Tough year is over
We expect Fufeng’s net profit to rise 51.7% yoy in FY14 due to higher MSG prices and stable contribution from the xanthan gum segment. We believe the MSG industry’s consolidation is coming to an end as no smaller players re-entered the market in 2H13.
Under our new rating structure, we change our Outperform rating to Add. We see catalysts from a recovery in margins. Our DCF-based target price is HK$4.0 (WACC 12.1%).
MSG price to climb
MSG price rebounded to Rmb6,500/t in Aug after Fufeng shut its Baoji plant (300kt capacity) along with the volume-cutting measures by its major competitors. Its overall GPM picked up to 19% in Sep due to smaller losses at its Baoji plant and a corn-price decline following a good harvest. Fufeng may restart one production line in Baoji in 4Q (8kt capacity) to address the MSG shortage in Northwest China and to add to its inventory (20kt now vs. 90kt as at end-1H13). MSG sales volumes were affected by poor mooncake sales in Sep but rebounded before the Golden Week. Fufeng expects its full-year sales volume to reach 1m tonnes. No smaller producers re-entered the market in 3Q13 even after a price hike in Aug. We expect the MSG price to climb another 6% yoy to Rmb6,680/t in FY14. We estimate that GPM for MSG will improve from 9.8% in 1H13 to 12.3% in 2H13 and 14.2% in FY14, raising its contribution to 44% of Fufeng’s net profit in FY14 from 14% in FY13.
Stable contribution from xanthan gum
Xanthan gum prices softened to Rmb25.3k/t in 3Q from Rmb26.1k/t in 1H13. Sales weightage of its domestic industrial customers increased to over 10% in FY13 from 5% in FY12 due to government support for shale-gas exploitation. Fufeng plans to raise its xanthan gum sales volume to 70kt in FY14 from 60kt in FY13. We expect xanthan gum prices to reach Rmb24,000/t in 4Q13 before dropping 10% to Rmb22,941/t in FY14 due to higher supplies. We expect xanthan gum GPM to decline to 50% in FY14 from 55% in FY13.
To issue CBs
Fufeng said it will issue a 5-year CB worth US$160m on 7 Nov with an option to issue an additional US$20m. The net proceeds of US$175m will be used to repay the existing bank loans and for general working capital. In our view, the exercise price of HK$4.173/share is fair and may dilute the EPS by 16%.