Fufeng Group Limited

Fufeng (‘group’) is engaged in the manufacture and sale of a) Food additives including MSG and starch sweeteners (52% of revenues), b) Animal nutrition products (31%), c) Colloid products (7%), d) High-end amino acids (6%), and e) “Others” including fertilizers, synthetic ammonia, pharmaceuticals, etc.

The group generates 68% of its revenues within China and is a leading player in the amino acid industry. It also has access to relatively low-cost coal power, which is instrumental in strengthening its pricing power.

Covid-19 reduced demand from the catering industry for food additives. Further, corn prices (raw material) were higher during the period.

Its animal nutrition segment continued to be sluggish after the swine flu outbreak in 2019. The colloid segment, which primarily sells Xantham gum used in oil mining, was impacted by low crude oil prices. And the high-end amino acids were impacted by US tariffs arising from the US-China trade dispute.

However, sales declines were offset by newly added lysine capacity that was operational during the period.

The group reported TTM sales of $18.4b (2019: $18.3b), ebitda of $2.5b (2019: $2.7b) and net profits of $1b (2019: $1.3b).

The group has a portfolio of products subject to cyclical factors. Considering the unused production capacity in the animal nutrition segment (only 70% utilized in the last twelve months) and continual focus on cost efficiencies, we think 2019 earnings of $1.3b may be a conservative estimate of future earning power.

The balance sheet reveals net debt of $1.4b, which appears conservative with respect to ebitda. The current and liquid asset ratios are slightly below par at 1.67 and 0.89 respectively but passable considering the low level of external borrowings and strong market position.

With tangible assets of $12.7b, profitability is only moderate at about 10%/year.

The stock sells at $7.6b, which is under 6x earnings.

Management spent $883m on dividends and buybacks in 2019 but the interim dividend was cut in half recently.

We think this stock meets basic tests of quantitative value. Moreover, its market leadership and scale are important qualitative pluses that provide assurance on the stability of future earnings. It isn’t a screaming bargain, but it’s passable.