HKFoods Q2'24: Reducing the debt burden takes time

Translation: Original comment published in Finnish on 08/08/2024 at 9:10 am EEST

We expect HKFoods’ business performance to continue improving in the near future, although the Q2 result was softer than we expected. The risk associated with the financial position has decreased, but high interest costs still make reducing the debt burden difficult and weaken shareholder’s expected return. We reiterate our Reduce recommendation and lower our target price to EUR 0.55 (previous EUR 0.65) due to estimate cuts.

Revenue grew considerably but profitability was below expectations

The Q2 revenue of HKFoods' continuing operations was 255 MEUR, growing by 9% y-o-y and exceeding our forecast by 1%. This growth was driven by, e.g., gaining market shares in Finland as a result of commercial success, an accounting-related technical increase in external revenue from the Polish bacon unit, and exports shifting from Q1 to Q2 due to strikes. Adjusted EBIT was 4.4 MEUR, improving slightly from the comparison period (4.2 MEUR), but falling short of our forecast (5.7 MEUR). According to the company, e.g., tight cost levels, such as higher wages and external service prices, impacted profitability negatively. An increase in the share of low-margin exports also weighed on profitability relative to revenue. Financial expenses exceeded our forecast mainly due to a one-off item of 1.5 MEUR related to the redemption of the company’s 90 MEUR bond in June.

Completion of efficiency measures supports profitability in H2

The company reiterated its guidance that 2024 comparable EBIT from continuing operations will improve compared to 2023 (2023: 11.6 MEUR). We expect adjusted EBIT to improve by 6 MEUR in 2024 (+3.8 MEUR y-o-y in H1) and by 4.6 MEUR in 2025. Earnings development is supported by, e.g., estimated efficiency gains of 6 MEUR related to the company’s recent efficiency investments, which should be reflected in the figures starting from Q3. In addition, the technical increase in Poland's external revenue will support figures also during 2025 through the Danish divestment. We cut our adjusted EBIT forecasts by 10-12% for 2024-26, after the Q2 result fell short of our expectations.

Financial position strengthened, but the hybrid is not yet redeemed

Debt financing was rearranged during Q2, as a result of which the majority of HKFoods’ loans (110 MEUR) will not mature until 2027, giving the company calm working conditions. The approximately 40 MEUR debts maturing in 2025 will be settled mainly with the selling price related to the Danish divestment (cash payment of 35 MEUR). HKFoods stated that it cannot redeem its expensive 26 MEUR hybrid loan in 2024 due to the covenants of its new financing agreements. In our assumptions, the hybrid will be redeemed in 2026, which requires good performance.

The expected return is weak at the current valuation level and without dividend

With our current forecasts, we still consider the stock's valuation high. Adjusted EV/EBIT ratios are 13x with 2024 estimates and 10x with 2025 estimates, the first of which exceeds the level we consider fair (~10x) and the second still contains significant uncertainty considering the historical profitability challenges of the company and industry. The low net result and the absence of dividend yield caused by the financial situation substantially weaken the expected return. The stock would be attractive if the earnings turnaround we predict materializes and the company cuts its debt burden and reduces its financial expenses. However, a significant reduction in the debt level and financial expenses will take several years, so we reiterate our Reduce recommendation.