Treatt — Update 17 May 2016

Treatt (LSE: TET)

Last close As at 28/03/2024

420.00

2.00 (0.48%)

Market capitalisation

257m

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Research: Consumer

Treatt — Update 17 May 2016

Treatt

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Written by

Consumer

Treatt

New strategy playing out

Interim results

Food & beverages

17 May 2016

Price

177.5p

Market cap

£92m

Net debt (£m) at 31 March 2016

8.4

Shares in issue

51.5m

Free float

100%

Code

TET

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

3.2

(2.2)

23.7

Rel (local)

6.0

(7.1)

38.4

52-week high/low

190.0p

145.0p

Business description

Treatt provides innovative ingredient solutions from its manufacturing bases in Europe, North America and Africa, principally for the flavours and fragrance industries, and multinational consumer goods companies with particular emphasis on the beverage sector.

Next events

Trading update

End September

FY 16 results

29 November 2016

Analysts

Sara Welford

+44 (0) 20 3077 5700

Paul Hickman

+44 (0)20 3681 2501

Treatt is a research client of Edison Investment Research Limited

Treatt has yet again reported a strong set of results. The strategy to improve the quality of earnings is coming through, as proven by these results: the move from commoditised sales to more value-added products has caused sales to be marginally down, and yet margins are up. We leave our forecasts unchanged as we believe the new strategy will continue to play out.

Year end

Revenue (£m)

PBT*
(£m)

EPS*
(p)

DPS
(p)

P/E
(x)

Yield
(%)

09/15

85.9

8.1

12.3

4.6

14.4

2.6

09/16e

85.9

8.5

12.4

4.7

14.3

2.6

09/17e

89.4

9.1

13.3

5.0

13.3

2.8

09/18e

92.9

9.3

13.5

5.1

13.1

2.9

Note: *PBT and EPS are normalised, excluding intangible amortisation, exceptional items and share-based payments.

Strong start to the year

H1 sales were 1% ahead of our forecast, and operating profit was in line with our forecasts, but this was despite a net FX loss during H1. This should reverse in H2. We expect a more even balance of profitability between H1 and H2 in 2016 compared to 2015, which witnessed a weak Q1. We therefore leave our FY16 forecasts unchanged at this stage, but see potential for upside given management’s conservative track record and the momentum in the business.

New strategy gives continuity

Treatt outlined its new strategy towards the end of FY15, and it is an evolution from the prior three-year plan, given it is being implemented by the same management team. CEO Daemmon Reeve previously reshaped the business to break down the silo mentality, and the new strategy is now trying to achieve improved customer focus and closer relationships, with the ultimate goal of moving Treatt away from commoditised trading and concentrating its resources further up the value chain to deliver greater profitability.

Valuation: Ingredients space is attractive

We have rolled forward our DCF to start in 2017. Our DCF-derived fair value therefore increases to 204p, an attractive 15% upside to the current share price. This is also supported by a benchmark valuation, with Treatt trading at 14.1x and 9.0x calendar P/E and EV/EBITDA respectively for 2016e, representing a +40% discount to the ingredients peer group. With more evidence of Treatt moving up the value chain and away from commoditised product trading, we believe the valuation gap should start to tighten. Given our forecast for mid-single-digit three-year CAGR EPS 2016-19, we think the current level of discount is unwarranted, and believe Treatt presents an interesting opportunity to gain exposure to the highly-rated food ingredients segment.

H1 results

H1 sales were down c 1%, caused by a change in product mix as the company tries to move away from commoditised trading. The prior three-year strategic plan was delivered in full and ahead of time, and towards the end of FY15, Treatt started to implement the new strategy. This is an evolution of the old strategy and is described in greater detail in our latest note. The main objective is to collaborate ever more closely with its customers, in order to deliver superior solutions and become the supplier of choice, thus leading to long-term, sustainable profit growth. The new strategy is progressing well, and there have been a number of new business wins, which over time should lead to greater profitability.

Profits were held back in H1 by the timing of FX hedges. These are of a long-term nature and should unwind in H2.

As normal, Treatt has reported an increase in net debt at the end of H1 as inventory is built up in preparation for the seasonally stronger second half of the year (though we expect the split between H1 and H2 to be less pronounced in 2016 than in 2015 when Treatt experienced a particularly weak Q1). In addition, some citrus raw material prices rose markedly during H1, thus increasing inventory by £3.9m vs H115. Nevertheless net debt was down £1.5m vs a year ago.

Valuation

We illustrate Treatt’s valuation versus its ingredients peer group below. Treatt trades at a significant discount to its ingredients peer group on all metrics. While some discount can be applied given its small size, and some of its products are relatively ‘upstream’ in the ingredients spectrum – in particular the bulk ingredients that are sold to other ingredients companies, which we estimate account for c 30% of revenue – and hence would command a lower multiple, we believe a c 40% discount on EV/EBITDA and P/E is unwarranted.

Exhibit 1: Benchmark valuation

P/E (x)

EV/EBITDA (x)

Dividend yield (%)

Market cap (m)

2016

2017

2016

2017

2016

2017

Givaudan

CHF17,544

24.9

23.2

16.3

15.4

3.1%

3.3%

IFF

$9,450

21.7

20.0

14.3

13.3

1.9%

2.0%

Symrise

CHF8,386

25.1

22.9

14.4

13.2

1.5%

1.7%

Frutarom

ILS11,079

21.0

18.9

14.8

12.8

0.8%

1.0%

Chr Hansen

DKK53,769

37.8

32.8

24.4

21.4

1.3%

1.6%

Kerry

€13,594

23.7

21.2

17.0

15.1

0.7%

0.8%

Ingredion

$8,170

17.0

15.7

9.4

8.8

1.7%

1.8%

Peer group average

24.5

22.1

15.8

14.3

1.6%

1.7%

Treatt

£94.1

14.1

13.3

9.0

8.4

2.7%

2.8%

Premium/(discount) to peer group (%)

-40.9%

-42.5%

-39.9%

-42.8%

-41.4%

72.4%

Source: Bloomberg (prices as of 16 May 2016). Note: Treatt figures are calendarised to aid comparison.

We have rolled forward our DCF to start in 2017, given we have now passed the H1 mark. Our DCF-derived fair moves to 204p. This is predicated on a WACC of 7.9% (encompassing a beta of 0.8, an equity risk premium of 5.0% and a borrowing spread of 5.0%) and a terminal growth rate of 2%.

Exhibit 2: Financial summary

£000s

2013

2014

2015

2016e

2017e

2018e

Year end September

IFRS

IFRS

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

74,097

79,189

85,934

85,934

89,371

92,946

Cost of Sales

(56,510)

(61,218)

(66,955)

(66,654)

(68,874)

(71,536)

Gross Profit

17,587

17,971

18,979

19,280

20,498

21,411

EBITDA

 

 

8,338

9,022

10,109

10,574

11,526

12,167

Operating Profit (before amort. and except.)

 

 

7,119

7,800

8,865

9,142

10,037

10,618

Intangible Amortisation

(181)

(172)

(175)

(160)

(160)

(160)

Exceptionals

(1,153)

(1,402)

(174)

0

0

0

Other

0

0

0

0

0

0

Operating Profit

5,785

6,226

8,516

8,982

9,877

10,458

Net Interest

(651)

(724)

(740)

(652)

(918)

(1,340)

Profit Before Tax (norm)

 

 

6,468

7,076

8,125

8,490

9,119

9,278

Profit Before Tax (FRS 3)

 

 

5,134

5,502

7,776

8,330

8,959

9,118

Tax

(1,655)

(1,553)

(1,786)

(2,082)

(2,240)

(2,280)

Profit After Tax (norm)

4,813

5,280

6,339

6,407

6,879

6,999

Profit After Tax (FRS 3)

3,479

3,949

5,990

6,247

6,719

6,839

Average Number of Shares Outstanding (m)

51.1

51.3

51.5

51.7

51.7

51.7

EPS - normalised (p)

 

 

9.4

10.3

12.3

12.4

13.3

13.5

EPS - normalised & fully diluted (p)

 

 

9.4

10.2

12.2

12.4

13.3

13.5

EPS - (IFRS) (p)

 

 

6.8

7.7

11.6

12.1

13.0

13.2

Dividend per share (p)

3.7

3.8

4.6

4.7

5.0

5.1

Gross Margin (%)

23.7

22.7

22.1

22.4

22.9

23.0

EBITDA Margin (%)

11.3

11.4

11.8

12.3

12.9

13.1

Operating Margin (before GW and except.) (%)

9.6

9.8

10.3

10.6

11.2

11.4

BALANCE SHEET

Fixed Assets

 

 

14,341

13,777

13,381

16,578

26,269

32,454

Intangible Assets

1,759

1,801

1,736

1,576

1,416

1,256

Tangible Assets

11,718

10,994

10,998

14,355

24,206

30,551

Investments

864

982

647

647

647

647

Current Assets

 

 

38,340

43,590

45,045

44,775

46,903

49,131

Stocks

23,669

28,020

25,799

26,640

28,063

29,557

Debtors

13,207

14,509

17,635

17,635

18,340

19,074

Cash

1,117

629

1,477

500

500

500

Other

347

432

134

0

0

0

Current Liabilities

 

 

(12,533)

(16,005)

(13,481)

(15,866)

(21,166)

(24,242)

Creditors

(11,962)

(12,729)

(12,675)

(11,812)

(12,285)

(12,776)

Short term borrowings

(522)

(2,356)

(567)

(4,054)

(8,881)

(11,466)

Provisions

(49)

(920)

(239)

0

0

0

Long Term Liabilities

 

 

(12,754)

(12,602)

(11,760)

(6,823)

(9,036)

(10,129)

Long term borrowings

(8,889)

(7,857)

(7,065)

(2,027)

(4,440)

(5,733)

Other long term liabilities

(3,865)

(4,745)

(4,695)

(4,796)

(4,596)

(4,396)

Net Assets

 

 

27,394

28,760

33,185

38,663

42,970

47,214

CASH FLOW

Operating Cash Flow

 

 

9,250

3,528

8,667

10,461

9,670

10,230

Net Interest

(714)

(724)

(740)

(652)

(918)

(1,340)

Tax

(649)

(1,552)

(1,469)

(2,082)

(2,240)

(2,280)

Capex

(1,433)

(538)

(924)

(4,789)

(11,341)

(7,894)

Acquisitions/disposals

(154)

(208)

(103)

0

0

0

Financing

(56)

105

147

(0)

0

0

Dividends

(1,585)

(1,899)

(1,978)

(2,363)

(2,412)

(2,594)

Net Cash Flow

4,659

(1,288)

3,600

574

(7,240)

(3,877)

Opening net debt/(cash)

 

 

12,949

8,294

9,584

6,155

5,581

12,821

HP finance leases initiated

0

0

0

0

0

0

Other

(4)

(2)

(171)

0

(0)

(0)

Closing net debt/(cash)

 

 

8,294

9,584

6,155

5,581

12,821

16,698

Source: Edison Investment Research, Treatt accounts

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United Kingdom

New York +1 646 653 7026

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