Philippine Markets Newsletter

This manufacturer produced record results, solved operational problems, and cashed in on growth initiatives to reach a Uniform ROA of 9%, not 7%

January 2, 2024

Despite a slump in recent years caused by the pandemic, this food ingredients and plastics manufacturer was resilient and saw significant growth thanks to its export business and production expansion initiatives.

However, as-reported metrics indicate it is not the case, understating its returns and making it seem like 2022 was just another year in the books.

Also below, Uniform Accounting Embedded Expectations Analysis and the Uniform Accounting Performance and Valuation Tearsheet for the company.

Philippine Markets Newsletter:
Wednesday Uniform Earnings Tearsheets – Philippine-listed Focus
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Over the past year, we have highlighted various companies that have taken advantage of the reopening economy. Not to be left behind is D&L Industries, Inc. (DNL:PHL), a food ingredients and plastics manufacturer that has jumped on growth opportunities during 2022.

Despite volatile raw material prices, high inflation, and soaring interest rates, D&L posted record profits of PHP 3.3 billion in 2022, a 26% increase from 2021, thanks to fast-growing exports.

Making up nearly a third of the company’s revenue, exports saw a 33% increase in 2022, thanks to the company addressing its supply chain issues.

D&L achieved this through higher export market penetration and it saw higher demand for sustainable and organic raw materials used in various health, personal, and home care products.

Furthermore, D&L has increased its production capacity through the completion of its new production plant in Batangas in 2023. This allowed the company to expand its manufacturing capabilities and improve its overall production chain.

Other business segments (food ingredients, oleochemicals, and other specialty channels) also realized earnings growth within the year. D&L president and chief executive Alvin Lao cited the improving economic conditions and the returning demand for high-market specialty products as the reason for increased profits.

Looking ahead, D&L plans to launch a range of shelf-ready sustainable products for its export customers and the country’s high end consumer market. Sustainable production processes for these products will reduce overall carbon footprint in the supply chain. These products will provide a greener alternative with the use of non-toxic ingredients.

Even with a rocky start to 2022 with the Omicron surge in January and supply chain challenges, the full reopening of the country’s economy allowed the firm to produce profitable returns.

Moreover, the company’s initiatives to further expand its market reach and production levels signal an even higher potential for growth in the upcoming years.

D&L’s earning power is stronger than you think

However, as-reported metrics don’t seem to think so, with ROAs only reaching 7% in 2022.

In reality, D&L managed to overcome different challenges and improve its profitability levels, reaching a Uniform ROA of 9%.

What as-reported financials have gotten wrong is the depreciation of the company’s fixed assets.

Depreciation expense is a non-cash expense, meaning it does not represent an actual outlay of cash. Also, it can be easily manipulated by changing the asset’s life. As such, depreciation expense should be removed from earnings.

However, the company does spend cash on maintenance capital expenditures to ready the same assets for use in the following years. That said, this expense barely shows up in its entirety on the balance sheet.

To arrive at an estimate of the firm’s maintenance capex, what is done instead is smoothing as-reported depreciation expense over a few years, adjusting for inflation and asset impairments.

In D&L’s case, PHP 687 million of depreciation expense was charged in 2022. As a result, along with the many other adjustments made, we arrive at PHP 2.8 billion in adjusted earnings and a 9% Uniform earning power for the company in 2022.

D&L has a more efficient business than you think

Trends in Uniform ROA have been driven by trends in Uniform asset turns. The firm’s asset utilization, a critical factor in profitability, is also greatly distorted. As-reported asset turnover has been consistently lower than Uniform asset turnover for the past decade, giving the organization a lower asset efficiency score than actual economic measures indicate.

Moreover, in the past five years, as-reported asset turnover has reached a peak of 1.2x. In comparison, Uniform turns have reached a high of 1.5x over the same time period, making D&L appear to be a less efficient business than real economic metrics highlight.

SUMMARY and D&L Industries, Inc. Tearsheet

As our Uniform Accounting tearsheet for D&L Industries, Inc. (DNL:PHL) highlights, the company trades at a Uniform P/E of 19.9x, above the global corporate average of 18.4x, but below its historical P/E of 24.5x.

High P/Es require high EPS growth to sustain them. In the case of D&L, the company has recently shown a 26% Uniform EPS growth.

Sell-side analysts provide stock and valuation recommendations that in general provide very poor guidance or insight. However, sell-side analysts’ near-term earnings forecasts tend to have relevant information.

We take sell-side forecasts for Philippine Financial Reporting Standards (PFRS) earnings and convert them to Uniform earnings forecasts. When we do this, D&L’s sell-side analyst-driven forecast is to see a Uniform earnings shrinkage of 4% and a 23% growth in 2023 and 2024, respectively

Based on current stock market valuations, we can use earnings growth valuation metrics to back into the required growth rate to justify D&L’s PHP 6.48 stock price. These are often referred to as market-embedded expectations.

The company is currently being valued as if Uniform earnings were to grow by 4% annually over the next three years. What sell-side analysts expect for D&L’s earnings growth is above what the current stock market valuation requires through 2024.

Moreover, the company’s earning power is 1x the long-run corporate average. Additionally, cash flows and cash on hand are 2x above its total obligations. Moreover, intrinsic credit risk is 80bps above the risk-free rate. Together, this signals a low credit risk.

Lastly, D&L’s Uniform earnings growth is below its peer averages, while its Uniform forward P/E is above its average peer valuations.

About the Philippine Markets Newsletter
“Wednesday Uniform Earnings Tearsheets – Philippine-listed Focus”

Some of the world’s greatest investors learned from the Father of Value Investing or have learned to follow his investment philosophy very closely. That pioneer of value investing is Professor Benjamin Graham. His followers:

Warren Buffett and Charles Munger of Berkshire Hathaway; Shelby C. Davis of Davis Funds; Marty Whitman of Third Avenue Value Fund; Jean-Marie Eveillard of First Eagle; Mitch Julis of Canyon Capital; just to name a few.

Each of these great investors studied security analysis and valuation, applying this methodology to manage their multi-billion dollar portfolios. They did this without relying on as-reported numbers.

Uniform Adjusted Financial Reporting Standards (UAFRS or Uniform Accounting) is an answer to the many inconsistencies present in GAAP and IFRS, as well as in PFRS.

Under IFRS, each company’s financial statements are rebuilt under a consistent set of rules, resulting in an apples-to-apples comparison. Resulting UAFRS-based earnings, assets, debts, cash flows from operations, investing, and financing, and other key elements become the basis for more reliable financial statement analysis.

Every Wednesday, we focus on one Philippine-listed company that’s particularly interesting from a UAFRS vs as-reported standpoint. We highlight one adjustment that illustrates why the as-reported numbers are unreliable.

This way, we gain a better understanding of the factors driving a particular stock’s returns, and whether or not the firm’s true profitability is reflected in its current valuations.

Hope you’ve found this week’s Uniform Earnings Tearsheet on a Philippine company interesting and insightful.

Stay tuned for next week’s Philippine company highlight!


Angelica Lim
Research Director
Philippine Markets Newsletter
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