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Initial View - Nestle Nigeria Plc Q3 2018 - Lower FX losses offset operating cost pressures

• Late yesterday, Nestle Nigeria (Nestle) released its Q3 18 results reporting 81.3% YoY increase in EPS to N14.71. Much of the growth in earnings stemmed from lower FX losses following the repayment of its related party foreign currency borrowings in H2 17 as well as the relative stability in the currency. Earnings reported in the period was, however, weaker than our estimate of N16.03 majorly due to higher than forecasted interest expense. With the strong performance in Q3, Nestle’s EPS for the nine-month period was up 44.1% YoY to N41.78. Accordingly, the company declared an interim dividend of N20.00 (+33.3% YoY), representing a dividend yield of 1.45% based on current pricing.
• Revenue growth slows on poor showing in beverage: Revenue in the review quarter increased 7.1% YoY to N67.8 billion. Although positive, we note that the YoY revenue growth is slower than earlier quarters (YoY - Q2: 11.6%; Q1: 10.3%), reflecting weaker revenue in the beverage segment which declined 1.3% YoY to N23.9 billion in Q3 18. Since the beginning of the year, the beverage segment has been rising double-digit (H1 18: 14.6% YoY) hence, the decline to us is quite worrying and might be due to loss on volumes following the 6% average increase in product prices in the beverage segment. On the other hand, strong demand for Maggi and Golden Morn continued to support food revenue, as the segment sustained its double-digit growth pace, rising 12.4% YoY in Q3 18.
• Higher operating expenses erodes gross margin gains: Over the period, Nestle reported 11% YoY increase in gross profit while gross margin expanded 158bps YoY to 45.1%, driven by a slower increase in cost to sales (+4.1% YoY) relative to topline growth. The improvement in margin reflects moderation in the prices of its major inputs. In addition, against trend seen in H1 18 where Nestle booked impairments of N4.4 billion, the company did not report impairments on its PPE in Q3 18. For us, this is positive, as it somewhat signals that the company is done with booking impairments on its assets in 2018. Despite the positive outturn in gross margin, EBIT margin contracted 51bps YoY to 25.4% due to higher operating expenses, largely from selling and distribution, while EBIT rose by 5% YoY to N17.2 billion.
• Finance expense slumps 79% on lower FX losses: As stated earlier, the marked increase in Nestle’s Q3 18 EPS stemmed from lower finance expense. Precisely, the company reported finance expense of N1.54 billion, representing a 79.4% YoY decline from N7.5 billion in Q3 17. Although actual interest expense remained flat (declining by a modest 2% to N1.50 billion), the substantial decline in overall finance expense reflected lower FX losses of N46 million (Q3 17: N5.9 billion) following the duo of FX stability at N360/$ and payment of 74% of its FCY borrowings since Q3 17.
• Overall, while we find the growth in EPS decent, we note that it was majorly driven by lower FX losses which offset pressures from a slowdown in beverage revenue and higher operating expenses. Nonetheless, we remain optimistic into Q4 18, as we expect the festive season to drive higher revenue, particularly for its food segment. We expect this alongside sustained moderation in the prices of its key input costs to support Q4 and overall FY 18 bottom-line.
• Our last communicated FVE on Nestle is N1,287.54 which translates to a SELL rating on the stock. NESTLE trades at a current P/E and EV/EBITDA of 24.94x and 14.99x relative to Bloomberg Mena peer average of 18.85x and 12.10x.
• More analysis to follow.