Outlook still favourable
- Strong earnings growth outlook over the 2017-19E period: Dangote Sugar Refinery’s (DSR) growth story over the medium term is compelling. We forecast EPS growth to average 45% y/y over the 2017-19E period. We expect the company’s dominance of the sugar industry to persist well beyond the next few years given the firm’s aggressive backward integration project which is in line with the federal government’s sugar master plan. In comparison with peers which have struggled, DSR has successfully signed key land acquisition agreements. The most recent is a 60,000 hectare Tunga Project in Nasarawa which accounts for c.55% of DSR’s near term production ambition. According to management, the firm expects to produce around one million tonnes per annum (1MTPA) of finished sugar domestically, equivalent to two-thirds and 50% of current and projected national sugar demand by 2022.
- National sugar consumption to rise, driven by favourable trends: Nigerian sugar consumption is estimated at 8kg/capita. This pales in comparison with African peers South Africa (46kg/capita) and Ghana (16kg/capita) respectively. Although sugar demand growth may have been subdued in recent years, we believe growing domestic sugar and ethanol (a by-product) production are likely to have a positive impact on sugar consumption over the medium term. Local production costs are estimated at a fraction of imports and we expect relatively subdued costs to reflect in market pricing. Other drivers for future growth are positive demographic trends and an improving economic outlook.
- Bullish on near term performance: In the near term, we forecast full year sales and earnings growth of 29% y/y and 121% y/y to N218.4bn and N31.8bn respectively in 2017E. Our projections are primarily driven by a +42% y/y rise in finished sugar prices. We expect that H2 sales growth will be modest compared with what DSR delivered in H1 due to base effects. Our 2017E earnings growth forecast of 121% y/y compares with 73% y/y for our consumer goods coverage universe.
- Apex bank policy central to improved profitability: Benefits from increased central bank interventions in the fx market have eased production costs. Management now indicates that the firm’s average fx rate is around N320/US$, compared with c.N450/US$ a year ago. Additionally, increased utilisation of gas compared with LPFO (which is 2x more expensive) bodes well for sugar production at the Lagos Refinery. Gas accounted for all of DSR’s production energy requirements in Q3. We expect this trend to persist through Q4.
- Neutral view on the stock retained: DSR is the strongest pick within our fast moving consumer goods coverage universe. Year-to-date, DSR shares have gained 129%, outperforming both the broad index and peers by 94% and 89% respectively. Positive market sentiments helped, on the back of a strong set of Q1 and Q2 2017 results. At current levels and based on our valuations, we see upside potential of 12% to our price target of N15.6. As such, we retain our Neutral rating on the stock. Downside risks to our thesis include macroeconomic instability, disruptions to gas supply and poor road infrastructure.