Citi Initiates Coverage On Mamaearth With ‘Buy’ Rating, Sees 24% Upside

Brokerage Citi Research has initiated coverage on D2C unicorn Mamaearth’s parent entity Honasa Consumer Ltd with a ‘buy’ rating and sees outperformance in its growth led by brand positioning and market opportunity.

Citi has also set a price target (PT) of INR 550 on the stock, which implies an upside of almost 24% to its last close on the BSE.

“We expect growth outperformance led by company-specific initiatives and masstige positioning (business less impacted by demand slowdown),” said Citi analyst Vismaya Agarwal in the research note.

The analyst noted that Honasa’s strengthening market position through innovation, growth acceleration via expanding distribution reach, entry in new sub-categories, and gradual margin expansion are key long-term positives.

It is pertinent to note that Mamaearth saw a muted debut at INR 324 on the BSE in November last year. Since then, its shares have gained 37% so far and are currently trading at INR 444.

In its last reported quarter – Q3 FY24 –  Mamaearth posted a massive 264% jump in its consolidated net profit to INR 25.9 Cr from INR 7.1 Cr in the year-ago period. Its operating revenue also increased 28% year-on-year to INR 488.2 Cr during the quarter.

Though it witnessed a slight decline in PAT sequentially in Q3, Citi noted that the startup’s financial performance is improving with scale.

The brokerage estimates Honasa’s consolidated revenue to witness a 25% CAGR over FY24-FY26 period, well ahead of the growth expectations of its FMCG peers, driven by Mamaearth’s offline expansion as well as sharp growth in other brands. 

We must note that Mamaearth’s parent Honasa also owns other beauty and personal care brands, including The Derma Co., Ayuga, Aqualogica and Dr. Sheth’s.

Analyst Agarwal expects Honasa’s EBITDA to grow at a faster clip of 55% CAGR driven by its ad-spend rationalisation, improving channel mix, and operating leverage.

“We also expect return metrics to improve gradually driven by improving profitability, a lean balance sheet (asset-light contract manufacturing model, limited capex requirement for company EBOs) and prudent working capital management,” Citi’s Agarwal said.

However, the brokerage noted that the 2016-founded startup is a relatively young company and even its largest brand, Mamaearth hasn’t reached a stable profitability level yet.

In fact, among some of the key risks to its thesis, Citi has mentioned about the risk associated with Mamaearth’s dependence on contract manufacturers.

It is pertinent to note that during its IPO last year, Honasa worked with 37 contract manufacturers, which was a matter of concern for many.

However, Mamaearth founders Ghazal and Varun Alagh back then said that manufacturing was capital-intensive, which would limit the company’s resources. Outsourcing manufacturing would help the company move quickly at this growth stage, they had added.

Besides, there are also other risks, including higher discounting/competitive intensity and possible offloading of shares under lock-ins by the startup’s pre-IPO shareholders.

The six-month lock-in period for Honasa’s pre-IPO shareholders expires in May. However, some of its shareholders were exempt from this six-month lock-in based on the percentage of holding.

In December last year, Fireside Ventures sold 60.89 Lakh shares in the company or a 1.89% stake in a bulk deal. Last month, Stellaris Venture Partners also offloaded over 32 Lakh shares or 1% of its stake in the company in a bulk deal.

One of the biggest shareholders in Honasa currently is Peak XV Partners with an 18.84% stake. This excludes Sequoia Capital Global Growth Fund’s 4.38% holding in the D2C unicorn.

“We note pre-IPO private equity players were holding stake in Honasa. After the promoters, Peak XV/Sequoia is the largest shareholder, with 23% stake in the company. The other PE players together own about 19% and have all sold partially in the IPO. We note the risk of excess supply of Honasa shares coming to the market once the lock-ins for these players expire,” the Citi analyst said.

However, Citi expects further upsides to the stock from here on from potential outperformance as against its peer group.

In fact, the brokerage also noted that while a section of the market compares Honasa to Nykaa given the similarities between the two players in terms of category of operations, similar target audience and their digital-first background, a direct benchmarking might not be appropriate given they have different business models  – one is more of a brand and Nykaa, a marketplace.

Brokerage Jefferies also has a ‘buy’ rating on Mamaearth shares and a PT of INR 590.

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