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Initial View - Unilever Nigeria Q3 2018 - One-off disposal gains mask operating weakness in Q3

• Unilever Nigeria in its just released Q3 18 results reported EPS from continuing operations of N0.67 (ARM’s estimate of N0.57) which more than doubled Q3 17 performance of N0.33. The impressive earnings performance was driven by other income of N2.2 billion largely resulting from gains of N2.0 billion on the sale of its spread business (Blue Band Margarine). We note that the completion of the sale of its spread business to Sigma Bidco B.V (an entity incorporated by KKR & Co LP) was effective 01 July 2018. Cumulative for the nine-month period (9M 18), the company reported EPS of N1.66, representing a 37% increase from N1.22 in 9M 17.
• Spreads business sold at a gain:: Based on details in Unilever’s Cash flow statement, we deduce that the assets of the spread business was sold at ~ N5 billion, higher than the asset book value of N2.7 billion which net of fees, resulted in the gain of N2.0 billion reported in Q3 18. The company disclosed that Sigma Bidco B.V (an entity incorporated by KKR & Co LP) is incorporated in Nigeria as Sigma Silver Foods (Upfield Foods) Nigeria Limited. Also, a Transitional Service Arrangement is in place during which Unilever Nigeria would support Upfield Foods and earn an income.
• Weaker core operating performance: Excluding the gains on asset disposal, Unilever’s operating performance wasn’t spectacular relative to earlier quarters. Pre-other income EBIT declined 23.7% to N2.0 billion, due to a faster increase in cost of sales (+8.5% YoY) and operating expenses (+17.7% YoY) relative to revenue (+6.6% YoY). On input costs, given the sustained moderation in domestic crude palm oil price (-6%) and stable foreign exchange, we suspect the pressure resulted from higher petrochemical prices in line with the rise in crude oil price (+45% YoY). Elsewhere, the rise in operating expenses stemmed from a 25% YoY increase in admin expenses arising from higher service fees (+9.5x YoY). Majority of Unilever’s service fees typically come in third or fourth quarter. With the bulk of its service fees arising in Q3 18, we expect a moderation in admin and overall operating expenses in Q4 18. On the other hand, we like the revenue growth of 6.6%. From our price checks, Unilever’s average product pricing was up by a modest ~1.5%, suggesting that the company sustained single digit volume growth in Q3 18.
• Still a healthy balance sheet: Unilever’s balance sheet remained strong in 9M 18. Loans and borrowings declined modestly by 1.2% QoQ to N4.3 million (FY 17: N674 million) with debt to equity ratio remaining flat at ~0%. Cash also remained robust at N46.8 billion (-2.4% QoQ) which ensured the finance income of N950 million (+3.98x YoY) reported in the review quarter.
• Overall, while we acknowledge the impressive bottom-line performance, we reiterate that it was reflective of a one-off gain from the disposal of the spread business. Into Q4 18 and FY 2019, we maintain our optimism on earnings, as we expect operating expenses to normalize to previous levels. We also remain positive on topline with support expected to come from volumes.
• Our last communicated FVE on Unilever is N50.98 which translates to an OVERWEIGHT rating on the stock. Unilever trades at a current P/E of 20.24x relative to Bloomberg Mena peer average of 19.2x.
• More analysis to follow.