Flour Mills of Nigeria Plc (‘FMN’ or ‘The Group) reported rather impressive figures for its FY’20 financial year. The Group recorded growth on both its topline and bottomline. Specifically, revenue grew by 9% year-on-year (YoY) from N527.41bn in FY’19 to N573.77bn in FY’20.
Some of the factors that accounted for the revenue growth include introduction of new products with improved packaging and accelerated distribution.
Notably, the Group sold more of its highmargin brands, relative to what was obtainable in the previous year where the Group downtraded its products. In our view, we believe that the ability of the Group to successfully sell its higher margin brands was on the back of an increased market share during the year, following the land border closure that limited the influx of cheap smuggled competing products in the market.
We note that the Group had earlier struggled to keep pace with the cheap smuggled products in the market due to their low prices, a situation that prompted the Group to
downtrade, thereby resulting to lower revenue and lower margins.
In the Food business segment (c.63% of Group’s total revenue), revenue grew by 7% YoY from N335.61bn in FY’19 to N358.35bn in FY’20. During the year, the Group launched new products, with a specific focus on ‘Business to Consumer’ (B2C) to align with the changing lifestyle and consumption pattern of consumers.
According to the Group, the B2C segment, led by Pasta and Ball Foods achieved c.20% growth during the financial year. Some other efforts made by the Group include the repackaging and resizing of some products, improved route-to-market, and effective distribution.
The Sugar business segment (c.17% of Group’s total revenue) recorded an 18% YoY revenue growth (from N82.69bn in FY’19 to N97.63bn in FY’20), majorly driven by volume growth. The Group established a growing presence in the retail market with the introduction of smaller packs of its granular sugar and sugar cubes products.
An improved operational efficiency in its Sunti Golden Sugar factory resulted in an output growth of 15% due to mechanical harvesting, strengthening of cane haulage facilities and installation of a vacuum pump condenser. In addition, distribution channels were improved by deploying smaller trucks to improve delivery time.
The Agro Allied business segment (c.18% of Group’s total revenue) grew by 20% YoY from N88.10bn in FY’19 to N105.46bn in FY’20. The growth recorded in the Agro Allied business was driven by volume growth, particularly in its Oil and Fats (Premium Edible Oils), Proteins (Premier Feed) and Golden Fertiliser products.
We strongly link the double-digit growth recorded in the Agro Allied business segment to the positive impact of the land border closure on the Group’s business.
Bottomline Grows On the Back of Lower Finance Costs
Cost margin lowered by 100 basis points from 90% in FY’19 to 89% in FY’20. We attribute the lower cost margin in FY’20 to the impact of the sale of higher margin products such as Pasta during the year. Consequently, gross profit grew by 23% YoY from N53.35bn in FY’19 to N65.79bn in FY’20.
On the other hand, operating expense materially increased by 31% YoY from N27.26bn in FY’19 to N35.61bn in FY’20. The significant rise in operating expense stemmed from employee cost (c.25% of total operating expenses) which grew by 33% YoY from N6.60bn in FY’19 to N8.75bn in FY’20.
The Group also incurred significantly higher costs on expense items such as subscriptions and donations (+553% YoY from N217.58mn in FY’19 to N1.42bn in FY’20), and welfare expenses (+35% YoY from N867.75mn in FY’19 to N1.16bn in FY’20).
Depreciation also grew by 32% YoY from N1.53bn in FY’19 to N2.02bn in FY’20. The Group also incurred an impairment loss on trade receivables of N2.99bn. Nonetheless the 31% YoY rise in operating expense, operating profit stood at N35.08bn in FY’20, representing a 9% YoY growth from N32.29bn in FY’19. Profit before tax, however, advanced at a higher rate of 72% YoY from N10.17bn in FY’19 to N17.49b in FY’20.
The surge in profit before tax was on the back of the combination of a higher finance income (+211% YoY from N768.59mn in FY’19 to N2.39bn in FY’20) and a lower finance cost (-13% YoY from N22.89bn in FY’19 to N19.98bn in FY’20).
About the lower finance cost, we note that the Group deleveraged its balance sheet during the financial year, as reflected in the 14% decline in total borrowings from N126.94bn in FY’19 to N109.56bn in FY’20. We also note that the Group issued a N20.00bn corporate bond to replace expensive short-term facilities during the year.
The Group’s effective tax rate for the year stood at 35% in FY’20 from 61% in FY’19. Therefore, profit after tax spiked by 184% YoY from N4.00bn in FY’19 to N11.38bn in FY’20.
Following the significant rise in profit levels, the Group’s return on equity (ROE) advanced by 400 basis points from 3% in FY’19 to 7% in FY’20. However, we note that the 7% FY’20 ROE was 200 basis points below the Group’s 5-year historical average of 9%.
Lower Capex Underpins Record Free Cash Flows
Net operating cash flow declined by 8% YoY from N72.24bn in FY’19 to N66.68bn in FY’20. The decline majorly resulted from a lower working capital surplus from N19.66bn in FY’19 to N10.35bn in FY’20. Cash flows used in investing activities declined by 45% YoY from N24.99bn inmFY’19 to N13.79bn in FY’20, on the back of lower capital expenditure (-38% YoY from N26.22bnmto N16.22bn).
Cash flows used in financing activities declined by 5% from N42.01bn in FY’19 to
N39.84bn in FY’20. The lower cash used in financing activities resulted from a lower cash
dividend paid during the year (-15% YoY from N5.49bn in FY’19 to N4.67bn in FY’20), and a lower net debt (inclusive of interest paid) outflow (-10% YoY from N38.91bn in FY’19 to N35.17bn in FY’20).
Overall, the Group generated an N8.74bn increase in cash position during the year.
Free Cash Flow stood N50.69bn, representing a 5% increase from N48.24bn in FY’19. Adjusting for net debt, Free Cash Flow to Equity grew by 66% YoY from N9.33bn in FY’19 to N15.52bn in FY’20.
The Group declared a dividend of N1.40 (FY’19: N1.20) to be paid (if approved) to shareholders on September 14, 2019. The date for the Group’s Annual General Meeting is on September 10, 2020.
Q1 2021 Financial Performance
The Group’s continued focus on route-to-market strategy paid off into a new financial year. Revenue grew by 15% YoY from N134.75bn in Q1’20 to N154.58bn in Q1’21. The topline growth was driven by a strong grow h recorded across all its business segments.
The Food business segment rose by 12% YoY from N81.56bn in Q1’20 to N91.04bn in Q1’21. The strategy to expand the B2C segment yielded positively as the Group recorded a 31% growth in revenue from B2C.
In addition, the sustained land border closure was accretive to the Group’s Pasta volume (+15% YoY). The Agro Allied segment maintained its growth momentum, reflected in the 29% YoY revenue growth.
We partly attribute the revenue growth to increased demand by household, in their effort to stock up ahead of the sit-at-home directive by the authorities. Also, we believe that the new Aqua product, launched to target toll millers, had a high reception, thus driving overall volume growth in the Animal Feed business.
The Sugar business segment also rose by 12% year-on-year, on the back of volume growth. Notably, the impact of the sustained border closure resulted in an improved access to market. The Group continued to maintain operational efficiency in its Sunti plant, driven by investment in harvesting mechanisation and sugar cane haulage.
Cost Margin Lowers Despite Exchange Rate Volatility
Cost of sales grew by 9% YoY from N118.27bn in Q1’20 to N129.03bn in Q1’21. However, cost margin declined by 500 basis points from 88% in Q1’20 to 83% in Q1’21.
We note that the Group delivered a lower cost margin despite increased cost pressures including the impact of exchange rate devaluation on raw material imports, as well as higher import duty (from 5% to 10%) on imports of raw sugar. As a result of the lower cost margin, gross profit spiked by 55% YoY from N16.47bn in Q1’20 to N25.55bn in Q1’21.
Strong Performance Masked by Foreign Exchange Losses
The Group incurred an FX loss of N9.44bn in Q1’21, resulting from FX revaluation of its foreigndenominated payables. The Group made an aggressive provisioning in the FX revaluation of its US dollar assets and liabilities.
According to the management, the FX revaluation was done from the initially recognised N365/$1 to N400/$1. Consequent to the FX loss recorded, the growth in operating income (+8% YoY from N16.59bn in Q1’20 to N17.94bn in Q1’21) was lower than the growth in gross profit (+55% YoY from N16.47bn in Q1’20 to N25.55bn in Q1’21)
The Group was efficient in its cost management, reflected in the 48 basis points reduction in operating expense margin from 4.98% in Q1’20 to 4.50% in Q1’21. Therefore, operating profit grew by 11% YoY from N9.89bn in Q1’20 to N10.99bn in Q1’21.
Although finance cost increased by 7% YoY from N4.55bn in Q1’20 to N4.86bn in Q1’21, profit before tax grew by 17% YoY from N5.50bn in Q1’20 to N6.46bn in Q1’21. Profit after tax also grew by 17% YoY from N4.24bn in Q1’20 to N4.97bn in Q1’21.
Outlook and Valuation
We believe that the Group will maintain its current momentum in the near to medium term, on the back of a possibly sustained land border closure.
We posit that given the Group’s strategic positioning in the industry; it is positioned to expand market share over the course of the period when the land borders remain closed.
We also think that the existing B2C strategy of the Group, particularly in the Food and Agro Allied business segments will be value accretive to the Group’s earnings. We believe so because of the changing trend of household consumption pattern, amid shrinking income and purchasing power.
We, however, note the impact of exchange rate volatility in the operating performance of the Group. We also believe that the major risk faced by the Group is the reopening of the land border.
We arrived at our fair value for the business using a blend of Discounted Cash Flow (DCF) Model and Dividend Discounted Model (DDM). Using a discount rate of 17% (risk-free rate: 8%, beta: 0.67x, equity risk premium: 13%) to discount our projected cash flows and dividends, we estimate a fair value of N23.46 for the Group.
At the current market price, the total return (price return and dividend yield) on the stock stands at 32%. Hence, we recommend a BUY.
