[SELL] Avangard: The struggle continues (June 4, 2015)

The recent figures for 1Q2015 showed that Avangard still experiences the consequences of the conflict in Eastern Ukraine, which brought the company’s laying hens flock down by  37% y/y, and  has not regained stability.  Furthermore, Avangard’s exports were greatly affected by the current situation in Middle East, which resulted in lower demand on dry egg products from countries such as Jordan. The company reported a  52% y/y drop in revenue to USD 72 mn and a 90% y/y drop in EBITDA to USD 6 mn in 1Q2015 (USD 17 mn excluding non-recurring items), while Avangard’s net loss for the quarter amounted to USD 52 mn.

The company’s operating cash flow before WC changes plunged by 87% y/y to USD 7 mn in 1Q2015, while net operating cash flow was negative at USD 3.3 mn, mainly as a result of a USD 28 mn increase in trade receivables and a USD 7.5 mn increase in inventories. This might signal that the liquidity squeeze going on in Ukraine has resulted in longer repayment period of accounts receivable.

The most worrying signal was the narrowing of gross margins for both of the company’s segments: gross profit margin of shell eggs decreased by 19 pp to 18%, while gross profit margin of dry egg products fell by 4pp to 31%. The key reason for this seems to be the lagging of price inflation as compared to the inflation of costs: while Avangard’s cost per egg increased by 130% y/y in UAH terms (to UAH 1.01/pcs), the average realized price of shell eggs grew by 60% y/y (to UAH 1.07/pcs). In this aspect the company looks weaker than its peer Ovostar, which reported an EBITDA margin of 52% in 1Q2015. 

Avangard’s poultry flock continued to shrink in 1Q2015: the company reported that its total flock decreased by 14% q/q to 20 mn, while Avangard’s laying hens flock decreased by 11% q/q to 16.6 mn, which was explained by the company’s management as an effort to adjust production volumes to the decreased internal demand. Furthermore, Avangard’s management plans to further decrease the laying hens flock to 14.6 mn by year-end, which does not seem logical to us as the company might lose its market share to other players.

The company’s export volumes remained weak in 1Q2015,  with just 108 mn of exported shell eggs (a 33% y/y decrease) and  2.1 ths tonnes of exported dry egg products  (-65% y/y). This resulted in a decrease in the share of export sales from 37% in 2014 to 33% in 1Q2015.

The company faces a serious liquidity problem, as it has to repay USD 66 mn of bank debt and USD 200 mn in Eurobonds in 2015, while Avangard’s cash balance amounted to USD 89.9 mn as of end-March 2015. On top of that, the company’s maintenance Capex comes to about USD 40 mn, most of which has to be spent to purchase equipment and spare parts from the European manufacturers. Thus, we expect Avangard to refinance its Eurobonds on less favorable conditions, probably with a longer maturity extension (5 years) and an amortization schedule. 

We estimate that Avangard’s revenues will fall by 27% y/y to USD 306 mn in 2015, mainly due to the decrease in production volumes. At the same time, we project that the company’s EBITDA will decline by 58% y/y to USD 54 mn as a result of an increase of production costs.  However, we expect net cash from operations to slightly decline to USD  39 mn in 2015 compared to USD 41 mn in 2014.

We downgrade our recommendation on Avangard to SELL on the basis of our DCF/Comparative valuation model (with each method having 50% weight), which puts the fair value of the company’s GDRs at USD 1.19 or 26% below the current price of USD 1.60.



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