EUR 850.00 For Business Accounts Only

Morningstar | Kerry Reports Strong Set of Results for 2018 Despite Consumer Foods Weakness; Shares Cheap

Kerry Group reported full-year 2018 results with reported group sales growth up 3.1% (3.5% volume and negative 0.5% pricing), in line with our estimates. Group trading margin was flat at 12.2% (versus 12.3% in our model), the result of 20 basis points improvement in taste and nutrition (in line with our estimates), which was offset by a 60-basis-point margin reduction in consumer foods due to adverse currency movements and KerryExcel investments (versus a 10-basis-point reduction in our model). Adjusted earnings per share at constant currencies grew 8.6% versus 7.4% in our model. Management expects growth of 6%-10% adjusted EPS at constant currency for fiscal 2019 (versus 12.1% in our model including acquisitions contribution), while it reiterated its medium-term guidance (150-basis-point margin improvement by fiscal 2022) and strategic priorities, including a promising M&A pipeline for 2019, in line with our expectations. Given this broadly in-line set of results, we maintain our EUR 110 fair value estimate and wide moat rating.

In taste and nutrition, the group's main unit (88% of sales, 81% of profits), volume growth was up 4.1% and pricing down 0.5% (versus up 4% and down 1% in our model, respectively). Developing markets and food service continue to be the growth drivers, with 9.5% and 5.8% growth, respectively. In the consumer foods unit, volume growth was low but still outperformed a challenging underlying market (up 1.1% versus down 0.3%), with margins contracting by 60 basis points on the back of the adverse impact from transaction currency that more than offset underlying margin improvement in the business (10 basis points). Interestingly, management announced on the call that it plans to expand the business' offering in higher-growth adjacencies (plant-based products), tapping taste and nutrition's technology platform.

Free cash flow conversion was lower than expected (72% versus 79% in our model), mainly due to higher-than-anticipated working capital needs, with management announcing that it expects similar levels of conversion in 2019, in line with estimates of 73% in our model. Kerry declared a total dividend per share of 70.2 cents, up 12% versus last year, in line with our estimates.

Kerry presents a compelling investment opportunity for the patient investor, in our opinion. The shares are trading at roughly a 20% discount to our EUR 110 fair value estimate, which implies a forward fiscal 2020 price/adjusted earnings ratio of 25.0 times and enterprise value/adjusted EBITDA ratio of 16.0 times. We think current valuation levels offer an adequate margin of safety, with our worst-case scenario valuing shares at EUR 85, less than 10% lower than the current market price.