Stock Review: QAF Limited

QAF Limited is a company owned by the late indonesian tycoon Mr Liem Soie Leong aka Soedono Salim who founded the conglomerate Salim Group. His youngest son Anthony runs Indofood Agri Resources, a palm oil producer. His second son Andree runs QAF as Vice Chairman, which has 3 business areas: bakery (e.g. Gardenia), primary production (pork produce, e.g. Rivalea) and distribution and warehousing (e.g. Cowhead, Farmland). Andree's son Lin Kejian runs QAF as Joint Group Managing Director. To see a more detailed listing of the brands they distribute, check out Ben Foods.

QAF ownership extracted from SGX Stockfacts

QAF has a long history (you can read a bit more about Wong Fong Fui who turned QAF's business around before selling it to Salim Group in 1996). The company focused on Gardenia bread and expanded their business from there. Bakery is still very much a core business for them.

Their share price has fallen from a high of $1.585 in Feb 2017 to the current low of $0.86 in Jul 2018, a drop of 46%. This is mainly due to a pork oversupply issue worldwide that started in the beginning of 2017 after China reduced pork imports.

QAF's share price over the past 10 years

So is the stock worth buying? The most important factor to assess is whether the business, excluding the affect pork business, is able to provide stable income for the company. There are many figures inside the financial report but I will drill into the earnings by segment.

Extracted from financial reports FY2017 and Q12018

References: 1Q2018, 4Q2017

The earnings from primary production is about 30% in 2017. Although the 1Q2018 report didn't state the Earnings before income tax (EBIT), based on the proportion between EBITDA and EBIT for FY2017, we can expect the primary production contribution in 2018 to be lower than 30%. Earning per share (EPS) in 1Q2018 has reduced from 2.6 cents in 1Q2017 to 0.5 cents in 1Q2018. There was also a scrip dividend issue which diluted the shareholder base slightly (1.5%).

Assuming straight-line projection of earnings for the rest of 2018, i.e. 0.5 cents x 4 quarters = 2 cents, QAF is definitely not going to be able to pay its dividend of 5 cents/year, a track record which they have been maintaining for since 2012. There is no net profit per segment figure in the financial report, which I thought would be good if the management had included it. Anyway, we need a guess-timate, so we just use whatever is available. Based on this, and assuming bakery's profit is constant, because the EBITDA figures say so, I estimate the loss from primary production to be $11M. The only problem is there is no way to tell whether this loss is a one-off or a recurring loss.

Extracted from financial reports FY2017 and Q12018

Ok, now to the valuation, if the business could be valued by the market at $1.585 at its peak, halving the price means that the market is expecting the primary production business to not contribute any income. As we have seen that the losses are actually eating into the profitable bakery business, this suggests that QAF's share price can fall further. My current average price is $1 and I will be holding on to these stocks as it has a good economic moat -- bakery and food distribution business, even if its pork business is out of business.

The pork oversupply issue is hitting US the hardest because China has imposed a 25% tax on US pork imports. Many australian pig farms have closed. Some may have to kill the pigs because there are no buyers and it costs money to feed them. The only reprieve will be if China is agreeable to take in Australian pork imports, however, this will take a while even if they start negotiations now. I am expecting QAF's price to remain volatile in the next 6 months until the market consolidates. My strategy is to just buy on dips to average down, barring any other unforeseen events like a full-blown trade war that sends everything crashing.