Day: July 31, 2019

Nigeria Strategy Report – H2 2019 Excerpts

Domestic Economy and Policy Environment

• In this morning’s cut-out of our core strategy document – The Nigeria Strategy Report, we focus on the major themes that steered consumer prices over H1 19 and delineate our outlook for inflation over H2 2019.

• Consumer prices ticked up by 5bps to 11.32% over the first half of 2019, mirroring the conflict induced increase in food prices in Q2 19. For the first three months, inflation maintained a downward trajectory, followed by an unanticipated rise in farmers-herdsmen conflict which changed the inflationary trend in April and May. Eventually, the tide calmed in June as the anticipation of a favorable harvest season drove an increase in market supplies. Consequently, inflation declined in the month of June. Looking at the components, food inflation ticked up by 34bps to 13.58% YoY mirroring the telling impact of conflict in the north and seasonal increase in food prices. At the other end, the core basket maintained a downward trajectory, declining by 53bps to 9.39%) following NNPC’s drive to leave petrol prices unchanged at N145/litre.

• Over the rest of the year, we foresee the current administration would retain its socialist modus operandi, limiting the downside risk to core inflation. That said, we shift our focus to heightened tensions in the north which took a toll on food inflation over the first half of the year. Continued efforts to resolve the tensed security condition in the Northern region and reduced risk of flooding relative to the prior year, limits the downside risk to food inflation in coming months. According to FEWSNET, markets are expected to remain well supplied during the lean season through September. Further amplifying the market supplies is the main harvest season which will begin in October with favorable harvest expected in the last two months of the year. That said, we expect average inflation rate to print at 11.2% YoY (2018: 12.2% YoY).

Competition gradually blighting the Food business.

• Central to the Q2 19 earnings of Nestle and Unilever is the telling impact of increased competition in the food business and improved input cost management. For Nestle, EPS grew 4.3% YoY to N16.90 due to gains from increased local sourcing of raw materials and higher sales. On the flipside, having restated its Q2 18 financials, Unilever reported 30% YoY decline in EPS to N0.35 reflecting increased input and finance cost following exchange rate differentials relative to prior year.

• Over the rest of 2019, we expect normalization in margins for both companies while we expect the competition from other brands to remain drag on sales. However, after adjusting for the improved cost management over H1 19, we raised our NESTLE FVE to N1,447.39 which translates to an OVERWEIGHT rating. Nestle trades at a 2019P/E of 23.01x, relative to Bloomberg MENA peers of 15.49x. Elsewhere slow recovery in revenue guides our downward revision of Unilever FVE to N31.95 (previously: N35.82), which translates to UNDERWEIGHT rating. Unilever trades at a 2019 P/E of 26.1x relative to Bloomberg MENA peers of 16.1x.

• Food business faces increasing challenge: Amidst flat pricing, competition in food business from smaller seasoning brands (Ginomax, Terra cubes, Onga cubes) became more apparent over Q2 19, with both companies recording low to mid-single digit growth in revenue, relative double digit recorded in prior years. To begin, Nestle’s revenue from the food business grew by just 1.6% YoY over the review period. However, support from its beverage business drove the 4.6% YoY expansion in its overall revenue. Elsewhere Unilever’s revenue recovered from a downbeat in Q1 19, with food business expanding by 6.3%, following the measures put in place to drive topline. To clarify, we recall management’s guidance during its Q1 19 conference call to drive sales by partnering with banks to provide liquidity to its distributors. However, persistent struggle in the HPC segment drove overall revenue lower by 1.7% YoY to N23.4 billion.

• We are positive on Nestle: Nestle still posted a modest performance notwithstanding the tensed environment, due to savings from its cost. Elsewhere, exchange loss worth N219.5 million, recorded in Unilever’s finance cost coupled with input cost pressure drove earnings lower. In coming quarters, we expect the competitive environment to remain unchanged, albeit with a normalization in gross margin. That said, gains from improved sales and lower cost is expected to support growth in Nestle FY 19 EPS by 26.5% YoY to N68.7. On other hand, Unilever’s EPS is expected to decline by 22.9% YoY to N1.23 due to struggling sales, impact of currency convergence on its input cost and less shield from its finance income, given its lower cash balance.