UAC of Nigeria’s (UACN) Q3 2017 earnings declined by -67% y/y to N602m but came in well ahead of our N358m estimate.

Waiting for underlying business to recover

· Outperform rating maintained: UAC of Nigeria’s (UACN) Q3 2017 earnings declined by -67% y/y to N602m but came in well ahead of our N358m estimate. The variance was primarily driven by a positive surprise on the other income line. This relates to income accrued from profits from the sales of investment property and sales commissions from third party transactions. As such, we have raised our EPS estimates over the 2017-18E period by 7% due to the magnitude of the surprise. Excluding this income line, UACN’s underlying business remained weak. UACN concluded a N15.4bn rights issue in December 2017. The results will be announced soon. Based on our published estimates and assuming full subscription, we expect a -33% dilution to earnings. If we assume a 50% subscription, which is close to the subscription average for various UACN subsidiaries’ rights issue programs in 2017, the dilutive impact would be around -20%. To our minds, 2018 offers the stiffest challenge to growth in recent years for UACN’s animal nutrition businesses. From a sales perspective, growing its local manufacturing presence is set to intensify competition. Additionally, we also anticipate that tangible increases in production costs following continued violence in Nigeria’s food belt region could lead to poorer crop output and more expensive grains. Grains are key inputs in the animal feeds and edible oils businesses. In 2017, UACN shares were flattish vs the ASI (+42%). Notwithstanding the outlook, we retain our outperform rating on the stock due to the valuation gap to our fair value estimate. At current levels, UACN shares are trading on a 2017E P/E multiple of 16.6x for an average EPS growth of 11% over the 2017-19E period.

· Q3 2017 PBT down 69% y/y to N1.4bn: UAC of Nigeria (UACN) reported Q3 2017 results which showed declines across all key line items. While sales of N20.3bn declined 46% y/y, PBT and PAT both fell by around -70% y/y to N1.4bn and N602m respectively. The sales decline and a gross margin contraction of -585bps y/y to 16.1% more than offset operational and funding costs, both of which fell y/y during the quarter. Share of profit from associates remains soft as rental income from UPDC REIT’s faces strong headwinds. On a segmental basis, sales in UACN’s food & beverage category fell -44% y/y to N17.2bn. Combined, sales for the paints and real estate businesses also declined by -58% y/y. PBT margin for the food & beverage category contracted by -894bps y/y on average, offsetting PBT margin expansion across other businesses. Rising input prices, mainly for UACN’s animal nutrition businesses, have weighed on profitability recently. Compared with our estimates, while sales missed by -14%, PAT surprised positively due to the other income line.

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