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Associated British Foods - Sugar bad, Primark good

George Salmon | 5 July 2018 | A A A
Associated British Foods - Sugar bad, Primark good

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No news or research item is a personal recommendation to deal. All investments can fall as well as rise in value so you could get back less than you invest.

Associated British Foods Ord 5,15/22p

Sell: 1,660.50 | Buy: 1,662.00 | Change 11.00 (0.67%)
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Associated British Foods, owner of Primark, has released a trading update covering the 40 weeks to 23 June 2018.

Lower EU sugar prices are bringing headwinds in the sugar division, and while profitability at Primark looks better, further store openings in France and Germany have been delayed.

The shares fell 3.5% on the news.

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Our view

It's no surprise that most of ABF's divisions are in some way tied to the food supply chain. However, what the name doesn't tell you is it also owns Primark, and it's fashion rather than food driving the group.

Primark's expansion across the Atlantic is of particular importance. The American market offers huge growth potential, which is a big part of the reason why the shares trade at a premium to other retail names, at 18.9 times expected earnings.

A successful US roll-out has the potential for huge rewards. The risk is if the brand fails to gain traction in the notoriously competitive US fashion sector. Plans to downsize three of its nine US stores will have no doubt raised an eyebrow or two.

However, we're not panicking just yet. The odd bump on the road to finding its niche stateside is to be expected, and trading has consistently been described as good.

Primark's established UK and European markets are ticking over nicely, with like-for-like growth and new store openings helping Primark seize market share from rivals. Looking ahead, there's plenty more growth to come. Even though a couple of European stores are going to open later than planned, space will still increase by close to 1m square feet this year.

Of the rest of ABF's divisions, Sugar is the one most capable of taking Primark's spotlight. It's been up and down recently, but lower EU prices and excess supply mean it'll be more down than up in the near-term. Investors could do without this headwind, but really only Primark has the potential to meaningfully move the dial.

The prospective yield is just 1.8%, but analysts anticipate shareholder returns rising from here as growth continues. How successful the group is at replicating its popularity in the UK and Europe in the US will play a big part in determining the pace and duration of this upwards trend.

It'll undoubtedly be a challenge, but we feel Primark's excellent track record shows it can rise to it.

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Trading details - at constant exchange rates

Revenue from continuing operations rose 3%, despite a sharp fall in revenues at the sugar division in the most recent quarter.

Retail, the largest of the group's divisions, has delivered sales growth of 6% year to date, driven by increased sales space. Better European trading has helped third quarter like-for-like sales improve on first half trends.

ABF reported a Retail operating margin of 9.8% in April's interim results, and now says profitability will improve significantly in the second half as a result of an improved buying position, a weaker US dollar and tight stock management.

A combination of lower EU sugar prices and excess market supply led revenue from AB Sugar 17% down in Q3. The Grocery and Ingredients divisions both saw Q3 revenues rise 4%, with Agriculture up 12%.

Looking ahead to the remainder of this year, ABF expects good profit growth in Grocery, Agriculture and Ingredients. Improvements at Primark mean guidance for the Retail division has been lifted, but this is offset by a greater than expected deterioration in profits at AB Sugar.

Overall, the group's 2018/19 guidance, for higher adjusted operating profits and adjusted earnings per share, in unchanged.

Find out more about Associated British Foods shares including how to invest

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.

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