Join our community of smart investors

Transformation heralds sweeter future for Tate & Lyle

This food ingredients business is restructuring, with a major sale due to complete by the end of March
February 24, 2022

Thoughts of Tate & Lyle (TATE) are likely to conjure up images of golden syrup or, for the connoisseur who enjoys a more bitter-sweet dessert, black treacle.

Tip style
Growth
Risk rating
Medium
Timescale
Medium Term
Bull points
  • Strategic transformation on track
  • Inflation offset by pricing contracts
  • £500mn special dividend expected
Bear points
  • Reliant on health trends
  • Lower earnings base

It’s now been over a decade since the group sold its sugar refining operations for more than £200mn, with the lingering association demonstrating the power of branding and good products, as the business moved to a focus on food and bulk ingredients.

 

A tasty transformation

Tate is now going through another reboot. A strategic transformation programme was announced last July, which will see the group split into two businesses and focus on providing healthier product alternatives. More fibre and innovative healthy ingredients, and less sugar and fat, is the sort of thing that Tate is going for.

The core business, known as New Tate & Lyle, will contain the food and beverage solutions (FBS) and sucralose segments. This will amount to a “growth-focused global speciality food and beverage solutions business” lasered in on high-growth markets.

The second business has been hived off into an entity known as NewCo, which focuses on “plant-based products for the food and industrial markets”. This consists of Tate’s North America and Latin America primary products (PP) business, which produces sweeteners, starches, acidulants, and animal nutrition products. Operations include corn wet mills in Indiana and Tennessee, and acidulants plants in the US and Brazil.

Tate is selling its controlling stake in PP to US private equity firm KPS, with the transaction expected to complete by the end of March for net cash proceeds of around $1.2bn (£0.9bn) after transaction costs. Meeting the definition of held for sale, it is currently accounted for as discontinued operations.

NewCo will be a joint venture, meaning Tate gets to keeps a 50 per cent equity stake in the business, benefit from the free cash flow and dividends it generates, and bank any future uplifts in valuation. Operational and board control will cede to KPS.

Given PP’s drag on group-wide profitability, the disposal is understandable. In the six months to 30 September, the division posted an adjusted operating margin of 6.3 per cent against 39.3 per cent for sucralose and FBS’s 18.6 per cent. By separating out this lacklustre contribution to earnings generation, Tate can make progress in lifting its operating margin after several years of treading water – the five-year average is 10.5 per cent. Half-year results provided a neat illustration of this: with NewCo cut from the income statement, the core business delivered a margin of 14.8 per cent.  

Investors will be keenly looking out for one potential outcome of the transaction. Tate expects to distribute a special dividend of £500mn from the deal proceeds, an amount just shy of the total dividends paid over the last three and a half years. The rest of the cash will be used to strengthen the balance sheet.

The deal will lower the earnings base – consensus forecasts are for group sales of £1.5bn for the 12 months to March 2023, down from £2.8bn in 2021 – but looks set to make Tate a more streamlined and higher-margin business.

 

FBS: sweet, not saccharine

Divested of the primary products business, the key to the group’s prospects is FBS. This part of the business develops and sells healthier ingredients to help food producers to lower sugar, calories, and fat in beverages, dairy products, soups, sauces, and dressings. FBS took almost 60 per cent of operating profits at the half-year mark, compared with 35 per cent from PP.

In those results, FBS volumes rose 9 per cent and revenue spiked 19 per cent to £528mn as both in-home and out-of-home related products performed well. Revenue was also up by a fifth against the 2019 pre-pandemic comparative.

Tate’s transformation will streamline operations and allow FBS to reap more benefit from the growth in health-conscious consumers. Customers increasingly desire products with fewer calories and less sugar, and with health labels that come up green rather than red. Pointing to FBS’s four-year track record of organic growth, Berenberg analysts argue that a focus on sugar reduction, clean label and gut health highlights “the relevance of Tate & Lyle’s portfolio and management’s ability to capitalise on innovation opportunities”.

This isn’t to paint the group’s end markets as entirely predictable, mind. Tate’s focus means its success is linked to consumer food and health trends, which can be finicky. Questions have also been raised about fluctuating demand levels for plant-based foods, NewCo’s backbone.

 

Progress and prospects point to re-rating

But recent signs suggest that investors should feel cautiously cheery. The latest trading update, covering the 2022 financial year's third quarter to 31 December, impressed the market, which sent the shares up 10 per cent. There was good reason for this, with an announcement of constant-currency revenue growth of 18 per cent for New Tate & Lyle and positive noises made on inflationary pressures.

FBS performance drove the revenue increase, with sales up 19 per cent and volumes by 6 per cent. The sucralose division, which makes the no-calorie sweetener Splenda, enjoyed a smaller 8 per cent revenue jump.

New product performance has been particularly impressive. These sales were up by 54 per cent against the comparative. The Sweet Green Fields stevia business, which was bought near the end of 2020, has been a standout performer, and suggests that Tate’s openness to innovation and acquisitions are paying off.

While further spikes in inflation could prove problematic for the business, Tate & Lyle’s place in the food chain of food production gives it a degree of protection, further enhanced by strong contract pricing. Chief executive Nick Hampton said as much in his summary of third-quarter numbers, when he remarked that both businesses “have renewed 2022 calendar year customer contracts that offset inflation”.

In a volatile inflationary environment, this stands the group in good stead. Add on to this the fact that – according to Berenberg analysis – over 80 per cent of the group’s FBS business in America and Europe uses annual contract pricing, and Tate looks relatively well sheltered from pricing issues. At least for now.

Tate has committed to tough but reasonable medium-term targets for the five years following completion of the KPS deal. Management expects mid-single-digit organic revenue growth per year, operating margin growth of a minimum of 50 to 100 basis points per year, and a 50 basis point hike in the average organic return on capital employed per year.

If Tate can harness the growth potential of FBS and make a success of the KPS deal, then these targets look achievable.

The market is starting to warm to the story. The shares trade on a consensus 17 times forward earnings, above the five-year average of 14. But this still looks undervalued given the group’s growth potential, driven by the FBS business. It also looks cheap when set against specialty ingredient peers: Kerry (IE:KRZ) and Sensient (US:SXT) are trading at 26 and 24 times forward earnings, respectively.   

In a recent note to clients, analysts at Berenberg said that “following the completion of the PP separation, we expect a material re-rating towards speciality peers”. If that fails to occur, the brokerage believes the group's attractive mix of balance sheet strength, growth and expanding margins could make it a takeover target. With a dividend yield of over 4 per cent and solid prospects with its strategic transformation, it is worth picking up a low-sugar beverage and taking a look at Tate & Lyle.

Last IC View: Buy, 695p, 4 Nov 2021

Company DetailsNameMkt CapPrice52-Wk Hi/Lo
Tate & Lyle  (TATE)£3.58bn756p821p / 624p
Size/DebtNAV per share*Net Cash / Debt(-)Net Debt / EbitdaOp Cash/ Ebitda
314p-£339mn0.9 x83%
ValuationFwd PE (+12mths)Fwd DY (+12mths)FCF yld (+12mths)P/Sales
172.6%4.8%1.3
Quality/ GrowthEBIT MarginROCE5yr Sales CAGR5yr EPS CAGR
8.6%13.9%3.6%9.2%
Forecasts/ MomentumFwd EPS grth NTMFwd EPS grth STM3-mth Mom3-mth Fwd EPS change%
0%10%11.6%-0.4%
Year End 31 MarSales (£bn)Profit before tax (£mn)EPS (p)DPS (p)
20192.7629952.029.5
20202.8832557.829.8
20212.8133561.230.7
f'cst 20221.3617242.622.1
f'cst 20231.5122844.919.7
chg (%)+11+33+5-11
Source: FactSet, adjusted PTP and EPS figures
NTM = Next 12months
STM = Second 12 months (ie, one year from now)