What am I missing? In the analyst meeting last Friday (which I attended), INDF management showed a “clean” net income of Rp368bn for 1Q09, after FX adjustments. Multiply this figure by four, we would arrive at an annualized figure of Rp1,472bn, or an FY09 P/E of 7.5x (market cap Rp10,975bn). Market consensus presents INDF as a stock that trades on 10x FY09 P/E, with a consensus net income forecast of Rp1,150bn. Highest estimate was Rp1,387bn, with fresh estimates as low as Rp847bn. In my mind, INDF could later proof to be one of the most mis-priced stock within Indo equity market universe today, trading below 7x “clean” FY09 earnings. If we add-back non-cash amortization cost for Indolakto of around Rp180bn, the P/E should be even lower. Cheap as chips. Not Rated by Macquarie .
All the ingredients for the stock to perform are there: (1) Big and liquid enough: US$1.0bn market cap trades US$4.8mn daily, (2) Positive earnings momentum: consensus overly conservative, 1Q09 results the first trigger for upgrades, (3) Under-owned: stock has sold-off on Indolakto acquisition, management promised a net gearing target of 80% or no more acquisitions, (4) P/E re-rating potential: under 7x FY09 while domestic peers have re-rated significantly, (5) Beta: a play on stronger Rp, lower interest rate, stable commodity prices.
I am inclined to think that INDF’s “clean” net profit should trend up in 2Q, 3Q, and 4Q of 2009, compared to 1Q09 achievement. The reasons are as follows:
1. Higher CPO price should benefit INDF. Average CPO price was US$523/ton in 1Q09. Average price for the month of April was US$657/ton. Futures price today is 40% higher at US$729/ton.
2. Stronger Rp should benefit INDF, higher margins for consumer branded products. Average exchange rate was Rp11,623/US$1 in 1Q09. Average FX for the month of April was Rp11,050/US$1. Spot FX today is 10% stronger at Rp10,600/US$1.
3. Dairy milk margins should trend upward. The newly purchased business, Indolakto, is showing a gross margin of 6.2% in 1Q09 for its dairy products. The price of its main raw material, skim milk, has been on the downtrend since late 2008. INDF management said the margin was artificially low due to inventory clearing, the normalized margin should be “double digits”.
4. Cost of borrowings should trend down. INDF is continuing with its debt refinancing exercise. Late 1Q09, the company had refinanced US$ debt that used to cost 8-9% with a cheaper loan at 5-6%.
Changing profit mix à higher P/E target
I should also highlight the favourable change in profit mix for INDF, which argues for a P/E re-rating. Commodity-based earnings account for a smaller proportion of 1Q09 (and 2009) earnings. Meanwhile, the consumer branded products (noodle and dairy milk) generate bigger pre-tax profit and EBIT, in both absolute and proportion to total.
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