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Total Produce (TOT:ID)

Mkt Price:  EUR 0.39

Mkt Cap:  EUR 128.7 mio

Net Interest/EBITA%:  9.0%

P/E Ratio:  5.6

P/S Ratio:  0.05

Dividend Yield:  4.6%      

Fair Value:  EUR 0.882

Upside Potential:  126%

Total Produce is Europe’s premier fresh produce provider. Growing, sourcing, importing, packaging, distributing and marketing over 200 lines of fresh fruits, vegetables and flowers, the Total Produce group distributes some 250 million cartons of fresh produce annually to the retail, wholesale, foodservice and processing sectors across 19 countries in Europe.

Total Produce is clearly cheap on a 5.6 P/E (Adjusted Diluted EPS of EUR 6.92 cts) and a 4.6% Dividend Yield (based on a EUR 1.783 ct Dividend). It also presents a good Margin of Safety with Net Interest at EUR 4.198 mio and Adjusted EBITA at EUR 46.89 mio, giving us a Net Interest/EBITA% of 9.0% (or 11.2 times Interest Coverage). I generally want to see the Net Interest/EBITA% lower than a 12.5-15.0% maximum, and I may adjust my Price/Sales valuations up/down based on this ratio to reflect available Debt capacity or constraints. In this instance, with Net Debt of EUR 65.6 mio representing only 42% of Gross Debt of EUR 155.2 mio, underlying Interest Coverage is even stronger – I’ll speak more about the B/S Cash a little later.

So why is it cheap? The most obvious reason is the fact that there has been zero EPS growth over the past few years – I’d argue that (in this market..!) such consistent/stable EPS delivery, with a good Margin of Safety, at least warrants a 10 P/E Fair Value multiple. This is especially true when one considers the low risk nature of Total Produce’s business. John McElligott over at valuestockinquisition did a great Total Produce post recently, as did Philip O’Sullivan with a post on his blog – Philip’s a shareholder like me, and I think John is contemplating buying, so we had an interesting discussion the other day about TOT’s business model, and concluded they had little vulnerability to rising/volatile produce prices as they simply passed them through to customers on a frequent basis.

So we’re talking a business that really runs itself, just what I like! Particularly as I don’t have great respect for management (except if you compare them say to Greencore (GNC:ID) management… whose shareholders may finally be put out of their misery with a potential bid, rumoured to be coming from Dubilier Clayton & Rice). Carl McCann is Chairman, while his brother David is in the Chairman seat over at TOT’s ‘sister’ company Fyffes (FFY:ID), and neither is really a patch on their father Neil McCann (I was sad to hear he passed away recently) who joined Fyffes in 1948. I think of the crazy worldoffruit.com online effort in the v late 90s (which ‘…received a very positive reaction from within the produce industry and looks set to dramatically change the way in which fresh fruit and vegetables are traded across the globe…’), the lack of earnings growth in the past few years, the ludicrous de-merger of Fyffes, Total Produce and Blackrock (now Balmoral International Land, whose shares subsequently collapsed and are now delisted), etc.

I also look at the excessive B/S Cash of EUR 89.6 mio, and I’m bemused (and slightly alarmed) to remember a colleague telling me many years ago his impression that having large amounts of Cash on hand appeared to give management the warm and fuzzies, and they appeared to enjoy playing the banks off against each other for deposits (and perhaps even some jolly currency switching). All very well, I confess I’ve been through all that myself professionally, but always felt frustrated at having giant hoards of Cash on hand to invest – in an ideal world, I knew the best thing for shareholders and Return on Equity was to have zero Cash and just come in each day and draw down/pay down on a Debt/CP facility. With TOT, of course, the obvious answer to this Cash is frequent execution of small/medium sized acquisitions across Europe (similar to what DCC (DCC:ID) has done for years in its Energy business) – considering the nature/scope of potential business acquisitions, I think there’s a marvelous opportunity here to hoover up cos and double their operating margins v quickly through cost elimination and economies of scale.

Then of course there’s the silent but deadly fart in the room…finally figuring out it’s time to swallow their pride and reverse the Total Produce/Fyffes break-up – a nil-premium merger is the obvious way to achieve this and I imagine could easily yield 2-3 years of decent EPS growth even if the underlying business remained unchanged. But kudos to management for the 22 mio share buyback last year…! I was impressed, can you please repeat?

So, despite all of the above, TOT appears sufficiently cheap and safe to merit investor interest, with hopefully some EPS growth improvement and/or a market re-rating to come at some point, even if it ultimately requires a potential merger or other ‘corporate activity’ to catalyze it. I’ve mentioned a 10 P/E Fair Value above, but I’d like to also incorporate a P/S valuation approach: On Sales on EUR 2,600.5 mio, and Adjusted EBITA of EUR 46.89 mio, I see a 1.36% Operating Margin once I have adjusted for an estimated  24.5% Minority Interest. I reckon this deserves a 0.125 P/S Ratio, but with TOT’s available Debt Capacity I’d tweak that a little higher to arrive at a Fair Value of EUR 353.4 mio. Averaging these out, I calculate:

((EUR 0.0692 * P/E 10) + (EUR 353.4 mio / 329.887 mio shares)) / 2 = EUR 0.882 per share Fair Value

Attaining this Fair Value would imply a 12.7 P/E based on current earnings, which I think is eminently reasonable with some EPS growth or another catalyst, and presents a potential 126% Potential Upside. I currently have 2.2% of my portfolio allocated to TOT, and would be happy to aim for an increased 4.0% allocation, depending on developments with the Italian 5 Year Yield (whew, a somewhat better day today!) and competing investment opportunities. I will update in due course.