Pioneer Foods | Playing into the wind

Innovation is more challenging for PFG given its exposure to commoditised categories. Input cost volatility is high, and consumers resist price increases in PFG's staple products, easily substituting. Maize profitability will come under further pressure in H2 ‘19 as prices remain low and input costs rise further. As such, the combination of GP margin pressure and a decline of volumes have led to a reduction of PFG margins from a peak of 11% in FY '15 to a historic low of c.7% currently.

PFG must improve margins through strong volume growth. PFG will increase its value offerings to compete against cheap products from new entrants. Margin uplift can also come from an increasing sales mix in the higher margin independent retail channel. PFG's integration of Wellingtons as subsidiary increases the mix of packaged goods and diversifies PFG's portfolio. Wellingtons is currently loss making but there are cost savings and revenue synergies from consolidation. Wellington's volume growth is strong.

Management LTI schemes are linked to an economic value add metric. Hence, it is unlikely that PFG management will chase volumes irrationally to boost earnings, at the expense of margins and returns.

We estimate adjusted diluted HEPS to grow 2% y/y in H2 '19, with FY '19 earnings still down 4% y/y at c.506cps. As input costs normalise and pricing improves together with mix, we forecast 25% y/y growth in FY '20 to c.633cps. We calculate PFG can sustain a c.14% earnings CAGR thereafter to FY '23.

We maintain a MARKET PERFORM rating for PFG with a 12m target price of R79/share.