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Investor CentralOlam International Limited - MANAGEMENT REPLY: Does strategic review prove Muddy Waters was right?
4/5/2013 – Analysts have given a luke warm reception to Olam International’s plan to focus more on generating cash than profitability, saying the changes won’t have a positive impact in the near term.
Olam’s plan follows a strategic review, prompted by criticism by US short-seller Muddy Waters.
Olam believes successful execution of its new plans will strengthen the group considerably and result in continued growth in profits, a stronger balance sheet and improved operating performance.
It will also help generate positive free cash flows and promote a better understanding of Olam’s business by its key stakeholders.
However, its target grow profit to US$1 bln by 2016 will not be achieved.
But it has identified six action points to achieve its strategic plan.
It will reduce the pace of capital expenditure by S$1 bln to between S$1.2 bln and S$1.6 bln over three years.
It plans to sell and lease back upstream assets, to reduce asset intensity and securitize its fixed assets to generate cash.
These changes in balance sheet will help release S$500 mln.
Olam has built several businesses such as the packaged foods, palm and rubber businesses where it believes there is significant potential to release cash and unlock value.
This will be achieved through joint ventures, strategic alliances, and what it called equity carve-outs and deconsolidations.
In addition, Olam will continue to review its portfolio and divest any non-core assets, as it did recently with the sale of its Basmati rice milling facility in India.
Management is now seeking to sell down its stake in the Gabon Fertilizer project, with an added likelihood that Tata may not take up its original 25% stake option.
It is also seeking to restructure underperforming businesses such as wood and dairy.
Management expects to free up S$1 bln from this exercise by FY16.
Olam will re-focus priorities for each business platform which will help reduce overall portfolio complexity and enhance the value of the overall portfolio.
This will be done by investing more in businesses like edible nuts, spices & vegetable ingredients, cocoa, coffee and grains.
But it will not invest further in natural fibres and rice businesses but focus on generating cash from these businesses.
On the cost side, Olam is targeting to cut S$80 mln to S$100 mln a year from its operational costs by seeking offshore shared services.
Lastly, it will improve communication with the shareholders by providing additional information additional details on investment, setting up a calendar of field visits to various Olam operations globally.
Management added two additional metrics to evaluate performance: EBITDA and EBITDA/Average Invested Capital.
As such, Olam expects to be free cash flow positive by FY14 and also reduce its gearing limit from 2.5 times to 2 times by FY16.
Maybank Research has maintained its SELL call with a target price of S$1.37.
While it welcomes the thrust to enhance stakeholder communication, the analyst expects that time will be needed for both the equity and debt risk premium to be restored.
And the current share price has likely priced in this strategic review.
CIMB Research downgraded the stock from NEUTRAL to UNDERPERFORM amid heightened risk of earnings disappointment.
It has cut FY13 to FY15 EPS by 12% to 18% to factor lower margins, and therefore reduced its target price to S$1.56.
As Q3 FY13 results are due in two weeks, OCBC Research opted to leave its forecasts unchanged for now.
Hence, it maintained a HOLD rating with a target price of S$1.50.
Investor Central. Asian insights for global investors. We ask the tough questions of Asian companies which global investors need answers to.
1. Does strategic review prove Muddy Waters was right?
Olam’s CEO Sunny Verghese doesn’t think so.
Conrad Raj writes in the TODAY newspaper on April 26:
Chief Executive Sunny Verghese denied that the extensive review was in response to Muddy Waters' criticism, but conceded it was due to "recent events". He added: "We always listen to everyone, from our fiercest critics to our most ardent advocates."
Similar sentiments were expressed in the Wall Street Journal a day earlier, where Gaurav Raghuvanshi wrote:
Mr. Verghese denied Olam's new strategic plan was prompted by Mr. Block's criticisms.
"To say that this is in reaction to Muddy Waters [claims] is far off the mark," Mr. Verghese told The Wall Street Journal. "We always listen to everyone, from our harshest critics to our most ardent advocates."
Olam called off defamation action against Muddy Waters and its principal Carson Block in early April.
The
Business Times’ Andrea Soh reported:
The agri-commodities trader said yesterday that it had been unsuccessful in serving notice on Mr Block, and had also found through its investigations that both he and Muddy Waters did not have "assets of consequence" against which claims can be made.
Our carefully-considered opinion is that this still sounds like PR spin, because these claims raise more questions than they answer:
2. Did Muddy Waters make no money on short-selling Olam stocks?
If neither Block nor Muddy Waters had "assets of consequence", this would nix the claim that Muddy Waters was profiting big-time from short-selling Olam stock.
3. How much money would Muddy Waters and Carson Block had to have in assets to make it worth Olam’s while to sue for defamation?
How much is "assets of consequence" worth? One million dollars? Ten million dollars?
But to be frank, even if neither Block nor Muddy Waters had any money to make a payout to Olam wouldn’t Olam have pursued the action anyway out of principle, to prove it was right, and to deter anyone else from making such claims?
Unless, of course, Olam’s lawyers advised it that it had no hope of winning such a lawsuit because Olam seemed to be taking the very action which Muddy Waters had been calling for, such as raising capital and restructuring its business.
And anyway…
4. What form did Olam’s investigation into the assets of Carson Block and Muddy Waters take?
How does Olam know Block and Muddy Waters had no "assets of consequence"?
Did they engage a credit check firm?
Or hire private investigators?
5. Has Muddy Waters’ Carson Block gone into hiding?
Else, why would it be so difficult to serve the defamation suit on him?
Olam could still proceed with the suit against Muddy Waters – unless Muddy Waters operated out of a shoebox with no address.
6. Why did it take researchers from the US to prompt this strategic review?
Let’s leave aside how big a short position Muddy Waters has or had in Olam, and therefore stood to gain from the stock’s declines.
Would Olam have undertaken a strategic review if it hadn’t been for Muddy Waters?
Now Singapore-based analysts are critical of Olam.
Where were they before Muddy Waters came along?
7. Will near term earnings disappoint after the strategic review?
While the review has identified concrete action points, meaningful impact may still take some time to realize.
However, it makes us wonder about the impact of re-arranging of its business units on earnings in near future.
8. Will it achieve free cash flow in FY14 by reduction in capital expenditure or change in business model?
Of the four key priorities identified by management, the most immediate is the thrust to generate free cash flow.
Olam plans to become free cash flow positive by FY14, ahead of the previous plan by 12 months, and, more importantly, sustain it.
9. What difficulty does it expect to face while implementing the strategic review?
Olam announced its much awaited strategic review, which were broadly in-line with market expectations.
While they are positive plans on paper, execution is key to its success.
Management reply: Unfortunately, we won't be able to respond to your questions at this point, as Olam is in its quiet period now.
We thank management for anyway responding to our email.
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