Two of the biggest sugar producers in eastern Europe – Russia’s Rosagro and Ukraine’s Astarta – have had very different experiences in the first half of this year. Ukraine’s sugar business is sweet, but Russia's has gone sour.

​It’s reporting season and it has been a hard season for farmers and food producers. This year May was plagued by storms that turned fields across the regions into quagmires. The upshot is the harvest in Russia and Ukraine has been delayed by anything between three days and three weeks, depending on the region and the product. And it is still not clear how badly the poor weather will hit yields.

However, the impact on the bottom lines of firms producing sugar has been very different in Ukraine and Russia, which highlights the differences between the two markets for agricultural goods. Ironically, Ukraine benefits from its very backwardness, while the top Russian firm, although having a much bigger business, is being hurt by its own sophistication and the increasingly tense competition from a much more developed market.

In general, Russia is on course to bring in a decent harvest of about 100mn tonnes of grain, down on last year’s record 119mn tonnes, but still above five-year averages. The May showers have brought more mud than flowers for the Russian economy: last year agriculture was the only sector to grow; this year it contracted by just under 1%. Particularly painful was a spike in fruit and veg prices (the price of a cabbage jumped from RUB30/$0.50 to RUB80 in some regions) which has caused inflation to tick up 0.3% points in the last month, causing a headache for the Central Bank of Russia (CBR).

Ukraine is having similar problems, but there the impact on growth has been even larger. The early harvesting has also started in Ukraine and is also a bit late, but agricultural production has fallen a lot harder, down 4.6% year-on-year in June, with the pace of decline accelerating from 3.0% y/y in May. All-in-all agricultural production was down 2.1% y/y in the first half of the year, but the season is not over and so there is still time to make good for the slow start.

The effect on the companies has been mixed. Russia’s Rosagro, the country’s second-largest agro-company that sports a youthful management and no-nonsense attitude to producing from field to supermarket shelf.

“Russia has always been a good investment for agriculture and food,” Maxim Basov, CEO of Rosagro told bne IntelliNews in an exclusive interview. “There is a large market for food with relatively high prices, as a lot of the food has been imported. And the country has all the basics – wheat, barley, corn, sunflower – that can be produced at a low cost, processed and sold retail at high prices to the local market.”

The company had excellent years in 2015 and 2016 with profits soaring as it has been one of the big winners from Russia’s 2014 ban on the import of EU agricultural (and later Turkish) agricultural goods in response to EU sanctions over Crimea. But this year has been harder.

The company just reported first second-quarter results that saw revenues down 8% y/y to RUB19.1bn ($316.8mn), with most of the damage being done by a harsh 23% fall in its sugar business, where both prices and sales were down thanks to a sugar oversupply on the market.

“Further rerating is in our view subject to improving returns within the sugar business and the launch of greenfield pork breeding capacities from 2018,” VTB Capital (VTBC) said in a note.

 

 

Currently, sugar is the most profitable business and makes up about half the company’s revenues and an even bigger share of its profits. Sugar is the only market in Russia that is still protected under WTO rules with an import duty of $140-$230 per tonne, says Basov.

Russia imports half a million tonnes of sugarcane a year from a total domestic sugar consumption of 5.5mn tonnes a year and Rosagro controls about 15% of the market, which makes it the second largest player in the sugar business, producing some 600,000 tonnes of sugar beet and 200,000 tonnes of cane sugar a year.

The devaluation of the ruble initially boosted this business, as sugar prices are linked to the global price and so became more profitable as the ruble tumbled. The company had already modernised its sugar beet processing plants before the ruble crashed at the end of 2014, and it further increased profits by a number of branded sugar products sold directly to supermarkets from the cheap “Russian Sugar” through to premium brands such as “Mon Café” and “Brown” that dominate their various niches.

The rest of the business is doing well as Rosagro uses the same strategy of going up the value chain to improve profits. While sugar was down, meat sales were up. To the plus, Rosagro’s meat business, lead by pork production, is growing and this is one of the most dynamic segments of the agricultural sector.

In the second quarter, Rosagro’s meat revenue was up by 25%, driven by both prices and sales volumes. Pork prices were strong during the quarter and grew 16% y/y and 9% q/q to RUB102/kg ($1.70/kg), seeing a recovery in consumption after the end of Lent. At the same time, the product mix is shifting towards more value-added products: livestock sales volumes were down 23% y/y, while carcass and cuts up were up between 7-63%.

Things are also not going so well in oils and fats, with over all revenues down 11% y/y as prices were up, leading to a fall in sales. Mayonnaise is a central ingredient on any Russian table, but the upshot is even more than with sugar, the competition in the mayonnaise business is extremely intense and Rosneft has seen heavy falls in the production and sales of its brands of mayonnaise. Analysts worry that the company is fighting a losing war on this front.

 

Oil & Rosagro Fats Production tonnes	1Q16	2Q16	3Q16	4Q16	1Q17	2Q17	Change y/y
Mayonnaise	14,800	17,900	19,500	21,400	14,600	14,900	-20%
Margarine	9,400	7,500	7,300	12,400	9,900	6,600	-12%
Oil	55,400	43,900	32,700	46,700	53,800	57,200	8%
Oilseeds meal	70,759	48,100	11,500	44,400	61,500	67,800	21%

 

The company is doing well, but given the fast growth of the last few years it is no longer flying. For example, it had a very ambitious plan to build three 100-football-field sized greenhouses in Siberia and the Russian Far East, but these have been iced after the cash-strapped government withdrew its offer of subsidies, without which the project is not economic viable.

However, the investors still like the stock, which is up 13% over the last month and now trades on 2017F EV/Ebitda of 6x, reports VTBC, which has a Buy rating on the name and a 21% upside.

 

RusAgro financial forecasts
	2013	2014	2015E	2016E	2017E	2018E	2019E
Revenues	36,490	59,112	73,419	91,867	102,235	111,890	129,658
EBITDA	6,784	18,069	24,544	27,126	28,389	31,103	35,663
EBITDA margin	18.60%	30.60%	33.40%	29.50%	27.80%	27.80%	27.50%
Net income	3,202	20,177	22,062	19,054	19,509	21,806	25,119
EV/EBITDA, x	22	8.2	6.1	5.5	5.2	4.8	4.2
P/E, x	46.2	7.3	6.7	7.8	7.6	6.8	5.9
Source: company data, Gazprombank estimates

 

Astarta – sweet success

 

Things are going a lot better in Ukraine. Despite the war in the east of the country the leading agricultural companies were already hardened by the chaotic situation in the country and the fighting is only one more distraction they have ignored.

Astarta is one of the leading agricultural companies in the country and saw sugar sales soar by 58% in the first half of this year, while crop sales more than doubled. Astarta operates eight sugar plants in Ukraine, but like Rosagro the company is in the processes of diversifying.

Ten years ago, the share of sugar production in the overall revenues of Kyiv-headquartered agricultural giant stood at more than 70%. “That is when we set ourselves the task of diversifying our business segments. This [diversification] is the strength of the company,” Mykola Kovalski, director for marketing and communications, recently told bne IntelliNews in an exclusive interview.

The company is having a much better year than its Russian peers. As bneIntelliNews reported in May the January-March, net revenue doubled then y/y to €148mn. And that is despite the fact that  the sugar market in Ukraine shrunk as a result of the annexation of Crimea in 2014 and the conflict in the Donbas, as Kyiv no longer controlled part of this region. “Before, the market was worth about 2mn tonnes, but now it is about 1.6mn tonnes,” according to Kovalski.

Also a significant portion of confectionery products made by Ukrainian companies used to be supplied to Russia and the countries of the Eurasia Economic Union (EEU), but today this export has dried up.

Sugar sales made up €69mn and were backed by strong export sales as well as a 2.6-fold surge in sales of its crop production (to €49mn). Astarta also reported a record-high share of export revenue in the quarter, which reached 73% of all sales as the company re-orientates away from the domestic market and to exports. That has also alleviated FX risks, something that Rosagro’s focus on the domestic market remains exposed to.

The company kept up the momentum in the second quarter with 81,200 tonnes of sugar sales up 8% y/y – slightly less than half of Rosagro’s 193,900 tonnes, which operates in a market three-times the size – according to its trading update published on July 21. Sugar prices are falling in Russia, but they are rising in Ukraine, up 18% y/y in hryvnia terms.

The difference between the two firms is Rosagro has diversified both vertically and horizontally, whereas Astarta has largely diversified only horizontally – but to good effect.

Astarta’s sale of grains have grown even more strongly than its core sugar business: the sales of wheat, corn, barley and sunflower surged 154% y/y to 196,000 tonnes in the second quarter, while the sales of soybean oil and soybean meal decreased 17% y/y and 13% y/y, respectively, reports the Concorde Capital in Kyiv. But all said and done Astarta is much more focused on sugar and bulk production than Rosagro.

“Based on the above operational results, we estimate that Astarta’s total revenue rose 67% y/y to €245mn in 1H17, including revenue from sugar sales of €104mn, which rose 78% y/y. Sugar prices remain strong in Ukraine, allowing Astarta to generate most of its profit from its sugar business, while we see the risk of domestic prices decreasing in 2H17, as global trends suggest. Nevertheless, the company’s strong operating results allow us to confirm our positive view on Astarta stock, which trades currently at 3.0x EV/LTM Ebitda,” analyst Alexander Paraschiy of Concorde Capital said in a note.

While Ukrainian blue chips don’t see much action on the public markets, they are also following Russia as they change their attitude to their equity, seeing it more and more as a source of investment capital.

In May, Fairfax Financial Holdings, a Canadian asset manager with $27.6bn in equity, made a landmark investment into Ukraine by buying the second largest stake in Astarta, bring its holding to 28% of the total. Viktor Ivanchyk, Astarta’s founder and CEO, remains the largest shareholder with a 36% stake.