Associated British Foods dragged down by Primark guidance

Associated British Foods (ABF) couldn’t escape the consequences of a less than rosy outlook statement. The shares were marked down by over 5 per cent after the company said that it expects revenue growth at Primark to weaken in the second half of the year due to concerns “about the resilience of consumer spending in the face of ongoing inflation in the cost of living and higher interest rates”. Continuing cost challenges – freight and utilities inflation have softened but labour costs are expected to rise further – and the decision to protect the brand’s value reputation by not fully recovering input cost inflation meant that management guided for an annual adjusted operating margin of around 8.3 per cent for the retail side of the business, a contraction from the 9.8 per cent posted in 2022. The market wasn’t overjoyed.

But there were also some major Primark positives to take from these results. The top-line performance in the half was robust, with sales up by 19 per cent to £4.2bn on the back of higher prices and volumes as footfall improved and new stores were opened. The company announced plans to develop a “significant presence” in the southern states of the US, with a second American distribution centre being constructed and leases expected to be signed in the coming months. Meanwhile, the company’s click and collect trial has delivered “encouraging results” and will be extended to 32 stores. And the board is bullish about getting the Primark margin back above 10 per cent. This all bodes well for the future of the division.

While Primark usually takes the headlines when it comes to ABF, which is unsurprising given it is by far the largest part of the business, it shouldn't be ignored that the company’s food divisions put in a solid shift in delivering an aggregate 23 per cent revenue increase to over £5.3bn. Grocery sales were up 16 per cent, sugar up 30 per cent, agriculture up 17 per cent, and ingredients up 36 per cent. The latter division posted a notable 62 per cent increase in cash profits. Cost pressures were also evident across food segments too, though, particularly in grocery and agriculture. 

City analysts value the shares at a consensus 15 times forward earnings, according to FactSet, which represents a 7 per cent discount to the 5-year average. Broker Shore Capital argued that “we see tailwinds building across the [company’s] categories for FY24 and beyond”. But this already looks baked into the rating. Hold. 

Last IC view: Hold, 1,975p, 27 Feb 2023