One of Australia's largest chicken companies, Inghams Group Limited (ASX: ING) is set to hit the ASX on 7 November. Many investors will be familiar with the name, but probably not with the company's prospects. Here's my take on whether you should invest your hard earned into Ingham's float:
- Offer price between $3.57 and $4.14 depending on demand
- To raise between $767 million and $1,121 million
- Final market capitalisation to be between $1,334 million and $1,532 million
- Minimum of 26.8% of shares to be retained by existing shareholders* (24% by owner TPG)
- Valued between 13.5x and 15.5x forecast pro-forma 2017 Net Profit After Tax
- Forecast dividend of ~5% in 2017, based on payout of 65%-70% of NPAT
- Offers close 1 November, minimum subscription of $2,000
- Expected to commence trade on a normal basis from 15 November
So What?
With any prospectus there is too much to cover in an article, so I've done my best to touch on as many important points as possible. Readers should be sure to read the prospectus and chase up any items of concern before considering a purchase.
Inghams is one of the largest vertically integrated chicken manufacturers in ANZ with a #1 market share in Australia (40% share) and #2 in New Zealand (34% share). Inghams runs its own stockfeed operations and controls every aspect of chicken growing and processing. Its closest competitor has a 33% market share in Australia and 48% in NZ.
Inghams Group sells to supermarkets (53% of revenue), fast food restaurants (17% of revenue), food distributors (8% of revenue), and 'wholesale' providers (butchers, etc, 7% of revenue). Although Inghams has a large number of customers, the top five accounted for 55%-60% of revenue in 2016. We have seen with companies like Coca-Cola Amatil Ltd (ASX: CCL) that large supermarkets like Woolworths Limited (ASX: WOW) and Wesfarmers Ltd (ASX: WES) have the ability to pass on a fair amount of pricing pressure to suppliers and Inghams will not be immune.
Who's selling, and why?
The company is also listing: " To provide existing shareholders with an opportunity to sell their stake in Ingham's and to provide a liquid market for shares." Inghams is coming from private equity firm TPG. As is common with private equity floats, the intention is to turn a profit for the private equity company. That's fine by me, but it doesn't necessarily mean ordinary shareholders should buy in.
33% of TPG's shares (TPG will own a minimum of 24% of Inghams after the IPO) will exit voluntary escrow after the release of Inghams' half-year results for the 6 months to December 24 – as long as the share price is 20% or more above the 'Final Price' of this IPO. Either way, all shares will exit escrow on the release date of Inghams full year report for the year to 1 July 2017.
Management figures will have their shares escrowed for 12 months, while the CEO and CFO will be escrowed for two years. There are a number of key conditions which would allow for early release from escrow, which concerned shareholders should read.
Sensitivity analysis
I've skipped looking at the books here in the favour of drawing reader attention to Inghams' sensitivity analysis (page 97 of the prospectus):
As we can see here, a 1% increase/decrease in Average Selling Price would result in a $16.7 million (~17% shift) increase or decrease in annual profit. All figures above represent a full-year's impact. Given that Inghams' full-year 2017 NPAT is forecast at just under $100 million, readers can easily convert the above figures to see the percentage impact on Inghams' profits should any of the above happen.
I think that (like all IPOs) Inghams has been carefully dressed up for sale. A number of assets were sold during the transformation process and the company is certainly a different structure to what it was before it was bought by TPG.
The bull case
The bull case for Inghams says that the company will be able to extract $200 million in cost savings like it says, and that these savings will not evaporate due to increased competition, higher capital expenditure, better living conditions for birds, and so on. The bull case also says that a) continued growth in chicken consumption (above 4% p.a. historically) will continue, and b) the long-term shift towards increasing levels of processing ('value adding') will continue. I think that the long term trends will continue, due to the relative inefficiency of beef production as well as growing consumer demand for ready-to-cook meals.
The bear case
Yet these are long-term tailwinds – Inghams' success in the near to medium term depends on its execution and ability to successfully maintain its margins in the face of a number of pressures. I do not believe Inghams will be able to extract the cost savings in a way that will make them available to shareholders (i.e., through higher profits and/or dividends). Competition or supplier pressure (bearing in mind that the top five customers account for ~55% of sales) could easily eat into any savings. Readers should also look at the company's revenue growth (~2% p.a. for the past 3 years) and ask themselves if profits can continue to grow at the rate they have in recent years.
One interesting way to play the Inghams Group IPO could be through purchasing shares in TEGEL GRP FPO NZX (ASX: TGH), a smaller NZ competitor to Inghams. Tegel shares have plunged in the lead-up to the Inghams IPO amid fears that Inghams Group will be competing aggressively for market share.
Is it a buy?
Inghams is not too highly priced, but it has low margins and is very sensitive to shifts in the industry. I'm just not that excited by it and see no compelling reason to participate in the IPO when I could just buy shares on the open market at another time. If cost savings can successfully translate into higher profits, the upside is considerable – I just don't think that significantly higher profit margins will be sustainable over the long term. I'm giving this one a miss.
