April 25, 2018 /12:05PM/ARM Research
Unilever Nigeria Plc (Unilever) began the 2018 financial year positive reporting impressive EPS of N0.50 (+19.1% YoY) which was largely in line with our expectation (ARM forecast: N0.49). Broadly, earnings growth reflected volume-led revenue growth (+16.4% YoY to N25.8 billion) and lower operating expenses to sales ratio (-199bps to 14%) which offset higher cost of sales (+17.6% YoY to N18.7 billion) – a reflection of higher petrochemical prices, in our view.
Going forward, we retain our view that higher petrochemical prices from the sustained rise in Brent price would pose downside risk to Unilever’s core earnings. Nevertheless, we see higher finance income and tamer finance expense providing support for earnings and forecast FY 18E after-tax earnings to rise 58.7% YoY to N11.8 billion. However, due to the dilutive impact of the additional shares (1.96 billion ordinary shares) from the rights issue in Q3, our EPS translates to N2.06 which represents a 15.4% YoY increase from FY 17.
From all indications, Unilever Nigeria is poised for further earnings recovery in FY 18. However, from a valuation standpoint, we believe the stock is expensive with the company trading at a forward P/E of 25.8x vs. 18.9x average for MENA peers. Additionally, on our FY 18 earnings, we expect 2018 ROE to print at 13%, lower than 27% average in the last 5 years which speaks to the idle cash – from the rights issue – on its books that is yet to translate to substantial improvement in earnings. Hence, with our FVE of N34.30, we retain our SELL rating on the stock.
Margin expansion and finance income underpins Q1 earnings
Over Q1 18, Unilever’s revenue rose 16.4% YoY to N25.8 billion, faster than Q4 17 YoY growth of 8.7%. By our price checks, average product pricing was higher ~4% YoY, as such, we attribute the growth in revenue to higher volumes. In our view, the growth in volumes speaks to the company’s sustained investment in its route-to-market strategy to drive volumes amidst slow recovery in consumer wallets. According to provided breakdown, much of the growth came from the Home and Personal Care (HPC) segment which rose 16.8% YoY to N13.6 billion and contributed 52.9% to aggregate revenue while the food segment rose 16% YoY to N12.2 billion.
In our report on Unilever Nigeria following the release of its FY 17 results, we explained that the company is set to face input cost pressures in 2018 on the back of rising Brent price which would impact prices of petrochemicals (key input) with an attendant negative impact on Cost of Goods Sold (COGS). In line with our prognosis, despite the recent stability in the Naira and declines in the price of domestic Crude Palm Oil, COGS rose at a faster pace than sales, 17.6% YoY to N18.7 billion, most likely reflecting the rise in petrochemicals. Consequently, gross margin contracted 72bps YoY to 27.7% (Q3: 31.3%, Q4: 34.7%) with related profit at N7.1 billion. Irrespective, aided by a soft increase in operating expenses owing to lower admin expenses, operating margin firmed up, rising 124bps to 13.7% above the 5-year trend level of 10%.
Extending what played out in Q4 17, Unilever’s earnings enjoyed gains of a rich cash position and tamed leverage. Pertinently, with cash of N47.4 billion (Cash at bank: N22.6 billion and Fixed deposit: N24.9 billion), the company reported finance income of N494 million (vs. N150 million in Q1 17). Also, given the lower debt position of N457 million (vs. N25.4 billion as at Q1 17), interest expense declined markedly by 86.4% YoY to N98.5 million. Against this backdrop, net finance income over the quarter printed at N396 million compared to a net finance expense of N575 million in Q1 18.
Given the above mentioned, before and after-tax earnings printed at N3.9 billion (+80% YoY) and N2.9 billion (+80.9% YoY). However, EPS printed at N0.50 representing a 19.1% YoY increase from N0.42 in Q1 17, due to share dilution.
Further earnings improvement anticipated in FY 18
Over the rest of the year, we expect revenue to come in stronger relative to 2017 largely driven by volumes. As such, we have revised our FY 18E revenue higher by 6.5% to N104.5 billion (+15.1% YoY). Despite the downturn in the price of CPO, the sustained upsurge in the price of crude oil guides to further pressures on COGS. Hence, we have revised our FY 18E cost of sales higher by 9.7% to N72.3 billion (+17.0% YoY). Accordingly, we project gross profit to rise 11.2% YoY to N32.2 billion with a 109bps contraction in related margin to 30.8% (vs. 5-year average of 35%).
We have revised our operating expenses higher by 10.6% to N17.0 billion to capture expected increases in selling, distribution and admin expenses. Against this backdrop, we forecast operating margin to expand 25bps to 14.5% which is higher than 5-year average level of 10.4%.
With the company’s cash position remaining buoyant, we expect finance income for the year to print at N2.5 billion, representing a 51% YoY increase from the prior year. Similarly, given the company’s soft leverage, we forecast finance expense to print at N305 million (vs. N3.4 billion in FY 17). The combination of our forecast finance income and expense translate to a net finance income of N2.2 billion (vs. N1.7 billion net finance expense). Overall, net impact of our model revisions translates to a PBT and PAT of N17.4 billion (+55% YoY) and N11.8 billion (+58.7% YoY) respectively.
From all indications, Unilever Nigeria is
poised for further earnings recovery in FY 18 although, stemming more from
moderated finance expense. However, from a valuation standpoint, we believe the
stock remains expensive with the company trading a P/E of 25.8x vs. 18.9x
average for MENA peers. Additionally, on our FY 18 earnings, we expect 2018
return on equity to print at 13%, lower than 27% average in the last 5 years
which speaks to the idle cash on its books that is yet to translate to
substantial improvement in earnings. Hence, with our FVE of N34.30, we
retain our SELL rating on the stock.