Outlook for Kingdom’s food and agriculture sector remains strong

In its latest update on the Saudi Food Sector, NCB Capital, a major wealth manager in the GCC and the Kingdom’s “largest asset manager,”, believes the long-term outlook of the Saudi food and agriculture sector remains strong with capacity expansions at both Savola and Almarai.
“We remain overweight on Savola with a PT of SR57.8 and remain neutral on Almarai with a PT of SR48.3,” said Farouk Miah, head of equity research at NCB Capital. “Both stocks have performed strongly in 2013, partly due to expansions in their P/E multiples, which could unwind if financial performance does not meet expectations. FX volatility and execution risks on the expansions are short-term concerns.”
Regarding Savola, the update considers that the long-term growth story remains intact, with volume and margin expansion the main driver in the retail business and higher capacity in the food business. However, NCB Capital expects H2 2013 to only record profit growth of 10 percent versus average of 17 percent in the past three years. This is due to FX pressures in Egypt and Iran, as well as some disruption in operations from the sugar warehouse fire in Saudi Arabia.
While noting a price target of SR48.3, NCB Capital remains neutral on Almarai in expectation of 2013 earnings growth of only 5.9 percent. “The focus of investors is on 2014 where we expect YoY net income growth of 21 percent,” said Miah. “The poultry segment becoming profitable will be a major reason behind the increase in growth rate with any further delays a major disappointment. Despite the muted financial performance over the past 12-18 months, the stock is up 27 percent YTD based on the high P/E multiple expanding further. We believe another disappointing financial performance in 2014 could lead to significant downside on the stock.”
NCB Capital believes that success of expansions is the key determinant of medium-term growth. Both Savola and Almarai are planning on significant capacity expansions either at existing businesses or into new segments. This includes a 45 percent expansion in selling space at Panda for Savola and a five-fold increase in poultry capacity at Almarai. The level of success with these expansions will play a significant role in the growth outlook at both firms. NCB Capital expects CAGR earnings growth of 15 percent and 14 percent for Savola and Almarai over 2012-2017.
On the other hand, the update considers that there is a short-term risk due to non-Saudi exposure. “Both Savola and Almarai are increasingly expanding outside of Saudi Arabia,” commented Miah. “Although this makes strategic sense, recent events in the region and the subsequent impact on operations and FX are damaging the profitability of the non-Saudi exposure. We believe around 40 percent of Savola revenues and 10 percent of Almarai are non-dollar based, adding an element of volatility to earnings.”
Savola
“There may be bumps ahead but the long-term story is intact and we remain overweight on Savola with a PT of SR57.8,” said Miah. “We believe the company may face some short-term issues in H2 2013 due to FX/operational issues in Iran and Egypt, coupled with some disruption from the fire in its sugar business in Saudi Arabia. However, growth at Panda remains strong with the longer term outlook for foods also positive with capacity increases driving profits. Savola trades at a 2014 P/E of 13.9x vs. Almarai at 17.5x.”
Almarai
Making the point that the poultry investment needs to deliver in 2014, Miah said in his summary: “We remain neutral on Almarai with our PT increasing to SR48.3. With net income growth in 2013 set to be around 6 percent YoY, we believe the hopes of investors are focused on 2014 where we expect earnings growth of 21 percent. However, the poultry business becoming profitable is a major catalyst for the increase in growth. Any miss on poultry will be a major disappointment, putting at risk the 30 percent plus forward P/E premium it enjoys over the wider market.”