Food Empire - RHB Invest 2018-08-15: Re-evaluating Russia’s Risk

FOOD EMPIRE HOLDINGS LIMITED SGX:F03

Food Empire - Re-evaluating Russia’s Risk

Downgrade to NEUTRAL from Buy with lower Target Price of SGD0.60 from SGD1.07, implying 7% upside.
We believe Food Empire is heading in the right direction over the long run, by diversifying into the Asian region. However, with the US imposing more sanctions on Russia, we expect more downside risks from the depreciation of the RUB and its regional currencies. As such, we see limited reasons to be vested in Food Empire over the near term given that 60% of its revenue is generated from Russia and other CIS countries.

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Food Empire recorded forex loss of USD2m in 2Q18 as the RUB and EUR weakened against the USD. We note that the group derives 40% of its revenue from Russia and has loans (for the purchase of equipment at its new plant) denominated in EUR. The forex loss represented 55% of pretax profit, dragging it down 20% compared to 2Q17.
With the US imposing more sanctions on Russia, the RUB has weakened by 8% since the start of 3Q18. Neighbouring currencies such as KZT and UAH also suffered 6% and 4% depreciation respectively. Since 60% of Food Empire’s revenue comes from Russia and the other CIS countries, we expect more forex losses to be incurred in 3Q18.
CEO, Sudeep Nair cited that the group would be raising the prices of its products in phases. On this front, we think at least the negative impact of currency depreciation on revenue, gross margin, and core earnings (excluding forex) would be partially mitigated.

Food Empire continues to strengthen its position in Indochina. 2Q18 revenue from the Indochina segment grew 47% y-o-y. We believe the Indochina market is critical in helping Food Empire diversify outside of the Commonwealth of Independent States countries. However, such a stark increase in Indochina’s revenue was not without cost. We understand from management that the group has been spending on advertising and promotions(A&P) in Indochina to boost its brand value.
Although Food Empire does not breakdown its segments’ expenses and profit, we note that selling and distribution has been growing ahead of revenue at the group level. This is likely attributed to the increased expenditure in Indochina, coupled with the slowdown in revenue growth of core markets like Russia as a result of the weaker currencies.

We cut our earnings by 26-28% for FY18F-20F to account for higher A&P expenditure and currency devaluation. We also lower our target P/E to 14x as a result of lower sector valuation (peer average of 16x), and applied a 10% discount to peers to account for geopolitical risk in Russia and other CIS countries. This lowers our Target Price to SGD0.60, implying a 7% upside.
While Food Empire is heading in the right direction to diversify its revenue stream over the long run and we expect core earnings (excluding forex changes) to grow at a CAGR of 15% during FY18F- 20F, we believe the exposure to CIS markets and currency fluctuations would limit the stock’s upside in the near term.

Juliana Cai CFA RHB Securities Research | https://www.rhbinvest.com.sg/ 2018-08-15

SGX Stock Analyst Report NEUTRAL Downgrade BUY 0.60 Down 1.070