Fufeng Group (HKG:0546) Research Report Produced By Kim Eng Securities (BAK:KEST)
Hong Kong, July 27, 2010 AEST (ABN Newswire) - Fufeng Group (
HKG:0546) (PINK:FFNGY) releases research report produced by Kim Eng Securities (BAK:KEST).
Company Background
- Fufeng Group is one of the largest manufacturers of monosodium glutamate (MSG) (including glutamic acid, a major raw material for MSG) and xanthan gum in the world. It has ~20% global market share for both and aims to grow that to more than 30% for MSG (or over 40% domestically) and more than 50% for xanthan gum.
- MSG is a food flavor enhancer widely used in China, while xanthan gum is used as a food additive (eg, salad dressing, sauce, frozen food and beverage) and rheology modifier (mainly in oil drilling). Hitherto, both products post single-digit organic growth each year, spurred by rising food consumption, especially in China, and oil production worldwide.
- Given the commodity nature of MSG and xanthan gum, it would seem that Fufeng has a core competitive edge in terms of cost, which comes from its two plants in the inland provinces of Inner Mongolia and Shaanxi. They enable the company to capitalise on cheap local coal resources (coal accounted for 11.5% of total COGS in FY09). According to management, its production cost is lower than its peers in Shandong by ~10% for MSG and ~25% for xanthan gum. (Corn processors tend to cluster in Shandong for the abundant corn resources there).
- Fufeng added new capacities in 2009 - mainly 260,000 tonnes for MSG, 110,000 tonnes for glutamic acid (each tonne of MSG needs 0.8 tonne of glutamic acid) and 9,000 tonnes for xanthan gum. These will start contribution in 2010. The company currently is planning the next round of expansion, which is expected to complete in 2011/12. A synthetic ammonia production line, with an 80,000-tonne capacity, will be built in its Inner Mongolia plant to replace external supply and reduce production cost (liquid ammonia accounted for 10% of total COGS in FY09). Separately, a new plant is in the works in northeastern China and will be located at the border of Inner Mongolia and Heilongjiang provinces. The plant is designed with a capacity of 200,000 tonnes for MSG, 160,000 tonnes for glutamic acid, 100,000 tonnes for synthetic ammonia and 200,000 tonnes for fertiliser (the last for waste treatment purposes).
Our View
- For cost reasons, MSG so far is still the only available flavour enhancer used widely in the food industry (e.g. restaurants, packed food, etc). We expect its consumption to continue to grow in the foreseeable future, propelled by the increase in food consumption in China.
- While production scale, technology expertise and management calibre are important underpinnings of Fufeng's cost advantage, a key is really the transportation cost savings from shortening the distance between its production facilities and raw material suppliers, namely, corn and coal. Though corn price has been relatively stable geographically in China, the price for coal varies from province to province depending on the freight cost (eg, coal price is ~Rmb650/ton in Shandong but ~Rmb350/ton in Inner Mongolia). As Fufeng's coal consumption (~1m tons per year) is typically higher than its MSG output (~0.5m tonnes per year), the savings in transportation cost can therefore be huge.
- According to our channel checks, there has been no major capacity expansion by other MSG players in China. This means that Fufeng's additional MSG output this year (137,500 tonnes from 110,000 tonnes of glutamic acid) should be well absorbed by the market (demand up by ~127,000 tonnes, assuming 5% organic growth). As the supplydemand balance is likely to be maintained, the pressure from rising corn price (22% YoY in 1H10) may well be passed on to the end-users.
- Fufeng reported 30% gross margin in FY09, compared with 18% in FY08. The huge improvement can be attributed to: 1) soft raw material prices throughout FY09, 2) skyrocketing MSG price in 4Q09 due to speculative activities, and 3) the company's purchase of 250,000 tonnes of corn from the Chinese government at ~20% discount to the market price in 2H09. We expect gross margin in FY10 to normalise to 25%. Net profit, therefore, is expected to go up by 4.0% to Rmb965m while top line will increase by 40% to Rmb6,491m.
- Our idea towards the stock is: 1) despite the moderate industry organic momentum, Fufeng may be able to consolidate the market and maintain a sound top-line growth in coming years; 2) after the market consolidation, MSG market is likely to step into oligopoly stage (i.e. potential margin enhancement); 3) the counter is trading at an undemanding one-year forward PER of 7.5x in consensus with dividend yield of 4.7%, implying protection at downside. Our calculations are broadly in line with market consensus (revenue of Rmb6,467m and net profit of Rmb1,045m).
Competitive landscape
MSG
- China is the world's largest consumer of MSG, accounting for 80-90% of the total global consumption. The domestic market is believed to grow at 5-10% each year. Glutamic acid is the major raw material of MSG; 0.8 tonne of glutamic acid is all it takes to produce 1 tonne of MSG. Though some MSG producers continue to rely on external sources of glutamic acid, a vertically integrated production model that involves lower production cost is increasingly being favoured.
- Venturing into the MSG industry used to be easy but in recent years, intensifying competition as well as tougher environmental regulation has significantly raised the bar. From 63 MSG producers in China in 2006, there are about 35 currently (glutamic acid: from ~32 to 20). Fufeng and Meihua are the top two producers with ~50% market share, while six Tier-2 players, mainly in Shandong, have ~30% market share, leaving remaining 10+ small ones with ~20%.
- Both Fufeng and Meihua already have plants in Inner Mongolia, giving them a cost advantage. However, for the other players, whether existing or new, having to cough up a huge capex (~Rmb1b for a sizeable plant) will pose a major issue and is sufficient to deter them from setting up plants in Inner Mongolia or any other inland province.
- Market consolidation will be a key growth driver for the leading players. In the process, price rivalry will weed out the weaker ones (e.g. 10+ small players at the beginning).
Xanthan gum
- Global demand for xanthan gum amounted to ~100,000 tonnes in FY09. While the overseas companies focus on the high-end products, Deosen and Fufeng, two Chinese players, dominate the mass market.
- According to our assessment, Fufeng's production cost is only three-quarters that of Deosen, which is based in Shandong. This could be because Fufeng was able to enjoy a much lower coal cost in Inner Mongolia (coal accounted for 31% of Fufeng's FY09 COGS under the xanthan gum segment).
- We believe Fufeng is well-positioned to garner new market share, but this will be a gradual process given that customers usually sign long-term contracts (eg, five years) with suppliers, as is the case in the oil sector.
For the complete Fufeng Group research report, please view the following link:
http://www.abnnewswire.net/media/en/docs/63400-Kim-Eng-Jul-10-(100723).PDF
About Fufeng Group Limited
Fufeng Group (
HKG:0546) is the world's largest producer of MSG, xanthan gum and a major supplier for a series of bio-fermentation products. The main products of the Group are food additives, animal nutrition, colloid and high-end amino acids. In fiscal 2016, Fufeng generated sales of approximately RMB11.2 billion and profit attributable to shareholders of about RMB1.09 billion. For more information, please visit our website www.fufeng-group.com
| ||
|
