Initiating coverage with an Outperform recommendation
We initiate coverage of ICBP with an Outperform recommendation and Rp6,000 valuation/price target (implying FY11E and FY12E PERs of 20.0x and 16.1x, respectively). ICBP is now trading 24% off its post-IPO highs, and at a 12% discount to its Rp5,395 offer price, and in our opinion has now declined to levels that offer investors reasonable value (particularly with 9% of its market cap in cash) in a sector generally offering slim pickings for value investors at present. We also believe INDF’s recent buy-back of 0.5% of ICBP’s scrip on-market
signals value, and will provide some share price support in the mid/high 4,000s.
Weak EPS growth outlook for FY11E is now priced in
Driving ICBP’s weak share price of late has been a deteriorating outlook for FY11E EPS growth, as rising input costs are expected to pose a short-term cyclical headwind to margins, and the dairy business’ growth is head back in FY11E by capacity constraints. We are expecting FY11E EPS to only rise 3.4%. However, we believe this weakness is now well expected, and we believe the market is underestimating the scope for a sharp snap back in margins when input costs begin to moderate (likely by 2H11E), and we are expecting FY12E EPS growth to rebound to 24.0%. We also believe a recovery in ICBP’s share price will precede a recovery in reported earnings once it becomes clear input costs have peaked (the inverse of at present), so we feel that investors who hope to wait until the FY12E earnings recovery is in train risk being too late.
Input costs a cyclical issue; ICBP enjoys pricing power
Wheat flour prices remain ICBP’s major sensitivity (42% of input costs), and we note that escalating wheat prices to date has been mostly driven by weatherrelated supply disruptions, which seldom last for more than one to two years, and we therefore see the impact as being primarily of a cyclical nature. In the meantime, we believe ICBP enjoys relatively robust pricing power, driven by a strong market position/industry structure, and concurrent rises in the price of substitute food products. We believe these dynamics will mitigate the impact, and we only expect FY11E noodle margins to decline from 16.2% to 13.9%, yet we estimate that ICBP’s current share price only capitalises 11.5% long term.
Trend growth to average 10–12%; 15–20x forward PER fair
We believe ICBP’s noodle business (82% of FY11E EBIT) is likely to enjoy trend revenue growth of 8–10% pa, driven by a 2.6% pa rise in per capita packet consumption, population growth, and some improvement in product mix. ICBP’s other divisions are expected to grow somewhat faster (low to mid teens), driving blended trend revenue growth of 10–12% pa. However, as the noodle division is expected to remain highly cash generative (89% cash conversion), and in our view possesses genuine franchise value, we believe a 15–20x ICBP PER to be
fair despite its low teen growth (which may also be augmented by acquisitions).
Strong balance sheet provides room for positive catalysts
Another positive is ICBP’s strong balance sheet (Rp2.5tr in net cash), following its US$700m October IPO. While this capital was raised to help fund a Rp2.4tr expansionary capex programme, we believe this will be sufficiently funded out of internally-generated cash flow. ICBP’s cash hoard is therefore unencumbered, and may be put to work at some stage in the form of an opportunistic acquisition.
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