) and short term credit facilities are rated CARE A1+ (A One Plus).

CARE A+ rated instruments are considered to have adequate degree of safety regarding timely servicing of financial obligations. Such instruments carry low credit risk. CARE A1+ rated instruments are considered to have very strong degree of safety regarding timely payment of financial obligations. Such instruments carry the lowest credit risk.

As per CARE, the ratings continue to derive strength from Radico Khaitan's strong nationwide brsence in the IMFL segment, established brands along with consistent growth in scale of operations, comfortable financial risk profile and adequate liquidity position in the form of unencumbered liquid reserves and unutilized working capital lines available with the Company.

Segment Wise or Product Wise Performance

The Company has only one major operational business segment viz. liquor and related products, which accounts for more than 90% of the total turnover of the Company.

Review of Operations

Capitalising on the opportunities that arise out of the structural changes in the spirits industry in India and the success of Radico Khaitan's Magic Moments Premium Vodka product line, the Company launched Electra, a ready-to-drink (RTD) product during the year. Results of the Company's efforts are evident from its increased contribution of the Prestige & Above brands. During the year, Prestige & Above brands accounted for 24.2% of the total IMFL sales compared to 20.7% in the same period last year with a growth of 8.9% over FY2015.

Business Strategy

Over the years, Radico Khaitan has evolved from being just a distiller of spirits to a leading IMFL company with highly reputable brands portfolio. Understanding of consumer brferences and product innovation remains the core of the Company's growth strategy:

R&D, Innovation and New Product Launches

At Radico Khaitan, innovation is imbibed in the very culture of the organization. This focus on innovation coupled with an integrated R&D effort has enabled the Company to adapt to the changing trends and ensure top of the mind recall by its customers. In addition, our wide array of portfolio across category offers our loyal consumers a choice for all occasions and provides us an edge over brvailing competition. Radico Khaitan is one of the largest spirits companies in India with four 'Millionaire' brands in its portfolio. The Company launched ten new brands over the past decade. Of these new brands, the Company launched six brands in past five years and all of them in the brmium category.

In May 2016, Radico Khaitan launched two new whiskies: Rampur Indian Single Malt and Regal Talons Semi Premium Whisky. While the launch of a single malt is a testament to our R&D and product development capabilities, Regal Talons is targeted at filing the gap in the Company's brmium whisky portfolio and capturing the  opportunities in the largest segment of the Indian spirits industry. Magic Moments Electra, a ready to drink (RTD) offering launched in June 2015 gained significant traction within a few months of its launch in the North and North Eastern states of India. It has received positive feedback from the consumers and trade channels. Post this encouraging feedback, the Company is in the process of launching Electra on pan India level. Radico Khaitan's Magic Moments vodka has a leading market share of the Indian vodka industry. With the pan India launch, Electra is expected to capitalise on the success of Magic Moments vodka in the coming years. Recent new launches, together with the existing strong portfolio, are expected to lead the way for profitable growth and a promising future for the Company.

Cost Optimization

ENA and packaging material form a major portion of the total cost of goods. Radico Khaitan's significant distillation capacity of 157 million litres makes the Company self-dependent for its ENA requirements to a large extent and also provides a cushion against volatility in the ENA prices. The Company has a capacity to store 3 months' equivalent of its molasses requirements. This insulates the Company against short term fluctuations in molasses prices. Radico Khaitan has also taken other steps to optimize cost structure. This includes rationalisation of the bottle supplies and diversification of its supplier base thereby limiting the net cost impact.

Exports and New International Partnerships

Over the years, the Company has made investments in brand building which has created a large consumer base outside India. Radico Khaitan has made outstanding progress in building the brand equity and consumer loyalty in the overseas markets. Today, the Company has become a truly global brand and exports its products over 50 countries worldwide. In FY2016, export volumes in the brmium category brands experienced strong growth compared with FY2015. Radico Khaitan's products have gained strong foothold across both the developed markets such as the US and Europe and developing economies in Africa and Middle East. Radico Khaitan also has collaboration with international players such as Ernest & Julio Gallo of California, one of the largest wineries in the world for distribution of their wines in India.

Supply Chain Management

Radico Khaitan has 33 bottling units spanning across the entire country, of which 5 belong to the Company and 28 are contract bottling units. These widesbrad manufacturing locations coupled with consumers sbrad across the country requires it to maintain a combrhensive supply and distribution platform. In addition to a strong sales and distribution network, the Company leverages information technology and advanced demand forecasting to ensure timely delivery of its products to the customers. The Company's products are sold through over 45,000 retail and 5,000 on-brmise outlets. Apart from wholesalers, a total of around 300 employees divided into four zones, each headed by a regional profit centre head, ensure an adequate on-the-ground sales and distribution brsence across the country. Radico Khaitan continues to strive to build flexibility across the supply chain to ensure reliable volume deliveries in a timely and cost-effective manner.

Deleveraging of Balance Sheet

Over the past couple of years, Radico Khaitan has been focused on free cash flow generation and consequent debt reduction. Over the last two years, the Company reduced its Long Term Debt significantly from Rs. 498.3 Crore at the end of FY2014 to Rs. 341.5 Crore currently. The Company has made significant investment in building capacities and capabilities and now focus is on sweating the assets. This will result in further debt reduction and enhancement in returns to shareholders.

Opportunities and Threats

Opportunities

Economic Growth: Indian economy has emerged as the only bright spot in the brvailing subdued macroeconomic scenario globally. Furthermore, India has become the fastest growing economy surpassing China. One of the prime drivers for this growth is higher domestic consumption.

Improvement in Disposable Income: Growth of the Indian economy coupled with various initiatives undertaken by the government such as 'Jan Dhan Yojana' and the direct transfer of subsidies is expected to improve the disposable income. Furthermore, execution of the 7th Pay Commission and OROP is also anticipated to result in higher disposable income in the hands of consumers.

Rural vs. Urban Consumption: Rural population holds key for driving overall consumption in India as it accountsfor nearly 70% of the total population. Improved transportation and communication network has exposed rural population with urban counterparts, which has led to craving for a better livelihood. Moreover, the increase in disposable income of rural India due to improved rural farm yields, investment in infrastructure, creation of National Agricultural Mission and direct cash transfer scheme is expected to drive consumption demand strongly. Rural liquor consumption has increased at a 5 year CAGR of 7.0% compared to 3.6% in urban region. This trend of fast growing rural consumption is expected to continue in the near term. The Company continues to invest in improving its distribution network across rural markets with an ongoing focus on the urban market.

Favourable Demographics: The demographic profile of India is skewed towards a younger population with the age group of 18-55 years constituting around 60%. Currently over 840 million Indians are of drinking age and another 65 million are expected to be added in the group by CY2019. Empirically it has been proven that whenever a nation has had a high working population, its GDP growth per capita has been positively correlated with changes in the relative size of the working-age population. This is primarily due to the greater contribution of the highly productive young work force.

Changing Consumer Preferences: Increased awareness of the younger generation due to better education and a focus on quality of lifestyle supported by improved disposable income has resulted in the gradual change in consumer brferences towards better quality products.

Increased Alcohol Accessibility and Availability: There has been an increase in the variety of alcohol and brands  with most of them easily available in government licensed outlets, government shops, private licensed retail chains, restaurants, pubs and bars. Furthermore, the social acceptability of alcohol has improved in India.

Price Increases: The Company is focusing on achieving price increases in various regional markets in which it operates. Any price increases achieved will help improve the revenues as well as profitability.

Threats

Change in Legal Drinking Age: Any government regulation aimed to increase the legal drinking age in India can have an adverse impact on the volume demand of IMFL. However, the consumption at the lower end of the legal drinking age is relatively less and may not have any significant impact on the industry volumes.

Change in Tax: Taxes on alcohol are levied only by the state governments and account for a large portion of their tax revenues. Therefore, any significant tax increase can result in higher retail prices, thus impacting overall demand of IMFL. Currently a significant portion of the retail price comprises of various taxes. Although, the implementation of GST is expected to streamline the current taxation system, it may have an adverse impact on the spirits industry.

Competition from International Players: As the per capita liquor consumption is significantly lower compared to  other countries, many international manufacturers are trying to penetrate the Indian market. Furthermore, the ongoing structural changes with the focus on brmiumization will allow them to introduce their brmium brands in India. Such developments may have potential impact on the market share of existing players. However, Radico Khaitan has strong brand loyalty among consumers and its commitment to provide them with better quality products at relatively lower price points provides the Company with a competitive edge.

Prohibition

The recent ban on spirits in the states of Kerala and Bihar indicates that 'prohibition' may find its way back in the political manifesto. Recently, Tamil Nadu has also initiated steps for reduction in the number of outlets selling liquor in the state. However, it has been seen that historically prohibition on spirits has not been sustainable as, in addition to loss of state revenue, it leads to increase in illicit alcohol demand which poses a bigger threat. Reversal of recent ban is possible in few years but in the interim it may have an adverse impact on the industry volumes particularly on the regular segment.

Risk and Concerns

Regulatory Environment

Indian alcohol industry continues to be the most regulated sectors in India. The industry is subject to different laws and regulations varying from state to state. The complexity of state regulation makes an intricate tax and licensing environment. It restricts economies of scale and diminishes the capability of new manufacturers/products to achieve national distribution and gain competitive advantage. Furthermore, a ban on direct advertising creates major barriers to promote new as well as existing brands. Any policy formulated by the central or state government in areas such as  production, distribution, marketing or taxation may have an adverse impact on the performance of the Company.

Increase in Raw Material Prices

Lower-than-anticipated sugarcane production and/or any sharp rise in prices of molasses or ENA will have an impact on the Company's profitability. ENA prices may also increase due its alternative use in ethanol blending and a more attractive price offered by the petrochemical industry. However, the Company's capability to shift to a grain based distillery insulates it against any significant increase in prices of molasses.

Regional Diversification

The Company has manufacturing and distribution brsence across the country. Its strategically located manufacturing facilities and distribution centers at various locations provide easy access to key markets. Apart from a wide sbrad brsence, strategic location also helps to avoid the high taxes levied on inter-state movement of finished and in-process liquor. Radico Khaitan's focus on expanding exports will help to further mitigate any potential geographical risk.

Foreign Exchange Rate Variations

Radico Khaitan has a portfolio of foreign currency debt for which it is subject to currency and interest rate risk. The Company has adopted risk management practices to monitor and address its foreign currency exposure. The increasing export portfolio acts as a natural hedge for the Company's foreign currency debt.

Awards and Recognitions

During the year, Radico Khaitan received numerous awards for its leading brands. These awards are a testament to the Company's adaptability to changing consumer brferences as well as the superior quality of its products. The Company received the Monde Selection 2016 Grand Gold award for Magic Moments Remix Lemongrass & Ginger, and Magic Moments Remix Peach Flavoured Vodka; 10 Gold and 4 Silver awards for other brands.

Internal Control Systems & Adequacy

Radico Khaitan has an elaborate internal control system commensurate to the size of the Company and its operations. This system continuously monitors compliance to internal processes across the operations to ensure that all assets are safeguarded and protected against loss from unauthorised use or disposition, that transactions are authorised, recorded and reported correctly and that operations are conducted in an efficient and cost effective manner.

The Internal Control system aims to make sure that the business operations function efficiently and applicable laws, rules, regulations and policies of the Company are followed. The internal audit function periodically performs audit of various processes and activities. The Audit Committee reviews the effectiveness of the Internal Control system, and also invites functional Directors and Senior Management personnel to provide periodic updates on operational effectiveness and controls. A CEO and CFO Certificate, forming part of the Corporate Governance Report, confirms the existence and effectiveness of internal controls and reiterates their responsibilities to report deficiencies to the Audit Committee and rectify the same. The Company has appointed Grant Thornton as their internal auditors, which in turn submits quarterly reports to the Audit Committee.

Information Technology (IT)

Information Technology is core to the Company's processes, improvement and transformational initiatives. Furthermore, a seamless flow of information across all operations is essential to the success of a consumer products company. Hence, Radico Khaitan continues to explore and implement new emerging technologies for furthering business objectives. IT is accordingly managed through a robust governance process that covers value delivery, cost optimisation, technology management, support and education. The Information Technology systems in the Company form the backbone for carrying out all the business processes, for communication and collaboration. It also provides information for effective decision making, monitoring and management control.

The company has fully implemented Quality Management (QM) of SAP along with most desired reports which consist of Incoming materials Quality, characters based on rejection and acceptance, Quality certificates, Setup time analyst action for bottling line and the major output of this module i.e. SIX SIGMA report directly from SAP. The company has also installed dispatches tracking through vehicle tracking system. The system helps to track the start to end vehicle movement and also confirm the completeness of the journey. System also track halting time so that it can capture the misuse of vehicle if any. The vehicle system has been integrated with ERP (SAP) system to make sure the  entire cycle to be completed so that all the processes can be sync with one system. Automation of various Tax returns which consists of CST, VAT, Stock transfer has been created, which will help organization to submit the challan online and get the authoritative information on line and time to make sure smooth operations. The system provide the complete set of requirement which not even help to reduce time but at the same time to increase the productivities.

Human Resource Management

The Radico Khaitan family comprises of over 1,500 employees. The Company fully recognizes the fact that the human resource function is the foundation for persistent change during the phase of a rapid growth and transition. Radico Khaitan strives to achieve this by continuously providing opportunities to challenge, enrich, and fulfil the aspirations of the employees so that they can maximise their true potential. The Company regularly conducts training, talent management and performance enhancement programmes.

Within its purview, Radico Khaitan's human resource function includes the attraction and retention of talent, skills development, reward and recognition, performance management and employee engagement is realized through a number of key initiatives, systems and processes. This approach to human resource management has resulted in extremely low attrition and reflects the constructive relationship between the Company and its employees. There are no financial or commercial transactions that have resulted in a potential conflict of interest between Senior Management and the Company. During the fiscal year there has been no loss of production at any of the Company's manufacturing facilities due to industrial unrest.

Cautionary Statement

Statements in this Management Discussion and Analysis contains "forward looking statements" including, but without limitation, statements relating to the implementation of strategic initiatives, and other statements relating to Radico Khaitan's future business developments and economic performance. While these forward looking statements indicate our assessment and future expectations concerning the development of our business, a number of risks, uncertainties and other unknown factors could cause actual developments and results to differ materially from our expectations. These factors include, but are not limited to, general market, macro-economic, governmental and regulatory trends, movements in currency exchange and interest rates, competitive brssures, technological developments, changes in the financial conditions of third parties dealing with us, legislative developments, and other key factors that could affect our business and financial performance. Radico Khaitan undertakes no obligation to publicly revise any forward looking statements to reflect future / likely events or circumstances.

For & on behalf of the Board

Sd/- Dr. Lalit Khaitan

Chairman & Managing Director

DIN - 00238222  

Place: New Delhi

Date: 25.05.2016