Food ingredients company Treatt (LSE: TET) is used to providing sweet things for customers. It has proved fairly sweet for long-term investors too, with the shares more than tripling over the past decade.
The shares have fallen 31% so far this year, however, and are down 9% over five years. As its latest trading statement issued today (10 October) shows, business continues to move forward well at the company. So, has the markdown in the Treatt share price been overdone?
Impressive performance
In my opinion the market update, covering the company’s most recent financial year, showed a business firing on all cylinders.
Revenues grew 5% year on year, tax before profit and exceptional items Is expected to come in 11% above the prior year and net debt more than halved, to around £10.5m.
The company has also been setting itself up for future success. It has finished its UK site consolidation as well as seeing growth in its Chinese and coffee businesses in line with expectations.
Some less tasty risks
One of the risks to food companies in recent years has been the impact of ingredients price inflation and whether passing that on to customers in the form of higher prices could hurt sales. I still see that as a risk for Treatt, so was pleased that the update said the business has successfully changed prices to recover such inflation. That is preferable to cutting profit margins, in my view.
Of course, there are other risks.
The company’s premium line of products saw no revenue growth. That could suggest consumers are tightening their belts. A worsening economy could mean the division sees reduced sales this year.
But on balance, Treatt looks like it has the makings of a resilient, proven performer. It benefits from having its own production facilities and some unique products, helping set it apart from rivals.
Share price is not cheap
So why has the share price been tumbling?
I think the issue here is one of valuation. Yes, Treatt is a strong business. But using last year’s confirmed earnings (not the provisional information in today’s statement), its market capitalisation of over a quarter of a billion pounds puts it on a price-to-earnings ratio of 24
Given the company’s modest revenue growth and decent but unremarkable net profit margins (under 10% last year), I think that valuation continues to look high.
I would not be surprised to see the share price fall further, especially if its outlook worsens at all, due to lower demand or higher costs.
Long-term view
As a long-term investor, I like the characteristics of the business.
Although revenue growth is modest at the moment, I think profitability could increase notably in the next several years. The capital expenditure associated with the factory building and site consolidation of recent years has been completed. Hopefully now the efficiency gains could feed through to higher profits.
However, I see the share price as already factoring in such potential. For now, I do not think the shares are a bargain. I have no plans to add them to my portfolio.
