Jamaica's manufacturing sector: a window of opportunity for investors

SSL in the Money

with Kimberly Thelwell

Wednesday, July 14, 2010    

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THE manufacturing industry is often thought of as the nucleus of an economy -- the driving force of growth. For Jamaica, however, the sector's vitality has been impeded by a number of factors including crime, high energy costs, reduced access to affordable credit and most recently fleeting demand as a result of the economic recession.

Notwithstanding, several listed firms within this gamut have displayed resilience, turning the focus to cost-cutting and restructuring initiatives to lessen the burden. And while it is expected that challenges will persist in the medium-term, there is still value to be found by investing in manufacturing firms on the Jamaica Stock Exchange (JSE).

Within the industry, Jamaica Broilers Group Ltd (JBG) stands out among its peers as a fundamentally sound company with diversified operations and a prudent management team. JBG has reaped the benefit from its multi-billion dollar investment in the ethanol market, with the segment contributing almost $715.8 million or 26 per cent to the company's bottom line for its year ended May 1, 2010. Apart from ethanol, JBG's two other long-standing core segments -- Poultry (Best Dressed Chicken) and Feed & Farm Supplies, continued to produced strong results, helping boost Net Profit by 60 per cent to $1.31 billion for the period.

Notwithstanding, it hasn't always been smooth sailing for the company, which experienced a challenging year in FY 2008/2009 when global ethanol prices dived, the Government implemented a cap on poultry prices and expenses soared across the board. Since then, however, JBG has reported consistently positive results, owing to several strategic decisions. Firstly, JB Ethanol doubled its plant capacity to 120mm gallons per annum, positioning itself to benefit from rising ethanol prices as the global economy recovers. It also embarked on a cost-saving initiative which resulted in operating expenses remaining relatively unchanged during YE 2009/2010, versus a 78 per cent jump in the previous financial year.

While the fundamentals speak for themselves, technical analysis also indicates that JBG is undervalued when compared to its industry counterparts. After rallying during the first quarter of 2010, the stock has pulled back from its 52-week high as investors took profits. Currently, JBG is trading at a Price-to-Earnings (P/E) ratio of 6.36 times, the lowest of all Manufacturing firms on the Exchange, providing an excellent opportunity for investors as the Group is expected to continue to produce strong results in upcoming quarters.

Like JBG, Seprod Ltd (SEP) is another manufacturing powerhouse that has been able to weather the economic storm, mainly owing to its diverse product line which includes essentials such as milk and edible oils. SEP's strategy of aggressively growing its business via a string of acquisitions has proven successful, particularly the addition of Serge Island Farms Ltd to the Group. The newest member of the SEP family, the St Thomas Sugar Company, is expected to make a positive contribution to the Group's bottom line during its first year of operations in 2010.

Taking a look at the Group's historical performance reveals that excluding its most recent quarter, SEP generated six consecutive quarters of earnings growth at a time when firms across all industries were feeling the brunt of the downturn. While the results for the first quarter ended March 31, 2010 appear lacklustre at first glance, with Earnings per Share (EPS) slipping 37.5 per cent to $0.55, it should be noted that the Company suffered a $34.52 million foreign exchange loss compared with a gain of $208.25 million in the prior year.

Fundamentally, the consumer-products manufacturer remains sound. It has consistently boosted Shareholders' Equity year-over-year over the past 3 years to $7.4 billion (as at March 31, 2010), making it the biggest JSE manufacturing firm by that measure. SEP shares have climbed almost 20 per cent to $21.50 (closing price on July 12, 2010), declining from a 52-week HI of $27.00 in March 2010. With a current P/E of 9.1 times (slightly above the industry average of 8.59 times) the stock is fairly priced.

Desnoes & Geddes Ltd (DG), Jamaica's leading beverage manufacturer and distributor; has also been traditionally regarded as a fundamentally strong company. After all, it is known for having a sound management team, innovation and strong brand recognition. Unfortunately for the company behind the Red Stripe brand, the last two years have been a trying time as feeble domestic demand coupled with increased prices for its inputs and a hike in Special Consumption Tax (SCT) have eroded profits. Consequently, DG was forced to re-align its business model with an aggressive focus on cost-cutting. It has also turned to its export market in an effort to boost sales; however this segment continues to contribute a minuscule portion to overall earnings.

Despite posting three consecutive quarterly declines in earnings, the stock has performed in the opposite direction, rising more than 35 per cent since the start of the year and making DG the second largest manufacturing firm by market value on the Exchange. However, DG will find it difficult to maintain much less boost market share in the foreseeable future, especially as the local market becomes increasingly competitive. Consequently, at a current price of $4.62 and a P/E of 7.57 times, Stocks & Securities Ltd (SSL) thinks that DG is overpriced and maintains a sell rating on this stock.

Nonetheless, the sector as a whole has vastly outpaced the Finance, Conglomerates, Other and Insurance segments on the JSE since the start of 2010. Manufacturing stocks have also outperformed the JSE Main Index, rising over 22 per cent compared with the Index's 1.92 per cent gain. And the expectation is that as the economic climate improves, so too will these firms' bottom lines, thus providing an opportunity for investors looking to hold a position in the local market.

Kimberly Thelwell is the Senior Investment Analyst at Stocks & Securities Ltd. You can contact her at





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