Originally set-up as a pioneering distillery, Distilleries Company of Sri Lanka (DIST) has pursued a policy of planned growth which has resulted in its transformation from a cash rich beverage play to a diversified company with exposure to key sectors of the economy. However, the company's primary focus remains on liquor products.
DIST has secondary interests spanning into diverse industries such as Telecom, Plantation, Power, Insurance, Textiles and through an associate stake in Aitken Spence in fields ranging from leisure to logistics.
The purchase consideration of Sri Lanka Insurance (SLIC) is to be repaid to DIST in the form of treasury bills with a maturity period of five years. This is an outstanding launching pad for DIST for future business acquisitions. Deeming it illegal, the Supreme Court reversed the privatisation of SLIC in June 2009 and ordered the Treasury to refund the money paid for the deal, LKR 6.05 bn (Further, the company is entitled to keep the profits it earned during the time it ran the insurer).
The losses made from the Telecom subsidiary has dragged down the FY10 performance whilst the reduced earnings from the diversified sector too have negatively impacted the bottom line during the year. DIST's core hard liquor business has shouldered the group's PBT during the year whilst the sectoral PBT has marginally grown to LKR4,262.0 mn, whilst Lanka Bell recorded a loss of LKR556.7 mn (vs a profit of LKR76.5 mn in FY09). The plantation earnings improved marginally where the sector posted a PBT growth of 5% to LKR98.6 mn whilst the diversified segment posted a loss of LKR39.6 mn vs a profit of LKR281.4 mn in FY09.
However, the FY09 net profit includes the profit attributable to SLIC group of LKR730.5 mn and excluding this the FY10 net earnings has dipped only by 11.2%YoY.
FY10 performance at a glance
Gross turnover remained flat whilst net revenue dipped by 7.2%YoY in FY10. Consolidated FY10 gross revenue remained flat during FY10 whilst net revenue has dipped by 7.2%YoY toLKR20,287.0 mn. The dip in net revenue is mainly on the back of the declined contribution from Lanka Bell and the diversified segment. However, the core distilling operation grew marginally (Gross profit up 6.0% YoY to LKR mn) amidst stringent laws passed to reduce liquor consumption whilst the plantation sector too reported 16.2% YoY growth in Gross profit. However the contribution from Lanka Bell (down 21.1% YoY to LKR5,160.0 mn) and diversified sector (down 38.7%YoY to LKR1,016.5 mn) have dipped during the year under review mainly the on back of slow down in incremental subscriber growth in the fixed line segment coupled with the price war amongst the operators and the lost dividend income from SLIC received by the companies under diversified sector.
Gross profit down 9.9% YoY in FY10. DIST’s cost of sales has dipped by 9.9%YoY to LKR 8,735.8 mn in FY10. Whilst cost of sales of DIST’s core liquor operation too has dipped by 6.1%YoY to LKR6,832.908 mn. DIST posted a gross profit of LKR8,735.8 mn, down 9.9%YoY in FY10 whilst gross margins have marginally dipped to 43% in FY10 (vs. 44.3% in FY09).
Operating profit has dipped by 15.3%YoY to LKR4,058.8 mn in FY10. Income from investments has fallen by 16.2%YoY to LKR575.3 mn in FY10 largely due to the relatively low interest rates. Administrative expenses have dipped by 4.6%YoY to LKR2,880.3 mn whilst distribution cost also has dipped by 7.7%YoY to LKR2,372.0 mn in FY10. The consolidated FY10 operating profit has declined by 15.3%YoY to LKR4,058.8 mn whilst the operating margin has dipped to 20% in FY10 (vs. 21.9% in FY09).
FY10 pre tax profit dipped 13.1% YoY to LKR3,808.6 mn. DIST’s finance cost has dipped by 25.2%YoY to LKR559.7 mn in FY10 due to reduced borrowing (21% YoY reduction to LKR4,113.9 mn) and low interest rates. Further, the share of profit from associates has dipped by 8.0%YoY to LKR309.6 mn largely on the back of reduced holdings in conglomerate Aiken Spence (SPEN, LKR1,555). Consequently, DIST has posted a pre tax profit of LKR3,808.6 mn, down by 13.1%YoY in FY10.
FY10 net profit records LKR2,367.3 mn (down 30.1% YoY). Income Tax expense have dipped 15.7% YoY to LKR1,418.7 mn due to reduced earnings. Consequently, DIST has posted a net profit of LKR2,367.3 mn, down by 30.1%YoY in FY10. However, the FY09 net profit includes the profit attributable to SLIC group of LKR730.5 mn and excluding this the FY10 net earnings has dipped only by 11.2%YoY.
Forecast FY11E net profit to reach LKR2,959.1 mn (up 25% YoY). With the anticipated recovery of Lanka Bell (the industry wide efforts to reduce the price war and the regulator’s move to charge interconnect charges and introduce floor rates) and growth in the key liquor business (expected rise in tourism, more sales in the previously war affected North and East and anticipated increase in disposable income), we expect DIST to post LKR2,959.1 mn (up 25% YoY) in FY11E. We expect the core businesses to post 31.5%YoY growth in net earnings to reach LKR3,891.3 mn in FY12E. All the forecasts exclude the impact from the purchase consideration of LKR6.05 bn treasury bonds receivable.
Fundamental outlook remains healthy. Despite the temporary setback caused by the Supreme Court ruling on SLIC we believe future prospects for DIST are promising in the medium run, given the sustained growth in the beverage sector and with the purchase consideration being paid provides the company the opportunity to capitalize on future lucrative investment opportunities (however the nature of the bonds is still not known).
If the company would hold the bonds till maturity then the interest payment (circa LKR635 mn, assumed @10.5% coupon rate) would cushion the lost earnings from SLIC (On average SLIC has been contributing a near LKR600 mn to the bottom line).
Further, DIST has ventured into the Insurance business with the Insurance Board of Sri Lanka approving the registration of “Continental Insurance Lanka Ltd” as a fully owned subsidiary of DIST. DIST has planned an initial investment of LKR500 mn and if necessary the provision will be increased to LKR1.0 bn. The Insurance Company is started up as a Greenfield project and has exclusively the General Insurance business.
DIST also made an investment of LKR750 mn on a 4MW power plant in an estate in Bogawanthalawa which is owned by Madulsima plantations PLC, an associate of DIST. This project which has already entered into a “Standardised Power Purchase Agreement” is estimated to have a payback period of circa 3 years.
Given its proven ability to sustain robust earnings through new acquisitions, coupled with the favourable macro environment and cash rich liquor business, the share is attractive at present trading on 9.6X forecast FY12E net earnings and 1.2X PBV.
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