This Stock’s Currently The Cheapest It’s Been In More Than 5 Years – Is It A Bargain?

Credit: Paurian's Art Textures

At the time of writing (10:55 am), pan-Asian retailer Dairy Farm International Holdings Ltd (SGX: D01) has a share price of US$6.95. That may be an interesting price for investors. Why? Take a look at the chart below:

Dairy Farm's PE ratio and share price from start of 2010 to today

Source: S&P Capital IQ

It plots Dairy Farm’s trailing price-to-earnings (PE) ratio over the past five-plus years since the start of 2010. And as you can see, Dairy Farm’s now the cheapest it’s ever been in that period with a trailing PE of 20.1.

A falling business

But, there are good reasons why the market’s getting less and less enamored with the company’s growth prospects (this is evident from the firm’s falling share price and PE ratio since 2013).

In 2014, Dairy Farm’s sales managed to step up by just 6% while its earnings inched up by merely 2%. The picture got worse in the first-half of 2015 with the retailer suffering an 18% decline in profit on the back of a 6% uptick in sales partly as a result of competitive pressures.

Even at Dairy Farm’s current low valuation in relation to its own historical standards, the firm – which operates more than 6,400 outlets (as of 30 June 2015) across Asia consisting of supermarkets, hypermarkets, convenience stores, and more – is still priced at a strong premium over the market average.

To that point, the SPDR STI ETF (SGX: ES3) – an exchange-traded fund which tracks the fundamentals of Singapore’s market barometer, the Straits Times Index (SGX: ^STI) – is valued at 12 times its trailing earnings at the moment.

When a stock carries a value-premium over the market, it’s no real surprise to find its shares and PE ratio get cut when strong growth isn’t present.

Fixing the falling business

Dairy Farm’s management team isn’t sitting idly by though – they’re focused on turning things around. The company had made a big investment earlier this year to acquire a one-fifth stake in Yonghui Superstores, a fast-growing China-based grocery outfit.

Yonghui has had solid experience in China’s grocery market (having been founded in 1995) and have displayed impressive growth. From 2010 to 2014, Yonghui’s revenue has tripled from RMB12.3 billion to RMB36.7 billion while its profit has spiked by 180% from RMB305 million to RMB852 million.

The investment in Yonghui not only gives Dairy Farm a way to participate in China’s massive US$800 billion grocery retail market through a strong operator, it also gives the company an opportunity to gain expertise in the procurement of fresh produce which will be beneficial for its supermarket and hypermarket business in other geographies. The latter point was mentioned in Dairy Farm’s recent earnings conference call for the first-half of 2015.

Meanwhile, Dairy Farm’s also making long-term investments to improve its IT infrastructure and is pumping more money to spruce up its private-label offerings (which tend to carry higher profit margins) in its retail stores. Early signs are encouraging for Dairy Farm’s private-label business with the nine category brands introduced thus far in the supermarkets and hypermarkets segment growing sales by 18% year-on-year in the first-half of 2015.

A Fool’s take

Dairy Farm’s shares may carry a low valuation now that hasn’t been seen over the past five-plus years, but that doesn’t mean they won’t have room to fall further. If its business can’t grow over the longer term, then investors may have to watch out below!

That said, the pan-Asian retailer’s current low valuation (in relation to its own history) does present an interesting opportunity for investors who believe in the firm’s management smarts and future plans.

As it is though, investors would have to weigh the risks and rewards with Dairy Farm before any intelligent investing decision can be reached.

The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Chong Ser Jing owns shares in Dairy Farm International Holdings.