Closure Of Wigan Site And US Focus Will Improve Future Margins

Key Takeaways

• Closure of low-margin sites and operational adjustments will improve cost efficiency and significantly enhance net margins and earnings.
  
• Strategic U.S. focus and operational efficiencies promise margin growth, supporting overall revenue improvement and profitability.
  
• Bakkavor faces challenges with cost pressures, strategic adjustments, and macroeconomic uncertainties, impacting profitability and financial flexibility in key markets.

Catalysts

Engages in the preparation and marketing of fresh prepared foods in the United Kingdom, the United States, and China.

• The closure of Bakkavor's Wigan site is expected to significantly impact future margins by removing low-margin business, as adjustments to operations will drive cost efficiencies and help achieve a target margin improvement towards 6%. This will improve net margins and earnings.
  
• Bakkavor's strategic focus in the U.S. market shows strong profitability potential, with continued growth and operational efficiencies promising to enhance margins. Improved profitability here supports overall revenue growth and group margin improvement.
  
• The launch of the Bakkavor Operating System aims to drive efficiency, particularly in the U.S., leading to further performance improvements. This increased efficiency is expected to enhance net margins by reducing operational costs.
  
• The streamlined operations in China, including the closure of the Hong Kong business, are expected to stabilize operations and reduce losses, contributing positively to cash flow and profitability, thus strengthening future earnings.
  
• The company plans to maintain a strong balance sheet and explore strategic M&A opportunities that could be accretive to the group's margins, potentially boosting revenue and earnings through increased operational scale and integration synergies.

Bakkavor Group Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Bakkavor Group's revenue will grow by 1.9% annually over the next 3 years.
• Analysts assume that profit margins will increase from 2.4% today to 3.4% in 3 years time.
• Analysts expect earnings to reach £82.4 million (and earnings per share of £0.14) by about March 2028, up from £55.7 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 14.5x on those 2028 earnings, down from 16.5x today. This future PE is lower than the current PE for the GB Food industry at 15.3x.
• Analysts expect the number of shares outstanding to decline by 0.55% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.4%, as per the Simply Wall St company report.

Bakkavor Group Future Earnings Per Share Growth

Risks

• Cost price inflation on food, particularly labor costs, presents a significant challenge for Bakkavor in the UK, which could affect margins despite attempts to recover costs from customers. (Net margins)
  
• The closure of the Wigan site entails short-term costs and adjustments that could impact profitability before any potential margin improvements are realized. (Earnings)
  
• There are concerns around the strategic reshape in China. Streamlining efforts, such as the sale of the Hong Kong business, may not compensate for the challenges faced in the region, possibly impacting growth and profitability internationally. (Revenues)
  
• Capital expenditure is set to increase to more normal levels, including significant investment in a new ERP system, which could strain free cash flow and financial flexibility. (Free cash flow)
  
• Uncertainty around the macroeconomic environment and consumer behavior in the UK, including changes resulting from the cost of living crisis, may continue to create volatility or pressure in Bakkavor's key market segments. (Revenues and consumer demand)

Valuation

• The analysts have a consensus price target of £1.75 for Bakkavor Group based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of £1.95, and the most bearish reporting a price target of just £1.65.
  
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be £2.4 billion, earnings will come to £82.4 million, and it would be trading on a PE ratio of 14.5x, assuming you use a discount rate of 6.4%.
  
• Given the current share price of £1.6, the analyst price target of £1.75 is 8.9% higher. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.