Olam

Kim Eng on 31 Jan 2012

Olam International (OLAM SP) – Establishing a Russian foothold
Previous day closing price: $2.53
Recommendation –Hold (maintained)
Target price – $2.79 (maintained)

Partnership with RUSMOLCO for dairy and grains farming. Olam announced yesterday a 75:25 partnership with a Russian dairy company to develop large-scale dairy/grain farms in the Penza region of Russia. Olam will invest an initial amount of US$75m for a 75% equity stake in RUSMOLCO through a capital injection and purchase of shares from the current owners, who will retain a 25% stake.

US$75m upfront, first Russian upstream investment. Although Olam has been in Russia since 1993, this is its maiden upstream investment, envisaged to be a two-stage, long-term project reaching a steady state in 2019. According to management, Olam has been looking for an investment opportunity in the country for two years. This structure allows Olam to accelerate the development of an upstream presence in Russia by 3-4 years vis-à-vis a greenfield project, and saves it from undertaking the arduous task of aggregating land.

Favourable investment/financing terms. The debt portion of the investment will be project-financed. Although an additional US$320m in capex has been committed by RUSMOLCO for Phase 1 (to take place over the next 4-5 years), this is expected to be funded by the company’s internal cash flows, as well as support via the Russian government’s capital incentive programme. This means Olam’s risk and commitment is limited to the initial US$75m equity stake.

Why Russia? The country has strong growing domestic demand, but unlike in India and China, large parcels of land are available at comparatively lower cost. There is also more scope for improvements in yields through modern technology. In addition, the government is encouraging investments in the agriculture sector, for example through a zero agricultural tax. Olam has been chosen as a partner mainly due to its financial track record and strong supply chain network.

A very attractive investment on paper. The project is expected to be cashflow positive from the first year, and earnings positive from the second full year of operations, with steady state (2019) equity IRR of 28%. We keep our earnings estimates. We are positive on the investment but maintain our target price of $2.79 (pegged to 15x FY Jun12F) and Hold recommendation for now.