This article first appeared in The Edge Financial Daily, on August 5, 2016.

London Biscuits Bhd
(Aug 4, RM0.715)
Maintain outperform with a target price (TP) of RM1.03: Our recent meeting with London Biscuits Bhd reaffirmed our confidence in the management’s growth plans and continuous efforts to manage borrowings and improve its overall balance sheet position. Growth remains focused on its potato chips line, with a new machine being added going forward. Meanwhile, its recent issuance of RM100 million medium-term notes (MTN) with maturities between three and seven years will be utilised to refinance existing bank borrowings, support working capital requirements and finance new machine capital expenditure.

Supported by the two factors, we believe our “outperform” call is justified with a TP of RM1.03, pegged to 10 times our financial year ending Dec 31, 2017 (FY17) earnings per share.

London Biscuits has allocated RM20 million (20%) from the issuance of RM100 million MTN as capital expenditure for a new potato chips production line that is expected to be operational in October. The new machine, which will be London Biscuits’ third potato chips line, is intended to vary the chips sizes to cater to different demands. The target is to benefit from end-year spending, as customers are expected to lock in supplies then, before logistics services halt nearing the Chinese New Year in January 2017.

Currently, London Biscuits runs on one shift for its potato chips, but it plans to run at a longer 16-hour shift as it gradually places out larger raw materials orders in matching the demand. As to date, the average utilisation rate for the potato chips line is 40% to 50%, while the nine months period ending September potato chips contribution to revenue is less than 5% compared with overall group revenue.

London Biscuits plans to grow its potato chips selections to about 30% of revenue in five years, which should reflect better earnings performance as potato chips command higher margins of 25% to 30%.

London Biscuits’ quarterly net gearing has been on an improving trend over the year.

The latest value was 0.46 times (as at third quarter of FY16 [3QFY16]), lower than the previous quarters of 0.48 times (2QFY16), 0.52 times (1QFY16) and 0.59 times (4QFY15), which implied management’s continuous effort in managing its borrowings level.

Though net gearing is likely to be slightly affected in the near term due to the MTN issuance, it will keep on improving in the medium to long term as London Biscuits continue paying off its term loans. About 60% of the MTN is allocated for refinancing of short-term debts, and though savings is expected to be minimal, the move will aid London Biscuits to meet its immediate financial commitments, reflect a healthier liquidity position, and should cushion its cash flow requirements and survivability. — Public Investment Bank, Aug 4