Improved Margins Of Dangote Sugar Refinery Underpin Solid Earnings Growth in FY 17, Rated Overweight


Tuesday, April 03, 2018 10:20 AM / ARM Research 

Dangote Sugar Refinery (Dangsugar) finished its financial year 2017 on a high note with its recently released full year results revealing impressive earnings of N39.8 billion which almost tripled its performance in 2016 and translates to earnings per Share (EPS) of N3.31 (FY 16: N1.20). 

The company declared a final dividend per Share (DPS) of N1.25 which in addition to the interim of N0.50 amounts to total DPS of N1.75, representing a payout ratio of 53% (vs. 50% in 2016) and 191.7% YoY higher than 2016 total DPS of N0.60. Proposed final DPS translates to a yield of 5.7% based on current pricing. 

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Higher product pricing support revenue. The step up in earnings stemmed principally from revenue which rose 20% YoY to N204.4 billion underpinned by higher product pricing. Precisely, average pricing per ton over 2017 was higher 43.4% than 2016 following price hikes to pass-through input price pressures in a bid to protect margins. On the flipside, sales volume declined 15.5% to 657,775MT which we attribute to higher product pricing, smuggling of unlicensed sugar as well as reduced industrial demand from major corporates whose production levels were challenged by the inability to source FX for the importation of needed raw materials. 

Energy pressures offsets gains from lower raw sugar prices. Over 2017, raw material cost1 declined 2.1% YoY to N123.9 billion driven by lower raw sugar prices and naira appreciation from improved dollar liquidity as well as currency stability. However, the company faced energy pressures2 during the year from a 42% increase in Low Pour Fuel Oil (LPFO) with more usage of expensive LPFO (25% in 2017 vs. 10% target of total energy) due to gas instability in the first three quarters of 2017. Consequently, energy pressure masked gains from lower raw sugar prices with a resultant 4.6% YoY increase in Cost of Goods Sold (COGS) to N153.4 billion. Irrespective, the faster rise in revenue relative input cost, drove a 121.8% YoY increase in gross profit to N51 billion with gross margin expanding 11.4ppts to 24.9%, above past 5-year trend level of 19%. 

Finance Income provides further boost to earnings. Over 2017, finance income3 of N7.5 billion was 12.5x ahead that of 2016. Firstly, the increase stemmed from investment income of N3.4 billion given its robust cash position (2017 average cash at N38.2 billion vs. N22 billion in 2016) and favourable deposit interest rate of 13.5% (versus 11.5% in 2016). Secondly, the company recorded exchange gain of N3.9 billion which, in our view, might be related to gains on its short-term dollar credit position. Given the foregoing, profit before and after tax rose 173% YoY and 176% YoY to N53.6 billion and N39.8 billion respectively. 

Price cuts leave Q4 revenue lower. Over Q4 17 revenue declined 24% YoY to N41.4 billion due to lower product pricing (we estimate per ton refined sugar price declined 17% YoY to N274,858 over Q4) and decline in sales volume (-8.4% YoY). In our view, competition from smuggled refined sugar and distribution disruptions, a consequence of the Apapa gridlock, continued to weigh on volumes over the quarter. Nonetheless, COGS declined faster than revenue (-36.9% YoY to N31.9 billion) underpinned by lower raw material cost (-47.2% YoY) which induced a 138% YoY increase in gross profit to N9.5 billion and 15.7ppts expansion in related margin to 23%. OPEX also moderated 4.8% YoY to N2.2 billion to drive a fourfold increase in operating profit to N7.3 billion. 

Highest quarterly EPS in Q4 17. Overall, supported by higher net finance income of N5.3 billion (versus N390 million in Q4 16), after-tax earnings over Q4 rose 210% YoY to N13.2 billion, translating to an EPS of N1.10 (vs. N0.36 in Q4 16). 

DANGSUGAR trades at a P/E of 8.5x compared to Bloomberg Middle and East Africa Peers at 14.4x. Our last communicated FVE on the stock is N24.16 which translates to an OVERWEIGHT rating on the stock. We will revisit our numbers after further analysis and discussion with management.  

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1 Raw sugar accounts for 80% of aggregate cost of sales  

2 Energy contributes 12% to aggregate cost of sales

3 We included investment income in the calculation of finance income

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