Interactive Investor

A share price drop and plenty of goodwill: time to buy?

14th December 2022 08:32

Rodney Hobson from interactive investor

One of the world’s biggest companies is expanding its global operations further, but there is significant risk. Overseas investing expert Rodney Hobson explains why and gives his opinion.

One has to feel a sneaking admiration for any company setting up new production facilities in Ukraine, but it does look remarkably foolhardy given the Russian invasion. Swiss food giant Nestle SA (SIX:NESN) has just announced that it is investing – or should that be risking – CHF40 million in just such a move.

Nestle plans a new factory and production network that will employ 1,500 people producing and distributing noodles in and from Smolyhiv in the western part of Ukraine. The network will supply other European countries as well as Ukraine.

The decision flies in the face of moves by other foreign companies to scale back or even close facilities that could be bombed any minute or lose power supplies as Russia, having failed to take Ukraine by force, wages economic warfare.

Yet the Swiss firm, the largest food and beverage manufacturer in the world, is adding to its existing factory at Torchyn to turn the Volyn region into a European regional hub.

It is a daring move that could bring a great deal of goodwill and a strong foothold in a country that offers tremendous opportunities if it can clear out the Russian invaders, but it could be an expensive mistake if, as seems likely at this stage, the conflict in the eastern part of Ukraine turns into a long war of attrition.

But then Nestle, whose brands include Nescafe coffee, Kitkat chocolate, Purina pet food and Maggi soups as well as noodles, is more than willing to splash out. Last month it committed to a $1.8 billion investment over the next 10 years in Saudi Arabia where it already has seven mineral water factories employing 5,000 people.

A new factory will open in 2025 to produce infant nutrition products and ready-to-drink coffee for the Saudi, Middle East and North African markets.

Notwithstanding Saudi Arabia’s dubious human rights record, Nestle stands to gain another wedge of goodwill in a kingdom that is trying to attract more foreign investments in alternatives to the oil that has been its mainstay.

However, it is further away, in North America, where life is looking more rosy for Nestle. Sales were up 11% there in the nine months to September, helping global sales rise 9.2% to CHF63.3 billion. Acquisitions added 1.2% to sales growth. Organic growth picked up in the third quarter to 9.3% from around 8% earlier in the year, making Nestle’s forecast of about 8% for the full year look decidedly cautious despite being an upgrade from the previous forecast of 5%.

The group was able to pass on price increases of 7.5% to offset increased costs, a better outcome than for most food companies in these difficult inflationary times, so it sticks to its expectation of operating profit margins at 17%. Underlying earnings per share for the full year are set to increase, although Nestle has not said by how much.

First-half results were affected by one-off charges including asset writedowns that took 11% off net profits. The second half should show a better bottom line.

Source:  interactive investor. Past performance is not a guide to future performance.

Nestle shares had a good run in 2021, reaching a peak of CHF127 in mid-December but they have rather come off the boil since, sliding back to CHF109.50 currently. The price/earnings ratio is a little on the high side but not too demanding at 18.8 and the yield is a decent if unexciting 2.6%.

Analysts are mixed in their attitude to Nestle, with some reducing their buy recommendations to hold, but there does seem to be a general agreement that CHF120 is a fair target.

Hobson’s choice: I recommended Nestle in March at CHF113 though I did warn that the slide could have further to run, as turned out to be the case. However, I stick to my buy stance and the shares are more attractive at the lower price.

Rodney Hobson is a freelance contributor and not a direct employee of interactive investor.

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