SINGAPORE (March 14): DBS Vickers is keeping its &lsquo hold&rsquo call on Del Monte Pacific as the pace of its earnings turnaround is not as fast as previously envisaged by the brokerage.

In a Monday report, lead analyst Andy Sim says although Del Monte Pacific&rsquo s 3Q16 was profitable, the results came below expectations. This was due to slower sales registered from its US operations arising from loss of government and OEM contract bids. Sales from US declined by 9% y-o-y to US$466 million ($640 million) while the group&rsquo s Asia Pacific operations performed saw revenue improved by 11.6% in peso terms or 6.4% in USD terms.

&ldquo While 9M16 core profit of US$18.5 million was an improvement from loss of US$23.9 million last year, this was just at 50% of our original full-year estimate,&rdquo says Sim.
&ldquo Our target price is revised slightly higher to 39 cents, as we roll over to the average of FY16F/17F (from FY16F) based on 12x FY16F PE, which is at a 40% discount to consumer peers listed in the US and Philippines,&rdquo adds Sim.

As at 12.55pm, Del Monte Pacific was trading 12.66% lower at 34 cents.

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• Revenue below our expectations (5-10%).  Sales for the quarter was down 6.8% over the prior year period driven by lower sales in the USA due to unsuccessful USDA government and OEM co-pack contract bids. The USDA government contracts are a low margin non-core business for Del Monte. The company was outbid by competitors who priced their bids very aggressively near to cost price. Market share in the core business of retail centre store of fruit, vegetable and tomatoes remains stable. Sales in the Asia Pacific came in strong at 9% higher yoy. The value of the USDA lost contract is very volatile and was worth about US$40m this quarter.
• Operating profit improved.  The group achieved an operating profit of US$24.5m which was 4.7% higher than versus the US$23.4m operating income last year due to strong operating results across Asia. Sales in Asia Pacific was up 9%.
• Gross margins improving.  Gross margins were up in 3Q16 to 20.5% vs 19% for the same quarter last year. The US operations has plans to move away from the lower margin USDA government contracts which will be positive for gross margins moving forward.
• Non-recurring items.  For 3Q16, the group recorded higher than expected non recurring expenses of US$12.5m on a pre-tax basis against a non recurring gain of US$17.9m for 3Q16. This was due to the existence of higher than expected SAP related costs of US$7.1m and other acquisition related charges of US$5.4m.
• Net profit below our expectations.  3Q16 reported net profit was US$0.6m better than the loss of US$2.2m last year. The group continues to face acquisition integration charges and SAP related expenses which we now expect to persist into FY17.
• Perpetual preference shares.  Del Monte expects to launch the preference shares in CY2016 subject to regulatory approval and market conditions. The pricing is expected to be in the range of 5.5% to 7%. We now expect it to happen sometime early FY17.
• Plans going forward.  Move away from volatile revenue streams such as the USDA government contract bids and move into stable revenue sources. Such as the continued focus on the core retail centre store business and to build food service businesses such as restaurant deliveries.
• Valuation.  We maintain our  BUY  recommendation with a PE-based target price of S$0.69/share (under review) pending a management meeting.