GLANBIA - Making it worth your while?
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24th March 2021
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Share price: €12.40
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Dividend yield: 2.15%
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Historic P/E: 25.5 (based on fully diluted basic earnings per share for 2020)
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Prospective P/E: 24 to 22.75 (based on 6% to 12% growth in earnings per share projected in CEO's report)
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Did you know that Kelly Brook was voted 'Sexiest Woman Alive' by the now defunct FMH magazine back in 2005? Or that she had the body the predominantly female readership of Grazia magazine voted they would most like to have? Or that she rejected several offers of acting roles from Harvey Weinstein, sensing an ulterior motive from the once powerful Hollywood mogul? Or that she lambasted the women who did, implying that they knew what he was about and asked "was it really worth that for an Oscar"? Which of course caused much outrage amongst the twitterati...
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Me neither. Until my research of Glanbia plc shares lead me unexpectedly to the celebrity gossip websites. The aforementioned Ms Brook (her real name is Parsons) was recently appointed brand ambassador for Slimfast which is one of the two flagship brands for Glanbia's perfomance nutrition business.
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The other flagship brand is Ultimate Nutrition, a chocolate drink made from whey that is popular with elite athletes and those engaged in professional sports. Chelsea footballer Tammy Abraham is now on You Tube expounding the benefits of this drink.
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Not much comment yet on You Tube - except from one Chelsea fan who says he is a greedy so and so that never passes the ball! Anyway, England manager Gareth Southgate doesn't think so, as he recently called him up to the squad for the Euro's and the World Cup qualifiers.
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Good to see that Glanbia is promoting these brands on social media, which should raise their profile and find new customers. Slimfast gets mostly around 3.5 out of 5 in the reviews I've read, which is pretty good. Ultimate Nutrition gets rave reviews with almost everyone giving it a 5 out of 5. "Make It Worth Your While" is the catchphrase at the end of the ad on You Tube, showing a very fit looking person drinking one of these whey concoctions after a hard gym session.
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Glanbia announced results for the year ended 31st December 2020, on 24th February 2021. The annual report for 2020 is now up on the website and a read through this indicates that the Performance Nutrition division, which includes the above two brands, is the star performer of the group.
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The EBITDA (earnings before interest, tax, depreciation and amortisation) of the Performance Nutrition division was €91.2 million, representing an 8% margin on sales. The EBITDA for the Nutritionals division (cheese and ingredients) was higher at €118.4 million, but had a much lower margin of 4.4% on sales.
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The other two divisions are both joint ventures, where Glanbia shows a share of net profits of 40% to 51% in the accounts, equating to the percentage ownership of these joint ventures.
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The Glanbia Ireland division is a 40% joint venture with Glanbia Co-op, engaged in milk processing and consumer foods, and contributed €23.9 million to net profits before tax.
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Finally, the fourth division consists of two joint ventures, both cheese makers, one is 50% owned, operating in the US with MWC (Michigan) and the other is 51% owned operating in Europe with Leprino Foods. Together they contributed €37.7 million to net profits before tax.
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It is a somewhat unwieldly organisational structure, but reflects Glanbia's history of being a low margin agribusiness that has attempted to diversify into higher margin products elsewhere.
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The Performance Nutrition divison, which sells to retail customers and now has a social media presence, is the jewel in the crown. It has the best growth and better margins. Outside of that, the other three divisions are mostly engaged in cheese making. These are supplying supermarkets and pizza distributors, so profit margins are very tight.
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How low is the profit margin in the cheese business? It seems to me that perhaps it is so low, Glanbia is trying to hide this in the annual report.
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One would expect to see the net profit before and after tax for all four divisions in a note to the accounts. Instead, we get the EBITDA (earnings before interest, tax, depreciation and amortisation) for the Performance Nutrition and Nutritionals divisions - and the share of net profit before tax of the various joint ventures.
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Curiously, the interest, tax, depreciation and amortisation charges are not allocated to the Performance Nutrition and Nutritionals divisions. Glanbia gives a rather feeble excuse for this omission in the annual report - saying that as the interest and tax are "centrally managed" it would be inappropriate to allocate these. No mention is made of the depreciation and amortisation charges, and it is very obvious which divisions these relate to, and should be allocated accordingly.
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One possible reason for not allocating the tax charge between the various divisions is that Glanbia is 'bending the rules' regarding transfer pricing. I doubt that, although the audit report highlights the 'interpretation' of transfer pricing tax rules as a key matter. A company of Glanbia's size would normally have enought tax experts advising it on how to stay on the right side of the law.
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My guess is that the real reason why we are not told the net profit before and after tax for the Performance Nutrition division and the Nutritionals division, is because the latter (which is the cheese and ingredients making business that is 100% owned by Glanbia) would reveal that it is actually loss making.
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The other cheese making businesses are joint ventures, and these are making net profits. Therefore it would be revealed that Glanbia doesn't make any profit when it makes cheese on its own. However, when it works with a partner in a joint venture, it does make some money from cheese making (but not much)!
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As Glanbia does not give us the net profit figures for the Performance Nutrition and the Nutritionals divisions, I have tried to estimate this below.
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The total interest, depreciation and amortisation charge is €81.4 million, of which €20.5 million is interest and €60.9 million is depreciation and amortisation. Let's just allocate that on the basis of revenue. Performance Nutrition had revenue of €1,138 million (30%) and Nutritionals had revenue of €2,685 (70%). Allocate 30% of the €81.4 million charge to Performance Nutrition, equals €24.4 million. Allocate 70% of the €81.4 million charge to Nutritionals, equals €57 million.
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Deduct these allocated charges from EBITDA reported by the respective divisions and you get €66.8 million net profit before tax for Performance Nutrition (€91.2 million EBITDA minus €24.4 million allocated interest, depreciation and amortisation). That is a net profit margin of 6% on sales revenue of €1,138 million.
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A similar exercise for the Nutritionals division, results in net profit before tax of €61.4 million (€118.4 million EBITDA minus €57 million allocated interest, depreciation and amortisation). That is a net profit margin of only 2.3% on sales revenue of €2,685.
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That is a tiny net profit margin for the Nutritionals division, and I suspect that cheese making requires more capital investment than does the drinks and powders made by the Performance Nutrition division. Therefore a slightly higher allocation of the €81.4 million charge for interest, depreciation and amortisation, to the Nutritionals division may be appropriate and this would wipe out its small net profit per above.
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In any case, net profit margins of 6% and 2.3% of sales revenue are low. Manufacturing anything, whether it is cheese or widgets, is a low margin business. High capital investment is required in plant and machinery and it is usually labour intensive. Furthermore, the raw material inputs must be purchased and workers paid, before the end product is delivered to customers. The customers then look for three months credit before paying up!
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Little wonder therefore that most manufacturing companies left the high cost environment of Western Europe in the 70's and 80's and re-established in lower cost destinations throughout Asia.
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It is vital therefore for any manufacturing companies still operating in Western Europe, to enter higher margin product sectors. That is what Glanbia is trying to do, but it is hard to get too excited about net profit margins of only around 6% for the Performance Nutrition division, though it does represent double the normal 3% margin for most manufacturing incumbents.
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There has been a burst of stength in the shares recently, and the chart has turned bullish. So what is going on?
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The shares have been boosted by the almost daily share buybacks that Glanbia is currently doing in the market. Glanbia has a very under-geared balance sheet with very low debt. As at 31st December 2020, it had total debt of €494 million compared to total capital of €2,106 million (debt €494 million plus equity €1,612 million).
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That is a debt to total capital ratio of under 25%. The normal ratio is around 50%, and one could argue it should be more than that in the current ultra low interest rate environment. Glanbia can increase earnings per share by buying back some of it's shares in the market, and cancelling these. This will lead to higher debt and lower equity, but it currently has plenty of scope to do this.
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The share buyback and cancellation will have the effect of reducing the number of shares in issue. Therefore even if earnings are static this year, Glanbia will show an increase in earnings per share as there will be less shares in issue.
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Little wonder therefore that CEO, Siobhan Talbot is confidently predicting adjusted earnings per share growth of 6% to 12% for 2021.
Another way of looking at this, is that Glanbia is effectively returning surplus capital to shareholders by means of this share buyback and cancellation. If it did this by means of issuing a special dividend, then most of the shareholder recipients would incur an income tax liability of this dividend.
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Instead, by buying shares on the market and cancelling these, it means that the existing shareholders now own a larger part of the company, but this extra benefit is not taxed. This benefit is often not immediately apparent to shareholders, but results in an increase in earnings per share when the next set of results is reported (due to the decrease in the number of shares in issue), thereby becoming apparent to all market participants at that point.
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Ideally, it would be better for shareholders if Glanbia could use these surplus funds to make a large earnings enhancing acquisition. Instead, it seems intent on the more cautious strategy of making small 'bolt-on' acquisitions (such as the Canadian acquistion announced recently). However, giving the cash back to shareholders by means of a share buyback and cancellation, is preferable than leaving it sitting on the balance sheet - especially as Glanbia plc will never be a takeover target while Glanbia Co-op holds a stake of almost 32%, enabling it to block any bid.
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Glanbia has indicated that it will continue the share buyback and cancellation operation for the remainder of the year. This will support the shares, so I expect to see a further significant strengthening of the share price between now and the end of 2021.
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Any further growth in earnings when the share buyback and cancellation program is completed, will be contingent on an improvement in margins for the cheese business, and further acquitions of higher margin products at a reasonable price for the performance nutrition business. The proposed new manufacturing facility for mozzarella cheese in Portlaoise should increase scale and aid the former, while 'bolt-on' acquisitions will address the latter.