September 13, 2011 Lasco Manufacturing Limited Price at ... ‚ September 13, 2011 Lasco Manufacturing Limited ... Lasco Whole Milk 2. Lasco Readi Milk ... SWOT Analysis of Lasco

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    September 13, 2011

    Lasco Manufacturing Limited Strong revenue growth, improved margins & tax break Mario Ahjahorie

    Financial Analyst

    mahjahorie@scotiadbg.com

    BUY Price at Sept 13, 2011 $9.00

    Price Target $10.50

    52-Week Range $2.50 $9.55

    Company Overview

    Lasco Manufacturing (LASM) is a company which was formed over a year ago and is the product of two long standing subsidiaries Lasco Food Proccessors Limited and Lasco Foods Limited which together produce Soy and Milk based products. The amalgamation of the entities was in anticipation of their initial public offering and their combined product lines include:

    1. Lasco Whole Milk 2. Lasco Readi Milk 3. Lasco Food Drink 4. Lasco Lasoy Lactose Free 5. Lasco Oats Porridge 6. Lasco Milky Soy

    Companys Board and Management The companys board and management have both its strengths and weaknesses. Amongst the good are the qualifications and experience of the board and management in the sector they operate. The allegiance (marriage) between the Chairman (Lascelles Chin) and Managing Director (Dr. Eileen Chin) are key weaknesses of the board and management structure. Potentially the board could make strategic decisions in favour of management instead of all shareholders. Additionally, the presence of 2 out of 5 non-independent directors is unfavourable as it fails to include a mechanism which is protective of the rights of minority shareholders. Business Model and Strategy The company attempts to deliver low cost products to suit the needs primarily of the Jamaican market. The company imports the raw materials, add flavours and packages them for distribution at retail and wholesale chains. Margins are moderately positioned as the company tries to keep product costs low for its consumers.

    Key Metrics Q1 2010 Q1 2011

    Gross Margin 29% 31%

    Operating Margin 19% 19%

    Net Margin 12% 19%

    Debt-to-Equity 0% 0%

    Current Ratio 95% 62%

    ROE 8% 18%

    ROA 29% 31%

    Book Value $0.86 $2.54

    EPS (Last 4Q) $0.73 $1.22

    Trailing PE 8.48X 7.37X

    PBV N/A 3.55X

    Figure 1: Lasco Manufacturing Timeline

    Figure 2: Shareholder Breakdown

    Shareholder % Stake

    Hon. Lascelles A. Chin, O.J. 80%

    Wayne Chin 0.4%

    Connected Parties* 8%

    Public Investors* 12% * - Based on Sep 2010 prospectus

    Figure 3: Board of Directors

    1988 Lasco Group

    founded

    1994 Incorporation of

    Lasco Foods

    May 2010 Renamed to Lasco Man.

    Sep 2010 Initial Public

    Offering

    Oct 2010 Listed on the JSE

    The Hon. Lascelles A. Chin, O.J.

    Chairman

    Dr. Eileen Chin

    Anthony Chang

    Lester Spaulding

    Prof. Rosalea Hamilton

    mailto:m

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    Business Environment

    Lasco Manufacturing is a Distributor Lasco Manufacturing interestingly is a misnomer for a company which is primarily considered a distributor, according to data collated from the Statistical Institute of Jamaica (STATIN). The Retail & Wholesale Industry, which LASM is a part of, is one of the largest contributors to the economy, however, it contracted for all quarters in 2010 and in the first quarter of 2011. Commendably, Lasco has been able to operate counter to this trend growing revenues an impressive 15% for 2011.

    Similar to all manufacturing companies in Jamaica, Lasco faces the risks of fluctuations in raw material costs and the impact of escalation in inflation and the exchange rate on operating costs. Historically, the exchange rate has exhibited a significant amount of volatility but has settled in recent times around the $86 mark, assisted by the IMF standby agreement. Similarly, the inflation rate has abated compared to previous periods and is targeted at single digit in 2011. The relatively benign inflation outlook coupled with a weak labor market should enable the company to control its operating expenses for the foreseeable future.

    High Electricity Costs Not a Problem Unlike other manufacturing entities, an examination of Lascos financial data shows that high electricity cost is not a major problem for Lasco. This might be due to the fact that LASM is not involved in extensive manufacturing as alluded to above. The companys production process results in utility costs (including electricity) accounting for a mere 5% of operating expenses.

    Economy weak, Lasco strong Producing for local consumption is challenging given the weak economic background. The economy eked out a growth rate of 1.5% for Q1 March 2011, after 3 years of contraction. It means consumers spending power is still lukewarm as the growth rate was not enough to make a meaningful dent on the unemployment rate.

    Fortunately for Lasco, their products are positioned at the lower end of the spectrum, which allowed them to benefit from a shift in consumer spending habits. On the flip side, a recovery in the economy could see consumers shifting away from Lasco products. To combat this, the company will have to ensure their products are not branded only as low cost alternatives but also as high quality products when consumers regain their

    Figure 4: GDP Economy vs GDP Distribution

    Figure 5: Inflation - Reducing

    Figure 6: Exchange Rate - Stabilizing

    -4.0%

    -3.0%

    -2.0%

    -1.0%

    0.0%

    1.0%

    Mar-08 Sep-08 Mar-09 Sep-09 Mar-10 Sep-10 Mar-11

    GDP - Economy GDP - Distribution

    Distribution GDP lagging Overall GDP rebound

    0.0%

    5.0%

    10.0%

    15.0%

    20.0%

    25.0%

    30.0%

    Apr-08 Oct-08 Apr-09 Oct-09 Apr-10 Oct-10

    Inflation rate has abated and stabilized, allowing companies

    like Lasco to better control operating costs

    65

    70

    75

    80

    85

    90

    95

    100

    01-Apr-08 01-Oct-08 01-Apr-09 01-Oct-09 01-Apr-10 01-Oct-10

    Jamaican Dollar exhibiting stability since 2009. Lasco therefore benefits from stable raw material costs.

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    spending ability. Industry Specific Factors or Trends

    Major Competitors Lasco Manufacturings main Competitors in the food drink and powder milk industry are:

    1. Gracekennedy 2. Nestle 3. Seprod

    And while the company's products have a presence in 18 countries outside Jamaica, its international sales account for a minor nine per cent of revenues.1 According to the company, they have an estimated market share of 73% in fortified drinks which comprise Lasco food drink and Lasoy. While for whole milk powder, the company estimated an 85% market share and 29% of the infant formula market. Oligopolistic Industry Two common measures of industry competitiveness are the Herfindahl-Hirschman Index (HHI) and the Four Firm Concentration Ratio. Based on data gathered, the HHI exceeds 5,329 which is extremely high and indicates an industry which is not very competitive. Similarly, the four firm concentration ratio which measures the market share of the top four firms exceeds 70%. This reading (above 60%) confirms an oligopolistic industry, which is dominated by Lasco. Industry Profit Margins LASM ranks 3rd Lasco currently has the third most attractive net profit margin of all the manufacturing and distribution companies identified on the JSE, which include those listed on the junior and main market. Although the company primarily markets low priced products, they are still able to generate strong margins compared to its peers.

    Figure 7: Foritified Drinks

    Figure 8: Whole Milk Powder

    Figure 9: Infant Formula

    Figure 10: Industry Margins

    1 http://jamaica-gleaner.com/gleaner/20100804/business/business1.html

    Lasco Man. 73%

    SEP, GK, Nestle &

    Other 27%

    LASM 85%

    SEP, GK,

    Nestle &

    LASM 29%

    SEP, GK, Nestle &

    Other 71%

    26%

    19%

    14% 13% 12%8% 7% 5% 5% 4%

    2%

    -3%

    -20%-20%

    -10%

    0%

    10%

    20%

    30%

    CA

    R

    SALF

    LASM

    JAM

    T

    LAS

    SEP

    BP

    OW JP

    JBG

    GK

    CP

    J

    DG

    CC

    C

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    Figure 11a: Porters Model Five Industry Forces

    Competitive Force Risk Rationale

    Threat of New Entrants High Lasco has economies of scale, brand loyalty and a dominant market position. However, with no major impediments to entering the market, there is a high risk of potential entrants. Already there are formidable competitors such as Seprod, GraceKennedy and Nestle.

    Bargaining Power of

    Suppliers

    Low The company sources its raw materials (powdered milk) outside of

    Jamaica and their supplier(s) operate in a competitive market. The

    HerfindahlHirschman Index (HHI) and Four Firm concentration

    ratio would therefore be very low for the suppliers.

    Bargaining Power of

    Buyers

    Low Buyers are not concentrated as the target market is mostly retail.

    Therefore, measures such as the four firm concentration and the

    HerfindahlHirschman Index (HHI) would be low for customers.

    Availability of Substitutes Medium Again, there a number of substitutes on the market but none which

    are able to compete on pricing like Lasco. In fact, Lascos products act

    as substitutes in the infant formula market, in addition to their 29%

    market share of the infant formula market.

    Rivalry Among

    Competitors

    Medium Competitors such as GraceKennedy, Seprod & Nestle have not been

    able to make a significant dent into lascos market share of powder

    milk (73%) and fortified drinks (85%). However, Lasco as