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Equity Research
Morgan Stanley
Investment strategy report – Equity Research Department
From 1986 to 1989 I was senior editor for Morgan Stanley in Japan. Initially our analysts were American and British. But by 1988 they were mostly Japanese; their English-language reports required extensive editing, and even complete rewrites. Among our products was an annual industry overview, which included this piece on the food sector.
FOOD: Better Opportunities Elsewhere
We forecast 3% earnings growth for the food industry this fiscal year, down from 8% expansion in 1987. In the past couple of years, the surge in the yen's value has cut raw material costs significantly and accelerated earnings momentum. Today's more stable currency reduces these benefits, while SG&A expenses continue to increase, relatively unaffected by currency swings.
Investors tend to view food stocks as a stable (if unexciting) group, producing slow, steady earnings growth. Thus its stock price action depends less on its own profit prospects at any particular time, and more on its relative earnings momentum vis-a-vis other sectors. In other words, food stocks rally when other sectors appear weak, and languish when others look strong. There appears to be some correlation between the percentage of market capitalization for the food group and the group's share of recurring profits for all industries. In this light, with improving earnings prospects for export-oriented companies, food stock prices could be lackluster in the near future
Nevertheless, while investment opportunities in the food sector are limited at this moment, we think the shares of Nippon Meat Packers and Snow Brand Milk, both with strong fundamentals, should be bought on weakness. Nippon Meat, Japan's leading meat processor, is benefiting from growing demand for "value-added" hams for gift-giving, which is increasing 13% annually. EPS growth should average 6% over the next five years, versus 4% for the industry as a whole. Snow Brand is the nation's largest manufacturer of dairy products, with more than twice the market share of its closest competitors in segments like butter and powdered milk. The company is thus well positioned to benefit from the recovery in milk consumption and the consequent improvement in the supply/demand equation. We expect above-average EPS growth of' 7% per annum over the next five years.
Among the brewers, the stock of Kirin is trading at its year-to-date bottom, as operating profits should decline about 14% in fiscal 1988 owing to the slowdown in sales of the Company's main product, lager beer. Although it has made important strides in the pharmaceutical area, led by the development of EPO (erythropoietin, red blood cell stimulating hormone) and CSF (colony stimulating factor), we think it will take another two to three years for Kirin' s beer business to recover. In our view, Asahi Breweries will be the only brewer to record a double-digit increase in net income this year (we expect a 50% advance), supported by strong sales of super dry beer. However, growth in earnings per share over the next five years should be diluted by successive financings.
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