Indofood CBP
More than just a noodle company?
Event
§ ICBP announced after market on Monday (9/7) a joint venture
with Asahi to manufacture and market non-alcoholic beverages in Indonesia. We
view the move positively, and believe the market will also react favourably to
an improvement in ICBP’s perceived long term growth prospects and earnings
diversification.
We nevertheless flag that contributions from the JV to ICBP’s earnings are
likely to remain negligible for at least the first 3–5 years.
Impact
§ We are somewhat surprised that ICBP has announced a JV in
the beverage segment, as our previous understanding was that ICBP’s existing
tie-up with PepsiCo’s subsidiary Fritolay likely precluded ICBP from participating
in this segment. The JV will involve two separate entities – a manufacturing
entity (49% owned by ICBP), and a marketing entity (51% owned by ICBP).
§ Limited details have been provided at this stage, and we
have not yet had the opportunity to chat with the company, but our initial take
on the deal is favourable. We acknowledge the risks associated with any
diversification strategy, but there is also upside, and ICBP brings to the
table an established
distribution
platform (via its parent) and brand. Having also partnered with a group that
has significant product development experience in the beverage segment, we
believe the JV stands a good chance of success.
§ In addition, ICBP has a strong balance sheet (Rp749 per
share in net cash, at 1Q12A), and the scope of its initial financial
contribution is likely to be relatively small vs. the size of the ICBP group,
limiting risks. We also believe the deal is positive in what it signals about
ICBP’s willingness to proactively develop new growth options and redeploy some
of its excess cash.
§ We nevertheless see scope for investors to greet the news
with excessive enthusiasm. Any success with this partnership is likely to take
a long time to bear fruit, and we note that ICBP has had a tie-up with Fritolay
since 1990 to market branded snack foods in Indonesia. However, as at FY11A,
the division was only contributing cUS$3.5m to ICBP’s attributable EBITA – just
1.3% of ICBP’s total. The JV will also likely need to absorb a period of
start-up losses.
Earnings and target price revision
§ No change.
Price catalyst
§ 12-month price target: Rp5,300 based
on a Sum of Parts methodology.
§ Catalyst: 2Q12E result (expected in
late July).
Action and recommendation
§ So far we have been proven too bearish in our views on ICBP,
and our concerns about the lacklustre growth prospects of the instant noodle
segment have been overshadowed by ICBP’s recovering market share trends; defensive
earnings profile, and relatively low PER (by consumer standards).
§ We intend to take a re-look at our investment thesis after
meeting with the company and in light of the company’s upcoming 2Q12E result.
More than just a mature noodle business?
§ We have continued to emphasise for some time the
undiversified nature of ICBP’s earnings –
particularly
when the contribution from minorities is removed (Fig 1) – as well as the
relatively mature profile of the instant noodles segment, which has shown
limited growth for several years.
At about
15x earnings, the stock looked fully priced to us – particularly when there
were signs that competitive pressures and market share losses had started to
build (during FY11A), and the significant upswing in operating margins seen
since FY07A may have been coming to an end.
§ We have nevertheless remained cognisant of several ways in
which our call might be wrong, and in which ICBP might nevertheless deliver
strong returns over time, namely:
#1:
Pricing power not volume growth: ICBP has a strong instant noodle franchise, which might be
somewhat likened to a tobacco business. A packet of instant noodles retails for
only about US$0.16/pack in Indonesia,
and it does not matter a great deal that you cannot deliver volume growth if
you are in a position to push up prices over time and expand margins. However,
our view has been (and remains) that instant noodle businesses are vastly
inferior to tobacco businesses, and have much lower barriers to entry. Looking
around the region, we find few examples of noodle businesses that have managed
to steadily and consistently raise margins over time in the manner of a tobacco
business. From an Indonesian point of view, the weaker barriers to entry were
also clearly demonstrated by Wings’ successful poaching of c15–20% market share
during FY04–06A following its entrance into the segment – a feat that is
unprecedented – to our knowledge – in the tobacco industry.
We
nevertheless acknowledge the risk that we have underestimated the power of
Indofood’s noodle franchise here, and the business’ margins may rise further in
the medium term – particularly if input costs decline (as they had done in
recent times, until mid June).
#2:
Strong balance sheet and new growth horizons: The other source of upside lies in ICBP’s
strong balance sheet (Rp749 per share in net cash, as of 1Q12A), cash
generation ability, and its potential ability to redeploy that cash flow into
new acquisitions or organic growth initiatives – particularly given the company’s
strong brand and distribution platform. We nevertheless flag that while the
tie-up with Asahi appears strategically sensible, we do not believe investors
should expect immediate results. We highlight that ICBP’s snack food division –
a partnership with Fritolay in which ICBP owns 51% of – has been in operation since
1990, and yet by FY11A – and in spite of strong growth in recent years – the JV
was still contributing US$3.5m to ICBP’s attributable EBIT (just 1.3% of ICBP’s
total).
§ The Asahi tie-up may do better than the snack food division
and grow more rapidly, of course. However, establishing any business takes
time, and from previous conversations with ICBP, the company has cautioned that
new business/product ventures generally requires the absorption of about three
years of operating losses – something that may very well apply to the Asahi
tie-up also. We intend to do more work on the potential upside of the deal in
coming weeks.
Source: Macquarie Equity Research dated 9 July 2012
