Exposure  to  two  of  the  most  important  ASEAN  growth  markets. Petra  Foods (Petra)  has an estimated 53% market share in Indonesia, where its flagship brand  SilverQueen  is a household name, built up over half  a  century.  Petra's  various  products  and  brands  have  been dominating the Indonesian retail scene, whereas in the Philippines, it is a top  five  player with a 10% market share, after buying Nestle's chocolate business in 2006. 

Possible acquisitions may add to earnings. The company is sitting on a net cash position of  USD121.6m. We believe management is actively looking  at  possible  acquisitions   in  similar  spaces  which  are  potentially earnings accretive.  Organically, we  also  expect a greater push into new markets  such as China and Vietnam, which  could be  another  significant revenue contributor for the company.   

A more stable IDR  may provide earnings tailwind.  Petra's revenue is denominated in local currencies  mainly the  IDR,  while 60% of its costsare  USD-denominated.  We  believe  a  more  stable  IDR  should  provide some tailwinds to earnings growth, in the form of stronger gross margins and higher translated net profit. Our sensitivity analysis estimates a 6.8% increase in FY15F USD net profit for a 5% appreciation of the IDR.  

Initiate coverage with street-high TP of SGD4.50.  Our DCF-based TP implies  a  30.9x  FY15F  P/E.  We  believe  a  premium  to  its  Indonesian peers is justifiable for its excellent management track record  and purer exposure.  We expect a 3-year net profit CAGR of 15.6% from FY14FFY16F, with potential upside from IDR strength.    Ongoing litigation with Barry  Callebaut  (BARN  SW,  NR)  is  a  risk,  but  we  think  this  will  likely have no major impact on the company even in our worst-case scenario.

Investment Summary
A pure play on chocolate consumption growth in  ASEAN.  Petra is a chocolate confectionary  company  with  its  corporate  headquarters  in  Singapore.  It  is  an integrated player involved from  the  manufacturing, brand  owning to  distribution. The company, founded in 1984 by  the current chairman John Chuang, has an impressive growth  track  record. With  the  divestment  of  its  cocoa  ingredients  business  in  Dec 2013, we think Petra  now  has a more stable earnings profile and is a purer play in chocolate consumption growth in ASEAN.

Enviable  market  position  in  two  high-growth  ASEAN  markets.  We  like  Petra's exposure  to  two  of  the  most  attractive  markets  in  ASEAN  -  Indonesia  and  the Philippines.  With a history dated  back to the 1950s, Petra's products are household brands in Indonesia with an estimated 53% market share. In the Philippines, Petra is now a substantial top five  player with a 10%  market share, which has  steadily grownsince  2006.  Chocolate  consumption  per  capita  in  Indonesia  and  the  Philippines   is one-third  of  that  in  developed  markets  like  Singapore,  and  we  see  significant potential for further market growth as income level increases.

A  strong  IDR  may  provide  earnings  tailwind.  Petra  is  a  branded  consumer company with its own distributors in core markets. It therefore collects cash revenues in local currencies (more than 70%  in IDR). Furthermore, we estimate 60% of its cost of  goods  sold  is  USD-denominated.  The  IDR  depreciation  over  the  last  two  years against  the  USD  has  therefore  negatively  impacted  its  profit  in  our  view.  Going forward, our sensitivity analysis estimates a  6.8% additional increase in net profit in 
the event of a 5% strengthening of the IDR.  Our analysis  assumes Petra does not change selling prices.

War  chest to enter new markets.  Following the divestment of its upstream cocoa ingredients  business  in  Dec  2012  for  USD950m,  Petra  is  in  a  strong  financial position. We estimate the company has a war  chest of around USD250m for  mergerand acquisitions (M&As), assuming a net debt/equity  ratio  of 30%. This can be used for earnings-accretive acquisitions of  related snack food businesses or for investing organically into new markets to grow its chocolate business.

Initiate  coverage  with  street-high  TP.  We  derive  a  DCF-based  TP  of  SGD4.50, which  implies  a  30.9x FY15F P/E. We  believe a premium to its Indonesian  peers is justifiable for its excellent management track record and purer exposure. In our view, the  company's  ongoing  litigation  with  Barry  Callebaut  is  unlikely  to  have  any substantial negative impact on the company even in the worst-case scenario.

 

Key Risks
Foreign  currency  risk  -  IDR  is  a  ke y  currency.  Petra  collects  revenue  in  local currencies, in  markets  where  it  operates.  Key  revenue  currencies include  the  IDR, PHP  and  MYR.  On  the  other  hand,  around  60%  of  its cost  of goods sold is  USDdenominated.  A  stronger  USD  therefore  reduces  its  margins  and  may  affect profitability.  Furthermore,  its  reporting  currency  is  in  the  USD.  This  will  result  in  a currency conversion impact on its profitability, especially when the IDR depreciates.

Irrational  competition may  affect  margins.  While  Petra has strong  brand  equity, especially  in  Indonesia,  it  may  have  to  defend  its  market  share  if  competition intensifies. As seen in other product categories previously, competitors may decide to engage in price war to grab market share, with no regards for near-term profitability. While  Petra  has  had  a  remarkable  track  record  of  maintaining  margins,  such  a situation may force them to cut prices or engage in more advertising & promotional activities, which will increase costs.

Supply  of  raw  materials  -  less  control  after  divestments.  Having  divested  its cocoa ingredients business in Dec 2012, Petra now relies upon third-party producers for its main raw materials. As part of the sale, Petra also negotiated a 5-year supply agreement,  with  market  prices  as  the  benchmark.  During  this  period,  supply  is assured although we think there may be less control and visibility over raw material prices. Quality may also be an issue. A raw material supply disruption could affect sale.

Inability to expand into new markets. Part of our growth assumptions, especially in the  longer-term,  is  based  on  the  premise  that  Petra  would  be  able  to  expand  into other  markets,  outside  of  Indonesia  and  the  Philippines.  A  failure  to  do  so  would result  in  less  profit  growth.  Management  has  clear  intentions  for  M&A,  with  its substantial war chest.  This represents a fast-track route into new markets. However, valuations of sizeable consumer companies around the region are not inexpensive and there are risks of overpaying.

Valuation
DCF-based TP of SGD4.50. Given Petra's track record, market share and long-term stable growth prospects in this sector, we believe DCF is a suitable primary valuation methodology. Our TP of SGD4.50 implies a 16% upside from the current share price.We initiate coverage on Petra with a street-high TP of SGD4.50.

 

Deserves a premium valuation to peers.  Our TP implies  a  30.9x  FY15F  P/E and 17.0x EV/EBITDA. We expect Petra to show a 3-year net profit CAGR of 15.6% from FY14-16F.  Our TP-implied P/E  valuation is a premium to  its  regional peers' average, which  are  currently  trading  at  17.2x  FY15F  and  to  its  Indonesian peers,  which  are trading  at  an average of 22.9x FY15F.  Petra  derives more than 70% of its revenue from this market.

However,  we  believe  this  premium  is  deserving  for  its:  i)  exposure  to  the  fastergrowing  ASEAN  markets,  ii)  excellent  management  track  record  and  profit  growth, and iii) position as a pure play as a branded consumer company. 

 

Industry Overview
Most  important  growth  markets  in  ASEAN.  More  than  80%  of  group  revenue currently comes from the two markets of Indonesia and the Philippines,  where Petra currently  has  an  estimated  market  share  of  53%  and  10%  respectively.  We  like Petra's  participation  in  these  two  core  markets,  as  we  deem  them  to  be  the  most important  growth  markets  for  choc olate  confectionery  across  ASEAN.  In  terms  of market size, they are far larger than any other ASEAN markets.

Indonesia
Market  expected  to  grow  5.5%  CAGR  over  the  next  five  years.  According  to Euromonitor,  Indonesia  is  expected  to  remain  the  biggest  market  for  chocolate confectionery in  ASEAN, with a total market size of USD950m in  2013. With a large and  growing  population  of  almost  250m  people  and  an  emerging  middle  class, demand  for  chocolate  confectionery  is  expected  to  remain  high.  Euromonitor estimates that the market may grow 5.5% CAGR over the next five years.

Dominant  player  with  more  than  50%  market  share.  With  its  early-mover  and history in Indonesia, Petra  is a dominant player and  now has a 53% market share  in the country, according to AC Nielsen data.  In comparison, the  next biggest players are Mayora  Indah (MYOR  IJ, NR) and Mondelez (MDLZ US, NR), with an  estimated market share of 12% each.Petra  achieves  this  market  share  through  a  multi-brand  strategy,  though  its  most successful  brand  remains  SilverQueen.  The  latter  has  an  estimated  33%  market share  alone  and  dominates  the  "moulded  chocolate" category,  with  Cadbury  being the  next  largest  with  a  7%  market  share.  For  the  "countline  chocolate"  category, Mayora  Indah's  Beng-Beng  is  the  market  leader  with  an  estimated  16%  market share, though Petra is not far behind with a combined 14% market share through two brands  -  Top  and  Chacha.  These  two  categories  are  also  the  most  important  in Indonesia.

The Philippines
Second-largest chocolate confectionery market in ASEAN.  The Philippines is the second-largest  chocolate confectionery  market in ASEAN, with an estimated market size  of  USD362m in  2013.  Similar  to  Indonesia,  it  has  a  large  population  of  about 90m and a fast-growing economy which is driving consumption growth.  Euromonitor estimates  per  capita  consumption  in  this  market  at  0.3kg/per  annum,  which  is significantly lower than those in more developed markets like Singapore.

Petra a  top five  player.  Universa Robina (URC PM, NR) is the clear market leader with  an  estimated  market  share  of  29%  in  the  Philippines.  Other  notable  players include  Petra, which has an estimated 10% market share.  Compared with Indonesia, the Philippines is a slightly more fragmented market, wi th the players outside  of the top five accounting for 28% of the market share (vs 15% for Indonesia).In the Philippines  market, Petra is mainly  engaged  in the lower and middle market segments, with two main brands - Goya mainly targets adults while Knick Knacks set its sights on  younger  consumers. The higher-end market is dominated by imported foreign brands, which Petra has found it difficult to break into so far.

 

 

Source: OSK-DMG