Dairy Farm - Awaiting Margin Recovery

HOLD, no strong upside on the horizon. We have a HOLD recommendation on DFI with SOTP-based TP of US$8.54. Valuations are currently at 22.8x FY16F PE which we believe is fair and close to historical average valuations. We believe margin challenges in 1H15 are structural and will take time to recover, even though initiatives are in place to improve the situation. Hence, we do not see strong upside for the stock at this point in time.

Look to margin recovery, which may take time. DFI is undergoing a period of higher costs and we believe that higher run rates for margins and costs are structural. Initiatives to improve cost efficiencies like distribution centres and more fresh food are rolling out. Yet we believe these plans will take time to execute and yield results over the longer term.

Weak 1H15 results, revised earnings by 15-23%. 1H15 earnings showed that while revenue was in line, higher costs were a drag on margins and earnings. Earnings formed only 36% of our initial FY15F earnings estimates. Our FY15-FY17F EBIT margin outlook is now lower at 3.7-4% from 4.8-5%, mainly from revision in Food segment, whose margin now stands at below 3% vs over 3.7% in previous years.


Technical Analysis
Daily Chart
Valuation:
STOP valuation methodology. Our target price of US$8.54 is derived from sum-of-parts valuation methodology. We value DFI's core business at US$8.06 based on DCF, net debt (post acquisition financing of Yonghui) at US$0.42 and the 20% stake in Yonghui based on market value at US$0.90 per share.

Key Risks to Our View: 
Faster-than-expected margin recovery. We are not expecting the stock to run up aggressively due to slower margin recovery. However, if operational efficiencies are achieved faster than expected, the margin recovery will be a potential upside catalyst. That might derail our view on the stock. (Read Report)

Source : DBS Group Research

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