AB Foods shares rocket on profit promise

With the ravages of the pandemic now firmly in the rear-view mirror, Primark has fully regained its status as the jewel in the Associated British Foods (LSE:ABF) crown, with the group confident that there is much more to go for.

An unusual feature of the group is its diverse range of businesses, which allows not only for business and geographical diversification, but also for various units to pick up some of the slack elsewhere depending on the economic cycle. This was of particular benefit during the pandemic when Primark was all but shuttered, and now that the retail arm is back on track, the other units are making separate and additional progress.

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Grocery, which accounts for 22% of overall sales, saw revenue and adjusted operating profit growth of 5% and 39% respectively over the period, driven by higher volumes and the effects of previous price increases which are now washing through.

As expected, the Sugar unit also reaped the benefit of higher volumes in its Azucarera and Vivergo products, and helped along by higher sugar prices in Europe. The unit is responsible for 12% of overall sales, such that the revenue increase of 9% and the adjusted operating spike of 74% made a meaningful contribution to the overall picture.

However, the bulk of the business in terms of contribution and prospects is clearly the Primark arm, which continues to attract cost-conscious consumers in central locations, with incremental improvements to its online presence offering further choices.

Primark now accounts for 46% of group sales, and saw revenue growth of 7.5% to £4.5 billion, comfortably in line with estimates. Meanwhile, like-for-like sales were ahead by 2.1%, while adjusted operating profit saw a significant increase of 46% to £508 million. 

The Click & Collect trial has now been completed, and the group has been encouraged by the results which have pointed towards good basket sizes and strong additional sales in attached stores. It also provides extended choice beyond local stores for both new and existing customers, all of which have encouraged the group to announce a full roll-out to stores across England, Wales and Scotland with a curated range which includes the highly popular womenswear and children’s lines.

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Store openings are also continuing apace, with nine stores opened in the period including three in the potentially huge growth area of the US. New stores generally contributed 5.4% of sales growth, given higher sales densities and increased selling space and in the US sales growth of 38.4% contributed to a sharp increase in adjusted operating profit.

At the same time, and of particular importance to a value and volume driven business such as Primark, margins improved to 11.3% from 8.3% in the corresponding period, which is a significant achievement in a short timeframe.

Indeed, free cash flow also turned to a positive £468 million from a negative £510 million due to a number of factors including higher operating profit, a normalisation of inventory at Primark, reducing inflation pressures and stock reductions in other units. Net debt also reduced from £2.6 billion to £2.5 billion over the period, while at the group level adjusted operating profit grew by a notable 46% to £951 million, underpinned by a 5% increase in revenues to £9.73 billion, which was a rare miss among the results against expectations of £9.9 billion.

New profit forecast

For the year as a whole, the group expects growth to be significantly above expectations both in terms of cash generation and profitability. Such optimism on immediate prospects enabled another increase to the dividend, where the projected yield of 2.7% including specials remains somewhat pedestrian in comparative terms, but nonetheless shows a declared direction of travel. In the background, the latest share buyback programme of £500 million is ongoing, which should provide some support to the share price.

The group is aware of potential bumps in the road ahead including, but not limited to the pressure on the consumer, geopolitical concerns, supply chain disruptions which are currently under control and the uncertainty which several general elections could bring later in the year.

Nonetheless, the diversified nature of the AB Foods business offers some insurance against most economic outcomes, while at the centre of the current success is a Primark business which continues to flourish both home and abroad.

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The share price has had a good run as prospects have improved, having added 22% over the last year as compared to a rise of 1.4% for the wider FTSE 100 index and up by 53% over the last two years. The warm reaction to these numbers in early exchanges is further vindication of a well-balanced and enticing growth strategy.

The current market consensus of the shares as a 'strong hold' could also come under positive review, given a valuation which remains low by historical standards, and growth prospects which are clear to see.