FMN Plc. Rated Buy as Analysts Project Double-digit Equity Return
To analysts, Flour Mills of Nigeria Plc is prime to deliver strong earnings performance, possibly with first double digit return on average equity in the last three years.
On expectation of an improve earnings performance, equity analysts at Cardinalstone Partners have advised investors to buy Flour Mills shares.
Traded at N21.65 on the floor of the Nigerian Stock Exchange (NSE), analysts forecasted that FMN share price could hit N29.55.
In the last 5 trading sessions, the company stock has maintained price trajectory despite the ravaging flood at Sunti Golden Sugar estates. 
While the investment firm advised investor buy FMN shares, analysts cited that there are three key risks to its estimated upside.
These include further currency devaluation, re-opening of land borders and flood disruption at Suntit which analysts think could impact earnings.
Otherwise, Cardinalstone believes the company looks set to record strong traction in operating performance in the current financial year.
It explained that that FMN has already surprised market watchers with a 4.3 percentage point year on year increase in gross margin to 16.5%.
This comes with about 3 times surge in operating cash flow to N16.7 billion in the peak of COVID-19 restrictions (April to June or Q1’20/21).
Cardinalstone stated that while panic buying/stockpiling (one-off support for top-line growth in Q1’20/21, by our assessment) has stopped, lingering border closures and gravitation to value brands are likely to remain supportive for the rest of the year.
So, revenue is projected to rise in financial year 2020/21 to N605 billion; from previous forecast of N524.8 billion.
FMN is likely to report its first double-digit return on average equity (ROAE) in 3 years in FY’20/21, analysts at Cardinalstone projected.
“We forecast return on average equities at 11.2% for financial year 2020/21 from 7.4% in 2019/20”, analysts stated.
The estimate was aided by a projected 57.6% surge in profit after and stable asset turnover of 1.3x – in line with three-year mean.
In Cardinalstone view, the key pillars of PAT growth for 2020/21 are likely to include increased market share due to cross country trade restrictions.
Within the food segment, analysts highlighted that extended border closures have had a positive impact on pasta.
For example, Pasta grew 15% year on year in the first quarter of 2020/21 due to reduced competition from imported alternatives (e.g. rice).
Explaining further, the firm noted that the trade restriction also boosted domestic production of poultry, which cascaded to strong support for the animal feeds business.
In figure, revenue from that line came strong with 29% year on year growth in the first quarter of 2020/21
In the coming quarters, Cardinalstone said the recent exclusion of importers of food & fertilizers from accessing FX at official windows is likely to increase the impact of the “regulatory bounce” on FMN’s feeds and fertilizers businesses.
Then, the company’s innovative product launches and a focus on value SKUs across brands were noted.
Between 2019/20 and first quarter of 2020/21, FMN introduced value SKUs of brands such as Golden Vita, Golden Penny Noodles, Auntie Pasta, Auntie B Spaghetti Slim, and Semovita to ensure affordability and drive value within the B2C segment.
This resulted to 31% year on year growth in revenue in the first quarter of 2020/21 of its food business.
“In our view, these adjustments are in sync with the reality of greater consumer price sensitivity and weaker real income levels”, Cardinalstone detailed.
The firm explained that the reversal of sugar duty in July 2020 could support margins.
Federal Government dropped sugar duty to 5.0% from 10.0% and analysts are of the opinion that this is expected to support margins in the business in 2020/21.
In addition, investments in mechanized harvesting and sugar cane haulage, as well as plans to expand the cultivated area to 3,500 hectares (from 2,800 hectares currently) in Sunti, suggest that the expected sugar margin resurgence could extend beyond the current financial year.
The lower interest rate on Bank of Industry (BOI), the Central Bank of Nigeria (CBN) loans and dovish monetary policy are expected to impact FMN performance in the year.
Analysts explained that as part of its COVID-19 response initiatives, both the Central Bank of Nigeria (CBN) and the Bank of Industry (BOI) reduced the interest rate on all facilities extended to FMN with effect March and April 2020, respectively.
Specifically, the CBN reduced interest rate on its N42.4 billion facility to FMN by 4 percentage point to 5% for one year, with the BOI also cutting rates on N10.8 billion outstanding loan to 5% from 7.0% for a similar period.
According to management, these subsidized loans constituted about 40% of the group’s total borrowings as of June 2020.
Thus, even though FMN has disclosed plans to tap into its N70 billion bond program before year-end, Cardinalstone said the pass through to interest expense pressure is likely to be slightly offset by the forbearances from CBN and BOI, broad yield moderation, and repayments.
“All in, we expect interest expense to be flat year on year at about N20 billion in the current financial year”, analysts stated.
After allocating for planned CAPEX of about N16.0 billion and working capital needs, FMN is likely to report a free cash flow of N39.8 billion in 2020/21.
This translated to N5.6 billion reduction when compared to about N45.2 billion in 2019/20.
Analysts at Cardinalstone said the firm’s free cash flow projection implies that FMN should comfortably pay 2020/21 projected dividend of N1.60 (cumulative of N6.6 billion and effect required repayment of about N20.1 billion forecasted) on existing loans in the near-term.
Explaining the downside to its forecasts, Cardinalstone said risks to its projections include further currency depreciation.
By our estimate, analysts explained that FMN imports about 62.5% of its raw materials for production.
This huge FX exposure mostly explains the N9.4 billion FX loss in the first quarter of 2020/21 (alone) that trailed the naira depreciation across FX windows in March.
Additional naira weakness and FX illiquidity are likely to cascade to lower than projected net income, Cardinalstone projected.
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In addition, the firm considered that re-opening of the borders could threaten the company’s market share.
“While we have factored in the impact of border closures for 2020/21, an earlier than expected re-opening of the land borders could renew imported competition and lead to a fall in market share for FMN.
“In our view, the pass-through from restricted regional food trade flows on inflation is likely to provoke some re-assessments of the ongoing border enforcements post COVID”, analysts explained.
Flood disruptions at Sunti:
Recently, FMN informed the stock exchange that excessive flooding disrupted operations and expansion project (to 4,000 hectares of cultivated land by mid-2021) timeline at its sugar estate in Sunti.
According to the report, management would only be able to assess the actual state of damage to sugar cane crops at Sunti when the floodwater subsides.
“We, however, cautiously taper our growth expectations for the sugar business and highlight that a graver than expected damage is a clear risk to margin from the segment”, Cardinalstone said.
Meanwhile, the investment firm forecast an increase in 12-month target price to N29.55 from N21.34 previously.
The firm’s target price is at a 37.4% premium to reference price of N21.65 and implies an exit price earnings of 6.8x.
FMN is trading at estimated 2020/21 enterprise value to earnings before interest, tax depreciation and amortisation (EV/EBITDA) and PE ratios of 2.4x and 4.9x, respectively.
FMN Plc. Rated Buy as Analysts Project Double-digit Equity Return
