Why DairyFarm International Holdings Ltd Is Near A 3-Year Low: Is It A Hidden Opportunity For Investors?

After hitting a high of S$16.78 on 18 February 2013, the share price of supermarket retailer Dairy Farm International Holdings Ltd  (SGX: D01) has been on a gradual decline (you can see this in the chart below).

dairyfarm pic

Source: SGX StockFacts

As of last Wednesday’s close at US$8.61 (around S$11.68), Dairy Farm is now just a hair’s breadth above its three year low of S$11.53. Is the share now low enough for a rebound?

What’s happening

While it’s always hard to draw solid conclusions as to why short-term price declines happen, it seems that Dairy Farm’s gradual downward slide over the past few years have been due to several challenges that it is facing.

These challenges have been articulated by Shares Investment in a Tug-of-Fools article about Dairy Farm a few months ago; the Tug-of-Fools series sees analysts from Shares Investment and the Fool bring forth opposing views about the same company. Here’s a summary of the main points from Shares Investment:

  1. While Dairy Farm is still growing its revenue, it is doing so at a much slower pace. In addition, the firm’s also struggling with declining profit margins. In 2011, Dairy Farm’s top-line grew by 14.6% and it had a 5.3% net profit margin; by the first half of 2014, the supermarket retailer’s revenue growth and net profit margin were at 4.2% and 4.8% respectively.
  2. Currency risks also provide headwinds that Dairy Farm has to struggle against. The experience of the firm’s Indonesian unit is a good example.  Over the past five years, the Singapore dollar has appreciated by more than 40% against the Indonesian rupiah;  even if profits from Dairy Farm’s Indonesian business had stayed stagnant, a conversion into Singapore dollars would mean that those profits would be less valuable due to the currency swings.
  3. The growing tide in e-commerce (especially in the fast-moving consumer goods space) may also be an obstacle for Dairy Farm as more and more shopping is done online instead of in traditional brick-and-mortar stores.

What about a turnaround

According to Dairy Farm’s latest management statement covering the firm’s financial performance from 1 July to 4 November 2014, underlying earnings “were lower than in the previous year.”

In addition, the company warned that its Food business segment (which accounted for more than three-quarters of 2013’s revenue) is expected to have challenging trading conditions and face further pressure on profit margins.

Despite the difficulties, Dairy Farm’s management is taking them head-on and they are trying to drive long-term growth and address margin pressures by constant investments in the company’s systems, store network, supply chain, and people.

The probability of success in these initiatives is aided by the fact that Dairy Farm has a strong balance sheet (total cash of US$656 million and total borrowings of just US$88 million as of 30 June 2014) – that gives the company resources to deploy.

In fact, the company has made use of its financial strength to make strategic investments. In August 2014, Dairy Farm purchased a 20% stake in Yonghui Superstores Co. Ltd for RMB5.69 million (approximately US$925 million).

Here’s Dairy Farm’s description of Yonghui and the benefits of the deal:

“Yonghui is one of the China’s fastest growing food retailers, and both companies have agreed to work closely together to drive mutual benefits. The investment, which will provide Yonghui with expansion capital and give Dairy Farm exposure to the growing PRC food retail sector, is subject to regulatory approval in China and is expected to close in 2015.”

Foolish Takeaway

Derailed by rising rentals and poorer trading conditions, Dairy Farm’s earnings in the latter half of 2014 seem to have suffered slightly despite the company’s constant growth in revenue (albeit at a slower pace).

Nonetheless Dairy Farm’s relatively new management team – Chief Executive Graham Allen (previously President of US-based Yum! Restaurants International) took over the reins only at the start of 2013 – have set their sights on growth and had highlighted specific steps they will undertake to revitalize the business again.

All told, investors who are interested in Dairy Farm will have to take note of the progress in the company’s investments (in its systems, store network, supply chain, people, and other companies) to see if the shift in its focus will continue to propel it forward. Dairy Farm currently has a trailing-12-months price-to-earnings ratio and dividend yield of 23 and 2.7% respectively.

To keep up to date with what's exactly happening in today's market, click here now for your FREE subscription to Take Stock Singapore, The Motley Fool's free investing newsletter. Take Stock Singapore can also show how you can grow your wealth in the years ahead.

Like us on Facebook  to keep up-to-date with our latest news and articles. The Motley Fool's purpose is to help the world invest, better.

The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor James Yeo doesn’t own shares in any companies mentioned.