La Doria — As expected

Through the parent company, La Doria SpA, and its 98.7% holding in Eugea Mediterranea, La Doria Group is a leading private-label (PL) processor and manufacturer of tomatoes (red line), sauces, pulses and fruit-based products. Given the background of stagnating European consumption and structural volatility in the red line, La Doria’s overarching strategic objective is to change the product mix towards higher added-value and hence higher-margin products, and grow its market share in the PL segment, and in new markets. La Doria also owns 58.0% of its UK subsidiary LDH (La Doria) Ltd (LDH), which distributes both its own products and other PL products mainly manufactured by LDH’s minority shareholders.

La Doria was founded in 1954 by the Ferraioli family. The family maintains active management of the company. Antonio Ferraioli is group CEO and with Andrea and Iolanda Ferraioli and Enzo Lamberti the family fills four of the eight board positions and owns 63% of the group’s share capital.

Based on our forecasts, we calculate a DCF-based fair value of €12.49, or 16% upside. The key sensitivities to our forecasts and valuation are outlined below. For 2017, pricing for the tomato, vegetable and fruit lines is complete and costs are fully calculated, as the seasonal campaigns are over and the annual pricing rounds have occurred. In the longer term, the balance of supply and demand for Italian tomatoes has improved through changes in legislation and sector consolidation, with demand fuelled by the growing consumer preference for PL over branded products, and international demand for healthy ingredients of Italian origin. The outcome of the 2017 seasonal campaigns is still unknown, but success here would provide a catalyst for the shares.

As further support to our DCF valuation, we look at La Doria’s key metrics versus the peer group. At 13.8x 2017e P/E and 9.9x 2017e EV/EBITDA, it trades at c 30% and c 2.5% discounts, respectively, to its peers.

Consolidated sales of €167.5m were in line with Q116 sales of €168.3m. Organic growth was 5.6%, and the currency impact was -6.0%. EBITDA of €11.8m was 20% below last year, with margins down 160bp. The deflationary environment in Europe has been unhelpful, and Brexit has caused a weakening of sterling and hence a temporary loss of competitiveness for La Doria in certain categories, such as pulses and ready-made soups, where the competition has local production and hence lower costs. We expect Q2 and Q3 to witness similar trends and it will only be in Q4 that the results of the 2017 tomato campaign will start to come through. It is early days (the campaign runs from July to September), but the industry forecast is for production to be 5.0m tonnes (-4% vs 2016). We note that our group forecasts are broadly in line with the company’s targets.

La Doria’s key sensitivities include:

La Doria is the leading Italian producer of tomato-based products, including chopped, peeled, passata and other, and processed pulses and vegetables for the domestic Italian and international markets. It is the largest producer of private-label, ready-made sauces. It is the second-largest producer of fruit juices and beverages in the Italian market. Exhibits 1 and 2 below break down revenues by category and by geography. In FY16, 22% of revenue was Italian and 78% international. Its largest market by far is the UK (c 50% revenues), gained through its subsidiary LDH.

Approximately 95% revenues are for the PL segment, with La Doria serving a wide customer base mostly within the pan-European food retail sector, including Tesco (its largest customer), Sainsbury’s, Carrefour, Auchan, Selex, Conad, Waitrose, and many others.

With leading market share positions in its largest markets (the UK and Italy), and some of its other markets (Germany, Japan and Australia), as well as across many of its product categories, La Doria is well placed to benefit from the increasing consumer preference for high-quality, private-label products over branded products. In addition, demand for Italian products in some smaller markets is driving revenue growth in these regions well into double digits. Both factors provide a strong structural growth outlook.

The acquisition of Pa.fi.al at the end of 2014 was strategically significant. In line with management’s plan, it further shifted the production mix of the group towards non-seasonal, value-added products. Ready-made sauces have higher operating margins and lower volatility than tinned tomatoes. In addition, the acquisition should help drive growth in countries where La Doria was historically under-represented, such as the US.

La Doria outlines its financial targets and strategic business plan for a rolling three-year period, usually at the beginning of each financial year. The financial targets outlined in March 2017 were very similar to those set out in September 2016, as shown in Exhibit 3 below.

The lower sales prices for new tomato contracts (negotiated in summer 2016 with validity from 2017), as well as for vegetables and pulses, led to a reduction in sales targets, although these were mostly reflected in the updated business plan forecasts in September 2016. The continuing stagnation of consumption in Europe caused the further slight reduction in sales forecasts illustrated above.

With c 50% of sales in the UK, La Doria has been affected by sterling weakness. In addition, there has been a loss of competitiveness in categories such as pulses and ready-made soups, where the competition has UK-based production and hence lower costs. This was reflected in the business plan update published in September 2016.

We compare our forecasts relative to group guidance in the financials section on page 9.

La Doria has needed to formulate a strategy for growth against the background of a general deflationary environment in Europe. Within its product range it has witnessed declining consumption in some categories and increased raw material costs. As a consequence, there have been increasing competitive pressures.

To help achieve its financial targets, the company sets out its strategic guidelines annually with its updated business plan. The 2017 strategic guidelines are unchanged from those outlined in September 2016 and are as follows:

As illustrated in Exhibit 1, the red line (tomato-based products) contributed 22% of revenues in FY16 and is now of similar size to the vegetable line in terms of profit contribution. La Doria is the largest producer in Italy of peeled and chopped tomatoes and it is market leader in UK, German, Australian and Japanese private-label canned tomatoes.

Over the past few years, there have been a number of structural changes in the Italian tomato market that have been favourable to the company, as they have shifted the balance of supply and demand more in favour of the processors by attempting to stabilise the level of production in the market. These have had the effect of somewhat reducing the volatility of the business. Primarily, these factors are:

These factors have resulted in an alignment of interests; all stakeholders in the value chain of the Italian tomato industry now have an interest in avoiding overproduction. In April 2014, a number of stakeholders created the cluster ‘district of the Central and Southern Italian industrial tomato’. This was set up to promote co-ordination among the different areas and to improve efficiency through better planning. By collaborating as a cohort, the industry should be better placed to match supply with demand, thus avoiding large-scale overproduction. Over the past few years, production has come in broadly in line with expectations and overproduction has become a less important issue.

In 2016 sales prices contracted despite an increase in raw material costs and the drop in tomato production discussed above. This was mainly caused by the fragmentation of the processed tomato sector, with a number of small businesses that at times make seemingly irrational choices. Over time, sector consolidation has helped mitigate the fragmentation issue, as discussed above, but some small players still remain.

On the demand side, there are a number of factors that have been improving La Doria’s outlook over time:

La Doria has a number of internal strategies to enhance profitability and reduce volatility:

The annual tomato campaign runs from the end of July to the end of September. Typically, La Doria negotiates annual contracts with its customers, and hence prices, just before or during the processing season. This gives La Doria good visibility over the outlook for its profitability until Q3 of the following year, when the next pricing rounds occur. La Doria establishes both the volume and pricing of the contracts, so by the end of the processing campaign the total cost is broadly known.

As stated above, 2016 production stood at 5.2m tonnes, although in central/southern Italy specifically, volumes were down 18% due to adverse weather conditions.

It is still early days for the 2017 campaign, but the current forecast is for a 4% decline in total tomato production at national level, to c 5.0m tonnes. La Doria management expects the sector de-stocking, which occurred following the drop in production in southern Italy in 2016, to help sales prices for the 2017 campaign, and hence that there should be a recovery in the tomato-based red line from Q417. Our forecasts reflect this and anticipate some recovery in Q417.

As shown in Exhibit 1, the vegetable line (pulses and beans) represented 27% of revenues in FY16. La Doria is market leader in Italy and the UK in private-label preserved pulses. The 2015 season witnessed a reduction in raw material costs due to an improvement in crop yields, and hence 2016 pricing was down sharply. The 2016 season experienced a sharp increase in raw material costs following a poor crop yield, and it was difficult to pass on these increased costs given the fierce competition, which affected 2017 profitability. In Italy, La Doria held a 41% share of the canned vegetable private label market in 2016, up c 200bp over 2015 (source: management estimates based on IRI Infoscan). The Italian canned vegetable market witnessed growth during 2016 of 0.8% in both volume and value terms, ie pricing was flat (source: IRI InfoScan). The private-label subsegment, which is where La Doria mainly competes, also increased slightly, while branded share declined (source: IRI InfoScan). In the UK, La Doria’s key product in the category is private-label baked beans, where it holds a 51% market share, up c 100bp vs 2015 (source: LDH management estimates using Kantar Worldpanel data). In 2016, the overall baked beans market was down in both volume (-0.5%) and value (-1.6%) terms; however, private label share was stable (source: Kantar Worldpanel).

La Doria management is keen to expand the vegetable line. Although this division has suffered from competitive pressures recently – in the UK, in particular, due to Brexit-related effects, it offsets the more commoditised red line products and also has the advantage that production can occur throughout the year, rather than being concentrated in the three summer months of the tomato processing campaign. Expanding the vegetable line would therefore help improve group efficiency.

In H117 management expects a further fall in the sales price of canned pulses as the environment remains tough and competition is fierce. However, from H217 pricing may improve as the new crop season comes through.

The fruit line accounted for 12% of revenues in FY16 (Exhibit 1). La Doria is the market leader in Italian private-label fruit juices and fruit beverages, and has a number two position in the Italian market overall. However, the profitability of the fruit line is below that of other segments, as it has suffered through several years of underperformance during the recent period of economic difficulties. As for the other divisions, 2016 pricing was mainly driven by the 2015 crop. Significantly higher raw material costs were caused by drops in the production of apricots, peaches and nectarines in particular. These could not be passed on to customers due to the competitive environment – mainly caused by the market being dominated by farmers’ co-operatives, which are less driven by profitability concerns. The 2016 fruit crop, however, saw far greater stability in the cost of fresh fruit, and this is an important driver for 2017 contracts. In 2016, the Italian market declined by 6.9% in volume terms and 4.7% in value terms (source: IRI InfoScan). La Doria’s share of the Italian private label market was 35% in 2016 vs 29% in 2015 (source: management estimates on IRI InfoScan data). Private label continued to gain volume and value share of the total fruit juice market.

The segment accounted for 13% of revenues in FY16 (Exhibit 1). La Doria is the market leader in Italy in private-label pasta sauce. During 2016 the domestic Italian market witnessed strong growth in terms of both value and volume. Tomato-based sauces were up 4% in volume terms and 4.4% in value terms, while pesto sauces were up 11.8% in volume and 11% in value terms (source: SymphonyIRI). Private label also grew and market share was stable. In the UK the ambient ready-made sauces market witnessed a decline in volumes (-3.2%) and value (-4.3%) (source: Kantar Worldpanel). Private label share expanded at the expense of the brands. In the pesto subcategory, the UK market was up an impressive 8.7% in volume terms, with private label share expanding significantly. La Doria’s market share in Italian private label sauces was 42% in 2016 vs 45% in 2015 (source: management estimates on IRI InfoScan data).

La Doria owns 58.0% of its subsidiary LDH. For accounting purposes, it consolidates 100% of its minorities, and treats as debt the value of the put options that exist against it. LDH is the leader in the British market for private-label, tomato-based products, pulses, dry pasta and canned tuna. The ‘other’ category is mainly composed of LDH’s sales and accounted for 26% of group sales in FY16.

The remaining 42% stake in LDH is owned by a combination of Thai Union Group, Di Martino and management. LDH’s three major shareholders – La Doria, Thai Union Group and Di Martino – together supply the majority of its ranges across tomatoes, pulses, tuna and pasta.

During FY16 the ‘other’ line witnessed a small reduction in volumes and a significant drop in pricing, particularly for dried pasta, tuna and sweetcorn. The drop in sales was also caused by FX effects.

La Doria’s recent share price performance has been positive. It has recovered significantly in the last three months and has outperformed relative to the FTSE MIB on a three-month and six-month basis. Despite this, on 2017 estimates La Doria trades at 13.8x P/E and 9.9x EV/EBITDA, with a 1.6% dividend yield. This is at a discount of c 30% on P/E and c 2.5% on EV/EBITDA to the average of our peer group of private-label and small-cap food manufacturers. A positive outcome of the 2017 campaign should provide a catalyst for the shares.

Our primary valuation methodology is a 10-year DCF analysis, and we calculate a fair value of €12.49, or 16% upside from the current level. This is based on our assumptions of a 1.0% terminal growth rate and a 9.0% terminal EBITDA margin. Our WACC of 6.0% is predicated on an equity risk premium of 4%, a borrowing spread of 5% and beta of 0.8. Below, we show a sensitivity analysis to these assumptions and note that the current share price is discounting a terminal EBITDA margin of 7% (which compares to La Doria’s already reported EBITDA margin of 8.6% in 2016) and a terminal growth rate of c 0.5%. We expect La Doria’s EBITDA margin to trough at 7.4% in 2017 in light of the tough competitive environment, and to subsequently recover (we forecast 8.5% in 2018). We also expect revenues to recover in 2018 if the campaigns are successful and currently forecast 6% revenue growth, followed by 3% growth in 2019 and a more conservative 1.5% growth thereafter.

La Doria’s key sensitivities include:

On 12 May, La Doria reported Q1 results in line with expectations. Consolidated revenue for the quarter of €167.5m was in line with the prior year (€168.3m). The main culprit for the sales stagnation was FX, as organic sales growth was +5.6%. This was exclusively driven by volume growth, as price deflation remained a feature.

We make no material changes to our forecasts, and we illustrate below our forecasts versus La Doria’s own targets for a range of metrics. Our forecasts are broadly in line with current targets. With current and forecast net debt/EBITDA below 2x, the balance sheet remains conservative. We expect the outcome of the 2017 campaigns to be known by the Q3 results (scheduled for September). Customer negotiations on the red line side will be almost complete, and good progress should be made in the vegetable, sauces, and fruit lines.