Broker snap: AB Foods rating undervalues Primark

8th Jul 2010 12:36

Nomura Securities has initiated coverage of Associated British Foods in the wake of the company's trading update and thinks the stock is undervalued.It's initial recommendation is "buy" with a price target of 1160p, giving a potential 20% upside to the current share price."Domestic expansion and a more aggressive international roll-out agenda for Primark along with margin uplift opportunities in food should deliver better-than-expected profit growth over the next few years," Nomura analyst Alex Smith predicts. "As the market increasingly recognises international growth prospects for Primark and warrants it with an international peer group premium rating, the implied food discount to peers at 35% looks too great for a business that should deliver short-term double-digit profit growth," Smith maintains.Based on its assumptions of 4% year on year like for like sales growth and an increase in space growth to 11% over the next three years Nomura values the Primark business at £3.9bn, which equates to 9.3 times earnings before interest, tax, depreciation and amortisation (EBITDA). Smith notes that this is a 7% discount to H&M, the Swedish clothing company.The implied valuation of the company's food business is 6.4 times EBITDA, Smith states, which is a 35% discount to its global branded peers. A growth/category discount is justifiable, but not one of this magnitude "given upside in grocery margins and bounce-back in profits in sugar (Africa/Spain)," the broker concludes. Charles Stanley takes a contrary view and maintains its "reduce" recommendation on valuation grounds. Based on Charles Stanley's earnings forecast for 2011, the stock is trading on a price/earnings ratio of 13.2. "A brief outlook statement indicates that overall trading remains on track to deliver very good progress in earnings for the full year insufficient, in our view, to generate estimate upgrades as this conclusion had already been anticipated by the market," said Jeremy Batstone-Carr, head of investment research at Charles Stanley.