Olam International

Kim Eng on 16 May 2012

Below expectations. 3Q12 results were below expectations, with recurring net profit down 21% yoy to S$98.7m. This culminated in a 2% decline in 9M2012 recurring net profit. With poor earnings now likely to drag onto the 4rd quarter, the company is unlikely to meet consensus expectations of single-digit profit growth for the year.

Weaknesses stem from non-food segments. The industrial raw material segment posed 49% yoy decline in net contribution, with management citing poor demand across markets for products such as wood and cotton. The latter also suffered from farmers postponing future harvest sale and counterparty risk where management has taken undisclosed provisions. The commodity financial services segment also showed a significant decline in net contribution from S$21.1m to S$0.8m due to challenging trading conditions.

Not immune to risk. This quarter’s results show that Olam is not immune to risk, especially as it grows upstream/midstream and across various products. Its inventory (88% sold forward or hedged) rose by S$790m (100 days to 115 days) over the past twelve months, despite lower commodity prices, implying higher inventory build-up. This could be another possible risk factor should prices continue to weaken.

M&A execution risk could surface. Over the past five years, Olam has spent significant capex, mainly on inorganic M&A activities which are generally more expensive than Greenfield projects (in the form of goodwill and duplicate overheads etc). In the event of an economic slowdown, these may underperform and form an earnings drag. There may already be evidence this quarter, considering net contribution (a matrix similar to EBITDA less overheads) was actually up 4% yoy while bottomline was down 21%.

Unfavorable risk-reward, downgrade to SELL. We see earnings risk ahead, with management now guiding for a weak 4Q12. With poor earnings visibility, Olam is comparatively expensive at 1.4x P/B and 1.7x NTA. We lower our FY12-FY13 estimates by 15-20% and downgrade the stock to a SELL, pegging our new TP of $1.70 to 12.5 FY12F, more in-line with peers.