2021: Getting Past A Challenging Year – Cautious Outlook Ahead
DFI’s weaker-than-expected net profit of US$103m (-62% yoy) for 2021 was largely expected as the company continued to contend with the negative effects of COVID-19. There were positive takeaways from the results, ie Maxim’s performance and continued strong free cash flow generation. We remain cautiously optimistic about DFI’s outlook in 2022 with the key hurdle being Hong Kong’s management of COVID-19. Maintain BUY with an upgraded target price of US$3.65.
RESULTS
• Weaker than expected net profit. Dairy Farm (DFI) reported 2021 revenue of US$9b (-12% yoy) and net profit attributable to shareholders of US$103m (-62% yoy). At the bottom line, the numbers missed our and consensus estimates. Nevertheless, there were still highlights in the result that bode well for a turnaround in 2022. These include: a) strong yoy performance from associate Maxim’s, b) continued high levels of free cash flow generation of US$818m (2020: US981m), and c) robust own-brand momentum across grocery and health & beauty segments. DFI declared a final dividend of US$0.065 which, combined with the interim dividend of US$0.03, results in a full-year DPS of US$0.095.
• Are we there yet? The past two years have been an extremely tough period for the company given challenges caused by COVID-19. In 2022, we believe that most of DFI’s key geographic segments should continue their reopening and recovery trajectory as the region learns to live with COVID-19 as an endemic. The key unknown is Hong Kong which could remain a millstone around DFI’s neck in the medium term, although grocery and retail may see a near-term sales bump from panic buying. Nevertheless, we remain constructive on DFI and believe that we are past its trough earnings.
STOCK IMPACT
• Hong Kong market seeing positives and negatives. As in other Southeast Asian markets where COVID-19-related panic buying bolstered DFI’s results, it appears that it is Hong Kong’s turn with the company seeing panic buying at its Wellcome and Mannings businesses. Thus, its food and healthcare segments should witness an uplift in 1H22, offset by foot-traffic dependent brands being negatively affected. On the results call, DFI management cautioned that the company is “finding it tough” to maintain availability of its products with the supply chain stretched, partly due to the lack of availability of staff.
• Share buyback does not appear likely. Key companies within the Jardine Group have started significant share buyback programmes, thus leading to share price outperformance in the past six months vs their local benchmarks. Although DFI did not completely rule out a share buyback programme, management stated that it will first and foremost look to see if its myriad businesses need to be invested in, and thereafter would consider deploying extra capital in a buyback.
• Inflation. DFI stated that while it has experienced “flat to low single digit inflation” in the past year, it did acknowledge that increasing cost pressures in key areas within its supply chain have continued, eg shipping costs. DFI stated that while its suppliers have tried to institute price increases, the company has scrutinised whether these price increases are justified and will actively resist such increase if invalid. In the medium term however, DFI recognises that inflationary pressures are here to stay in the near to medium term.
• Associates – past the trough? DFI believes that Yonghui should recover from its trough from 2022 onwards. While community buying has hurt the business, Yonghui is in the process of building out its e-commerce platform; however, the improvement will take time, in our view. More positively, Maxim’s appears to have recovered well from the depths of COVID-19 and registered a 44% hoh increase in sales for 2H21. DFI pointed out that Maxim’s production facilities in southern China have bolstered its productivity. In 2022, we forecast a return to positive contribution for DFI’s associates of US$25m vs a loss of US$42m in 2021.
EARNINGS REVISION/RISK
• Slight upgrades. We have upgraded our earnings for 2022 and 2023 by 7% and 4% respectively to take into account better trading prospects post the COVID-19 peak. While Hong Kong remains a key problem with zero visibility on its transition to normalcy, we expect panic buying to bolster some of its results, and expect the other parts of DFI’s key segments to do better yoy in 2022, particularly associates and home furnishings. We believe that our operating profit margin expectations are reasonable at present (see chart on RHS).
VALUATION/RECOMMENDATION
• Maintain BUY rating with a slightly higher target price of US$3.65 (previously US$3.60). As a result of the 6% upgrade to 2022 EPS, our target price has increased slightly. We peg our 2022 EPS estimate to a target multiple of 21.1x which is 1SD below its five-year average PE of 28.6x (excluding 2020). We believe that the discount to its five-year average PE is fair and reasonable given the continued COVID-19-related challenges that the company faces in its various business segments and geographies. We remain perplexed regarding the lack of segmental reporting transparency surrounding its geographic segments which are currently classified as either “North Asia” or “South Asia”.
• Vaccination and business transformation progression. As the region progresses towards having a greater proportion of its population vaccinated, and further evidence of DFI’s business transformation surfaces in near- to medium-term reporting periods, we should expect DFI to trade at higher multiples compared to present.
SHARE PRICE CATALYST
• Opening of Hong Kong borders to China travellers
• Evidence of margin expansion in 2022