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FUTURE GROWTH POTENTIAL. Olams acquisition of
Nigerias Crown Flour Mills (CFM) marks the initiation of
its wheat-milling profile. With plans to expand CFMs
capacity, we expect Olams earnings to experience
significant growth in the coming years. More recently,
Olam has also announced plans to invest US$31.5m to
set up a wheat mill in Port Tema, Ghana. We believe
that this will strongly enhance Olams market presence
in the wheat milling industry of Africa.
ROBUST RISK MANAGEMENT. Despite Olams high
leverage and commitment to its growth plans, we expect
the increased revenue to generate sufficient cashflows
to meet to its financing and operating demands.
In analyzing the current performance of Olam, we report
the following key findings:
1) Higher profit margins compared to the industry.
2) Improving cash flow management can be observed
from its improving cash conversion cycle.
3) Healthy Financial Policies. Though, Olam traditionally
relies heavily on leverage to maximize shareholder
value, it has measures in place to ensure it is able to
service its debts.
The comparative analysis is made using ratios provided by
OneSource to give consistency. However, for forecasting and valuation, analytical
adjustments are made to the financial statements. Operating Leases are adjusted
and accounted for as finance leases. Export Incentives and Subsidies
Receivable are adjusted due to their potential un-collectability which was previously
not accounted for. And lastly, One Time Gains & Losses will also be excluded to
provide a more representative analysis.
G2 Analysts
Eldora Sim
Florence Wang
Tony Teo
Wu Li Mei
Our Recommendation
Price (as of 31/3/10) $2.64
Target $2.90
Executive Summary
G4 Analysts Andi Chen
Chris King Zhi Liang
Jerrold Yew Jin Wai
Thong En Yu Gloria
Our Recommendation
Price (20/5/10) 2.34
Target 2.55
Price (as of 31/3/10) $2.64
Target $2.90
BUY
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Olam International Ltd is a Singapore-based global leader in the agri-commodities
supply chain processor of agricultural raw materials and food ingredients. Olams
core business activities include sourcing, origination, primary processing, risk
management, logistics, trading, marketing and distribution. Olams complete
integration value adds throughout the supply chain from the farm gate in the origins
to the factory gate of customers in destination markets. 1Olam has a diversified
portfolio with built leadership positions in cocoa, coffee, cashews, sesame, rice,
teakwood and many others which can be categorized into 4 main business segments:
Edible nuts, spices and beans (14%)
Confectionery and beverage (44.1%)
Industrial raw materials (17.1%)
Food staples and packaged foods (24.9%)2
Olam was listed on 11 February 2005 on the Singapore Exchange and is now a
component stock of the Straits Times Index, MSCI Singapore Free, S&P
Agribusiness Index and DAX global Agribusiness Index . Its business model and
strategy has also helped them to earn the recognition of being the only Singaporean
firm to be named in the 2009 Forbes Asia Fabulous 50, an annual list of 50 big cap
and most profitable firms in the region and 2009 lists for the Global Top Companies
for Leaders and the Top Companies for Leaders in the Asia Pacific region.
1 Olamonline.com company profile
2 OneSource Information Services, Inc., March, 2010
Company & Environment Analysis
Business Profile
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Olams SWOT (Strengths, Weakness, Opportunities, and Threats) analysis
Macro-environmental factors analysis of Olam
Wilmar International - Comparative
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Wilmar International Limited was founded in 1991 as a palm oil company and is
currently Asias leading agribusiness group. It was listed on the SGX main board on
20 July 2000 and is amongst the largest companies by market capitalization.
Its core business activities include oil palm plantation, processing, and consumer
merchandising.3
Unlike Olam, Wilmar is mainly involved in the processing and merchandising of palm
and edible oils globally. Wilmar has also established its own house brands of
consumer edible oil. With palm oil becoming increasingly important in the energy
market due to the fast depleting fossil fuel, Wilmar is indeed well poised for the future.
Noble Group is a market leader in managing the global supply chain of agricultural,
industrial and energy products. It was founded in 1987 and was listed on 14 March
1007 on the SGX mainboard. The company operates in four segments:
Merchandising and Processing, Consumer Products, Agriculture and Energy
Product.4
Despite its diverse portfolio of raw materials and natural resources ranging from
cocoa, coffee, and sugar to carbon credits, coal, coke, and oil, Noble Group in
mainly involved in the oil, gas and power division. Recently, Noble Group has
successfully expanded their oil, gas and power division.
3Wilmar Iternational Limited, Wilmar International Limited. Retrieved on 17, May , 2010 from
http://www.wilmar-international.com/about_index.htm 4Noble Group, Who we are. Retrieved on 17, May ,2010 from
http://www.thisisnoble.com/index.php?option=com_content&task=view&id=553&Itemid=85
Noble Group - Comparative
Cumulative Historical Analysis
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Historical Analysis for Olam (Feb 2008 May 2010)
Key Development (Feb, 2008 & Apr, 2008)
As shown in Point 1, the global financial crisis resulted in a tremendous decrease in
share prices. At Point 2, the announcement of preferential shares led to the increase
in share prices.
Key Development (Nov, 2008)
At Point 3, share prices decreased after Merrill Lynch downgraded the shares to an
underperform rating from buy due to a predicted commodity slowdown5.
Key Development (May, 2009)
At Point 4, Olam International Ltd entered into a subscription agreement with two
Temasek Holdings subsidiaries, Aranda Investment Pte. Ltd and Breedens
Investments Pte. Ltd 6. It intended to raise approximately SGD$437.5 million by
5 Thomson Reuters, Singapore Hot Stocks-Noble, Olam dips after Merrill downgrade. Retrieved on 20, May,
2010 from www.reuters.com/article/idUSS11717820081118 6 Bloomberg.com, Temasek buys Olam Stake, Shifts Focus to Commodities. Retrieved on 10 May, 2010 from http://www.bloomberg.com/apps/news?pid=20601014&sid=aubU65EttaaY,
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Historical Analysis for Olam (Feb 2008 May 2010)
Stock prices
Shares ratings
downgraded
Fall in net profit
5
Best quarterly
performance 7 6 Temasek
investment 4
3
2
Announcement of Preferential
shares
1
Financial
Crisis
Convertible bonds spark
fears of shares dilution
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issuing 273 million new shares at the price of SGD$1.60 per share. This allowed
Temasek Holdings to take the opportunities to invest in raw material trading by
investing $302.78 million in Olam International Ltd.
Key Development (Aug, 2009 & Sept, 2009)
In August, at Point 5, Olam s decrease in net profit resulted in a fall of share prices7.
During September, at Point 6, share prices dipped 7.3% after it announced its plan to
sell $400 convertible bonds triggered fears of shares dilution8.
Key development (February, 2010)
During Feb 2010, Olam International reported their best ever quarterly performance.
The declaration of their increase interim dividend of 2 cents per share boosted their
stock price for the Feb 2010 period9.
7 Thomson Reuters , SE Asia Stocks-Spore flat, Philippines outperforms on the week . Retrieved on 20,
May,2010 from www.reuters.com/article/idUSBKK51558120090828 8 Thomson Reuters , SE Asia Stocks-Near two-week lows, but Thailand ends flat. Retrieved on 20,May,2010
from www.reuters.com/article/idUSBKK54088320090902 9 The Business Times, Olam Q2 gain hits quarterly record of $ 158.9m . Retrieved on 18, May, 2010 from
http://olam.listedcompany.com/misc/BT%20-%20Pg%208%20-%20Feb%2012%20'10%20-%20Olam%20Q2gain%20hits%20quarterly%20record%20of%20$158.9m.pdf
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Profitability
Table 1: Net Profit Margin
Olams Net Profit Margin has been
relatively stable at 2% from 2005 to
2008. In 2009, its Net Profit margin
improved to about 2.9%. This was
probably due to the improvement in the
economic climate which increased the
demands for their products. The
increase in Net Profit Margin can also be
seen in Noble and Wilmar. Nevertheless, Olam had a lower Net Profit Margin
compared to Wilmar.
Financial Strength
Figure 2.1 Current Ratio Figure 2.2 Olams Current vs Quick
0.00%
1.00%
2.00%
3.00%
4.00%
5.00%
6.00%
7.00%
8.00%
2005 2006 2007 2008 2009
Olam
Wilmar
Noble
2005 2006 2007 2008
Current 1.28 1.49 1.57 1.33
Quick 0.57 0.56 0.49 0.37
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1.6
1.8
0
0.5
1
1.5
2
2.5
2005 2006 2007 2008 2009
Olam
Wilmar
Noble
Historical Performance Analysis Financial Ratios
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Olams current ratio is healthy and relatively stable. It averages around 1.4 which is
in line with industrys average. However, there is a trend that a significant proportion
of Olams current asset is made up by its inventories, increasing at a rate of 6.4% on
average per annum, as seen in Figure 2.2. Hence, there is indeed a huge concern of
Olams inventory management and her ability to meet her short term obligation given
her decreasing quick ratio.
Figure 2.3 Net Working Capital Working capital measures the
firms efficiency as well as its
short-term financial health. As
all three firms have positive
working capital, it shows that
all three are able to meet their
short term liabilities. Olams
Net Working capital has been
stable as compared to its competitors and its Net Working Capital has also improved
as a result of its effort in improving its Days Payable and Receivables.
Efficiency
Figure 3.1 Days in Inventory Figure 3.2 Days in Payable Outstanding
0
10
20
30
40
50
2006 2007 2008 2009
Olam
Wilmar
Noble
0
20
40
60
80
100
120
140
2005 2006 2007 2008 2009
Olam
Wilmar
Noble
0
500000
1000000
1500000
2000000
2500000
3000000
3500000
4000000
2005 2006 2007 2008 2009
Olam
Wilmar
Noble
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As illustrated in Figure 2.1, Olam is seen to be taking more days in turning over its
inventories as compared to Wilmar and Noble. Inventories are generally stored on an
average of 113 days before sale. Its longer inventory turnover is due to its business
nature as a food commodity company where inventories are usually stored longer
before sale.
Figure 3.3 Cash Conversion Cycle In addition, Olams days in payable
outstanding is relatively short compared
to its days in inventory. As a result, the
cash conversion cycle (CCC) of Olam
would be very much longer compared to
her peers, which can be seen in Figure
2.3. Hence, we do expect Olam to
experience cash flow problems especially if the company is unable to collect her
receivables on time. Noble, on the other hand, has the shortest cash conversion
cycle due to its short days in inventories and long days in outstanding payable.
Compared with Noble, Olam has room to improve in managing its working capital.
Table 3.4: Asset Turnover In addition, Olams asset turnover
is very much lower compared to
Noble. Nobles higher net value of
its products as well as her ability
to keep inventory levels low are
key reasons which Noble is able
to attain a high asset turnover.
Hence, we expect Olam to do better in improving its overall efficiency.
0
20
40
60
80
100
120
140
160
180
2006 2007 2008 2009
Olam
Wilmar
Noble
0.00%
1.00%
2.00%
3.00%
4.00%
5.00%
6.00%
2005 2006 2007 2008 2009
Olam
Wilmar
Noble
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Leverage
Figure 4.1 Total Debts / Equity Figure 4.2 Long Term Debt / Equity
Olams reliance on debts to finance its growth compared to Wilmar and Noble group
can be seen in Figure 4.1 and 4.2. The issuance of 300 million convertible bonds in
2006 resulted in a sharp spike in total debt to equity. Olam uses most of its
borrowings to finance its expansion and acquisitions. However, due to the recent
financial crisis, the management made efforts to degear its balance sheet by
relying lesser on debts, paying off some of its debts and buying back of convertible
bonds.
Management Effectiveness
Figure 5.1 Return on Asset Figure 5.2 Return on Equity
0
0.5
1
1.5
2
2.5
2005 2006 2007 2008 2009
Olam
Wilmar
Noble
0
0.5
1
1.5
2
2.5
3
3.5
4
4.5
5
2005 2006 2007 2008 2009
Olam
Wilmar
Noble
0.00%
10.00%
20.00%
30.00%
40.00%
50.00%
2005 2006 2007 2008 2009
Olam
Wilmar
Noble
0.00%
2.00%
4.00%
6.00%
8.00%
10.00%
2005 2006 2007 2008 2009
Olam
Wilmar
Noble
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All three firms are profitable and looking at Olams ROA, it is able to generate more
than 3 times with each dollar in asset. Olam also has a relatively stable return on
asset compared to Wilmar and Noble group. Olams ROA has been stable and
averages around 3.9% and in 2009, it improved to 4.73%. On the other hand,
Wilmars high ROA is attributable to her huge net profit margin which offsets her
relatively smaller asset turnover
With Olams high financial leverage, Olams ROE has outperformed her competitors,
growing from 19.16% in 2005 to 29.93%. Since 2007 to 2009, it has better ROE
compared to Wilmar and Noble.
Figure 5.3 DuPont Analysis for FY2009 As discussed in the leverage
section, Olam relies more on
debts to finance its growth.
Hence, Olams equity
multiplier is very much higher
than Wilmar and Noble group.
Nevertheless, Olams
management is making a
conscious effort to degear and
it is likely that its Equity Multiplier will decrease. This will also help increase investor
confidence in Olam and reduce risk.
0
1
2
3
4
5
6
7
8
OlamWilmar
Noble
Net Profit Margin
Asset Turnover
Equity Multiplier
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Beta and Sharpe Ratio
Risk can be divided into systematic risk and unsystematic risk. Since unsystematic
risk can be diversified away with a portfolio, it carries no reward. The expected return
on a risky asset depends only on its systematic risk, which beta measures. Investors
can find the best use of the beta ratio in diversifying his portfolio risk as well as the
required rate of return.
* Using Rf = 3.31 as the average daily closing yield of 20-year Singapore Government Bond for the month of April (NZ07100S)
The commodities market is populated by traders whose primary interest is to make
short term profits by speculating which direction the price of a security is likely to
move. Hence, they will tend to move the market in different ways. Although
speculators provide the much needed liquidity to the markets, they also tend to
increase market volatility. This explains why the beta is higher than 1.
Olam
= 1.31 ri = 3.46% = 8.64% CV = 2.5 Sharpe = 0.017
Wilmar
= 1.005 ri = 4.51% = 8.44% CV = 1.88 Sharpe = 0.142
Noble
= 2.010 ri = 3.61% = 9.68% CV = 2.68 Sharpe = 0.030
Risk Analysis
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While Olams stock has more systematic risk in relation to the overall market and
industry standard, her beta is slightly more compared to Wilmar. Hence, the required
rate of return for Olam is higher given the relatively higher risk she is exposed to.
However, looking at beta is not enough to evaluate risk. By calculating the rate of
return using the change in price and dividend yield, we are able to find out the
average monthly rate of return and the corresponding standard deviation using a 5
year period. As a result, Wilmar has the lowest coefficient of variation of 1.88, which
would mean having the least risk for every return gain.
Correspondingly, the Sharpe ratio for Wilmar is significantly much larger than Olam
and Noble. Wilmar proves to have the best return for each unit of risk taken. This
means it generates a higher return per unit risk compared to Olam. Hence, we do
advise investors to invest in Wilmar if he has sufficient capital to do so.
Taking a closer look at Olam and Noble Group, both firms have relative similar
monthly rate of return. However, looking at the coefficient variation, Nobles
coefficient variation is more than Olam, and its beta is almost twice of Olam. Hence,
this makes Olam a more attractive stock to invest in since risk per unit of return is
lower while giving similar return compared to Noble.
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Forecast
To arrive at our forecasted figures, some adjustments to the financial statements
were made.
Gain on buy-back of convertible bonds (gain of 80.6M)
Allowance for potentially uncollectible export incentives and subsidies
Operating leases
These adjustments were necessary as these gains are either non-recurring or off-
balance sheet. Without adjustments, they will serve to inflate revenue figures and if
forecasts are based on these historical data, the accuracy and reasonableness of
the forecasts will be compromised. Thus, the adjustments helped to better reflect the
economic reality of the firm as well as revenues and expenses for future years.
How revenues are forecasted:
1. Choose a representative product from each of Olams 4 main business
segments based on their net contributions.
For instance, for the Confectionary and Beverage segment, Cocoa was
used, for the Industrial Raw Materials segment, cotton, and finally, for
the Food Staples and Packaged Foods, rice.
2. Use future projected global consumption data of the respective representative
products taken off Bloomberg
3. Arrive at our forecasts of revenues for each of the 4 main business segment
by taking into account the future consumption trend of each segment
4. Multiply the revenue of each business segment by their share in Olam to
arrive at the total forecasted revenue.
Valuation
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5. Based on different revenue drivers, other line items such as expenses
(depreciation, staff costs, taxes) are derived to arrive at the forecasted net
income for the next 4 years (2010 2013).
Price-Earnings Ratio Approach
As seen in Figure 6, for most years (2005 to 2008), adjusted EPS is similar to non-
adjusted EPS. It is only in 2009 where there was a substantial difference. This is
mainly due to the one-time gain from the buy-back of convertible bonds in 2009
which resulted in a gain of 80.6 million for Olam. Since the buy-back of convertible
bonds is unlikely to be recurring and by excluding it in the estimation of net income
for 2010, net income will not be overstated and hence adjusted EPS will better reflect
the performance of Olam. Hence, by taking the average of the forecasted EPS from
2010-2013, we arrived at an estimated forward EPS of 0.1154.
For prudence and conservatism, we assume the forward P/E is equivalent to the
average current P/E ratio for Olam, Noble and Wilmar, which is 15.72
* Based on P/E ratio from Bloomberg Data
0
0.02
0.04
0.06
0.08
0.1
0.12
0.14
0.16
2004 2006 2008 2010 2012 2014
Figure 6 EPS Prediction
EPS(adjusted)
EPS(unadjusted)
Forward Average EPS =
0.1154
Predicted Share Price of
$1.81
X Forward P/E* = 15.72
=
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Fundamental Valuation (FCFF)
Since Olam is not paying a dividend at a constantly growing rate, we will be using
the FCFF model to estimate its stock price. This model is suitable in this case due to
Olams financial structure. Olam has held a high leverage in the past and its D/E
ratio has an average of 3.94 in the past 4 years. Therefore, the company will seek to
clear its debts in the future to improve its financial status.
In order to estimate future cash flows, forecasted figures were used. Net cash flows
from operations were used to estimate the free cash flow to the firm and the
industrial average growth rate was extracted from Bloomberg as the terminal growth
rate. We assumed that the company will grow at this industry rate after 2013.
The calculation for WACC is shown below:
Since average D/E =3.94, D/A = 0.798 & E/A = 0.202
Valuation
WACC 9.24%
Terminal Growth Rate* 3.92%
* Based on industrial historical growth
Cost of Debt
A-T rd = B-T rd (1- Tax Rate)
= (10) (1 - 0.17) = 8.3%
Cost of Equity Dividend Cash Flow
g = (1 Payout) (ROE)
= (1 - 0.35) (17.51) = 11.38%
D1 = D0 (1+ g) = (0.035) (1+0.1138) = 0.0390
rs = (D1 / P0) + g = (0.0390 / 2.46) + 0.1138
rs = 13.0%
WACC
(0.798) (8.3) + (0.202) (13.0) = 9.24%
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FCFF 2010F 2011F 2012F 2013F
Net CFO after interest and tax 57,014 476,788 616,686 360,738
Interest Exp* (1-tax rate) 223,952 233,750 228,409 224,466
Net Capital expenditure (125,328) (152,906) (167,479) (132,801)
FCFF 155,637 557,632 677,616 452,403
PV Factor 1.09 1.19 1.30 1.42
PV of FCFF 142,473 467,288 519,803 317,686
Terminal Value (Td)
8,837,163
PV of FCFF 1,447,250
PV of terminal value 6,205,633
Enterprise value 7,652,883
Net Debt (VD) (3,005,762)
Equity value (P0) 4,647,121
No. of shares 1,819,760
Value per share 2.55
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While the price using PER approach stands at $1.81, we believe the price of $2.55
using FCFF gives a better reflection as it assumes firms growth to perpetuity,
whereas the PER approach relies on the current P/E ratios of Olam and its
competitor, which may not necessarily reflect the true forward P/E of Olam.
Comparing with Analyst Report
FCFF RBS Bank
Deutsche Bank
Kim Eng DBS
Vickers
Date Reported
9 Dec 2009 12 Jan 2010 13 Jan 2010 12 Feb 2010
Target Price
2.55 1.63 2.08 3.10 3.29
Comparing to prices from the analyst reports, it is indeed very reasonable to suggest
a target price of $2.55 which is currently under-priced at $2.34. The optimistic figure
given by DBS Vickers has factored in Olams Q3 earnings. However, given the
uncertainty surrounding Europe, we believe that investors should remain cautious.
Hence, we recommend a Moderate Buy call at $2.55 as we are confident that
Olams growth plans will improve the future outlook of the company.
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