French Institutions at Discount on Euronext Paris

Paris' NYSE Euronext Exchange

The view that the European stock market is cheap has been propagated for several months now. When scrutinized, the European debt crisis really has reduced the value of some stocks for the sole reason that they are headquartered and listed in Europe. On Euronext Paris - Total, Sanofi, Louis Vuitton Moet Hennessy (LVMH) and Danone – four French institutions accounting for roughly 31% of the CAC-40 index’s market capitalization and doing most of their business abroad have been affected by the European debt crisis merely by being listed in Europe. This is apparent particularly when comparing them to similar US companies.

Total is a French multinational oil and gas company with a market capitalization of close to EUR 87 billion. Total counts as one of the 6 “Supermajor” oil conglomerates globally and obtains 3% of its profits from France. Its price to earnings ratio (P/E) is around 8.5 currently, compared to the USA’s ExxonMobil trading at 11.5 times. Moreover if we employ another comparison statistic - the prices per barrel of oil held in reserves, Total’s enterprise value is around 11 times total reserves compared to Chevron with 21 times. A simple analysis of this comparison would be that the markets judge each barrel of oil Chevron extracts to be worth roughly twice as much as each barrel for Total. This seems erroneous based on the fact that before the global financial crisis and the eurozone’s own crisis, the two companies traded on an almost identical multiple.

Sanofi Lab

Secondly, Sanofi is the world’s fourth largest pharmaceuticals company by prescription sales and has a current market capitalization of EUR 102.88 billion. Despite only deriving 5% of its profits from France, they trade on a multiple of 14 times earnings compared to 16 times for their competitor Johnson & Johnson.

Meanwhile, LVMH is heavily dependent on Asia rather than Europe for its growth. This is a continuing trend as the Asian middle-class swells. It has a market capitalization of around EUR 66 billion, with its most well-known brands including Dior, Celine, DKNY, Fendi, Givenchy, Kenzo, Marc Jacobs, Loewe, Guerlain, Bulgari, De Beers Diamond Jewellers, Tag Heuer, Sephora, Belvedere, Dom Perignon, Hennessy, Glenmorangie, Krug, Chateau d’Yguem, Moet & Chandon, and Veuve Clicquot. In line with most luxury companies that have high PE ratios relative to other industries, LVMH trades at 18 times earnings compared with 21.5 times for US’ Tiffany.

Lastly, Danone is a leading French food products manufacturer focused on fresh dairy products, bottled water, cereals, baby foods, and yogurts. Their current market capitalization is EUR 34.4 billion. 10% of its profits come from France and 50% of its profits from emerging markets. Danone trades at the same P/E ratio to Coca-Cola despite being much faster growing, which suggests that they are trading at a discount to Coca-Cola. This can be seen by juxtaposing its earnings per share growth since 2007 with Coca-Cola – 95% compared to 70%.

An active stockpicker's portfolio

Therefore, it may be good to take a look around Europe’s stocks and compare them to comparable companies across the Atlantic. These discrepancies are a result of a top-down model of investment run by most major asset managers and hedge funds whereby investment decisions are made based on geography of where they are headquartered and listed. This is why billions of dollars have left Europe since 2007, which may be justifiable from a risk management perspective but is also indiscriminate and has created anomalies. Hedge funds and quantitative trading housing supposedly exist to arbitrage away these anomalies, but having not done so, it is left to the active stock pickers and common individual investors to correct these discrepancies and profit.

Against a Stereotype: Tingyi Noodles

Tingyi Instant Noodle Shelves

Who said the Chinese loved noodles? As often happens, when stereotypes are closely scrutinised they are found to be only half-truths. The Chinese consume 3 kilograms, or 30 standard packets, of instant noodles per person. Meanwhile its neighbours are consuming far more on a per capita basis: Indonesians and Vietnamese eat around 5.6 kilograms or 56 packets of instant noodles per person, Hong Kongers consume 5 kilograms or 50 packets of instant noodles per person, and Japanese consume around 3.9 kilograms or 39 packets of instand noodles per person. It may be down to the working week. For example Hong Kongers work an average of 49 hours a week compared to 43 hours in China and so instant noodles are an excellent quick hot meal. Whatever the reasons, data suggests the Chinese are currently less keen on noodles than its neighbours.

Nevertheless, China is the largest instant noodle market in the world with 44 trillion packets of instant noodles produced in 2013, far higher than second place Indonesia with 14 trillion packets and Japan and Vietnam with around 5 trillion packets. As China develops a larger service economy, expect instant noodle sales to increase as the Chinese work longer hours with a clear trend being that its neighbouring countries have followed the same path.

Within the Chinese instant noodles market, we would look to Tingyi Holding Corporation as the incumbent monopolist to capitalize the most on these growing trends.  Founded in 1991 and listed on the Hong Kong stock exchange in 1996, Tingyi currently controls an over 50% share of China’s instant noodles market. Their flagship instant noodle brand is Master Kong or Kang Shi Fu, which was voted the second most valued brand in China for the past two years (behind only Sony). In the era of big brand augmentation, expect their brand to propel Tingyi’s sales growth. The Master Kong noodles are famed for their salty and oily flavour.

Tingyi Logo

Tingyi reported sales of US$9.21 billion, making 7% growth year-on-year in 2013, down from their five year average growth of 20%. They were forced to lower their profit margins due to the onset of a price war in the mainland Chinese instant noodles market. Far from being a warning, this intimates Tingyi’s adaptability – after all it is the companies most adaptable to change that succeed. This should bode well for Tingyi’s decision to start selling its instant noodles in Taiwan for the first time in 2013. Its major competitors in mainland China are Want Want China and Uni-President. Uni-President is the market leader in Taiwan with 50% share of the US$300 million market.

Tingyi’s various strengths ensure that we remain optimistic about their future outlook in both their major markets, both mainland China and Taiwan. Tingyi have an excellent brand, production base and retail channels in China. Moreover on the macroeconomic level, China’s rising average income and massive urbanisation trend will continue to deliver healthy sales growth to Tingyi’s operations.

The company also produces soft drinks, bottled water, and baked goods. Tingyi gets over half its revenues from beverages, 43% from instant noodles and 2.5% from baked food. Tingyi is PepsiCo Inc’s Chinese partner. Tingyi is the second largest soft drinks company in China’s 67.5 billion litre market, with a 13% share after Coca Cola’s 16%. Meanwhile, Tingyi’s bottled tea products are market-leading in China, with 44% share, whilst its juice products come in second with a 20.5% market share. Moreover, China now consumes the largest amount of bottled water in the world, however they are still below the global per capita bottled water consumption average of 30 litres per person. The top three water brands in China are Tingyi’s Master Kong, Zhejiang Nongfushanquan Water Co, Ice Dew from Coca-Cola and Yibao from China Resources Enterprises. With increased consumer health consciousness in China, bottled water is the lion’s share of the non-alcoholic beverages market constituting 42% of sales. Thus we can expect continued hegemony for Tingyi in terms of its beverages products.

Despite the ongoing tensions between the Chinese and Japanese governments, Tingyi have found bedfellows that are able to assist them R&D-wise in their hegemonic endeavours.  Tingyi formed a joint venture in April 2012 with Japanese trading house Itochu Corporation and Japanese snack maker Calbee to produce snack foods in China. More recently, Tingyi agreed to a joint venture with Japanese beverage producer Asahi and Itochu to further expand their share of China’s US$15 billion soft drink market. This market has grown at a consistent rate of 15% since 1995. The new venture will make tea, fruit juice, health drinks and coffee. Tingyi is banking on Asahi’s strong R&D capabilities and Itochu’s outstanding information collection ability and supply of inexpensive materials to surmount the rapidly changing Chinese beverage market.

Divestiture arbitrage opportunity?

Tingyi is currently trading at HK$22.4 within a 52 week range of HK$18.2 to HK$24. At the current price, it is a good long-term buy. However there may be a divestiture arbitrage opportunity with rumours afloat that Tingyi may consider divesting its food or beverage business with the intention of listing the divested business in order to improve operational efficiency and maximize shareholder wealth.

Bright investments often come down to a combination of luck and discerning patterns. The pattern for consumer staple foods is that a market goes through a boom phase, a slowdown phase, and then there is a fight for consumers centered on marketing spend. We live in a world where control often dictates success. I’m betting Tingyi, with their current market capitalization of US$15 billion and 79,300 employees, will win that marketing war.