Brazil Food and Drink Report Q1 2013

A number of pressing challenges are facing Brazil’s economy over the next few years, informing our view that the country is in for a period of lower-trend growth. We highlight slowing private consumption and the end of China’s investment boom as major contributors to Brazil’s medium-term growth trajectory. Following substantial growth in the last decade, we believe Brazil’s consumer story is in for a period of more moderate expansion over the medium term due to reduced consumer purchasing power on the back of currency weakness and high household indebtedness following significant credit growth in recent years.

Household debt levels have ballooned in recent years, a factor we expect to constrain consumer borrowing despite government pressure on commercial banks to bring down their lending rates. As such, we have revised our medium-term growth forecasts to reflect a more moderate consumer story in coming years. We forecast private consumption to contribute an average of 2.0 percentage points to real GDP growth between 2012 and 2017, implying average real private consumption growth of 3.1% between 2012 and 2017.

Headline Industry Data (local currency) ?? 2013 per capita food consumption = +9.8% year-on-year (y-o-y); forecast compound annual growth rate (CAGR) to 2017 = +9.3%. ?? 2013 alcoholic drink sales = +10.8% y-o-y; forecast CAGR to 2017 = +10.7%. ?? 2013 soft drink sales = +9.0% y-o-y; forecast CAGR to 2017= +9.3%. ?? 2013 mass grocery retail sales = +8.0% y-o-y; forecast CAGR to 2017 = +8.7%.

Key Company Trends AmBev Volume Growth Muted: In August 2012, AmBev, the Brazilian subsidiary of beer giant Anheuser-Busch InBev, posted muted growth for its fiscal first half. For the six months to the end of June, total volumes were up by 3.4% , with beer volumes up by 2.7% and soft drink sales up by 4.9% (on an organic basis). Net sales advanced by 10.1% on an organic basis. However, growth of just 2.7% for beer sales points to the firm’s recent push for revenues over volumes as well as the ongoing challenges within the Brazilian beer market due to slowing economic growth – a situation set to be compounded by upcoming duty hikes.

Brasil Foods Facing Cost Challenges: In August 2012, Brasil Foods, Brazil’s largest food producer, registered a massive drop in profitability after seeing commodity and financial costs eat into its earnings. For the six months to the end of June, the firm reported a 7% increase in net sales, which reached BRL13.2bn. However, earnings before interest, taxes, depreciation and amortisation fell by 32% to BRL1,097mn, while net profits slumped by 82% to BRL160mn.

Key Risks To Outlook Two Scenarios: The risks to our growth forecasts for Brazil remain substantial. We previously outlined two potential scenarios for the country’s economic imbalances to unwind over the coming years, both of which remain on the table. First, given policymakers’ massive toolkit and demonstrated willingness to use it, we do not rule out that the current policy mix could achieve higher returns to growth through the 2014 general election than we currently forecast, particularly if the authorities change their view on a weak real. However, this would result in a sharper adjustment thereafter, as the reduction of massive fiscal stimulus would likely prompt a substantial drop in private consumption, and two more years of strong credit and money supply growth would make the ensuing deleveraging period even more painful. Meanwhile, given the real’s break through long-term trend-line support, and analysts’ and investors’ increasingly bearish views on the economy, we believe our worst-case scenario has become increasingly likely in recent months. A significant and sustained change in investor sentiment could precipitate an aggressive currency sell-off, sending the unit towards BRL2.5000/US$ much faster than we currently anticipate. This would severely dampen private consumption and likely drag headline growth down as well. Such a scenario also implies greater potential for a full-fledged banking sector crisis given the currency mismatch on banks’ balance sheets and potential for loan quality to deteriorate substantially.

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