Giving Dairy Crest the benefit of the doubt
Posted on June 17, 2008 by Richard Beddard
Filed Under Companies |
With a suite of strongly growing brands like Country Life, Clover, Utterly Butterly, Frijj drinks and Cathedral Cheddar and its less profitable but nevertheless essential milk distribution business you might expect Dairy Crest (DCG) to be immune to a faltering economy, for no better reason than the old ‘you’ve got to eat’ argument.
In fact, Dairy Crest investors have the jitters just like the rest of us. Were it not indebted, and were its growth not based on buying up brands and dairies, I think it might be facing a period of tighter credit and rising commodity prices with more alacrity.
But profit growth is going to be hard to come by if raw material prices - milk, energy, packaging, vegetable oil - continue rising, and if Dairy Crest can’t finance new acquisitions. I’m surprised the analysts who attended when Dairy Crest presented its results in May didn’t push the company harder on debt and growth. Skip right to the end of the audiocast and you’ll find the Q&A. Skip on a bit more and you’ll find a hesitant question on whether Dairy Crest can sustain its debt-fuelled expansion.
Mark Allen, chief executive:
We’ve got a very strong portfolio of brands… So we think there is quite a significant opportunity for organic growth within the business… That’s not to say we don’t look at acquisitions, because we do from time to time…”
Alistair Murray, financial director:
We have in the past always been ambitious to grow the group by acquisition and in principle that remains the case. But you’ve got to recognise the fact that we did a big acquisition eighteen months ago [Express Dairies] which has affected our gearing and I think you”ve also got to recognise the credit markets and the financial markets have changed hugely in the last twelve to eighteen months.
Another business plan knobbled by the credit crunch then, leaving the investment case resting on the dividend, which is yielding nearly 7%.
Now Dairy Crest’s share price is almost half what it was last year, it merits consideration as an income investment. We collect the dividend for a year or two, say, until the debt market and raw material costs stabilise and then we watch the share price rise as the company’s prospects improve.
When Dairy Crest’s dividend yield last rose above 6% about eight years ago it was a good time to buy. Sadly, history need not repeat itself, but we can gain confidence, or lose it, by comparing the size of the dividend to the shareholders’ profit. This is where the story gets a little muddy, because the calculation depends on which earnings figure you use.
In May, Dairy Crest reported adjusted earnings per share of about 57p for 2008, and basic earnings per share of just over 40p. The total divided for the year was 24.4p per share. So profits were either 2.4 times the dividend, or 1.6 times. If the former figure is right, profits could even fall somewhat, and the company could still afford the dividend. If profits only cover the dividend 1.6 times, there’s less breathing room.
Long-term, I’m inclined to give Dairy Crest the benefit of the doubt. Some of the exceptional costs excluded from the adjusted earnings figure look like genuine one-offs, though some are debateable, it has a good dividend record, and its cash flow, and therefore its ability to pay the dividend, generally exceeds its accounting profit.
But it’s difficult to foresee much enthusiasm for the shares while the twin Rottweilers of economic doom - commodity prices and debt - are gnawing away at investors’ confidence.
It’s the times we live in.
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