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Evaluating Blackmores

John Abernethy - Australian Equities
December 06, 2010

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Blackmores Limited (ASX:BKL) was founded in the 1930s by pioneering naturopath, Maurice Blackmore. The company listed on the ASX in February 1985.

BKL develops, manufactures and distributes branded vitamins and supplements in Australia and Southeast Asia. In Australia, BKL holds around 20 per cent market share. Today it has approximately 7500 points of distribution in Australia across pharmacy, grocery and health food stores.

BKL products are positioned toward the premium end of the natural healthcare market. Vitamins and complementary medicines are gaining popularity as adjuncts to traditional medicines. Key drivers of the business are a growing and ageing population and increasing social awareness of the benefits of a healthy lifestyle.

BKL sells products primarily in Australia with international operations in New Zealand, Malaysia, Thailand, Taiwan, Singapore and Hong Kong. Recently BKL announced entry into the Korean market via a partnership with CJO, a major Korean home shopping network that will enable TV, online and catalogue sales direct to consumers.

The primary focus of the company is its Australian operations. However, Asian operations account for nearly 15 per cent of sales and are likely to be a key area of growth in the future. Asian sales were responsible for over 50 per cent of the 2010 NPAT growth. Thailand and Malaysia, which comprise approximately 90 per cent of Asian sales, grew 37 per cent and 17 per cent respectively in constant currency. This was achieved even with several months of civil unrest in Thailand.

In the recent annual report, management also noted a new partnership with Eu Yan Sang, a company that manufactures and retails specialist Chinese medicine. BKL products are now stocked in some of Eu Yan Sang’s retail outlets in Malaysia and Singapore with further product launches and expanded distribution planned. Eu Yan Sang and BKL will also share their expertise in Western and Eastern medicine. This appears to be an early stage partnership, but a good opportunity.

Worth noting, in 2003 BKL experienced a significant market share gain after the Therapeutic Goods Administration suspended the license held by Pan Pharmaceuticals Limited to manufacture medicines.

The business potentially faces the following risks:
  • Customers questioning the merit of complementary medicines;
  • Sovereign and political risk in Asian markets which may pose short term problems;
  • There are ample supply of remedies and alternative medicines in the companies new Asian markets which may make it difficult for BKL to gain market share;
  • Product quality issues that tarnish the brand. Whilst BKL has an impeccable record with product quality one error could be disastrous for sales and profitability.

BKL is also currently facing currency headwinds as the $A appreciates against a range of foreign currencies. BKL enters into forward exchange contracts to buy or sell nominated amounts of foreign currencies at future dates, in an attempt to match contracts with the committed future cash flows of the business. A ±10 per cent change in the $A against the Thai Baht, Malaysian Ringgitt, Hong Kong Dollar, Taiwan Dollar and Singapore dollar is estimated to have a two per cent impact on NPAT. This is not significant today. However, with growing sales within Asia, currency is likely to have a more significant impact on BKL over time.


Figure 4. MyClime Valuation: Blackmores Limited (ASX:BKL)

BKL has a market capitalisation of around $480 million. BKL has provided shareholders with a total return of 22.2 per cent per annum over the last 10 years, higher than the 7.9 per cent per annum achieved by the All Ordinaries Accumulation index over the same time period. 

Between 2000 and 2010, sales have increased by a compound annual growth rate (CAGR) of 10.4 per cent. NPAT has increased by 16.3 per cent CAGR, dividends have increased by 9.8 per cent while equity has increased by 15.22 per cent CAGR – all signs of a strong operating business. It is positive to note that over time the business has managed to improve the NPAT margin. As such, each additional dollar of sales revenue translates more potently to bottom-line growth. This business has been successful in deriving tangible benefits from the scale it has achieved over time and via the more recent consolidation of activities at the Warriwood facility. We expect that as volume grows locally and particularly via growth in Asian sales, each dollar of revenue will translate to a larger impact on the bottom line.

This can be seen in a comparison of the NPAT margin over time.

BKL today has manageable debt with net debt to equity of 36 per cent and an interest cover of around 19 times. The debt is largely due to the construction of the new facility at Warriewood. Over time, the business has utilised debt responsibly.

The business gets paid rather slowly with average receivable days a little over two months. Shareholders are funding significant working capital which accounts for around 65 per cent of equity. It is likely the large grocery retailers exert some power over payment terms for BKL.

Over the last decade BKL has generated more cash flow than it has declared in profits. This has allowed BKL to pay a growing stream of dividends and finance its own growth rather than returning to shareholders for additional capital.

We have selected 50 per cent as our Normalised Return on Equity (NROE). In the period of 2000 to 2013, NROE is estimated to average 50.1 per cent. We have chosen a Required Return (RR) of 13.5 per cent that we believe takes into consideration the risks of investing in this business.

Using the above inputs and the equity per share, MyClime produces the following values:

The following valuations are based on analysts’ forecasts and are subject to change.

Between 2000 and 2010, value has grown at a compound annual rate of 14.3 per cent and is forecast to grow at a sound rate in the next few of years.

Figure 7. BKL: Value and Price

Looking at the value and price graph above and the business's performance, the market appears to have broadly priced BKL appropriately over time. Good opportunities to accumulate shares have clearly been early in the last decade and throughout the GFC. Intrinsic value has grown strongly reflecting the positive business performance.

Today BKL's share price is marginally ahead of our 2011 value estimate. BKL manages to tick nearly all of the boxes required to make it an ideal business investment: it has a strong sustainable NROE driven by branded products, a significant competitive advantage, demonstrated earnings power, growing earnings, manageable debt, sound management with significant experience and a bright future. The only missing component is a compelling price.

Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.

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