danone

FIRST GLOBAL European Research

Sector: FMCG Initiating Coverage Danone (BN.PA)

LT Outperform (CMP: €55.4, Mkt Cap: €32.7 bn ($44.1 bn), Sep 27, '13) Relevant Index: MSCI Emerging market Index (MSCI): 999.881 (Sep 27, ’13)

CAC 40 Index: 4,186.77 (Sep 27, 2013)

New launches, expansion of brands in growth markets & tight cost control to help move

towards strong & profitable growth in CY14…

Stock deserves to trade at moderate premium to its peers, considering Danone’s ability to deliver comparatively superior top line growth & with

significant rebound expected in its earnings from CY14 onwards…

September 30, 2013

TO ACCESS FIRST GLOBAL RESEARCH ON BLOOMBERG, TYPE FGSL <GO> Chief Strategist: Devina Mehra Email: [email protected]

Analyst: Kavita Thomas Email: [email protected]

Global Dealing Desk: Tel. No: +91-22-400 12 440 Email: [email protected]

First Global (UK) Ltd. is regulated by Financial Conduct Authority (FCA), UK

IMPORTANT DISCLOSURES CAN BE FOUND AT THE END OF THIS REPORT.

For Private Circulation only


1

Table of Contents

Price and Rating History Chart 2-3

Financial Snapshot 4-6

Key Ratios 7

Danone’s Business in Pictures… (CY12) 8

The Story… 9-13

Key Growth Drivers 14-16

• Best in class performance on the topline front 14 • Three growth engines at work - Baby Nutrition China, Aquadrinks and NA Dairy 14-15 • Margins to gradually inch upwards 15 • Lead indicators seem to be bottoming out 16

Key Concerns 17

• Volatility in raw material prices could dent gross profit margin 17 • Foreign exchange risk 17 • Exposure to foreign exchange risk related to operations 17

Company Background 18

Business Highlights 19-24

• Fresh Dairy products sales appear to have stabilized 19-20 • Aquadrinks drive continued strong growth in Water segment 20 • Baby Nutrition to be the key future growth driver 21 • Medical Nutrition division catching up 22 • Danone swiftly shifts focus from Europe to the Developed and Emerging Markets 22-23 • Strategies implemented to drive growth and boost profitability 23-24 • Major retail chains 24 • Competition 24 • Acquisitions 24

Financial Highlights 25-27

• Margins 25-27 • Working Capital Management 27

Quarterly Result Analysis 28-30

Financials 31-34

Definition of Terms Used 35-36


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Price and Rating History Chart

Ratings Key

B = Buy BD = Buy at Declines OP = Outperform Positive Ratings S-OP = Sector

Outperform M-OP = Market Outperform MO-OP = Moderate Outperform

Neutral Ratings H = Hold MP = Market Perform SP = Sector Perform

S = Sell SS = Sell into Strength UP = Underperform Negative Ratings

A = Avoid MO-UP = Moderate Underperform S-UP = Sector Underperform

ST: Short Term MT: Medium Term LT: Long Term

Danone (BN.PA) Vs the CAC 40 Index

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Danone (BN.PA) Vs the MSCI Emerging Market Index

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Represents an Upgrade

Represents a Downgrade

Represents Reiteration of Existing Rating

Details of First Global’s Rating System given at the end of the report


4

Financial Snapshot

Key Financials YE December (In € mn) CY08 CY09 CY10 CY11 CY12 CY13E CY14E Net Sales 15,220 14,982 17,010 19,318 20,869 21,979 23,219 Revenue Growth Y-o-Y (%) NA (1.6%) 13.5% 13.6% 8.0% 5.3% 5.6% Gross Profit 8,048 8,233 9,053 9,777 10,460 10,817 11,494 Gross Profit Growth Y-o-Y (%) NA 2.3% 10.0% 8.0% 7.0% 3.4% 6.3% Underlying Operating income 2,270 2,294 2,597 2,843 2,958 2,938 3,274 Underlying Operating income Growth Y-o-Y (%) NA 1.1% 13.2% 9.5% 4.0% (0.7%) 11.4% Net income – Group Share 1,313 1,361 1,875 1,671 1,672 1,800 1,956 Net income – Group Share Growth Y-o-Y (%) NA 3.7% 37.8% (10.9%) 0.1% 7.7% 8.6% Underlying Net income – Group Share 1,396 1,412 1,674 1,749 1,818 1,701 1,956 Underlying Net income – Group Share Growth Y-o-Y (%) NA 1.1% 18.6% 4.5% 3.9% (6.4%) 15.0% Shareholder Equity 8,644 10,555 11,737 12,100 12,191 12,192 13,628 No. of Diluted Shares (mn) 479 566 616 604 603 592 592

NA – Not ApplicableKey Operating Ratios

YE December CY08 CY09 CY10 CY11 CY12 CY13E CY14E Diluted EPS (€) 2.74 2.41 3.04 2.77 2.77 3.04 3.30 Diluted EPS Growth Y-o-Y (%) NA (12.3%) 26.5% (9.1%) 0.2% 9.7% 8.6% Underlying Diluted EPS (€) 2.92 2.50 2.72 2.90 3.01 2.87 3.30 Underlying Diluted EPS Growth Y-o-Y (%) NA (14.4%) 8.9% 6.5% 4.1% (4.7%) 15.0% Book Value per share (€) 18.1 18.7 19.1 20.0 20.2 20.6 23.0 CEPS (€) 4.0 3.5 3.7 4.0 4.1 4.1 4.5 GPM (%) 52.9% 55.0% 53.2% 50.6% 50.1% 49.2% 49.5% OPM (%) 14.9% 15.3% 15.3% 14.7% 14.2% 13.4% 14.1% NPM (%) 9.2% 9.4% 9.8% 9.1% 8.7% 7.7% 8.4% Tax/PBT (%) 26.3% 23.5% 25.2% 25.8% 27.7% 30.4% 30.0% RoE (%) 15.2% 14.5% 14.5% 14.2% 14.5% 13.5% 14.6% RoCE (%) 7.3% 7.5% 7.9% 7.8% 7.9% 7.3% 8.2% Debt/Equity (x) 1.4x 0.7x 0.8x 0.7x 0.8x 0.8x 0.6x Dividend Payout (%) 50.5% 15.7% 44.0% 44.8% 45.9% 47.0% 47.0%

NA – Not ApplicableFree Cash Flow Analysis

YE December (In € mn) CY08 CY09 CY10 CY11 CY12 CY13E CY14E Operating Cash Flow 1,754 2,000 2,476 2,605 2,858 2,817 3,142 Capex 706 573 788 733 783 840 300 Total Free Cash Flow 1,183 1,427 1,713 1,874 2,088 1,977 2,842

Valuation Ratios YE December CY08 CY09 CY10 CY11 CY12 CY13E CY14E P/E (x) 19.3 16.8 P/BV (x) 2.7 2.4 P/CEPS (x) 13.7 12.2 EV/EBIDTA (x) 10.9 9.5 Net Cash / Mkt Cap (%) NM NM Market Cap/ Sales (x) 1.5 1.4 Dividend Yield (%) 2.4% 2.8%

NM – Not Meaningful


5

Market Cap. and Enterprise Value Data as on September 27, 2013 Current Market Price (€) 55.4 No. of Shares (mn)* 589.9 Market Cap. (€ bn) 32.7 Total Debt (€ bn)* 11.1 Cash & Cash Equivalents (€ bn) * 2.7 Enterprise Value (€ bn) 41.1 *For quarter ended H1 CY13

DuPont Model YE December CY08 CY09 CY10 CY11 CY12 CY13E CY14E EBIDTA/Sales (%) 18.4% 19.0% 18.7% 18.0% 17.4% 16.6% 17.3% Sales/Operating assets (x) 5.7x 4.8x 5.2x 5.4x 5.9x 5.8x 5.5x EBIDTA/Operating Assets (%) 105.1% 91.3% 98.3% 97.8% 103.0% 95.7% 95.3% Operating Assets/Net Assets (x) 0.1x 0.1x 0.1x 0.2x 0.1x 0.2x 0.2x Net Earnings/EBIDTA (%) 49.9% 49.7% 52.5% 50.3% 50.1% 46.8% 48.8% Net Assets/Net Worth (x) 2.5x 2.2x 1.9x 1.9x 1.9x 1.9x 1.8x RoE (%) 15.2% 14.5% 14.5% 14.2% 14.5% 13.5% 14.6%

Common sized Ratios YE December CY08 CY09 CY10 CY11 CY12 CY13E CY14E Total Income 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Cost of Sales 47.1% 45.0% 46.8% 49.4% 49.9% 50.8% 50.5% Selling expense 27.6% 28.1% 27.4% 26.4% 26.2% 26.1% 26.0% General and administrative expense 8.5% 9.1% 8.8% 8.1% 8.4% 8.2% 8.1% Research and development expense 1.3% 1.4% 1.2% 1.2% 1.2% 1.3% 1.2% Other income (expense) 0.6% 1.1% 0.5% 0.2% 0.1% 0.2% 0.1% Total Operating Costs & Expenses 85.1% 84.7% 84.7% 85.3% 85.8% 86.6% 85.9% Underlying Operating income 14.9% 15.3% 15.3% 14.7% 14.2% 13.4% 14.1% Non-Operating Income -1.0% -0.8% -0.6% -0.6% -0.6% -0.6% -0.5% Cost of net debt 2.9% 1.8% 0.8% 0.9% 0.8% 0.9% 0.9% Underlying Income before tax 11.1% 12.7% 13.8% 13.3% 12.7% 11.9% 12.8% Tax 2.9% 3.0% 3.5% 3.4% 3.5% 3.6% 3.8% Share of profit of associates 0.4% 0.7% 0.5% 0.2% 0.3% 0.3% 0.2% Discontinued operations 1.8% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% Non controlling interests -1.2% -1.1% -1.0% -1.0% -0.8% -0.8% -0.7% Net income – Group Share 8.6% 9.1% 11.0% 8.6% 8.0% 8.2% 8.4% Underlying Net income – Group Share 9.2% 9.4% 9.8% 9.1% 8.7% 7.7% 8.4%

Source: Company Reports & FG Estimates


6

Shareholding Pattern Shareholding Pattern as on 29 Sep 2013

Individuals, 0.07%

Private Equity, 0.01%

Unclassified, 0.01%

Insurance Companies,

0.32%

Hedge Fund Managers,

1.91%

Government, 7.41%

Others, 12.49%Corporations, 13.05%

Investment Advisors, 64.72%

Industry FMCG 52 Week High/Low € 60.5 / 45.6 CMP € 55.40 Avg. Daily Volume (20 Days) 1.7 mn Avg. Daily Value (20 Days) € 96.2 mn

Performance over 52 weeks DANONE UP 15.5% CAC 40 Index UP 21.7% MXEF UP 0.2%


7

Key Ratios YE December CY08 CY09 CY10 CY11 CY12 CY13E CY14E Gross Profit Margin (%) 52.9% 55.0% 53.2% 50.6% 50.1% 49.2% 49.5% Operating Profit Margin (%) 14.9% 15.3% 15.3% 14.7% 14.2% 13.4% 14.1% Net Profit Margin (%) 9.2% 9.4% 9.8% 9.1% 8.7% 7.7% 8.4% Tax / PBT (%) 26.3% 23.5% 25.2% 25.8% 27.7% 30.4% 30.0% Net Current Assets/Capital Employed (%) 2.8% 1.3% 5.3% 4.4% 6.4% 5.9% 7.7% RoE (%) 15.2% 14.5% 14.5% 14.2% 14.5% 13.5% 14.6% RoCE (%) 7.3% 7.5% 7.9% 7.8% 7.9% 7.3% 8.2% Return on Operating Assets (%) 61.1% 50.8% 65.8% 58.7% 63.5% 55.7% 57.4% Debt/Equity Ratio (x) 1.4x 0.7x 0.8x 0.7x 0.8x 0.8x 0.6x Interest Coverage (x) 5.2x 8.7x 18.2x 16.3x 17.4x 15.1x 16.6x Interest / Debt (%) 3.6% 3.4% 1.5% 1.9% 1.8% 2.0% 2.3% Sales Growth (%) NA (1.6%) 13.5% 13.6% 8.0% 5.3% 5.6% Operating Profit Growth (%) NA 1.1% 13.2% 9.5% 4.0% (0.7%) 11.4% Net Profit Growth (%) NA 1.1% 18.6% 4.5% 3.9% (6.4%) 15.0% Debtors ( Days of net sales) 37 39 39 37 34 33 33 Creditors ( Days of COGS) 114 113 101 98 99 98 97 Inventory (Days of COGS) 42 42 40 39 38 36 36 Current Ratio (x) 1.2x 1.1x 1.3x 1.2x 1.3x 1.3x 1.3x Dividend Payout ratio (%) 50.5% 15.7% 44.0% 44.8% 45.9% 47.0% 47.0% Underlying Diluted EPS (€) 2.9 2.5 2.7 2.9 3.0 2.9 3.3 Diluted EPS (€) 2.7 2.4 3.0 2.8 2.8 3.0 3.3 Diluted CEPS (€) 4.0 3.5 3.7 4.0 4.1 4.1 4.5 Book Value Per Share (€) 18.1 18.7 19.1 20.0 20.2 20.6 23.0 Source: Company Reports & FG Estimates


8

Danone’s Business in Pictures… (CY12) (All figures are on Non GAAP Basis in € mn except where stated otherwise. All percentages are percent of revenues, unless stated otherwise)

Net Property and Equipment: € 4115 mn (13.9 %) Intangible Assets: € 16,265 mn (55.1%) Long Term Investments: € 1,080 mn (3.7%) Other Non-current Assets: € 1,154 mn (3.9 %) Inventories: € 1,095 mn (3.7 %) Trade receivables: € 1,902 mn (6.4 %) Cash: € 3,017 mn (10.2 %) Other Current Assets: € 909 mn (3.1 %)

Assets € 29,537 mn (100%)

Balance Sheet (CY12)

Liabilities € 29,537 mn (100%)

Shareholders’ Equity: € 12,191 mn (41.3 %) Noncontrolling Interests: € 63 mn (0.2%) Deferred Income Taxes: € 1,202 mn (4.1%) Other Non Current Liab.: € 1,182 mn (4.0 %) Total Debt: € 9,522 mn (32.2 %) Accounts payable: € 2,941 mn (10.0 %) Other current liab.: € 2,436 mn (8.2%)

Selling expense: € 5,474 mn (26.2%)

General & administrative expense: € 1,746 mn (8.4%)

Research & development expense: € 257 mn (1.2%)

Other income (expense): € 25 mn (0.1%)

Operations/value added Total Revenue: € 20,869 mn (100.0%)

Depreciation: € 670 mn (3.2%)

Other financial income (exp.): € 130 mn (0.6%) Cost of net debt.: € 170 mn (0.8%)

Underlying Income before tax € 2,658 mn (12.7%)

Total Taxes: € 735 mn (3.5%)

Underlying Net income – Group Share

€ 1,818 mn (8.7%)

Underlying Operating income: € 2,958 mn (14.2%)

Below Operating

Line

Cost of products sold: € 10,409 mn (49.9%)

The cost of sales increased by about 50 basis points Y-o-Y on account of increased raw material prices particularly

for milk, whey, proteins and fruits. The company is taking cost-cutting measures on an ongoing basis to keep gross

margins in the 49-50% range

Key Raw materials Milk mainly liquid

milk, whey, proteins, sugar and Fruits

Region wise Operating Margin Europe-12%

Asia-22% Rest of World-13%

Geography-wise breakup Europe-52%

CIS+USA+Canada-31% ALMA (Asia Pacific, Latin America,

Middle East & Africa-17%

Business-wise Trading Operating margin Fresh Dairy Products-12% Waters-13% Baby Nutrition-19% Medical Nutrition-18%

Competitors Mead Johnson Abbott Labs Nestle SA

Developed: Emerging 47:53

Business-wise breakup Fresh Dairy Products-56% (up 3.9% Y-o-Y

Waters-17% (up 13% Y-o-Y) Baby Nutrition-20% (up 15.9% Y-o-Y) Medical Nutrition-6% (up 9% Y-o-Y)

Country wise break-up Russia-10% Francce-10%

US-8% China-6% Spain-6%

Indonesia-6% Mexico-5%

Argentina-5% UK-5%

Brazil-4%

Main Products Activia, Actimel, Evian, Volvic, Danacol, Dumex Nutricia


9

The Story… Danone’s (BN.PA) transformation story has been nothing short of remarkable and is a powerful reminder of how a company can drive growth by sacrificing (selling off non-core businesses) and maintaining values (focusing on smaller number of core businesses). Founded in 1919 as a small company selling yogurt as a health product across pharmacies in Barcelona, its founders had a simple mission - “to bring health through food to as many people as possible.” In the 1970s, its successor company merged with a French glassmaker. By 1990, Danone had sold the glass businesses to focus entirely on food. Headquartered in Paris and labeled a 'national treasure' by the French government, Danone slowly began losing its vision of “generating health” through its products, as it began diversifying into different segments such as cookies, sweets, cereals, sauces, meet, cheese, beers and soft drinks among others. The realization that the company had lost focus and was being seen as just another multinational looking for opportunities to enter any possible field with only a profit motive prompted a deep reflection process to reconnect with the initial Danone spirit. Thus began Danone’s quest to reconnect with its original mission by selling off most of the divisions that did not fit with its vision of "active health for everyone on earth," such as beer brands (2000), meat and cheese (2002), cereals and biscuits (2004 and 2007), and sauces (2005 and 2006). Simultaneously, Danone expanded and improved operations in its two remaining strategic divisions (dairy products and water) and at the same time entered new markets of baby foods (by acquiring Numico in 2007) and medical nutrition. The company also expanded across Asia, Latin America, Central Europe, Africa and the Middle East. The strategy worked well, helping Danone to quickly grow.

Today, Danone is widely recognized as a world leader in the food industry. With its international brands, such as DANONE, Dannon, Evian and Aqua, the company is the global leader in fresh dairy products, and also holds an impressive No. 1 worldwide position for fresh dairy products, No. 3 worldwide for packaged water and No. 2 worldwide for baby nutrition. Danone’s dairy products, water and baby foods businesses boast revenue of €20 bn, an operating income of €3 bn and 100,000 employees.

The shift in the company’s focus from Europe to the growing developed markets and Emerging Markets has resulted in Europe’s contribution to its total revenue declining from a high as 63% five years ago to 52% in CY12. Thus, in spite of the pressures witnessed in Europe as a result of austerity measures, Danone has been able to achieve a strong topline growth, led by its performance in the Emerging Markets, as well as in its other key markets, such as North America and Russia. Also, Danone has been able to drive a strong growth in its Water and Baby Nutrition segment, offsetting the flattish growth in its fresh dairy products and this too is facilitating its overall strong topline growth. The contribution of the fresh dairy products to its total revenues have also declined from 66% in CY06 to 56% in CY12 and further down to 54% in H1CY13.

Today, Danone is widely recognized as a world leader in the food industry. With its international brands, such as DANONE, Dannon, Evian and Aqua, the company is the global leader in fresh

dairy products, and also holds an impressive No. 1 worldwide position for fresh dairy products, No. 3 worldwide for packaged water and No. 2 worldwide for baby nutrition. Danone’s dairy

products, water and baby foods businesses boast revenue of €20 bn, an operating income of €3 bn

and 100,000 employees


10

In Q1 CY13 and Q2 CY13, Danone’s LFL sales in the Emerging Markets (ALMA region) grew by a strong 17% and 15%, while it was up by a healthy 9% and 10% in the CIS, US and Canada, thus offsetting the decline of 6% and 3% respectively in Europe. Overall, the company reported a LFL sales growth of 5.6% and 6.5% in Q1 CY13 and Q2 CY13 respectively. The Water and Baby Nutrition segments also recorded a strong LFL sales growth in Q1 CY13 and Q2 CY13, thus offsetting the flat sales in the Fresh Dairy products segment.

Management has stated that 2013 will be a transitional year for Danone, with the company moving towards strong and profitable growth in 2014. According to management, Danone continues to expand its brands in the growth markets, particularly in the US, Russia, Brazil and China, while in Europe, the company is adapting its business model to the region’s reducing consumption. Danone is also maintaining a tight control on its operating expenses and working capital in order to reduce the pressure witnessed on its margins and improve its cash flow. The company has targeted to achieve €200 million in savings between now and the end of 2014 and is targeting free cash flow of around € 2 bn.

Moreover, the company is planning new launches in the Water and Baby Nutrition segments. Recently, Danone had issued a warning stating that sales of the Baby Nutrition segment (contribution of 20% and the No. 2 revenue contributor after Dairy) for Q3 CY13 were likely to decline, following a food scare that had forced the company to recall its infant formula products in Asia, where it is making efforts to drive growth to offset the sluggish demand in Europe. Nevertheless, management has maintained its like for like sales growth target of 5% as well as its margin forecasts (trading operating margin to be down by between -50 and -30 bps like-for-like) for the full year CY13.

After reporting flat earnings for almost two years, we believe that the company is well placed to record an earnings growth of 15% on a topline growth of 6% for CY14, driven by a strong performance in the Baby Nutrition segment and a healthy growth in the Emerging Markets, US, Canada and CIS regions. Given Danone’s ongoing efforts to keep its operating expenses under control and mitigate the impact of rising prices of milk and other raw materials, the company’s overall trading operating margin is likely to inch upwards from CY14 onwards.

The stock currently trades at 16.8x CY14E earnings, which is at a moderate discount to peers like Mead Johnson and Unilever trading at a P/E of 18-20x. Danone has been able to record a strong LFL

sales growth of about 6%, which is higher than that of its peers, such as Nestle and Unilever, who have managed to report an underlying sales growth of merely 4-5%. Thus, the stock deserves to trade at a moderate premium to its peers, considering the company’s ability to deliver superior top line growth and with the significant rebound expected in its earnings from CY14 onwards.

Management has stated that 2013 will be a transitional year for Danone, with

the company moving towards strong and profitable growth in 2014. According to

management, Danone continues to expand its brands in the growth markets,

particularly in the US, Russia, Brazil and China, while in Europe, the

company is adapting its business model to the region’s reducing consumption

After reporting flat earnings for almost two years, we believe that the company is well placed to record an earnings growth

of 15% on a topline growth of 6% for CY14, driven by a strong performance in the Baby Nutrition segment and a healthy

growth in the Emerging Markets, US, Canada and CIS regions

Danone has been able to record a strong LFL sales growth of about 6%, which is higher than that of its

peers, such as Nestle and Unilever, who have managed to report an underlying sales growth of

merely 4-5%. Thus, the stock deserves to trade at a moderate premium to its peers, considering the

company’s ability to deliver superior top line growth and with the significant rebound expected in its

earnings from CY14 onwards


11

Based on DCF valuation and assuming a pretty conservative terminal period growth rate of 5% and WACC of 8%, we arrive at a DCF fair value of €75 per share, indicating that there is still potential for an upside of about 35% from the current levels. And even based on conservative assumptions, such as WACC of 8%, growth rate of 4% in the second period of the terminal year and return on incremental capital of 10% for the second period of the terminal year, the valuation works out to around €75 per share. Moreover, the 5-year Discounted Operating Cash Stream to Market Price (DOCS/MP) of 47% indicates that the stock is still quite inexpensive. Plus, the growth adjusted P/E at 16x is also one of the lowest among its peers, again indicating that the stock is quite undervalued. Hence, we believe that there is enough room for further multiple expansion and initiate coverage on Danone with a rating of ‘LT Outperform.’

Comparative Valuations - FMCG Peers P/E P/S P/BV EV/Sales EV/EBITDA OPM

(%) RoE (%)

Annual EPS

Growth

Annual Sales

Growth Company name

Mkt Cap (US$ bn) CY13E CY14E CY13E CY14E CY13E CY14E CY13E CY14E CY13E CY14E CY13E CY13E CY13E CY14E CY13E CY14E

Danone 44 19.3 16.8 1.5 1.4 2.7 2.4 1.8 1.6 10.9 9.5 13.4% 13.5% -4.7% 15.0% 5.3% 5.6%

Mead Johnson 15 22.7 20.7 3.7 3.4 49.3 23.8 3.8 3.5 16.7 15.3 22.7% 232.9% 5.8% 9.5% 5.9% 6.9%

Nestle SA 219 18.0 16.7 2.1 2.0 3.0 2.8 2.3 2.2 15.1 14.1 15.5% 16.7% 5.6% 7.9% 3.1% 5.1%

Unilever Plc 125 19.6 18.1 1.8 1.7 5.3 4.7 2.0 1.9 14.1 13.1 14.0% 29.7% 2.6% 8.5% 0.7% 5.3%

SShenguan Holdings Group Ltd 1 10.2 8.9 4.5 3.8 3.2 2.7 4.2 3.6 7.9 6.7 53.4% 32.5% 13.9% 14.6% 12.0% 17.2%

Kraft Foods Group Inc 34 20.4 18.1 1.8 1.8 9.5 8.3 2.3 2.2 13.9 12.7 16.6% 47.2% -1.9% 12.7% 1.6% 2.6%

HJ Heinz Co 23 20.3 19.1 2.0 1.9 7.3 6.4 2.3 2.2 15.9 14.9 14.7% 38.0% 6.9% 6.7% -0.1% 3.9%

Kellogg Co 24 17.3 16.1 1.6 1.6 6.5 5.6 2.1 2.0 14.4 13.6 14.6% 40.8% 13.9% 7.6% 7.6% 3.2%

Want Want China Holdings Ltd. 18 27.5 23.3 4.5 3.8 9.6 8.0 4.4 3.7 20.9 17.6 20.9% 37.6% 22.0% 18.0% 15.0% 18.7%

Weighted Avg 507 19.5 18.0 2.1 2.0 6.0 4.7 2.3 2.2 14.9 13.8 15.4% 31.0% 4.5% 9.4% 3.2% 5.5%

Source: FG Estimates, Bloomberg Estimates On a growth Adjusted P/E basis, Danone is seen trading at a P/E of 16x, which is one of the lowest among its peers. Thus, on a growth adjusted P/E basis, the stock appears quite undervalued.

Growth Adjusted P/E of Danone

Calculation of Growth Adj P/E

CY10 CY11 CY12 CY13E CY14E CY15E CY16E CY17E

1 1 1 1 1 1 1 1

Underlying Diluted EPS (€) 2.72 2.90 3.01 2.87 3.30 3.63 3.89 4.16

Cost of equity (%) 12.7%

Market price (€) 55.4

Growth Adj. EPS (€) 3

Adj P/E (x) 16.3


12

Growth Adjusted P/E of Danone and Peers

(EPS in $) CY11 CY12 CY13E CY14E CY15E CY16E CY17E COE Price($)

Adj P/E(x)

Danone 3.9 4.1 3.9 4.5 4.9 5.2 5.6 12.7% 74.8 16.3

Mead Johnson Nutrition Co 2.8 3.0 3.2 3.5 4.0 4.5 4.9 18.0% 73.9 20.1

Nestle SA 3.3 3.7 3.7 4.0 4.4 4.7 4.9 8.0% 67.6 16.2

Unilever Plc 2.0 2.1 2.2 2.3 2.6 2.8 3.0 8.0% 42.3 17.3

Shenguan Holdings Group Ltd 0.0 0.0 0.0 0.0 0.1 0.1 0.1 8.0% 0.4 8.8

Kraft Foods Group Inc 2.7 2.9 2.8 3.2 3.4 3.6 3.8 8.0% 57.6 17.8

HJ Heinz Co 3.1 3.3 3.6 3.8 4.0 4.3 4.5 8.0% 72.5 18.8

Kellogg Co 3.4 3.4 3.8 4.1 4.5 4.8 5.1 8.0% 66.5 15.8

Want Want China Holdings Ltd 0.0 0.0 0.1 0.1 0.1 0.1 0.1 8.0% 1.4 21.7

5-year DOCS/MP (Discounted Operating Cash Stream to Market

Price) The stock’s 5-year Discounted Operating Cash Stream to Market Price (DOCS/MP), using a WACC of 8%, works out to 47%, indicating that a substantial 47% of its value is accounted for by its 5-year operating cash flow. This ratio indicates a reasonable degree of undervaluation.

5-year DOCS/MP

WACC (%) 8.0%

Discounted value of Operating cash flow (€ mn) 16,679

Cash and near cash assets (€ mn) 2,709

5yr Discounted Operating Cash Stream (DOCS) (€ mn) 19,388

Total Firm value (€ mn) 51,532

Market price (€ ) 55

Mkt Cap of equity (€ mn) 32,676

Total Debt (€ mn) 11,091

Equity Mkt value (€ mn) 40,441

5yr DOCS to equity holder (€ mn) 15,215

5yr DOCS/MP (%) 46.6%

As per our DCF valuation of the stock, based on conservative assumptions, such as cost of equity of 12.7% and a pretty conservative assumption of a terminal period growth rate of 4%, WACC of 8%, return on incremental capital of 10.5% for the second period of the terminal year, its valuation works out to around €75 per share. Thus, based on DCF valuation as well, the stock is still available at a discount of 26% to its fair value. Thus, various valuation tools clearly indicate that the stock is still quite undervalued.


13

Assumptions Underlying Fair Value Computation

Assumptions Underlying forecast Calculation of discount rate (WACC) Growth rate in the first period (gA) 5.0% Rate Post tax rate Weightage CostGrowth rate in the second period(gB) 4.0% Cost of debt 1.2% 0.8% 40.0% 0.3% ROICa 12.0% Cost of equity 12.7% 12.7% 60.0% 7.6% ROICb 10.5% Discount rate 8.0% Discount Rate 8.0%No. of years in the first period 5 Debt/Equity 0.7x Fair value (€) 75 Calculation of Terminal Value (€ mn) First Part (€ mn) 7,083 Second Part (€ mn) 47,817 Total Terminal Value (€ mn) 54,900 PV of terminal value (€ mn) 37,440 PV of cash flow (€ mn) 10,846 Investment + Excess Cash (€ mn) 3,246 Firm Value (€ mn) 51,532 Firm value less DEBT (€ mn) 40,441 Fair value per share (€) 75 Market price ((€ ) 55.4 Discount/(Premium) of MP to Fair value 26.1%

Fair Value Sensitivity Matrices

Danone’s fair value is quite sensitive to its growth rate for the second period of the terminal year, return on incremental capital for the second period and WACC. A change of 20 basis points in each of these values significantly impacts the stock’s fair value, as can be seen below:

Sensitivity of Fair Value to growth in NOPLAT and WACC (€) gB

3.4% 3.6% 3.8% 4.0% 4.2% 4.4% 4.6% 7.3% 87 89 91 93 96 99 102 7.5% 81 83 84 86 88 90 93 7.8% 76 77 78 80 81 83 85 8.0% 72 73 74 75 76 78 79 8.3% 67 67 68 69 70 71 72 8.5% 63 63 64 65 65 66 67

WACC

8.8% 59 60 60 61 61 62 63

Sensitivity of Fair Value to growth in NOPLAT and Return on Incremental Capital at 8% WACC

(€) gB 3.4% 3.6% 3.8% 4.0% 4.2% 4.4% 4.6%

9.90% 70 71 72 73 74 75 76 10.10% 71 72 73 74 75 76 77 10.30% 71 72 73 74 75 77 78 10.5% 72 73 74 75 76 78 79 10.70% 72 73 74 76 77 78 80 10.90% 73 74 75 76 78 79 81

ROICb

11.10% 73 74 76 77 78 80 82 Shaded area indicates First Global’s most likely per share valuation range for Danone


14

Key Growth Drivers Best in class performance on the topline front Danone boasts one of the most attractive portfolios in consumer staples, on the back of which, the company has been able to deliver a strong LFL sales growth that is ahead of its peers. Over the last couple of years, Danone’s topline growth had been impacted mainly by structural changes in the Western European (WE) dairy market, where the company had a significant presence. With the conscious gradual diversification carried out by the management into the high growth US, CIS, Canada and Emerging Markets, we expect a turnaround in the company’s sales growth, as the WE dairy market returns to modest growth and its three key areas - Baby Nutrition China, NA Dairy and Aquadrinks - witness continued momentum.

In H1CY13 itself, Danone delivered a strong LFL sales growth of 6%, in comparison to 4-5% reported by its peers, such as Nestle and Unilever. Given its various launches and strategies implemented by Danone in the recent past, the company appears well positioned to maintain its topline superiority over its peers.

Three growth engines at work - Baby Nutrition China, Aquadrinks and NA Dairy Baby Nutrition China, NA Dairy and Aquadrinks are Danone’s key businesses that have been driving its structural growth as well as strong momentum, with a top line growth of over 5%. The growing demand for imported infant milk to China is expected to boost LFL sales of the Baby Nutrition segment to about 14-15% in CY13 and CY14. Aquadrinks has reshaped the Water segment, with the structural demand for non-carbonated soft drinks driving a growth of about 9%. Despite fears of a price war, the US Greek yoghurt market continues to grow and should provide a solid platform for Danone to strengthen its position in the US.

• China to boost Baby Nutrition segment The Baby Nutrition segment is one of Danone’s key future growth drivers and reported a strong growth of 17% Y-o-Y and 14% Y-o-Y in LFL sales growth in Q1 CY13 and Q2 CY13. For the full year CY13, we expect the segment to record a LFL sales growth of about 14%, driven by market share gains among Chinese consumers and initiatives to launch a ‘Blue (Aptamil) platform’ in China. With China expected to account for half of the global baby nutrition market by 2018, according to Euromonitor, the segment’s exposure of 16% to the Chinese market should provide a continued source of growth. In the near-term, we see the acceleration in demand from China continuing and Danone appears to be a key beneficiary of imported international IMF brands to the mainland, after Hong Kong closed its export markets and demand shifted to Western Europe (especially the UK, Germany and The Netherlands) where IMF can prices are the lowest in the developed world and where the company enjoys a strong market share (flagship brand Aptamil). This should boost the segment’s performance in CY13 as well as going forward.

Given its various launches and strategies implemented by Danone

in the recent past, the company appears well positioned to maintain its topline superiority over its peers


15

• Water segment on a strong growth path The development of Aquadrinks has redefined the product portfolio of Danone’s Water segment, which now accounts for just 18% of the company’s total revenue and has entered a strong growth phase. The Water segment continued to report a strong LFL sales growth of 9% and 11% in Q1 CY13 and Q2 CY13 respectively, as against 16% and 10% in CY11 and CY12 respectively. We estimate Aquadrinks (flavored water in Latam and WE and functional waters in Asia), accounting for 30% of the Water segment’s sales, to grow at a healthy pace and drive its margins to higher than average levels. We also expect the segment to continue witnessing good growth, as consumers look for healthier alternatives to carbonated soft drinks and with the company’s various initiatives in this segment. In H1CY13, the new Evian premium bottle called Essence was launched in the US and Japan and is likely to be soon launched in Europe as well. Plus, it has entered into a partnership with Sirma, which should facilitate the company to become a real number one player in the very dynamic Turkish market.

• US Dairy: Greek yoghurt reshaping the market as a high protein/low fat alternative Despite fears of increased competition and price wars, as the industry’s capacity for Greek yoghurt more than doubled in the USA, the US yoghurt market continues to witness positive developments. Not only does Greek yoghurt continue to gain market share, but for the first time YTD, there has been a recovery in traditional yoghurts, thus resulting in positive volumes in the category. After a slow start, Danone is catching up with the market leader, Chobani and currently has a share of 23% in Greek yoghurt in the US market and has been able to maintain its No.2 position in this market through various ongoing initiatives. In H1CY13, the company launched two brand extensions, one in the dips, under the Oikos brand and Activia Greek which has been launched so as to allow people, being convinced of the benefit of Activia, to be able to have it in the Greek version with the Greek texture. Plus, Danone concluded a partnership with Starbucks and the company is likely to leverage the distribution footstones of Starbucks and their very high quality of digital marketing, while Danone would leverage on its strong distribution capabilities in modern retail as well as its technology and knowhow in the area of yogurt to create a co-branded product called Evolution Fresh, inspired by Dannon, which is going to be distributed in both channels, as it moves into the coming quarters. This further opens the yogurt category to many additional American consumers. Margins to gradually inch upwards

Danone’s margins have declined since 2009, though we expect them to trough in CY13. The pressure on margins of the Dairy segment due to the rebasing of South Europe and higher milk costs are expected to continue until 2013. However, the delivery of Danone’s €200 mn savings program from H2CY13, coupled with benefits of a positive mix from the faster growing segments (which have margins that are higher than the company’s average levels), should drive an expansion

of 30-50 basis points Y-o-Y in margins going forward.

The development of Aquadrinks has redefined the product portfolio of Danone’s Water segment, which now accounts for just 18% of the company’s total revenue and has

entered a strong growth phase

Danone’s margins have declined since 2009, though we expect them to trough in CY13. The pressure on margins of the

Dairy segment due to the rebasing of South Europe and higher milk costs are expected

to continue until 2013


16

Lead indicators seem to bottoming out Danone is likely to once again report flat earnings for CY13, though we believe that its performance has hit the bottom and the company’s top line, margins and profitability appear set to accelerate in CY14. To our mind, the company’s earnings should show the final strains of pressures on account of its adjustment to the structural changes in the WE dairy market and now with its diversification into faster growth and higher margin businesses like Baby Nutrition and Medical Nutrition, the earnings are likely to improve significantly from CY14 onwards. Danone’s top line recovery should already be visible in CY13, as we expect the growth to accelerate progressively through the year. Danone's earnings have remained essentially flat since CY11 and even for CY13, we expect an earnings decline of 5%, though we expect the company’s earnings growth to accelerate to 15% in CY14, driven by a strong topline growth of 6%, the EBIDTA margin returning to its historical CY12 level of 14% and continued cash generation.


17

Key Concerns

Volatility in raw material prices could dent gross profit margin

Danone is likely to face higher than anticipated input cost pressures, with inflation at the high end of the ‘low to mid’ single-digit range. While prices of most commodities have been benign year to date, Danone is facing higher inflation in milk (24% of total raw material costs). The recent spike in prices of milk powder (both whole and skimmed milk powder), following the drought in New Zealand, could impact the margins of the Baby Nutrition segment (as the company has taken a 6-9 months forward hedging position).

The impact of a rise in raw material costs is significant, though we believe that the company could still mitigate the impact through its annual efficiency savings of €500 mn, as well as local price hikes (or less pronounced price adjustments in Western Europe). Even in H1CY13, the company managed to mitigate much of this through pricing, through additional supply as well as through productivities to the tune of EUR254 mn in H1CY13.

Foreign exchange risk

In view of Danone’s international presence, it could be exposed to foreign exchange rate fluctuations in the three following situations:

In relation to its operating activities: the sales and operating expense of the subsidiaries of the Fresh Dairy Products Division and most of the subsidiaries of the Group’s Waters Division are expressed primarily in their country’s domestic currency. However, certain imports (especially raw materials and intra-group finished goods) and exports (intra group finished goods) are expressed in other currencies. Also, due to the limited number of production units in the world, the subsidiaries of the Medical Nutrition and Baby Nutrition Divisions and certain Waters Division subsidiaries frequently use intra-group imports denominated in a currency other than their functional currency. The sales and operating margin of certain Group subsidiaries are therefore exposed to fluctuations in exchange rates against their functional currency;

In relation to its financing activities: pursuant to its risk centralization policy, the Group manages multi-currency financings and liquidities;

When translating into euros the financial statements of subsidiaries denominated in a foreign currency: sales and the trading operating income are generated in currencies other than the euro. Consequently, fluctuations in exchange rates of foreign currencies against the euro may have an impact on the Group’s income statement. These fluctuations also have an impact on the carrying amount in the consolidated balance sheet of assets and liabilities denominated in currencies other than the euro.

Exposure to foreign exchange risk related to operations

Consistent with its policy of hedging operating foreign exchange risk, Danone’s post-hedging residual exposure has significantly reduced throughout the year. The Group uses forward currency contracts and currency options to reduce its exposure. As of December 31, 2012, the main hedged currencies in terms of value include the British Pound, US dollar, Australian Dollar, Russian Ruble and Mexican Peso. Danone mainly applies cash-flow hedge accounting. Based on pending transactions as of December 31, 2012, the company’s residual exposure after hedging of exchange risks on its highly probable commercial operating transactions is significantly reduced for 2013.

The recent spike in prices of milk powder (both whole and skimmed milk

powder), following the drought in New Zealand, could impact the margins of the Baby Nutrition

segment (as the company has taken a 6-9 months forward hedging position)


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Company Background Danone was founded in the year 1919 in Barcelona by a Greek-born olive oil merchant and sold yogurt as a health product across pharmacies. In 1966, French glass manufacturers, Glaces de Boussois and Verrerie Souchon Neuvesel, merged to form Boussois Souchon Neuvesel, or BSN. In the year 1970, the BSN group began a program of diversification in the food and beverages industry and successively purchased Brasseries Kronenbourg, Société Européenne de Brasseries and Société Anonyme des Eaux Minérales d’Evian, which at that time, were major customers for glass containers of the BSN group. These acquisitions made the BSN Group the market leader in France’s beer, bottled water and baby food markets. In 1973, BSN merged with Gervais Danone, a French food and beverages group specializing in dairy and pasta products, to become the largest food and beverages group in France, with consolidated sales of around €1.4 bn, out of which, 52% came from food and beverages. In the 1970s and 1980s, after selling off its flat glass operations, the BSN Group focused on food and beverages, primarily in Western Europe. This expansion included the acquisition of (i) breweries in Belgium, Spain, and Italy; (ii) Dannon (the leading producer of yogurt in the United States); (iii) Generale Biscuit, a French holding company that owned LU and other European biscuit brands; (iv) the biscuit subsidiaries of Nabisco, Inc. in France, Italy, the United Kingdom and Asia; and (v) Galbani, Italy’s leading cheese maker. With consolidated sales of €7.4 bn in 1989, the BSN Group was the third largest diversified food and beverages company in Europe, and the largest in France, Italy, and Spain. In 1994, in order to consolidate its position as an international food and beverages group, the BSN Group decided to change the name of BSN’s parent company to “Groupe Danone” (in 2009, the shareholders approved the modification of the relevant article of the by-laws to change the legal name of the Groupe Danone parent company to “Danone”). In 1997, the Group decided to focus on three worldwide business lines: Fresh Dairy products, Beverages, and Biscuits & Cereal Products. Accordingly, the Group made several major divestitures in its Grocery, Pasta, Prepared foods, and Confectionery products operations, primarily in France, Belgium, Italy, Germany, and Spain. In 1999 and 2003, the Group also sold its stake of 56% and 44% respectively in BSN Glasspack, the holding company of its glass containers business, and in 2000, the Group sold off most of its European beer activities. In 2002, the Group also sold (i) Kro Beer Brands, which held the Kronenbourg and 1664 brands, among others; (ii) its Italian cheese and meat activities (Galbani); and (iii) its brewing operations in China. The Group also sold off its Sauces operations (i) in the United Kingdom and United States in 2005 and (ii) in Asia in 2006. In 2007, the Group sold off nearly all of its Biscuits and Cereal products business to the Kraft Foods Group. That same year, the Group also acquired Numico, which enabled it to add the Baby Nutrition and Medical Nutrition segments to its portfolio. Since then, the Group has pursued its growth strategy, notably with the acquisition of Unimilk group’s companies in Russia (in 2010) and the Wockhardt Group’s nutrition activities in India (in 2012). The Group’s strategy is consistent with its mission of “bringing health through food to as many people as possible.” Since 2007 and the acquisition of Numico, the Group has implemented this mission through four divisions: • Fresh Dairy products division (production and distribution of yoghurt, fermented dairy products and other specialty fresh dairy products), accounting for 56% of the Group sales in CY12; • Water division (production and distribution of packaged natural, flavored and vitamin-enriched water), accounting for 18% of the Group’s sales in CY12; • Baby Nutrition division (production and distribution of specialized food for babies and young children to complement breast-feeding), accounting for 20% of the Group’s sales in CY12; • Medical Nutrition division (production and distribution of specialized food for people afflicted with certain illnesses or frail elderly people), accounting for 6% of the Group’s sales in CY12.


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Business Highlights

Segment-wise Revenue Break-up (Figures in € mn) CY10 CY11 CY12 Fresh dairy Products 9,732 11,235 11,675 Like for like sales growth 6.5% 4.6% 2.0% Reported sales growth 13.8% 15.4% 3.9% -Volume Growth 7.5% 4.7% 2.2% -Price Growth -1.0% -0.1% -0.2% -Currency impact 5.8% -1.9% 2.0% -Scope for consolidation 1.5% 12.7% -0.1% Waters 2,868 3,229 3,649 Like for like sales growth 5.3% 15.7% 10.0% Reported sales growth 11.3% 12.6% 13.0% -Volume Growth 7.8% 8.8% 5.9% -Price Growth -2.5% 6.9% 4.1% -Currency impact 6.6% -2.0% 2.7% -Scope for consolidation -0.6% -1.1% 0.3% Baby Nutrition 3,355 3,673 4,257 Like for like sales growth 8.9% 10.7% 11.6% Reported sales growth 14.7% 9.5% 15.9% -Volume Growth 7.6% 5.6% 5.2% -Price Growth 1.3% 5.1% 6.4% -Currency impact 6.5% -1.2% 3.9% -Scope for consolidation -0.7% 0.0% 0.4% Medical Nutrition 1,055 1,181 1,288 Like for like sales growth 9.0% 9.4% 5.9% Reported sales growth 14.0% 11.90% 9.10% -Volume Growth 8.7% 9.9% 6.8% -Price Growth 0.3% -0.5% -0.9% -Currency impact 4.3% -0.9% 2.3% -Scope for consolidation 0.7% 3.4% 0.9%

Fresh Dairy products sales appear to have stabilized

Fresh Dairy products, which is Danone’s largest division and accounts for 56% of its total revenue, has been exhibiting contrasting growth trends, with a favorable performance in the Emerging Markets and challenging conditions in Southern Europe. The division recorded sales of €11,675 mn in CY12, up 2.0% on a LFL basis relative to CY11. The Group is the leader in the 38 largest countries where the division is present and had a market share of 27% in CY12.

Fresh Dairy products, which is Danone’s largest division and accounts for 56% of its total revenue, has been exhibiting

contrasting growth trends, with a favorable performance in the

Emerging Markets and challenging conditions in Southern Europe


20

Latin America and the Africa/Middle East region once again remained extremely buoyant in CY12, as they maintained a double-digit growth throughout the year. Sales in Europe declined throughout CY12, impacted mainly by severe deterioration in overall consumer demand in Southern Europe in the second half of the year. The deterioration was only partially offset by acceleration in activity in the CIS zone. In North America, the division implemented a new production capacity for Greek-style yogurt in the second half of the year, which led to an increase of around 5 points in its market share for the full year in this fast-growing segment. The division has, thus, strengthened its leadership position in fresh dairy products, where the competition has also picked up. The Greek-style yogurt segment was the division’s key growth driver in CY12, particularly in North America, where production capacities have been reinforced. In the CIS zone, the Danone-Unimilk entity’s focus on its key brands enabled the company to step up the pace of development of some brands, such as Tëma, Bio Balance and mainly, Prostokvashino. In addition to this, the Densia and Danette brands, as well as the brands aimed at pre-adolescents were particularly buoyant in CY12. Thus, with these efforts, the division’s LFL sales growth picked up significantly in Q2 CY13 to 3%, as against 1% and 2% in Q1 CY13 and CY12 respectively. We expect the momentum witnessed in Q2 CY13 to continue into H2CY13 as well. Aquadrinks drive continued strong growth in Water segment Water, accounting for 17% of Danone’s total revenue, recorded a double-digit growth of 10% in LFL sales for CY12, led by its performance in the emerging countries and the success of Aquadrinks. The Water division recorded sales of €3,649 mn in CY12, up 10.0% on a LFL basis relative to CY11, led by an increase of 5.9% in sales volume and 4.1% in value. The Emerging Markets continued to drive the division’s performance with a double-digit growth recorded throughout the year, notably in the Asian markets of Indonesia and China, where the deployment of the Aquadrinks brand, Mizone is in progress. The strong value gains reflect the division’s improved product mix, with a strong growth in the Aquadrinks segment. Until Q3 CY12, the division continued to benefit from the price hikes taken primarily in the emerging countries. The division maintained a moderate growth in Europe, led by slight improvement in a category of bottled water. In its 11 main countries, the division had an average market share of about 24% in CY12 . Even in H1CY13, the division recorded a strong LFL sales growth of 10% Y-o-Y and the momentum is expected to continue in H2CY13 as well. We estimate Aquadrinks (flavored water in Latam and WE and functional waters in Asia), accounting for 30% of the Water segment’s sales, to grow at a healthy pace and drive its margins to higher than average levels. We also expect the segment to continue witnessing good growth, as consumers look for healthier alternatives to carbonated soft drinks and with the company’s various initiatives in this segment. In H1CY13, the new Evian premium bottle called Essence was launched in the US and Japan and is likely to be soon launched in Europe as well. Plus, it has entered into a partnership with Sirma, which should facilitate the company to become a real number one player in the very dynamic Turkish market.

Water, accounting for 17% of Danone’s total revenue, recorded a double-digit growth of 10% in LFL

sales for CY12, led by its performance in the emerging countries and the

success of Aquadrinks


21

Baby Nutrition to be the key future growth driver Baby Nutrition, which is Danone’s second largest revenue contributor and accounts for 20% of its

total revenue, recorded a strong and profitable growth in CY12. The division’s business development model remains powerful and steady, calling for the expansion of Danone’s presence in the emerging countries, winning market share in countries where the Group is already present, and penetrating other markets. The operating margins of this business are also the best among Danone’s all businesses. The trading operating margin of this business is around 20% as compared to 10-12% for its Fresh dairy business and around 13% for its Waters business. Thus, a strong growth of this segment is likely to drive the overall margins of the company.

Baby Nutrition segment enjoys the highest Trading operating margin YE December (in € millions) CY10 H1CY11 H2CY11 CY11 H1CY12 H2CY12 CY12 H1CY13

Trading Operating Profit

Fresh Dairy Products 1,376 690 785 1,475 663 751 1,414 597

Waters 376 234 190 424 254 229 483 262

Baby Nutrition 637 361 347 708 417 413 830 488

Medical Nutrition 208 122 114 236 117 114 231 128

Unallocated items 0 0 0 0 0 0 0 0

Total 2,597 1,407 1,436 2,843 1,451 1,507 2,958 1,475

Trading Operating Margins

Fresh Dairy Products 14.1% 12.2% 14.1% 13.1% 11.2% 13.0% 12.1% 9.9%

Waters 13.1% 14.0% 12.2% 13.1% 13.7% 12.8% 13.2% 13.2%

Baby Nutrition 19.0% 19.9% 18.7% 19.3% 20.0% 19.1% 19.5% 20.5%

Medical Nutrition 19.7% 21.4% 18.7% 20.0% 18.8% 17.2% 17.9% 19.4%

Total 15.3% 14.5% 15.0% 14.7% 13.9% 14.5% 14.2% 13.3%

The division generated sales of €4,257 mn in CY12, up 11.6% on a LFL basis relative to CY11, driven by an increase of 5.2% in sales volume and 6.4% in value. The increase in value primarily reflects the division’s favorable product mix, generated mainly by growth milks, which once again reported a double-digit growth, while “weaning foods” recorded a slight decline. The division reported gains across all regions, with Asia leading the way with a double-digit growth. The division maintained a rapid growth particularly in China, while reinforcing its local brand Dumex through a complete revamp of the product range. In H1CY13, the division recorded a strong LFL growth of 15% and we expect it to record a LFL growth of 14-15% for CY13. Its trading operating margins were also a healthy 20% in H1CY13. Thus, the division’s strong growth is likely to drive Danone’s overall topline growth of 6-7% in CY13 as well as its overall profitability.

Baby Nutrition, which is Danone’s second largest revenue contributor and accounts for 20% of its total revenue,

recorded a strong and profitable growth in CY12. The division’s business

development model remains powerful and steady, calling for the expansion of

Danone’s presence in the emerging countries, winning market share in

countries where the Group is already present, and penetrating other markets


22

Medical Nutrition division catching up

The Medical Nutrition division, which accounts for just 6% of Danone’s total revenue, posted a healthy growth in CY12, despite a challenging European environment (due to pressure on insurance reimbursements and healthcare restrictions). The division recorded sales of €1,288 mn in CY12, up 5.9% on a LFL basis, relative to CY11, with sales volume up 6.8% and value down 0.9%. China, Turkey and Brazil were the main contributors to the division’s growth, with a double-digit growth recorded for the full year. Some European markets and the United States were subject to difficult conditions, thus cutting into the division’s growth. In H1CY13, the division reported a LFL sales growth of 5% and we expect the momentum to pick up gradually.

Danone swiftly shifts focus from Europe to the Developed and Emerging Markets

Geography-wise Revenue break-up (Sales in € mn) CY10 CY11 CY12 Europe 9449 10809 10848 CIS+USA+Canada 5175 5647 6437 ALMA (Asia Pacific+Latin Am+Middle East+Africa) 2386 2862 3584 Like for like sales growth Europe 1.9% 1.5% -3.0% CIS+USA+Canada 14.9% 4.9% 6.7% ALMA (Asia Pacific+Latin Am+Middle East+Africa) 14.0% 19.1% 15.7%

Earlier, Danone had been heavily dependent on Europe, whose contribution to the company’s total revenue standing at a high of 63% in CY08. However, Danone’s growth in Europe has come under strain, on account of pricing pressures, overall slowdown in the market and the government’s austerity measures.

Europe generated sales of €10,848 mn in CY12, down 1.0% on a LFL basis relative to CY11, mainly due to deterioration in markets conditions of the Fresh Dairy Products and Medical Nutrition divisions. In view of the pressures in this market, Danone has swiftly shifted focus to the growth Developed and Emerging markets. The company has also changed its classification of region-wise break up. Earlier , the company divided its sales in Europe, Asia and RoW markets, while it now divides sales into Europe, CIS+USA+Canada and ALMA (Asia pacific, latin America, Middle East and Africa) markets. Sales from Europe, which accounted for 63% of total sales in CY08 has been brought down to 52% in CY12.

Asia generated sales of €3,584 mn in CY12, up 17.4% on a LFL basis relative to CY11. China and Indonesia remained the largest contributions to the company’s growth in the region, mainly through the Water and Baby Nutrition divisions. In addition, Danone began consolidating the Wockhardt Group’s baby nutrition and medical nutrition activities from Q3 CY12 onwards.

Rest of the World generated sales of €6,437 mn in CY12, up 11.7% on a LFL basis relative to CY11, with Latin America being the key contributor to the growth through four divisions, notably in Mexico, Brazil and Argentina.

The Medical Nutrition division, which accounts for

just 6% of Danone’s total revenue, posted a healthy growth in CY12, despite a

challenging European environment (due to pressure on insurance reimbursements and healthcare restrictions)


23

The 10 countries that generated the highest net sales in CY11 and CY12 are shown in the table given below:

Country-wise sales break-up CY11 CY12 Russia 11% 10% France 11% 10% US 7% 8% China 5% 6% Spain 7% 6% Indonesia 6% 6% Mexico 5% 5% Argentina 5% 5% UK 5% 5% Brazil 4% 4%

Over the last two years, Danone has shifted its focus from Europe to the United States, CIS, Canada and the Emerging Markets. This has helped the company record a strong topline growth that is superior to even its peers, such as Nestle and Unilever. Currently, no country accounts for over 10% of Danone’s sales.

Strategies implemented to drive growth and boost profitability

In December 2012, Danone announced the launch of a €200 mn cost reduction plan in Europe. The plan was also designed to create a more direct and fluid organization. For example, the Activia brand in Europe currently has several hundred different fruit preparations and hence, presents ample streamlining opportunities. Thanks to the harmonization of recipes, the company’s goal is to simplify the portfolio while continuing to satisfy its consumers.

In Portugal, Danone has adapted its pricing and market coverage policy. For example, the Group launched new family-sized formats in the region. These improvements had a tangible impact on the Group’s market share, which increased from 28% to 35% from September 2012 through March 2013.

Danone has also implemented strategies to build and invest in products that work. In France, the Gallia brand has been around for over 60 years and its growth has accelerated significantly in recent months, with sales up by 30% in CY12. For example, the company has invested in three products to address the ageing population in Europe: Compact (offering a high concentration of protein), Souvenaid (launch in progress) and Complan.

Danone is also making efforts to renovate, re-launch and replace its existing product lines. For example, in France, the company has re-launched the packaging of several products (notably Activia and Taillefine). This strategy is already having a positive impact on the company’s sales and was achieved by emphasizing on communication, products, services and distribution.

Moreover, over the last two years, Danone has made a consciously shifted its focus from Europe to the developed and Emerging Markets. In CY12, the Emerging Markets accounted for 53% of the Group’s sales. This development strategy focuses first around the so-called MICRUB countries (Mexico, Indonesia, China, Russia, United States and Brazil), where Danone has built a

Moreover, over the last two years, Danone has made a consciously shifted its focus from Europe to the developed and Emerging Markets. In CY12, the Emerging Markets

accounted for 53% of the Group’s sales. This development strategy focuses first around the so-called MICRUB

countries (Mexico, Indonesia, China, Russia, United States and Brazil), where Danone has built a solid positions in

these rapidly growing markets, where the company continues to drive the consumption of its products, largely

through innovation


24

solid positions in these rapidly growing markets, where the company continues to drive the consumption of its products, largely through innovation.

For example, in CY12, Danone completely renovated its Dumex brand in China, launched Souvenaid in Brazil and increased its production capacity for Oikos Greek yogurt in the United States. Danone also continues to expand into other countries. The company has recently entered the Indian market in four divisions: in Baby Nutrition and Medical Nutrition with the acquisition of the Wockhardt Group’s nutrition activities, in Water with the Qua and B’lue brands and in Fresh Dairy Products with the launch of the Danone and Danette brands, as well as the Fundooz brand, a line of nutritional products aimed at the most economically distressed populations. In order to pursue its geographic expansion and develop its long-term growth potential, the company is testing out small-scale models in new markets, such as various Asian countries, where it still does not operate, as well as African countries, due to their growing economic and socio-demographic stature, as well as the emergence of the middle class and medium-sized cities (more than 1 mn residents) in these countries. Based on its strong experience in Africa in recent years, notably in the Maghreb region, Danone is developing new positions in new markets (Ivory Coast, Cameroon, Kenya, etc.) through nutritional product offerings that are adapted to local conditions and are consistent with the World Health Organization Code. Thus, through these various strategies implemented across geographies, Danone is likely to continue delivering a strong topline growth that will be higher than its peers.

Major retail chains

In CY12, Danone’s Top 10 customers worldwide (out of which five are French) accounted for approximately 20% of its consolidated sales, while the Top 5 customers contributed approximately 14% of its consolidated sales.

Competition Danone’s competitors in its respective business lines include (i) large multinational food and beverage corporations, such as Nestlé, PepsiCo, Coca-Cola and General Mills, (ii) large corporations in the Medical Nutrition and Baby Nutrition segments, such as Abbott, Mead Johnson and Fresenius, (iii) more local and smaller companies specializing in certain product lines or markets, or (iv) retail chains offering generic or private label products.

Acquisitions In CY12, the Group carried out several acquisitions, disposals and purchases of non-controlling interests, among which, the most significant were:

Closing of the acquisition with control being obtained on July 26, 2012, of the Wockhardt Group’s nutrition business in order to establish a presence in the Indian Baby Nutrition and Medical Nutrition markets;

Purchase of a complementary 8.6% equity interest in Danone Spain (Fresh Dairy Products –

Spain), thus raising the Group’s equity interest in the entity to 65.6%, as of December 31, 2012. Moreover, the acquisition resulting in control being obtained of the company, Centrale Laitière du Maroc (Fresh Dairy Products – Morocco), announced on June 27, 2012, was subject to the approval of the relevant authorities and finalized in the beginning of CY13.


25

Financial Highlights

Margins

GPM, OPM and Net Margin Trends

52.9%55.0% 53.2%

50.6% 50.1% 49.2% 49.5%

14.9% 15.3% 15.3% 14.7% 14.2% 13.4% 14.1%

9.2% 9.4% 9.8% 9.1% 8.7% 7.6% 8.4%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

CY08 CY09 CY10 CY11 CY12 CY13E CY14E

GPM (%) OPM (%) NPM (%)

Trading operating margin likely to inch upwards from CY14 Danone’s trading operating margin, which was as high as 15.3% in CY10, fell to14.7% in CY11 and further to 14.2% in CY12, on account of rising prices of raw material, especially milk, as well as decline in sales from its high-margin geography, Europe. Lower sales in Europe, particularly Southern Europe, have cut significantly into Danone’s profitability and the Group has been unable to fully offset this decline by higher margins outside Europe, where its investment programs have been on track as planned.

Over the years, Danone’s raw material costs have also increased significantly, with cost of sales, as a percentage of sales, rising from 46.8% in CY10 to 50% in CY12. The increase in the company’s raw material costs was particularly higher in CY12, up 6%, driven by a steep increase in the prices of certain commodities, including whey, milk proteins, sugar and fruits. However, the company is making efforts to offset this by keeping a tight control on its operating expenses. In CY12, Danone’s ongoing cost-cutting measures helped generate robust productivity of €589 mn, thereby partly offsetting the rise in raw material, production and distribution costs. A&P outlays increased slightly in CY12, which maintained the visibility of the Group’s brands in the media over the year. The company’s expenditure on digital marketing continues to increase significantly and now represent 10% of its total media investment. Danone also continues to invest heavily in other growth drivers, like beefing up its sales force and R&D, with outlays in these areas rising by around 10% (like-to-like).

Lower sales in Europe, particularly Southern Europe, have cut significantly into Danone’s

profitability and the Group has been unable to fully offset this decline by

higher margins outside Europe, where its investment programs have

been on track as planned


26

The impact of a rise in raw material costs is significant, though we believe that the company could still mitigate the impact through its annual efficiency savings of €500 mn, as well as local price hikes (or less pronounced price adjustments in Western Europe). Even in H1CY13, the company managed to mitigate much of this through pricing, through additional supply as well as through productivities to the tune of EUR254 mn in H1CY13.

Division-wise trading operating income and trading operating margin

YE December (in € millions) CY09 CY10 CY11 CY12 H1CY13

Trading operating income by Division

Fresh Dairy Products 1244 1,376 1,475 1,414 597

Waters 324 376 424 483 262

Baby Nutrition 536 637 708 830 488

Medical Nutrition 190 208 236 231 128

Unallocated items 0 0 0 0 0

Total 2,294 2,597 2,843 2,958 1,475

Trading operating margin

Fresh Dairy Products 14.5% 14.4% 13.1% 12.1% 9.9%

Waters 12.6% 13.1% 13.1% 13.2% 13.2%

Baby Nutrition 18.3% 19.0% 19.3% 19.5% 20.5%

Medical Nutrition 20.5% 19.7% 20.0% 17.9% 19.4%

Total 15.3% 15.3% 14.7% 14.2% 13.3%

As can be seen in the table given above, the declining margins of Danone’s Fresh Dairy products division, particularly in Europe, primarily impacted its overall margins. The Fresh Dairy Products division reported a trading operating margin of 12.1% in CY12, down 101 basis points on a LFL basis relative to CY11. Lower sales in Europe, particularly Southern Europe, cut significantly into the division’s profitability. However, Danone is mitigating this through better margins enjoyed in its faster growing Baby Nutrition and Medical Nutrition segment. The Water Division recorded a trading operating margin of 13.2% in CY12, up 22 basis points on a LFL basis relative to CY11. The increase in packaging and distribution costs was notably offset by the impact of continuous cost reduction efforts, as well as price hikes taken in CY11 in the emerging countries. And, similar margins were maintained in H1CY13 as well. The Baby Nutrition Division reported a trading operating margin of 19.5% in CY12, up 23 basis points on a LFL basis relative to CY11. The division continued to witness a substantial increase in costs in CY12, particularly in the prices of certain commodities, including whey or milk protein. The company offset these increases in costs mainly through its cost reduction efforts and in H1CY13, its operating margins were even better at 20%. The Medical Nutrition division recorded a trading operating margin of 17.9% in CY12, down 149 basis points on a LFL basis relative to CY11. The difficult market conditions in some European countries, as well as in the United States, in particular, cut into the division’s profitability, though it picked up once again in H1CY13 to 19%.


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In CY12, consumption trends were very depressed in Europe, particularly in Southern Europe, thus impacting Danone’s European sales, down 3% Y-o-Y on a LFL basis. This, coupled with inflation in certain costs as well as the difficulty faced by consumers in coping with price hikes, led to a decline of nearly 200 basis points in the company’s trading operating margin. For CY13, the company expects a decline of 30-50 basis points in margins, assuming that the increase in input costs will be in the low-to-mid single digit. Thereafter, the company’s ongoing cost-cutting measures will help its margins gradually inch upwards from H2CY13 onwards.

Danone has targeted a cost saving plan of €200 mn in Europe and will begin this initiative in H2CY13 itself. For CY14, the margins are likely to retrieve back to the historical levels of 14%. Working Capital Management

Working capital analysis CY10 CY11 CY12 Debtor (days) 39 37 34 Creditor (days) 101 98 99 Inventory (days) 40 39 38

Source: Company Reports Danone has been focusing on improving its working capital management year after year, which has helped it generate strong free cash flow. The company establishes global partnerships with its main distributors in order to help drive sales of its products. These partnerships are related in particular to logistics collaboration and food safety management. In particular, the company has taken several initiatives to work closely with large retailers in order to optimize the flow of goods and the inventory levels of its customers with its Efficient Consumer Response (ECR) approach. In addition to inventory management, automatic inventory replenishments and just-in-time delivery, ECR aims at working with distributors to better manage consumer demand and expectations at the sales points. To that end, Danone has implemented shared inventory management systems with its leading distributors, which are used to co-ordinate inventory levels among stores, as well as at the distributors and the company’s warehouses. Thus, Danone has managed to bring down its debtor and inventory days efficiently, which has helped it to record strong free cash flow. In CY12, the company’s free cash flow amounted to €2.1 bn and stood at €714 mn in H1CY13. Management has maintained its targeted free cash flow of about €2.0 bn by the end of CY13.

Regular dividend payout (Figures in € mn) CY08 CY09 CY10 CY11 CY12 Cash flow from operations (€ mn) 1,754 2,000 2,476 2,605 2,858 Free Cash flow (€ mn) 1,183 1,427 1,713 1,874 2,088 Dividend payout ratio (%) 50.5% 15.7% 44.0% 44.8% 45.9%

In CY12, consumption trends were very depressed in Europe, particularly in

Southern Europe, thus impacting Danone’s European sales, down 3% Y-o-Y on a LFL basis. This, coupled with inflation in certain costs as well as the difficulty faced by consumers in coping

with price hikes, led to a decline of nearly 200 basis points in the

company’s trading operating margin


28

Quarterly Result Analysis

YE December (in € mn) H1 CY13

H1 CY12

Y-o-Y change %

Net sales 11,058 10,475 5.6% Cost of goods sold 5,614 5,238 7.2% Gross Profit 5,444 5,237 4.0% Less: Selling expense 2,882 2,744 5.0% General and administrative expense 873 842 3.7% Research and development expense 139 125 11.2% Other income (expense) 75 75 0.0% Trading operating income 1,475 1,451 1.7% Other operating income (expense) 291 40 627.5% Operating income 1,184 1,411 (16.1%) Underlying Operating income 1,475 1,451 1.7% Cost of net debt 86 76 13.2% Other financial income (expense) 14 68 (79.4%) Underlying Other financial income (expense) 66 62 6.5% Income before tax 1,084 1,267 (14.4%) Underlying Income before tax 1,323 1,313 0.8% Income tax expense 315 341 (7.6%) Underlying Income tax expense 402 351 14.5% Net income from fully consolidated companies 769 926 (17.0%) Underlying Net income from fully consolidated companies 921 962 (4.3%) Share of profit of associates 276 39 607.7% Underlying Share of profit of associates 38 39 (2.6%) Net income 1,045 965 8.3% Underlying Net income 959 1,001 (4.2%) Non-controlling interests 73 84 (13.1%) Underlying Non-controlling interests 86 90 (4.4%) Net income – Group Share 972 881 10.3% Underlying Net income – Group Share 873 911 (4.2%)

Diluted EPS (€) 1.64 1.46 12.4% Underlying Diluted EPS (€) 1.47 1.51 -2.4% No. of Shares (mn) - Diluted 592 603

Underlying Margin Analysis (%) Y-o-Y

Change in bps

Gross Profit Margin (%) 49.2% 50.0% (76.4) Underlying Operating income Margin (%) 13.3% 13.9% (51.3) Underlying Net income – Group Share Margin (%) 7.9% 8.7% (80.2) Underlying Effective Tax rate (%) 30.4% 26.7% 365.3

Source: Company Reports


29

• In H1CY13, Danone’s overall revenue was up 5.6%, with an organic growth of 6%. This was higher than management’s guidance of a growth of at least 5%, with acceleration witnessed within the first half itself and the growth in Q2 CY13 being higher than that in Q1 CY13.

• The company’s trading operating margin declined by 51 basis points to 13.3%, which was

also in line with management’s guidance of minus 50 to minus 30 and consistent with its expectations that the margins in H1CY13 would be at the lower end of its guidance due to lower margins in Europe.

• Free cash flow amounted to EUR714 mn in H1CY13, excluding close to EUR40 mn of non-

recurring cash out linked to the company’s cost saving plan.

• Danone will be first completing its consultation process throughout Europe, which will allow the company to begin implementing its EUR200 mn cost saving plan early in H2CY13. In Europe, the company has stabilized its market share in Dairy Europe and improved its sales performance outside Europe, by accelerating growth in the CIS and North America through investments in brands, as well as strengthened its presence across the Emerging Markets through small, well-targeted transactions.

• Danone continues to focus strongly on Europe with regular innovative launches, such as

BebeDino in Spain or DanUp in Portugal, as well as some improvements in the recipe and formulation of its products. In particular, Actimel in Spain has been renovated, a new, very indulgent version of Danette has been launched in France with Danette Le Liegeois and Danio, a Greek high-protein low-fat yogurt, has been launched in the UK. With these measures, the company hopes to increase its competitiveness and stabilize its margins in Europe.

• The growth markets are Danone’s second leg where its growth has remained strong and has

even strengthened in some parts of the world, such as NORAM and the CIS. Between Q1 CY13 and Q2 CY13, the company’s growth has accelerated in NORAM and the CIS, while Latin America, Africa, Asia and the Middle East have also remained strong.

• In the Fresh Dairy segment, Danone has carried out a number of initiatives in H1CY13 to try

and strengthen its position in this division and also entered into a logistics JV in Russia. Danone has concluded a partnership with a logistics company called Norbert Dentressangle, in order to progressively open its logistics network to other categories, reduce costs and leverage it. Danone expects this to help it increase its profitability and competitiveness in Russia.

• In main China, Danone has partnerships with Cofco and Mengniu. The company purchased a

4% stake in Mengniu before the end of in H1CY13 and will complete the remaining steps in H2CY13.

• The US was certainly a key market for Danone in H1CY13. In the Greek Dairy segment,

where Danone is currently the No.2 player, the company launched two brand extensions, one in dips, under the Oikos brand, and Activia Greek, which was launched to convince consumers about the benefits of Activia and provide them the Greek version with Greek texture.


30

• Danone has also concluded a partnership with Starbucks, which will now leverage the former’s distribution and very high quality digital marketing. Meanwhile, Danone will leverage Starbuck’s distribution capabilities in modern retail, as well as its technology and know-how in yogurt to create a co-branded product called Evolution Fresh, inspired by Danone, which will be distributed in both channels over the coming quarters.

• After obtaining a majority stake in Centrale Laitiere in February 2013, Danone has completed

the process of increasing its control, first, by launching a tender offer on the stock market in Casablanca, which was mandatory, and by purchasing an additional stake of 2.6%. Moreover, by concluding the options with the current share holders, Danone will obtain an additional stake of 26.75% by 2014 in the company.

• Dumex is one of Danone’s local brands and the company has been adding international

brands to that, such as Nutrilon and Karicare. Danone also has a full presence in Hong Kong, where its brand Cow & Gate is being well distributed through e-commerce.

• Operating margin at 13.3% was down 51 basis points Y-o-Y in H1CY13 due to a slow

performance in Europe. The company has been expecting moderate inflation in raw material prices, which in the mid-single digit was slightly higher than its anticipated increase in the mid single-digit in milk prices. Nevertheless, the company managed to offset this with its ongoing cost saving measures. Productivities in H1CY13 stood at EUR254 mn, which was very much in line with the company’s target of EUR500 mn for the year.

• For the full year CY13, management has maintained its organic sales growth guidance of at

least 5%. The company expects trading operating margin in the range of minus 30 to minus 50 basis points, which indicates that its margins for H2CY13 will be at least at the H1CY13 levels, or possibly higher. Management has targeted free cash flow, excluding exceptional items, of around EUR2 bn for the year.


31

Financials

Earnings Model

YE December (in € mn) H1 CY11

H2 CY11 CY11 H1

CY12H2

CY12 CY12 H1 CY13

H2 CY13E CY13E CY14E

Net Sales 9,728 9,590 19,318 10,475 10,394 20,869 11,058 10,921 21,979 23,219 Cost of sales 4,803 4,738 9,541 5,238 5,171 10,409 5,614 5,548 11,162 11,726 Gross Profit 4,925 4,852 9,777 5,237 5,223 10,460 5,444 5,373 10,817 11,494 Less: Selling expense 2,594 2,498 5,092 2,744 2,730 5,474 2,882 2,861 5,743 6,037 General and administrative expense 763 801 1,564 842 904 1,746 873 928 1,801 1,881 Research and development expense 114 119 233 125 132 257 139 142 281 279 Other income (expense) 47 -2 45 75 -50 25 75 -22 53 23 Trading operating income 1,407 1,436 2,843 1,451 1,507 2,958 1,475 1,463 2,938 3,274 Underlying Operating income 1,407 1,436 2,843 1,451 1,507 2,958 1,475 1,463 2,938 3,274 Depreciation 313 324 637 337 333 670 345 355 700 731 Non-Operating Income -45 -62 -107 -62 -68 -130 -66 -66 -132 -116 Cost of net debt 88 86 174 76 94 170 86 109 195 197 Income before tax 1,274 1,288 2,562 1,313 1,345 2,658 1,323 1,289 2,612 2,960 Underlying Income before tax 1,274 1,288 2,562 1,313 1,345 2,658 1,323 1,289 2,612 2,960 Provision for income taxes 331 330 661 351 384 735 402 393 795 888 Share of profit of associates 23 23 46 39 20 59 38 20 58 46 Income attributable to Non controlling interests -92 -106 -198 -90 -74 -164 -86 -87 -173 -163

Net income – Group Share 865 806 1,671 881 791 1,672 972 828 1,800 1,956 Underlying Net income – Group Share 874 875 1,749 911 907 1,818 873 828 1,701 1,956

Diluted EPS (€) 1.43 1.33 2.77 1.46 1.31 2.77 1.64 1.40 3.04 3.30 Underlying Diluted EPS (€) 1.44 1.45 2.90 1.51 1.50 3.01 1.47 1.40 2.87 3.30 Wtd Avg number of diluted shares (mn) 606 604 604 603 603 603 592 592 592 592 Underlying Margin Analysis (%) Gross Profit Margin (%) 50.6% 50.6% 50.6% 50.0% 50.3% 50.1% 49.2% 49.2% 49.2% 49.5% Underlying Operating income Margin (%) 14.5% 15.0% 14.7% 13.9% 14.5% 14.2% 13.3% 13.4% 13.4% 14.1%

Underlying Net income – Group Share Margin (%) 9.0% 9.1% 9.1% 8.7% 8.7% 8.7% 7.9% 7.6% 7.7% 8.4%

Underlying Effective Tax rate (%) 26.0% 25.6% 25.8% 26.7% 28.6% 27.7% 30.4% 30.5% 30.4% 30.0% Source: Company Reports, FG estimates


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Profit & Loss A/c YE December (In € mn) CY08 CY09 CY10 CY11 CY12 CY13E CY14E Net Sales 15,220 14,982 17,010 19,318 20,869 21,979 23,219 Cost of sales 7,172 6,749 7,957 9,541 10,409 11,162 11,726 Gross Profit 8,048 8,233 9,053 9,777 10,460 10,817 11,494 Less: Selling expense 4,197 4,212 4,663 5,092 5,474 5,743 6,037 General and administrative expense 1,297 1,356 1,494 1,564 1,746 1,801 1,881 Research and development expense 198 206 209 233 257 281 279 Other income (expense) 86 165 90 45 25 53 23 Total Cost 5,778 5,939 6,456 6,934 7,502 7,879 8,220 Underlying Operating income 2,270 2,294 2,597 2,843 2,958 2,938 3,274 Non-Operating Income (145) (120) (102) (107) (130) (132) (116) Cost of net debt 439 264 143 174 170 195 197 Underlying Income before tax 1,686 1,910 2,352 2,562 2,658 2,612 2,960 Tax 443 448 592 661 735 795 888 Share of profit of associates 62 110 80 46 59 58 46 Net income from discontinued operations 269 0 0 0 0 0 0 Non controlling interests (178) (160) (166) (198) (164) (173) (163) Net income – Group Share 1,313 1,361 1,875 1,671 1,672 1,800 1,956 Underlying Net income – Group Share 1,396 1,412 1,674 1,749 1,818 1,701 1,956

Common sized Profit & Loss A/c YE December CY08 CY09 CY10 CY11 CY12 CY13E CY14E Net Sales 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Cost of sales 47.1% 45.0% 46.8% 49.4% 49.9% 50.8% 50.5% Gross Profit 52.9% 55.0% 53.2% 50.6% 50.1% 49.2% 49.5% Less: Selling expense 27.6% 28.1% 27.4% 26.4% 26.2% 26.1% 26.0% General and administrative expense 8.5% 9.1% 8.8% 8.1% 8.4% 8.2% 8.1% Research and development expense 1.3% 1.4% 1.2% 1.2% 1.2% 1.3% 1.2% Other income (expense) 0.6% 1.1% 0.5% 0.2% 0.1% 0.2% 0.1% Total Cost 38.0% 39.6% 38.0% 35.9% 35.9% 35.8% 35.4% Underlying Operating income 14.9% 15.3% 15.3% 14.7% 14.2% 13.4% 14.1% Non-Operating Income -1.0% -0.8% -0.6% -0.6% -0.6% -0.6% -0.5% Cost of net debt 2.9% 1.8% 0.8% 0.9% 0.8% 0.9% 0.9% Underlying Income before tax 11.1% 12.7% 13.8% 13.3% 12.7% 11.9% 12.8% Tax 2.9% 3.0% 3.5% 3.4% 3.5% 3.6% 3.8% Share of profit of associates 0.4% 0.7% 0.5% 0.2% 0.3% 0.3% 0.2% discontinued operations 1.8% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% Non controlling interests -1.2% -1.1% -1.0% -1.0% -0.8% -0.8% -0.7% Net income – Group Share 8.6% 9.1% 11.0% 8.6% 8.0% 8.2% 8.4% Underlying Net income – Group Share 9.2% 9.4% 9.8% 9.1% 8.7% 7.7% 8.4%


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Balance Sheet YE December (In € mn) CY08 CY09 CY10 CY11 CY12 CY13E CY14E Liabilities Common stock 128 162 162 161 161 161 161 Issued capital, Additional paid-in capital, Retained earnings &Treasury shares 8,516 10,393 11,575 11,939 12,030 12,031 13,467

Equity attributable to owners of the Company 8,644 10,555 11,737 12,100 12,191 12,192 13,628 Deferred Income Taxes 1,109 937 1,129 1,108 1,202 1,275 1,393 Non-controlling Interest 56 54 47 98 63 55 70 Other Non-current Liabilities 723 813 957 992 1,182 1,297 1,370 Current financial debt 652 1,702 2,529 1,865 3,176 3,043 2,043 Non-current financial debt 11,435 6,092 6,946 7,166 6,346 6,548 6,548 Capital Employed 22,619 20,153 23,345 23,329 24,160 24,409 25,052 Assets Property, Plant and Equipment 6,538 6,983 8,077 8,441 8,979 9,859 10,159 Less: Depreciation 3,455 3,803 4,267 4,525 4,864 5,422 5,587 Property, Plant and Equipment, net 3,083 3,180 3,810 3,916 4,115 4,437 4,572 Intangible assets 16,546 14,485 16,124 16,078 16,265 16,265 16,265 Investments in associates & their non-consolidated companies 1,504 1,326 1,066 1,153 1,080 1,080 1,080

Other Non-current Assets 849 909 1,116 1,167 1,154 1,187 1,207 Current Assets: Inventories 795 765 975 1,061 1,095 1,132 1,189 Trade receivables 1,534 1,682 1,924 1,981 1,902 2,047 2,163 Cash and cash equivalents & Short term investments 1,032 1,098 2,165 2,141 3,017 2,850 3,382 Others Other current assets 1,522 862 840 929 909 967 1,045 Total Current Assets 4,883 4,407 5,904 6,112 6,923 6,996 7,779 Less: Current Liabilities Trade payables 2,189 1,981 2,417 2,706 2,941 3,028 3,180 Others 2,057 2,173 2,258 2,391 2,436 2,528 2,670 Total Current Liabilities 4,246 4,154 4,675 5,097 5,377 5,555 5,851 Capital Applied 22,619 20,153 23,345 23,329 24,160 24,409 25,052


34

Common sized Balance Sheet YE December CY08 CY09 CY10 CY11 CY12 CY13E CY14E Liabilities Common stock 0.6% 0.8% 0.7% 0.7% 0.7% 0.7% 0.6% Issued capital, Additional paid-in capital ,Retained earnings &Treasury shares 37.6% 51.6% 49.6% 51.2% 49.8% 49.3% 53.8%

Equity attributable to owners of the Company 38.2% 52.4% 50.3% 51.9% 50.5% 49.9% 54.4% Deferred Income Taxes 4.9% 4.6% 4.8% 4.7% 5.0% 5.2% 5.6% Non controlling Interest 0.2% 0.3% 0.2% 0.4% 0.3% 0.2% 0.3% Other Non-current Liabilities 3.2% 4.0% 4.1% 4.3% 4.9% 5.3% 5.5% Current financial debt 2.9% 8.4% 10.8% 8.0% 13.1% 12.5% 8.2% Non-current financial debt 50.6% 30.2% 29.8% 30.7% 26.3% 26.8% 26.1% Capital Employed 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Assets Property, Plant and Equipment 28.9% 34.6% 34.6% 36.2% 37.2% 40.4% 40.6% Less: Depreciation 15.3% 18.9% 18.3% 19.4% 20.1% 22.2% 22.3% Property, Plant and Equipment, net 13.6% 15.8% 16.3% 16.8% 17.0% 18.2% 18.2% Intangible assets 73.2% 71.9% 69.1% 68.9% 67.3% 66.6% 64.9% Investments in associates & their non-consolidated companies 6.6% 6.6% 4.6% 4.9% 4.5% 4.4% 4.3%

Other Non-current Assets 3.8% 4.5% 4.8% 5.0% 4.8% 4.9% 4.8% Current Assets: Inventories 3.5% 3.8% 4.2% 4.5% 4.5% 4.6% 4.7% Trade receivables 6.8% 8.3% 8.2% 8.5% 7.9% 8.4% 8.6% Cash and cash equivalents & Short term investments 4.6% 5.4% 9.3% 9.2% 12.5% 11.7% 13.5%

Others Other current assets 6.7% 4.3% 3.6% 4.0% 3.8% 4.0% 4.2% Total Current Assets 21.6% 21.9% 25.3% 26.2% 28.7% 28.7% 31.1% Less: Current Liabilities Trade payables 9.7% 9.8% 10.4% 11.6% 12.2% 12.4% 12.7% Others 9.1% 10.8% 9.7% 10.2% 10.1% 10.4% 10.7% Total Current Liabilities 18.8% 20.6% 20.0% 21.8% 22.3% 22.8% 23.4% Capital Applied 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%Source: Company Reports & FG Estimates


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Definition of Terms Used

5-year DOCS™/MP DOCS™ – Discounted Operating Cash Stream – is the discounted value of the operating cash flow (OPCF) for 5 years. This OPCF is calculated for each of the five years and discounted back to the present day at the WACC (Weighted Average Cost of Capital). Cash and near-cash assets are added to give the 5-year DOCS™ (Discounted Optg. Cash Stream). This value is then compared with the firm value calculated on a DCF basis. This ratio indicates what the operating cash flow, in say, the next 5 years available to equity holders contribute to the total equity ‘fair value’. This ratio can then be converted into the proportion of Market Price that accrues to equity holders, as operating flow during the next 5 years.

An example would make this clearer. (YE March 31) (US$ mn) 2001 2002 2003 2004 2005 OPCF 100 120 140 175 200 WACC 15.00% 5-year DOCS™ 469 (Discounted value of OPCF) + 45 (Non Optg. Assets) = 514 Total Firm Value on a DCF basis 700 Split as : Debt 200 Equity Fair Value 500 Market Cap. of Equity 650

514 X 500 5-year DOCS™ attributed to equity holders =

700 = 367

367

5 year DOCS™ to Market Cap.(5-year DOCS™/ MP) = 650

= 56.5%

5-year Growth Adj. P/E™ The Growth Adj. P/E™ is defined as the ratio of current market price of the stock to the growth adjusted earnings per share. The growth adjusted earnings per share is the weighted average earnings for five years (including the year FY2000). The weights used are the discount factors for the respective years. Thus the growth adjusted EPS is defined as

{FY2000 EPS + FY01 EPS / (1+k) + FY02 EPS / (1+k)2 + FY03 EPS / (1+k)3 + FY04 EPS / (1+k) 4 } {1+ 1 / (1+k) + 1 / (1+k)2 + 1 / (1+k)3 + 1 / (1+k)4 }

Where k = Cost of Equity Let’s take an example.

(YE March 31) 2000 2001 2002 2003 2004 EPS (US$) 10 12 15 18 21

Cost of Equity 22.0%


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Growth Adj. P/E™ can be calculated using the above formula as follows:

{10 + 12 / (1.22) + 15 / (1.22)2 +18 / (1.22)3 + 21 / (1.22)4} = $ 14.1 {1+ 1 / (1.22) + 1 / (1.22)2 + 1 / (1.22)3 + 1 / (1.22)4}

Let us assume the market price of the stock to be $ 100. Hence Growth Adjusted P/E™ would be 100 / 14.1 = 7.1(x). This ratio combines the concepts of a conventional P/E with earnings growth over the next few years. Thus a high P/E stock with higher growth expectations may look more attractive than a slower growing company with a lower historical P/E.


37

IMPORTANT DISCLOSURES

Regulation Analyst Certification Kavita Thomas certifies that the views expressed in the report accurately reflects such analyst’s personal views about the security or issuer and that no part of her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in the report. Other disclosures do not apply. Price Target Price targets (if any) are derived from a subjective and/or quantitative analysis of financial and nonfinancial data of the concerned company using a combination of P/E, P/Sales, earnings growth, and its stock price history. The risks that may impede achievement of the price target/investment thesis are -

• Unfavorable movement in foreign currency

• A negative outcome from the ongoing bribery allegations in China

• Unfavorable situations or increased pressures in markets like Europe

• Adverse weather condition

• Catastrophic events impacting consumer demand

• Changes in laws and regulation related to Dairy products

• Increased competition


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First Global’s Rating System Our rating system consists of three categories of ratings: Positive, Neutral and Negative. Within each of these categories, the rating may be absolute or relative. When assigning an absolute rating, the price target, if any, and the time period for the achievement of this price target, are given in the report. Similarly when assigning a relative rating, it will be with respect to certain market/sector index and for a certain period of time, both of which are specified in the report. Rating in this report is relative to: MSCI Emerging Market Index and CAC 40 Index

Positive Ratings (i) Buy (B) – This rating means that we expect the stock price to move up and achieve our specified price target, if any, over the specified time period.

(ii) Buy at Declines (BD) – This rating means that we expect the stock to provide a better (lower) entry price and then move up and achieve our specified price target, if any, over the specified time period.

(iii) Outperform (OP) – This is a relative rating, which means that we expect the stock price to outperform the specified market/sector index over the specified time period.

Neutral Ratings (i) Hold (H) – This rating means that we expect no substantial move in the stock price over the specified time period.

(ii) Marketperform (MP) – This is a relative rating, which means that we expect the stock price to perform in line with the performance of the specified market/sector index over the specified time period.

Negative Ratings (i) Sell (S) – This rating means that we expect the stock price to go down and achieve our specified price target, if any, over the specified time period.

(ii) Sell into Strength (SS) – This rating means that we expect the stock to provide a better (higher) exit price in the short term, by going up. Thereafter, we expect it to move down and achieve our specified price target, if any, over the specified time period.

(iii) Underperform (UP) – This is a relative rating, which means that we expect the stock price to underperform the specified market/sector index over the specified time period.

(iv) Avoid (A) – This rating means that the valuation concerns and/or the risks and uncertainties related to the stock are such that we do not recommend considering the stock for investment purposes.


39

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The information and opinions in this report were prepared by First Global Securities Ltd. Information contained herein is based on data obtained from recognized statistical services, issuer reports or communications, or other sources, believed to be reliable. However, such information has not been verified by us, and we do not make any representations as to its accuracy or completeness. Any statements nonfactual in nature constitute only current opinions, which are subject to change. First Global does not undertake to advise you of changes in its opinion or information. First Global and others associated with it may make markets or specialize in, have positions in and effect transactions in securities of companies mentioned and may also perform or seek to perform investment banking services for those companies. Whilst all reasonable care has been taken to ensure the facts stated and the opinions given are fair, neither First Global (UK) Limited nor any of their affiliates shall be in any way responsible for its contents, nor do they accept any liability for any loss or damage (including without limitation loss of profit) which may arise directly or indirectly from use of or reliance on such information. First Global (or one of its affiliates or subsidiaries) or their officers, directors, analysts, employees, agents, independent contractors, or consultants may have positions in securities or commodities referred to herein and may, as principal or agent, buy and sell such securities or commodities. An employee, analyst, officer, agent, independent contractor, a director, or a consultant of First Global, its affiliates, or its subsidiaries may serve as a director for companies mentioned in this report. First Global and its affiliates may, to the extent permitted under applicable law, have acted upon or used the information prior to or immediately following its publication, provided that we could not reasonably expect any such action to have a material effect on the price. This memorandum is based on information available to the public. No representation is made that it is accurate or complete. This memorandum is not an offer to buy or sell or a solicitation of an offer to buy or sell the securities mentioned. The investments discussed or recommended in this report may not be suitable for all investors. Investors must make their own investment decisions based on their specific investment objectives and financial position and using such independent advisors as they believe necessary. Where an investment is denominated in a currency other than the investor's currency, changes in rates of exchange may have an adverse effect on the value, price of, or income derived from the investment. There may be instances when fundamental, technical, and quantitative opinions may not be in concert. Past performance is not necessarily a guide to future performance. Income from investments may fluctuate. The price or value of the investments to which this report relates, either directly or indirectly, may fall or rise against the interest of investors. There are risks inherent in international investments, which may make such investments unsuitable for certain clients. These include, for example, economic, political, currency exchange rate fluctuations, and limited availability of information on international securities. The value of investments and the income from them may vary and you may realize less than the sum invested. Part of the capital invested may be used to pay that income. In the case of higher volatility investments, these may be subject to sudden and large falls in value and you may realize a large loss equal to the amount invested. Some investments are not readily realizable and investors may have difficulty in selling or realizing the investment or obtaining reliable information on the value or risks associated with the investment. Where a security is denominated in a currency other than sterling (for UK investors) or dollar (for US investors), changes in exchange rates may have an adverse effect on the value of the security and the income thereon. The tax treatment of some of the investments mentioned above may change with future legislation. The investment or investment service may not be suitable for all recipients of this publication and any doubts regarding this should be addressed to your broker. While First Global has prepared this report, First Global (UK) Ltd. is distributing the report in the UK & US and accept responsibility for its contents. Any person receiving this report and wishing to effect transactions in any security discussed herein should do so only with a representative of First Global (UK) Ltd. First Global (UK) Limited is regulated by FCA. Additional information on recommended securities is available on request. This report may not be resold or redistributed without the prior written consent of First Global.

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