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Associated British Foods - better than expected end to the year

Sophie Lund Yates, Equity Analyst | 13 September 2021 | A A A
Associated British Foods - better than expected end to the year

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Associated British Foods Ord 5,15/22p

Sell: 1,871.50 | Buy: 1,873.00 | Change -58.00 (-2.99%)
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ABF's underlying operating profit is set to beat expectations in the final quarter, reflecting margin progress across Primark and the food businesses, although sales were worse than expected at Primark.

As a result, full year underlying operating profit is now expected to exceed last year.

The shares fell 3.0% following the announcement.

View the latest ABF share price and how to deal

Our view

Despite its name, Associated British Food's biggest money maker in normal times is Primark.

Unfortunately, retailers are being hampered once more by reduced high street footfall. The new Delta variant and increased self-isolation requests dragged on performance towards the end of the year. That's not helped by Primark's lack of an online offering, but the retail giant's lower price points seem to be serving it well. We've been particularly impressed at the group's stock control. It's been able to shift huge quantities of excess stock from when shops were first forced to close, and even managed to set new sales records at its stores when lockdowns eased.

ABF's also been able to avoid excess discounting. That's a serious gold-star in today's climate, and helps protect margins, as does strong staff and store cost control. Cost control is an important tool, especially with the outlook still uncertain.

Associated British Food's idiosyncratic structure is also helping it navigate the current uncertainty. Sales in Grocery are up for the year as a whole, and performance has been remarkably resilient in our opinion. There's also been a cyclical upturn in sugar prices. That's good news for the sizeable Sugar business, and the Ingredients division is also faring well. These divisions are a large reason why ABF has been able to put dividends back on the agenda.

The balance sheet is in a healthy position too. ABF has close to £2bn of net cash under the mattress. That implies some very impressive cash conversion, and is something we greatly admire about ABF. The big question now is what ABF plans to do with that hoard, as it's suggested it will build up a net debt position. Options include a return to shareholders, acquisitions or investment in the business - perhaps into a better digital offering at Primark.

Underneath the noise, ABF has a price-competitive retail product, diversified business interests and strong balance sheet. Future growth opportunities (particularly in the US) and weaker competitors mean we're optimistic about the longer-term picture. Ups and downs are to be expected in the shorter-term though, given ongoing disruption and well-publicised supply chain problems. The uncertainty is reflected in a lower than average price to earnings ratio.

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ABF key facts

  • Price/earnings ratio: 14.6
  • Ten year average Price/earnings ratio: 20.5
  • Prospective dividend yield (next 12 months): 2.4%

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

Pre-close trading update

Retail sales are expected to be 17% lower than the same period two years ago. That reflects social measures relating to the new Delta variant, the "pingdemic", and reduced European tourism, which negatively affected high street footfall in core markets, including the UK.

However, lower staff and store costs helped margins in the second half, and these are expected to be over 10% for the full year. The group expects full year underlying operating profit to be ahead of last year. The group expects these cost saving benefits to continue to help margins next year.

Primark has sold all its spring/summer stock left over from last year, but is experiencing some delays with autumn/winter stock because of freight disruptions. This will result in the group having about £200m less inventory than planned.

Sugar revenue will be up about 7% on last year, following a strong fourth quarter. There has been "particularly strong" domestic and regional volumes for Illovo, while prices have risen in Africa and Europe. The group's UK operations produced 0.9m tonnes of sugar, compared to 1.19m last year, largely because of poor weather conditions. ABF thinks Sugar demand will continue to outstrip supply next year.

Higher corn oil costs, and a restructuring charge for Allied bakeries, means Grocery revenue is expected to be lower than last year. Those headwinds are offsetting higher revenues. Brands including Twinings, Ovaltine and Silver Spoon did well.

Sales and underlying operating profit are due to exceed last year's levels in both the Ingredients and Agriculture businesses.

The lower than expected inventory levels at Primark, and higher profits means ABF predicts it will end the year with £1.9bn in net cash, up from £1.6bn. The Board has agreed a new debt policy, and will aim to keep debt as a proportion of cash profits (EBITDA) "well under" 1.5 times.

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

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. 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.