Nestle Nigeria Plc Stock Valuation

NESTLE NIGERIA PLC

Ticker:                          NESTLENature of Business:              Food Products-DiversifiedLocation :                          Nigeria
Recent Price:           NGN1540.0052-Week High/Low: NGN1540.00/1175.00Estimated Fair Value:  NGN653.81-NGN762.33
Expected Return:    21.8%Consider Buy:                       Below NGN708.07Business Risk:            Average
Financial Risk:      AverageEconomic Moat:                  StrongCorporate Governance: Strong

Company Overview
Nestle Nigeria Plc (NESTLE), a subsidiary of   Nestle S.A. Switzerland, started as a trading company in 1961. The company has grown to become a dominant manufacturer and marketer of food products in Nigeria. Its brands include Milo, Golden Morn, Maggi, Nan, Cerelac, Nestle Pure Life, and Nescafe. It was quoted on the Nigerian Stock Exchange in April 1979.

NESTLE leverages the patents, brands and technical know-how of Societe des Produits Nestlé S.A., Nestec S.A. and Nestlé S.A., all based in Switzerland. It is positioning itself to achieve strong organic growth and sustain improvements achieved over the years.  Innovation and marketing efforts remain the basis of growing the business. To meet increasing demand, it continues to increase production capacity and expand its distribution network, making its brands readily available. Its products enjoy strong visibility through various promotions and marketing activities such as Nestlé for Healthier Kids (N4HK).

NESTLE makes about 61% of its revenue from its food business segment while the remaining 39% is realised from beverages. Export sales account for less than 2% of total revenue.

We believe NESTLE has capable directors on its board. Its chairman is Mr. David Ifezulike (Nigerian) while Mr.Wassim Elhusseini (Lebanese), the Managing Director, heads the management team. Mrs. Adebisi Lamikanra was named an independent non-executive director on 1st August 2021.

Investment Thesis
NESTLE has been successful in doing business in Nigeria for about sixty years, and it has achieved strong growth across all brands.  Innovations propelled by the robust research and development capability of the Nestle Group lie at the core of the company’s success. Consequently, it continues to respond to consumers’ changing needs in the marketplace. The continuous product improvements, embarked upon by NESTLE, have made its product more attractive to consumers.

It has heavily invested in capital. NESTLE has brands that are market leaders; and these strong brands are expected to step up the company’s earnings. Its robust marketing drive should further help stimulate demand for its products and provide consumers with additional options to choose from.

NESTLE’s performance remains impressive over the years. It has sustained this impressive growth in key performance indices, with revenue, operating profit and Profit After Tax (PAT) achieving compound annual growth rate of 5.6%, 5% and 5.2% respectively over the last three years. The company has generated positive free cash flow for ten straight years in spite of its huge capital expenditure; free cash flow was NGN101.80 per share in the year 2020, up from NGN45.60 made in the prior year. We expect to see this investment deliver a positive impact on turnover and profits going forward.

NESTLE sources a big chunk of its raw materials locally; this has helped to drive down its cost of sales which hovers around 58% of sales revenue. NESTLE continues to maintain its reputation as a high dividend-paying company in Nigeria, with a payout ratio averaging 97.2% over the last 16 years.

Valuation
Our valuation of NESTLE produced an estimate ranging from NGN653.81 to NGN762.33 per share. At its recently traded price of NGN1540.00, the shares are overpriced. We are of the belief that the company will deliver a return of 21.8%.

Financial Overview
Sales jumped by 1.1% to NGN287.1 billion in the 2020 fiscal year from NGN284 billion declared in 2019 notwithstanding the COVID-19 pandemic (2019:6.7%); the slower revenue growth in the year under review was caused by a 2.5% year-over-year decline in food sales. However, the sale of beverages grew by 6.9% to NGN115.4 billion compared to a 10% increase of the previous year.

A 7.7% rise in the cost of sales resulted in a drop of NGN8.9 billion or 7% in gross profit in the year 2020. The rise in the cost of sales was largely driven by an increase in raw materials and consumables cost from NGN110.7 billion in 2019 to NGN124.8 billion in 2020. Operating profit, Profit Before Tax (PBT) and PAT declined in the year and were NGN64.4 billion, NGN60.6 billion and NGN39.2 billion respectively.

Though it lost 3.6 percentage points year-over-year, the gross profit margin was only 10 basis points less than the 16-year average of 41.6%. Operating profit margin of 22.4% and PBT margin of 21.1% were better than the average of 16 years by 0.4% and 0.9% respectively.

Returns to shareholders are strong. Return on Equity (RoE) and Return on Assets (RoA) were 133.8% and 15.9% respectively, with averages of 79.2% and 22.3% over the last sixteen years. Both Earnings Per Share (EPS) and Dividend Per Share (DPS) have grown by 8.4% and 15.5% over the past seven years.

NESTLE is highly geared; total debt exceeded shareholders’ fund by 40% while long-term debt was 17.4% more than shareholders’ fund. Total debt as a percentage of total assets increased to 16.7% from 6.8% of the earlier year. Historically, working capital management has been poor. Current assets have trailed current liabilities in the past seven years, thereby exerting liquidity pressure on the company. But the company does not have difficulty in settling its debt obligations as it generates adequate profit and cash flow from operations. NESTLE is not insolvent.

Business Risk
Overall, barriers to entry are relatively low. However, the huge capital outlay required to procure machinery constitutes a modest barrier to entry. Massive investment in property, machinery, marketing and distribution is a critical success factor. The continuous collaboration with local farmers is the sure-fire way to lower the cost of raw materials and enhance profit margins.

NESTLE operates in a crowded market, with many companies selling similar products. There are competitive pressures from within and outside the country. Management should be unrelenting; continuous innovation, necessitating significant investments in products and operations, is indispensable.

Recommendation: Sell

 

Earnings Chart of Nestle Plc

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