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Treasure Chest: A Taste Of Freedom

Treasure Chest | Jun 19 2019

Another broker initiates coverage of Freedom Foods with a Buy rating and a glowing outlook.

-Earnings disappointments forgiven
-Investment in growth applauded
-Nutritional focus met with strong demand

By Greg Peel

It’s been a rocky road for Freedom Foods ((FNP)) to date in 2019, but after bottoming out in March following an earnings “miss” the share price has since rallied 26% from that low through a period which included a capital raising.

While earnings disappointed the market, a lot was down to the company’s decision to exit a large number of low-margin manufacturing contract agreements in Cereals & Snacks. Forecasts were materially cut but brokers were undeterred, seeing the strategic move as minor disruption that would result in a better business over time.

Indeed brokers remained rather keen on the stock, attracted to the company’s focus on Nutritionals.

Last month Freedom Foods announced another guidance downgrade, but this time it was accompanied by a $130m capital raising intended to fund growth in its nutritionals business.

The downgrade related to an upgrade to the company’s UHT milk facility which had constrained production, and again brokers were circumspect. While acknowledging earnings growth would be limited in the near term period of investment ahead, analysts remained keen on the subsequent growth opportunity, particularly in high-value dairy ingredients.

The FNArena database of leading brokers shows three of the four who cover the stock on Buy ratings, with one Hold.

This week Goldman Sachs, not a database broker, initiated coverage of Freedom Foods with a Buy rating.

Freedom Foods is the biggest player in health food in the Australian supermarket channel, boasting the country’s largest production capacity for UHT milk as well as strong positions in plant-based beverages and remaining cereal & snack brands. The company is now in the final stages of a $400m investment program focused on high-value, dairy-based nutritional products.

Goldman Sachs believes this investment will diversify the company’s product and customer bases and increase exposure to high-growth categories and markets. Freedom Foods enjoys the competitive advantages of integrated supply, the latest technology at its purpose-built production facility and a proven track record, the broker notes.

Goldman sees the company benefiting from a global shift towards healthier lifestyles and functional foods, teamed with rising incomes in emerging markets. These trends should lead to strong demand for the nutritional products Freedom Foods is targeting.

Of course all roads lead ultimately to China, where the shortcomings of local products has led to a near hysterical demand for infant formula made from Australian and New Zealand milk, sending the share prices of listed producers downunder soaring over the past couple of years. Put “China” and “dairy” together and it seems one has an undeniable recipe for success, provided Beijing is onside with such a level of imports.

The Chinese government has not made things too easy, requiring certifications and providing other regulatory hurdles, with the so-called “daigou” market proving a source of disgruntlement. (Agents come to Australia and literally buy products off the shelf to take back to China.) But more recently Beijing has taken up more of a “don’t fight them, join them” attitude in encouraging more cross-border collaboration, and to that end Freedom Foods has already established joint ventures and partnerships.

Goldman Sachs is forecasting a 44% compound annual growth rate in earnings per share in the period FY18 to FY21. The broker’s $6.15 price target suggest 21% total shareholder return, hence a Buy rating.

This compares to an average $6.04 target set by the four FNArena database brokers covering the stock, implying 12% upside from the current trading price.

Note that Goldman’s initiation had already helped to narrow that gap.

Collectively the database is forecasting 33% earnings growth in FY19 and 93% in FY20. At 1.0%, the forecast dividend is not the major attraction – this is a “growth” stock – but that is forecast to rise by 30% in FY20 (to 1.3%).

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