Upgrade to Buy: Too much focus on dairy risks, too little focus on self-help potential and margin upside
--> Shares have been driven down by very weak dairy prices
--> Focus on short-term risks however ignores mid-term margin
improvement potential which is significant, in our view
--> Upgrade to Buy (from Hold) with unchanged TP of EUR45.0
(after being weak in 2014 already) and are now close to 50% below the early March level and
at a 10-year low. As a consequence we believe GEA´s share price has come under pressure,
down c22% from its mid-April peak. We believe this share price reaction exaggerates
respective risks, as we see the milk price weakness mostly supply driven and hence see limited
impact on mid-term investment decisions in dairy processing (24% of group sales). Direct
implications should be limited to dairy farming (14% of group sales), but here the high degree
of services revenues (close to 50% of dairy farming) should also help limit potential downside.
We continue to consider GEA`s FY 2015 organic revenue growth guidance of moderate (=2-
4%) growth to be ambitious, but see more upside than downside risks in the meantime, as
consensus already forecasts an organic revenue decline of 0.9% y-o-y in 2015 (down from
+2.7% in early May 2015).
… too little focus on mid-term margin upside: While over-emphasizing dairy risks, we
believe the market neglects the potential mid-term margin upside. GEA targets to attain an
operating EBIT margin of 13-16% from 2017 (after 11.4% in FY 2014), which we see
supported by EUR125m of cost savings related to the “Fit for 2020” progamme, but also by
operating leverage and underlying operational improvements (e.g., in the former Food
Solutions segment). Consensus is only forecasting an operating EBIT margin of 13.4-13.6% in
FY 2017, which is not even considering the full amount of net cost savings targeted by GEA,
let alone other supportive drivers. Our FY 2017 margin estimate of 14.6% is 100-120bp ahead
of consensus but still “only” in the middle of the target range.
Upgrade to Buy from Hold as mid-term valuation looks compelling: FY 2015 and to a
lesser extent FY 2016 will be burdened by significant restructuring charges, so that headline
multiples do not look particularly attractive. Beyond 2016 however we believe valuation is
compelling with GEA trading at around 10% average discount to the European capital goods
sector, despite a more attractive end market structure, attractive structural growth potential and
good margins. Our unchanged TP of EUR45.0 implies c24% upside to the current price;
therefore, we upgrade to Buy from Hold.