Since 2007, Olam has pursued an integration strategy that involves selectively owning assets such as midstream processing capacity in the supply chain. This allows the Group to become less of a price-taker. While its traditional trading business nets a steady 2% margin, the market could have underestimated a potential expansion to 2.8% by FY11.
With a lowered gearing ratio of 1.8X following Temasek’s $437.5m equity injection in June, Olam now has sufficient credit headroom to pursue an estimated current pipeline of more than 10 M&A deals. In the post credit-crisis environment, we see more opportunities for acquiring good distressed assets at attractive prices, such the recent SK Food deal.
While Olam might seem highly leveraged using conventional ratios, such concerns are unwarranted due to the liquid nature of its large inventory. Furthermore, we believe the subsiding of the credit-crisis, Temasek’s equity injection, together with management’s recent voluntary reduction of target gearing level to 2.5X-3.5X, has sufficiently addressed this.
We believe Olam’s growth profile for a company of its size continues to present a unique proposition. We estimate Olam’s EPS (normalised) to grow at a CAGR of 27% from FY10-FY11, significantly above its peers. With this growth profile, we have pegged our target price of $3.05 to a premium 25X FY10F, which is still below its historical average of 31X PE.
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