Monday, September 29, 2008

Costly business for GKC

Published: Monday September 29, 2008

GraceKennedy Limited

Jamaican Conglomerate GraceKennedy Limited (GKC) released its first half 2008 results a few weeks ago. For the six month period ended June 30, the Company reported an EPS (diluted) of $3.51, representing a 4.2 per cent increase from $3.37 in the first half of 2007.

Revenue for the first half of the year amounted to J$27.3B, a 19.1 per cent year on year increase over the previous comparable total of JA$22.9B. Unfortunately, Expenses grew in tandem with Revenue, increasing 19.3 per cent to J$25.8B, as the Group struggled with rapidly increasing operating costs. Other Income experienced negligible growth of 0.4 per cent to J$371M. The net effect was a 12.5 per cent improvement in Operating Profit from J$1.7B to $1.9B.

Interest Income from non-financial services grew by 7.7 per cent to J$203.2M, while Interest Expenses from non-financial services declined by 13.7 per cent to J$289.2M. Similarly, Share of results of associated companies also declined by 4.4 per cent to J$66.7M. These increases and declines led to an overall 16.7 per cent improvement in GKC's Profit before Taxation from J$1.6B to J$1.9B. After deducting the period's taxation charge, bottom line profit experienced a 13.4 per cent improvement from J$1.1B to J$1.3B. Minority Interest of J$109.2M compared to J$14.2M in the previous year, led to an overall 5 per cent increase in Profit Attributable to Shareholders from J$1.1B to J$1.2B.

During the six month period under review, the Jamaican economy, and by extension GKC, continued to feel the effects of escalating food and energy prices. The GK Foods segment experienced a testing second quarter as fuel and food prices were on a rapid upward spiral. Although the Food Trading segment continued to be the main revenue generating division over the period, the segment's pre-tax profit fell by 15 per cent year on year.

As depicted in the graph below, three of the Group's five segments experienced year on year declines in pre-tax profits. Despite this fall in profit, two of the three declining divisions, Food Trading, and Retail & Trading recorded healthy revenue growth of 26 per cent and 12 per cent respectively. However global food shortages and escalating food prices, which increased production and operating costs of these divisions contributed to the reduction in profit levels. In addition to rapidly escalating costs, tightened consumer spending also influenced top line revenue and overall profitability of the Retail & Trading segment.

The Insurance operations also saw a year on year deterioration in pre-tax profits of roughly 7 per cent, while the Banking & Investments division was able to maintain the same profit level of the prior year. The chairman indicated in his report that the performance of these two sectors was consistent with the Group's expectations.

The Money Services division saw the greatest year on year improvement in terms of pre-tax profit. On June 26, 2008, GraceKennedy Money Services (UK) Limited was appointed by Western Union as a master Agent in the UK. This move represents an important expansion outside of the Caribbean region.

Expansion during the first half of the year also took place in the GK Foods segment. The Group launched a line of porridge in the US market, while Grace Tropical Rhythms Refresher made in Jamaica, and Grace Snacks were launched in the UK. Given that the UK has also been significantly affected by the sub-prime crisis and has been suffering from a depreciating currency since the third quarter of the year, tightened consumer spending in the UK market could present a challenge to this new product line.

The Jamaican economy in which GKC primarily operates is still faced with many macroeconomic challenges such as slow GDP growth and high inflation. For the fiscal year 2008/2009, the Bank of Jamaica is now forecasting that the domestic economy will grow by a mere 1.2 per cent to 2.2 per cent. Among other things, higher than anticipated increases in international commodity prices led the Bank of Jamaica to raise its inflation estimate last month from 14 per cent to between 15 per cent and 17 per cent by year end 2008.

Financial executives in Jamaica have expressed the view that they do not expect any fallout in Jamaica as a result of the US financial crisis, and the recent collapse of the Investment Bank, Lehman Brothers. They indicated that local institutions are not overly exposed to the Wall Street crisis. So far, GKC has not been directly affected by this crisis with both its Banking & Investment, and Money Services divisions performing satisfactorily thus far for the year.

Despite the negatives associated with the Jamaican and UK economies in which GKC operates primarily, there is still value in this stock which is currently trading at a price of $6.60 and a forward P/E multiple of approximately 10 times. Historically, this stock has traded at an average multiple in the range of 11 to 12 times. However, given the outlook for the Jamaican economy and GKC's struggle with rising production costs, BOURSE maintains its HOLD recommendation at this time.

Trinidad Publishing Company Limited

Trinidad Publishing Company Limited (PUB) launched its new-look compact size newspaper on June 10 2008, and the chairman commented that this initiative has been favourably accepted.

For the six months ended June 30 PUB reported an EPS of $0.52 as compared to $0.40, representing a 30 per cent year on year increase.

At the top line, Turnover experienced a marginal decline of 0.6 per cent from $79.1M to $78.6M, which was partly as a result of a slowdown in television advertising demand over this six month period. Consequently, Profit before taxation deteriorated by 6.2 per cent from $24.3M to $22.8M.

It is important to note that for the half year ended June 30, the Group's effective taxation rate fell year on year from roughly 25 per cent, which has historically been the average rate, to around 7.8 per cent. This significantly reduced the Group's taxation charge which declined by approximately 71 per cent. As a result, Profit for the year was up 15.6 per cent from $18.1M to $21M.

Looking forward, the company's "free to air" television coverage is due to commence in the third quarter of 2008. In his statement, the chairman indicated that this will have a doubling effect on signal coverage, while increasing potential viewership, which should positively impact turnover and overall profitability.

PUB historically produces a stronger second half performance given higher advertising demand in the latter half of the year resulting from the number of religious holidays. PUB's growth in Revenue and profitability in the second half of the year will be dependent on this increase in advertising demand and the Group's ability to keep production costs under control.

Currently shares of PUB are trading at a price of $23.00 and a forward P/E multiple of 18.7 times, much higher than its five year historical average multiple of approximately 16 times. Year to date, shareholders have benefited from a significant 21 per cent run up in the share price of PUB. In considering these factors, BOURSE revises its recommendation to a SELL.

Source: Trinidad Express Newspapers

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