Del Monte Pacific - UOB Kay Hian 2016-03-15: 3QFY16: A Challenging Quarter Mired By One-off Charges But Nonetheless A Turnaround

DEL MONTE PACIFIC LIMITED D03.SI

Del Monte Pacific (DELM SP) 3QFY16: A Challenging Quarter Mired By One-off Charges But Nonetheless A Turnaround

DMPL’s net profit improved from the loss of US$2.2m in 3QFY15 to a gain of US$0.6m for 3QFY16.
Sales were down by 7% yoy due to lost contracts in the US but market share for the core US retail business remained stable amid a challenging quarter.

Maintain BUY recommendation as we value Del Monte Pacific at 12x FY17F PE with a reduced target price of S$0.46.

Del Monte Pacific (DMPL) recorded a net profit of US$0.6m for 3QFY16 vs a US$2.2m loss in 3QFY15.
Sales in the US (DMFI) were down 20% for base business excluding Sager Creek due to unsuccessful government (USDA) and OEM co-pack contract bids. The USDA contract is a low-margin business that does not carry the Del Monte brand, and DMFI bids for this contract using excess inventory. The food goes to segments such as school lunches. These USDA contract values tend to be very volatile with a value of US$40m in 3QFY16 and we estimate the full-year value of the contract to be about US$180m.
In 3QFY15, DMFI successfully bid for the contract at a decent margin as competitors were suffering a shortage of inventory.
For 3QFY16, competitors were aggressive in pricing bids close to cost.

DMPL recorded a lower adjusted net profit due to timing issues with holiday season sales. A portion of Thanksgiving related sales were booked in 2QFY16 which resulted in an abnormally high adjusted net profit of US$18m for that quarter. This also partially accounted for the drop in US sales for 3QFY16.

Significant non-recurring expenses continue to persist as the company proceeds with further streamlining and integrating the different entities.
For 3QFY16, Del Monte recorded non-recurring expenses of US$12.5m on a pre-tax basis and US$6.9m on a net of tax basis.
Previously, we expected the restructuring and acquisition-related one-time charges to be minimal in FY17 but we now expect further charges to be booked in FY17 since DMFI has rolled out the “Project Restoration and One” to further optimise G&A cost with an aim to further improve margins and profitability down the road by FY18.

In the near term, the US segment will focus on expanding the food service business through Sager Creek. The food service business consists of restaurant deliveries and is a more predictable business than the USDA contracts which are volatile in nature.
Previously we expected Sager Creek to be profitable in FY17 but due to optimisation issues, we now expect profitability for Sager Creek only in FY18.

In early-Mar 16, DMPL shareholders approved the mandate with no fixed expiry date to issue preference shares to be listed on the Philippine Stock Exchange (PSE). DMPL has indicated that the preference shares should be issued in 2016 and be priced at 5.5-7.0% discounts.
We expect the issue will likely finalise sometime in early-FY17 subject to regulatory approval and favourable market conditions. We understand that this is the first US dollar-denominated preference share issue to be listed on the PSE and we expect there to be significant interest given the low yield environment.

We expect 4QFY16 sales to come in about 2% yoy higher than 4QFY15 sales given the lost USDA contract bids, which will be offset by continued growth in sales from Asia Pacific.
In total, we expect a 5% yoy growth in sales for FY16.
We estimate additional non-recurring expenses to come in at US$5m after tax for 4QFY16, most of which would be SAP-related given the accelerated SAP timeline of two years that the group has implemented.

For FY17, we estimate US sales to grow 1.5% yoy due to minimal USDA contract contribution and Asia Pacific sales to continue growing at about 8% yoy, which would imply a conservative 3% revenue growth.

We have slashed our FY16-17 core net profit forecasts by 47% and 32% respectively. This is mainly due to:
1. lower FY16 and FY17 sales forecasts,
2. lower FY16 and FY17 gross margins forecasts by 1ppt to account for slower-than-expected Sager Creek optimisation which has put a drag on group margins, and
3. larger financial expense for FY16 as we push the preference share offering into FY17.
Key risks include:
1. continued delay in issuance of perpetual securities due to poor market conditions or regulatory barriers, and
2. further slowdown in US sales.

We continue to apply our 40% discount to peers’ PE of 20x. As we expect the preference share issue to manifest sometime in early-FY17, we have elected to include an EV/EBITDA comparison to DMPL’s peers to account for a more complex capital structure.
Based on our DMPL’s FY17F EV/EBITDA forecast with no discount applied, our target price is S$0.42, with a 29% upside.

Nicholas Leow UOB Kay Hian | http://research.uobkayhian.com/ 2016-03-15

UOB Kay Hian SGX Stock Analyst Report BUY Maintain BUY 0.46 Down 0.69