Philippine Markets Newsletter

With its double-pricing strategy and diverse portfolio, this company gained significant market share, leading to a 7% Uniform ROA

May 5, 2021

Today’s company gained its reputation by introducing the “Korean Curry” in its home country. It also became a household name through diversifying its products and venturing into other food markets.

However, as-reported metrics do not seem to show how this company’s diversification efforts and pricing strategy positively affect its returns. Uniform Accounting, on the other hand, shows that the business has a better Uniform return on assets (ROA) than what you might think.

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

Philippine Markets Daily:
Wednesday Uniform Earnings Tearsheets – Asia-listed Focus
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2020 saw the food industry scrambling to find its place amid the pandemic and various lockdowns all over the world.

The simple act of indoor dining at restaurants had become terrifying for a lot of people because of the serious health risk it poses. Once bustling streets grew quiet as more and more people chose to stay within safety of their homes.

Restaurants left and right were forced to close as the world grappled with the health crisis.

In the capital of South Korea alone, the food service industry in Seoul saw more than 10,000 restaurants close down in mid 2020. Over 500 owners of cafes and eateries are actually fighting a legal battle against the South Korean government for their losses.

It’s not just the reduced dining capacity that caused the restaurant industry to suffer—people started going out less as they worked from home more.

Since most people no longer have to commute, they now have more time on their hands to cook food at home. Home-cooked meals and packaged foods are arguably safer than ordering take-out during a time of health uncertainty.

With this shift came waves of pantry-loading, driving a drastic 377% surge for packaged foods in the first half of 2020 on a global scale. Packaged foods offer a long-shelf life, convenience, and generally better food safety measures, which further enhance their attractiveness to consumers.

This made the packaged food industry one of the winners during the pandemic. Today, we are looking at one of Korea’s key players in the industry.

This Korean food manufacturer, Ottogi Corporation, has been around since 1969, and has incorporated an effective diversification strategy in its operations.

Ottogi is known for being the first to introduce the Korean-made curry powder, Ottogi Curry. For decades, the company was able to develop different types and flavors of curry, giving it the ability to serve consumers’ wide range of tastes. As of today, it offers five different types of curry, with each coming at different spice levels–mild, medium hot, and hot.

The company didn’t just add an assortment of flavors for its curry powder products in the market, it also ventured into other food categories, like sauces and condiments, instant food, grain foods, canned goods, tea, oil, spices, ramen, noodles, and frozen goods.

Aside from being one of the top players in the curry industry, Ottogi is also the market leader of both South Korea’s ketchup and mayonnaise industry. It has over 80% market share in both the ketchup and mayonnaise markets.

Additionally, the company is also one of the major players in the country’s instant noodles market, competing with the big names like Nongshim and Samyang.

Having this kind of market share in different industries shows the success of Ottogi’s diversification strategy.

Moreover, with its huge presence in different food markets, Ottogi was able to apply a unique pricing strategy.

The company kept prices of its instant noodles, Jin Ramen, unchanged since 2008, even after the ramen price hike of 5.5% triggered by Korea’s leading ramen maker, Nongshim, in 2016 when prices for raw materials were rising.

To make up for any losses in the ramen market, Ottogi instead raised the prices in other products where it has a larger market presence. An example of this is the 10% price hike on their glass noodle products in 2017 wherein they hold 70% market share.

This double-pricing strategy led the company to offer its instant noodles at relatively low prices to gain market share, without having its overall revenues suffer.

However, as-reported metrics don’t seem to take into account the effectiveness of Ottogi’s diversification and pricing strategies. From 2007-2020, as-reported ROA only ranged from 4% to 8%.

Uniform Accounting, on the other hand, paints a different picture. The company’s Uniform returns are actually significantly higher than its as-reported metrics since 2007, ranging from 7% to 13%.

What as-reported metrics fail to do is to consider the company’s excess cash on the balance sheet. While most companies inherently need some level of cash to operate, the portion of that balance that is earning limited or no return—or excess cash—ends up diluting as-reported ROAs.

When excess cash remains included in the company’s asset base while computing its performance metrics, the company’s profitability and capital efficiency may appear weaker than it actually is.

Removing excess cash allows investors to see through the distortions that come from management carrying much more cash on the balance sheet than what is operationally required.

From 2009 to 2020, Ottogi has had a significant amount of excess cash sitting idly in its balance sheet, ranging from 7% to 16% of its as-reported total assets.

After excess cash and other necessary adjustments are made, we can see that Ottogi’s returns are actually a lot stronger than what as-reported metrics show. Without these adjustments, it appears that the company hasn’t been benefiting from its diversification and pricing strategies, leading to significantly poorer valuations.

Ottogi’s profitability is much more robust than you think

As-reported metrics are distorting the market’s perception of the firm’s profitability. If you were to just look at as-reported ROA, you would think that the company is a weaker business than real economic metrics reveal.

Ottogi’s Uniform ROA has been higher than its as-reported ROA in the past fourteen years. For example, when Uniform ROA was at 13% in 2019, as-reported ROA was only 4%.

The company’s Uniform ROA for the past fourteen years has ranged from 7% to 13%, while as-reported ROA has ranged only from 4% to 8% in the same timeframe.

Specifically, Uniform ROA gradually improved from 6% in 2006 to 10% in 2008, before subsequently declining to 9% in 2010. It then recovered to a peak of 13% in 2016 before falling to 9% in 2017. Uniform ROA increased again in 2018 to 11% before declining to 7% in 2020.

Ottogi’s Uniform earnings margins are weaker than you think but its robust Uniform asset turns make up for it

Volatility in Uniform ROA has been driven by trends in both Uniform earnings margins and Uniform asset turns, with peaks and troughs lining up historically with that of Uniform ROA.

Uniform margins steadily expanded from 2% in 2006 to 6% in 2016, which then declined to 4% in 2017. It then recovered back to 6% in 2018 before compressing to 4% levels from 2019 to 2020.

Meanwhile, Uniform turns remained at 2.6x-3.0x levels from 2006 to 2009 before steadily declining to 1.6x in 2020.

SUMMARY and Ottogi Corporation Tearsheet

As the Uniform Accounting tearsheet for Ottogi Corporation (007310:KOR) highlights, the Uniform P/E trades at 20.8x, which is below the global corporate average of 23.7x but above its own historical average of 19.0x.

Low P/Es require low EPS growth to sustain them. In the case of Ottogi, the company has recently shown a 5% Uniform EPS increase.

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 Korean International Financial Reporting Standards (K-IFRS) earnings and convert them to Uniform earnings forecasts. When we do this, Ottogi’s sell-side analyst-driven forecast is a 21% EPS decline in 2021 and 61% EPS growth in 2022.

Based on the current stock market valuations, we can use earnings growth valuation metrics to back into the required growth rate to justify Ottogi’s KRW 570,000 stock price. These are often referred to as market embedded expectations.

Ottogi is currently being valued as if Uniform earnings were to shrink 3% annually over the next three years. What sell-side analysts expect for Ottogi’s earnings growth is below what the current stock market valuation requires in 2021, but above this requirement in 2022.

Furthermore, the company’s earning power is 1x above the long-run corporate average. Also, cash flows and cash on hand are 3x above its total obligations—including debt maturities, and capex maintenance. All in all, this signals a low credit and dividend risk.

To conclude, Ottogi’s Uniform earnings growth is below its peer averages, and the company is trading above its average peer valuations.

About the Philippine Market Daily
“Wednesday Uniform Earnings Tearsheets – Asia-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 UAFRS, 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 company listed in Asia that’s relevant to the Philippines and 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 Earning Tearsheet on an Asian company interesting and insightful.

Stay tuned for next week’s Asia company highlight!


Angelica Lim
Research Director
Philippine Markets Daily
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