My Reply to some interesting queries on DFM on another forum :
- DFM Foods has pre-dominantly been in the extruded snacks and specialized in kids category. I guess they should leverage their distribution capacity to aggressively distribute other snacks segment ? What has stopped them to do it till now considering the fact that they being in North India would have cannibalized the unorganized sector and not compete with formidable players like Balaji which is known for its distribution skills ?
Let me make one thing clear before starting my reply, that, DFM has so far done exceptionally well if you consider many facts that it faced…first, it has focused on Snacks segment only from FY09 as before that it was just another line of business for it…if you just look at the growth attained by the co. post 09, then it has outperformed all peers…this is really commendable…second, it has chalked out a shrewd strategy of isolation in an otherwise competitive industry where at one side it had MNC and on the other it had unorganised segment, between them to grow so well speaks highly of the management…third, the margins which it has maintained in double digits so far despite free gift component…
Now, to answer your specific query, the management has so far maintained that it doesn’t want to introduce any me-too product…that is the reason why you don’t see it competing with lays, kurkure, etc…having said management’s version, if you ask me then I think they lacked depth in management and personnel level to take and manage such risk and so what they did was concentrated on what worked well for them…north concentration that you find as also no-outsourcing of manufacturing are because of that…
another thing is their conservatism which is the thing with many family-run enterprises…they sticked on the double digit margins and also did’t expand too aggressively…
third thing is the capacity constraint, – company’s 10 year average capacity utilisation has been 79.26 % )-- with FY08 and FY09’s capacity utilisation being at 89.32 % and 90.27 % and FY11’s being 109.8 %. Company did major capacity expansion in FY12 (November 2011) and last year i.e in FY13 it operated at 74.08 % utilisation with FY15 surely seeing 100 % utilisation. Now, when you have your existing product line (CRAX Corn Rings) having such a demand-pull in the marketplace wherein without exploring modern trade channel completely you are getting out of capacities within three years of expanding them by 166 % (6000 to 16,000 MT in FY12) then you don’t risk exploring other options.
All these is not bad and the journey so far is very satisfactory for DFM…the key thing to note for us being shareholders is that the company has taken right moves at right time…so to rampup middle-level management before geographical sales expansion in FY12 was also the right thing and to invite Westbridge at a time when they could fumble on geographical sales/manufacturing expansion is also the best thing they could have done. With Westbridge on board, it will insist on sales ramp-up quickly, and it is now you will find company introducing more me-too products by innovating on flavours and exploring modern retail channel / institutional sales that it has refrained from doing so far. Prataap is a real example to consider here, wherein after taking on Lay’s in 2005 it took on Kurkure & Cheetos in 2007 by launching Chulbule & Puffs and then took on CRAX in 2012 â all these was done by improving on existing flavours and innovatively distributing its products and Prataap has been quite succesful in that.
- Can DFM Foods repeat the sales growth of past 5 years ? Obviously, they ventured into a segment where no one was there earlier and they got this first mover advantage but Pratap is slowly taking away a pie of the growth in this segment and others are introducing their products in this segment too ?
Well, whether DFM will be able to grow at 48.05 % 5 Yrs. CAGR in value terms which it has grown over last 5 years is a question mark ; and frankly speaking I don’t see such an aggressive growth over next 5 years, but, the company will surely be able to outperform the industry growth rate — you have extruded snacks industry itself likely to grow at a 5 Years’ CAGR of 23.12 % in value terms and so I don’t see any threat for DFM to grow at more than 20 % p.a. over next 5 years despite rising competition. You see, there are still lot of unexplored areas for the low price points of Rs. 5, Rs. 10 and DFM also has another Rs. 2 price point for Natkhat. Rural sales are still at just 28 % of Indian Branded Sweet & Savoury Snacks segment (up from 18 % in 2003 and 13 % in 1999) and so still there is a lot of room for each of the organised player to grow as the size of the market itself is expanding aggressively.
- I guess the current generation of promoter of DFM foods is a Wharton graduate and obviously will bring in professional management. Do you think they will get someone from say HUL or ITC who are known for their skills in FMCG sector and increase the valuation of the company in terms of p/e valuation ?
No…I don’t see any management change or induction of any ex-MNC or like personnel at senior level till the promoters completely sell-out to a larger player. Family has clearly demarcated the family business between siblings â DFM to Rohan Jain and Delhi Flour Mills to Rashad Jain.
- What is the right way to value the company considering that there are not many players listed in this segment ?
I will and have valued the company based on EV and that is the reason why I have bought aggressively into it post Westbridge entry and still accumulating (as the thinly traded nature doesn’t let the required exposure getting built). It will be worthwhile to note here the following fact :
**Mentioned below is 3 Years’ CAGR in Sales attained by 8 major Indian Organised Snack Food companies. Key thing to note here is that these eight companies constitute 66 % of Indian Sweet & Savoury Snacks Market : **
[ Covered in valuepickr posts before ]
If you look at above table closely then you will find that Prataap got lowest EV/Sales (TTM) at 1.05 times in 2011 whereas DFM got lowest EV/EBITDA (TTM) in 2014 from the PE player. One possible reason for this is because DFM already enjoys relatively rich EBITDA margins which are likely to taper off or come under pressure in the lifecycle of PE investment and this is natural as Dfm will embark on an aggressive expansion phase.
Another aspect to consider while valuing DFM is its underowned equity structure. Such underowned equity structures normally trade at rich valuations once visibility of growth arrives. Even leaving that factor aside, I would love to accumulate more of DFM at a valuation below PE-deal valuation, i.e. below 1.5 times EV/Sales TTM (with base FY14 for TTM v/s FY13 for PE deal) and as the fiscals go by I expect this valuation multiple to expand.
Having said all these, one thing every investor should always keep in mind that he/she should always invest for long term (minimum 2-3 years) in such stories as the valuations could wildly fluctuate on both sides depending on demand supply situation in the market. One needs to study the company in detail, build in future projections as per his study, assign right current valuation based on likely future valuation as per the study and then take an investment call. Conviction can’t be build in a day or two, it requires deep study of the industry as well as company only then a right decision can be made.
DFM has been operating with negative working capital I guess ? Sometimes, to grow revenue, companies lose focus on smaller aspect - WC being one of them ? Where do you think other negative factors may crop up ?
What can be other risks knowing that it is a commodity business but for the distribution skills and little bit of branding ?
Possible Risks :
(1) Not increasing capacities intime could very well threaten DFM’s strong position against competition.
(2) Entire Debt-funded CAPEX will be detrimental to long term interests of the company as company will need to incur ~200 cr. CAPEX over next 3 years to cover entire India and continue the growth it has exhibited in the past.
(3) Company will need to innovate on product front as also introduce new products in the stronghold of its peers. Any failure on that front could put pressure on finances.
(4) Distribution (except North India) is the weakest spot for DFM. It will need to plug-in this gap fast.
(5) Marketing will also need to be aggressive going forward and if its not supported by reasonable growth in scale could prove detrimental to company’s finances.
(6) ICD repayment is the key thing to monitor and it has to happen in this quarter.
(7) Any significant equity dilution could stretch the already high valuations further.
(8) More players trying to target DFM’s stronghold as Prataap has done could put a cap on strong growth – however, possibility of this thing happening is remote (because of small marketsize of kids extruded snacks segment)
- Any other downsides in terms of financials ?
EBITDA margins could remain under pressure with worst case being 8-8.5 % and best case being 11-11.5 %. I believe Westbridge should provide further capital or arrange for it in a cost effective manner rather than burdening the balance sheet with external debt (as Sequoia had done by repaying all debt of Prataap and making it Debt-free in FY12 â only now debt is taken to start manufacturing of Noodles).
Apologies to ask so many questions at one go but I like the industry considering the fact that Balaji Wafers, the leader, being scouted by MNCs at very high valuation- this being a growth sector. And, DFM being one of the very few listed, it can be a good story in next 5 years.
Yes DFM could be a great wealth creator over 2-3 years period but in such stories rerating is always sharp and sudden rather than gradual. It will not be proper to compare it to Balaji Wafers as its a great company any investor or peer will love to invest in because of its net cash balance sheet, great brand-pull and strong distribution network. Balaji Wafers will get the richest valuation any Indian Snack food player could get. The next snack player any investor would love to invest in is Haldiram but because of its family fractions with each fraction having hold on each geography will make it difficult to get it a rich valuation. In third and fourth position will be Prataap and DFM. This is a good growing industry and players have great scope for growth and PE players getting present in majority of the players is an indication of the times to come. We should keep our fingers crossed and hope for the best.
Feel free to get back in case of any further query. I will reply to the best of my knowledge.