Solid peformance from sugar leader

Related tags Abf Sugar Goldman sachs

British Sugar's parent company, cash-rich Associated British Foods
(ABF), delivered a strong set of results for the year with the food
and agriculture division pulling in the highest operating profit
for the full year for the group. But uncertainties over imminent EU
sugar reform and the market's desire to see acquisitions are
hanging over the UK company.

All four of ABF's units - grocery, primary food and agriculture, food ingredients and retail - showed profit rises. Primary food & agriculture saw operating profit rising by nearly 5 per cent to £176 million on the back of a £1.6 billion turnover, compared to a turnover of £2.4 billion in the grocery division that harnassed a profit of £148 million.

The ingredients businesses showed good progress overall and posted a profit of £32 million, up from £30 million for the previous year, on the back of an 8 per cent rise in sales. The figures were boosted by the US polyols business SPI that traded strongly due to a rise in demand for low calorie products.

"SPI is uniquely positioned to capitalise on the trend towards low carbohydrate versions of manufacturers' current products as its proprietary products, based on maltitol, function and taste like sugar,"​ said Martin Adamson, the chairman of ABF.

Adamson added that the ingredients figures were also lifted by the outsourcing of the company's liquid sorbitol production at Atlas Point, completed this year, and the associated rationalisation costs of £2 million charged to operating profit.

In line with the half yearly report, the company said this week that the integration of Cereform, ABFs UK and US bakery ingredients businesses, did not go well. "Although the results in the year were poor there are signs that remedial action is having its effect,"​ said Adamson commenting on recent moves to improve the bakery ingredients figures. Action in recent months has included reducing production costs, recovering from raw material cost increases and stabilising volumes following operational problems.

The primary food & agriculture unit, particular British Sugar, drew strong results and contributed considerably to ABF's yearly performance. "The campaign progressed with a good crop and further operational efficiency, the latter due to the continuing investment over the years in plant and improved working practices. In addition pricing, as a function of the relative strength of the euro against sterling, was strong,"​ commented the chairman. But the results in the UK were partly offset by Poland and China, both of whichshowed cyclical falls in prices.

Despite the strong set of figures across all units of ABF, there is is a malaise, an unknown hanging over ABF, that could lower the attraction of ABF stock in a sugar sector context. This is the imminent reform to the sugar regime - compounded by recent comments from ABF competitor Danisco and the failure of the WTO talks in Cancun, Mexico in September.

According to Goldman Sachs, Danish sugar and ingredients group Danisco commented in October that a framework for sugar reform, as opposed to a solution, is likely to be in place by summer of 2004, but a firm resolution may take until the end of 2005.

The next stage in the EU review process is a council meeting in November. Danisco management highlighted that the current EBA agreement alone, if left unchanged, could have a big impact on the sugar regime. This comes into force in 2006 and is supposed to bring in some 400,000 extra tonnes from EBA countries.

So what would be the impact on ABF's substantial cash-flow? Goldman Sachs estimates that ABF cash flows could be down by 10-20 per cent from 2006/07 if the EU implements a quota/price cut of 30 per cent/10 per cent respectively, which is still a possible outcome. "This significantly lowers the attractions of the stock in sector context,"​ said the analysts.

Sitting on a €1 billion cash pile, investors are looking to see the company deploying a slice of the cash in acquisitions, and possibly to reduce the focus, and strong financial support, on sugar. "This could enhance earnings and also reduce dependency of group profits on British Sugar,"​ said Goldman Sachs.

The EU's 35-year-old sugar system - not included in this year's CAP reform - has been long criticised by onlookers, principally because it helps keep internal sugar prices at more than three times those on the world market.

However, changes to the current artificially buoyant internal market would cut heavily into the margins and revenues of key sugar companies, such as ABF and Danisco, in Europe today. In September the European Commission tabled three possible reform scenarios for the EU's sugar sector which are currently under discussion.

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