Seeking Alpha
Randy Durig, Durig Capital (109 clicks)
Bonds, registered investment advisor, portfolio strategy, foreign companies
Profile| Send Message| ()  

Each week we screen thousands of corporate bond listings to find what we believe is currently the best corporate bond for investors needing or seeking higher yields with the least amount of risk possible relative to its projected return. This week, we revisit a remarkably short 21 month Yankee bond (in US dollars) from AvangardCo IPL (OTC:AGVDY), one of the leading agro-industrial companies in the Ukraine. Although this bond is not rated by Moody's or Standard & Poor's, Fitch Ratings in the month of November 2013 downgraded the company's long-term foreign currency Issuer Default Rating to 'B-' while retaining local currency Issuer Default Ratings (IDRs) at 'B', but has upgraded the company's National Long-Term Rating at 'AA+'. Considering that it has a 10% coupon and that it currently priced only slightly above par, we see this debt instrument as offering both excellent cash flow and sound diversification away from the financial services sector of the global economy, and are advancing it to an overweight position within our Fixed-Income1.com and Fixed-Income2.com portfolios.

A look at the issuer

AvangardCo Investments Public Ltd. is a Ukraine-based company engaged in the agricultural industry, specifically in the production and export of shell eggs and egg products. Its principal activities includes: keeping of technical laying hen, production and selling of eggs; production and sale of day-old chick, farming of young poultry for sale and poultry; production and selling of mixed fodder and processing of eggs and selling of egg products. The company was founded by Oleg Romanovych Bakhmatyuk in 2003 and is headquartered in Kiev, Ukraine. The company owns and operates each of the key stages of production cycle: hatchery, feed production, grow out and layer farms, egg processing. AvangardCo IPL is the leading producer of shell eggs and egg products in its home market of Ukraine and Eurasia, and is second globally only behind US Cal-Maine Foods, Inc. (CALM), which is headquartered in Jackson, Mississippi. The global market for chicken eggs continues to demonstrate double-digit growth, which is largely driven by emerging markets, and the company has achieved considerable progress in promoting business to foreign markets. The core strategy of AvangardCo IPL, therefore, is to continue growing both globally and domestically by capitalizing on its unrivaled scale, technology, vertical integration and cost leadership achieved in no small part by successfully leveraging Ukraine's comparative advantage in cheap feed.

While crop yields in the Ukraine have remained significantly below the European Union average due to a heavy reliance on inefficient farming techniques, agriculture technology groups such as Monsanto (MON) and DuPont Pioneer, the agricultural division of E.I. du Pont (DD), are seeking to help Ukraine boost harvests by providing higher quality seeds and other agriculture products. DuPont Pioneer has built a logistics centre to support strong sales growth in Ukraine, and has begun construction of a $40m seed production facility in the country. Ukrainian agriculture is rapidly modernizing, and the regional director for DuPont Pioneer, Jeff Rowe, sees the Ukraine as "one of the fastest-growing agriculture markets in the world and an important player in the global food security issue" and is confident that the country will reach the government's goal of 80m metric tonnes of grain by 2015.

AvangardCo employs over 5000 persons and its plants are located in 14 regions of Ukraine and the Autonomous Republic of Crimea. Its 9M2013 total poultry flock increased 14.6% year-over-year to 31.4 million heads (9M2012: 27.4 million heads), with its number of laying hens growing by 13.9% to 24.6 million and producing 5.1 billion eggs in the first nine months of 2013. While the majority of its production was sold as shell eggs, a spurt in demand for dry egg products resulted in about 15.5 thousand tons being produced as dry egg products, a 47.4% increase over the 10.5 thousand tones in the same period of 2012. Irina Marchenko, Avangadco chief executive said: "These results demonstrate the success of our chosen strategy. We have further increased production of dry egg products, and as a result, the share of this segment in the total revenue has grown."

The company's facilities are among the most technologically advanced in the Ukraine and in the past couple of years, the company has focused on two value enhancing strategies:

1. Direct sales in supermarket chains and brand development domestically. Over 35% of its shell eggs are now sold through supermarkets unbranded and rest under the brand Kvochka ('Mother Hen') brands, Organic Eggs and Domashni ('Homemade'). Packaged shell eggs are sold in more than 2,400 retail outlets throughout Ukraine. The share of sales of products under the brand "Kvochka" in the market of packaged products is steadily increasing.

2. International exports. In the ongoing current year the company exported its products to 33 countries, primarily to the Middle East, North Africa, and the Central/Far East Asian markets. Ukraine has recently received approval to export egg to Europe, and could begin shipping to the EU early next year. Poultry meat exports have already begun. This will surely boost exports despite high tariffs due to unavailability of free trade agreement with EU.

Last year AvangardCo's sales accounted for a 52% share of the industrial production of eggs and 88% of the egg processing market in the Ukraine. It continues to execute on its stated strategy to become the number one egg producer in the world, and aims to increase its total capacity to 30.1 million laying hens and 8.6 billion eggs by the end of 2013. Also planned is the expansion of its Imperovo production facilities from 3 million to 10 million shell eggs per day, as well as the construction of biogas plants to efficiently utilize chicken manure.

We like companies that are profitable

The Group's revenues and net profit have increased significantly in recent years. As of 30 September 2013, revenues amounted to US$466.5 million, a 4.7% increase over the previous year's 9 months revenue of US$445.8 million, and EBITDA improved 5.7% to US$ 205 million, compared to US$194 million during the same period.

AvangardCo IPL ($ in millions):

9M 2013

9M 2012

2012

2011

2010

2009

Revenue

466.5

445.8

629.3

553.3

439.7

319.9

Rev Growth %

4.7%

13.7%

25.8%

37.4%

EBITDA

205.0

194.0

279.8

245.8

194

152.1

EBITGrowth %

5.7%

13.8%

26.7%

27.5%

Oper.Profit

186.3

182.5

264.5

231.5

180.9

139.8

OP Margin %

39.9%

40.9%

42.0%

41.8%

41.1%

43.7%

Finance Exp.

24.8

25.5

36.3

31.6

(4.1)

Net Profit

162.0

157.0

228.2

196.3

185

133.7

Profit Growth

3.2%

16.3%

5.3%

38.4%

Total Debt

320.1

336.1

352.2

318.1

Total Cash

121.0

177.8

204.3

237.8

Net Debt

199.1

158.3

147.9

80.3

Interest Coverage Ratios

AvangardCo's EBITDA margin stayed at about 44% of sales for both 2012 and 9M 2013, which is notable considering the substantial growth in the scale of its operations and its ambitious investment program, which was marked by the launching of the first phase of new capacity at its new egg production complexes of Avis and Chornobaivske. With EBITDA reported at $205.0 million, earnings appear to be at about 8.3 times its interest expenses.

We like companies with lower debt to cash ratio

AvangardCo's total financial debt at the end of 3Q 2013 was $320.1 million, the major part of which is in US dollars, while cash and short term deposits were $121.0 million. This more than 2 to 1 debt to cash ratio is little on the upside, but it's not surprising or alarming here given the company's strong cash flow.

We like companies that have good balance sheets

The company's current market capitalization is about $750 million, putting its net debt to enterprise value at about 21%. As a result of closely held ownership, its shares don't appear to be traded with any significant volume. However, with its net debt being less than $200 million and its balance sheet rapidly improving, a company sporting such high margins of profitability and strong growth in cash flow should have little difficulty in accessing additional capital through the equity markets if it were deemed necessary or desirable.

We like higher yields

This five year $200 million US dollar denominated debt of AvangardCo was issued in October of 2010 at the coupon rate of 10.0%, payable semi-annually. Its principal amount appears to be non-callable except in instances of a change in control of the company (at a 1% premium) or if a specific favorable tax treaties outside the direct control of AvangardCo changes. Acquiring this bond at a modest premium to par would result in an indicated yield to maturity in 2015 of nearly 9%, and provide added strength to the high cash flow in our client's foreign and world fixed income holdings.

When comparing the yield, maturity, and expenses of both the iShares Emerging Markets Corporate Bond (CEMB) and the iShares J.P. Morgan USD Emerging Markets Bond ETF (EMB) to these AvangardCo Holdings, Yankee bonds, the iShares instruments appear to have lower yields, longer average maturities, higher expenses, while offering only a slightly better average credit rating. In an environment of rising interest rates, we think there are notable advantages to shorter, maturity certain, bonds. However, we acknowledge that a widely diversified bond portfolio does mitigates the default risk of any one issue, and we offer the following chart for comparison purposes only.

Name

Yield

Expenses

Maturity

Average ratings

iShares Emerging Markets Corporate Bond

4.62%

0.60%

5.38 years

BB

iShares J.P. Morgan USD Emerging Markets Bond ETF

5.04%

0.60%

11.47 years

BB-f

AvangardCo Holdings, Yankee bonds

8.80 %

0.50%*

1.75 years

B-

Comparisons

The AvangardCo Holdings, Yankee bonds a 92 % higher boost in yielding than the J.P. Morgan ETF.

AvangardCo Holdings, Yankee bonds cost 16% less to own then either ETF.

AvangardCo Holdings, Yankee bonds 67% shorter than the short CEMB ETF.

AvangardCo Holdings, Yankee bonds is rated a whole grade lower than EMB.

*This is a proposed cost only.

Risks Considerations

The default risk is AvangardCo's ability to perform. Considering their historical and recent performance, their flexible balance sheet, their sound cash position, and the excellent cash flow that is projected to service their interest bearing debt, as outlined above, it is our opinion that the default risk for this short to medium term bond is minimal relative to its more favorable return potential.

A harder risk for us to identify is the geopolitical risk. Power politics from Moscow continues to place pressure Ukraine's economy, as Ukrainian President Yanukovych recently refused to sign a landmark trade agreement with the European Union. However, the forces of democracy, globalization, trade, economic reforms and technology should give Ukraine much greater freedom of action. Although liberalization and freedom is difficult to achieve in the short term, we expect that it yields long term economic benefits and it is our opinion that diversification into variegated debt instruments within vital or key industries in nations around the globe serves to reduce overall portfolio risk. Our strategy here, as with other Yankee bonds, is to focus on unique or required services that can be seen as a adding key economic value to the society it's associated with. AvangardCo's egg production is a basic need for any society, and is the largest producer in its homeland.

AvangardCo's margins are sensitive to the cost of feed, which is affected by trends in the international and domestic prices, as well as by the exchange rate of the Ukrainian hryvna. However, given its position in the market and that eggs are widely considered a food staple, the company should be able to retain some degree of pricing power its production cost rise significantly.

Other risks the poultry and foods industry may be exposed to involve outbreaks of bird flu and other livestock diseases, product liability claims and product recalls in connection with contamination of Avangard's products. AvangardCo seeks to minimize these risks by utilizing advanced technologies.

We believe that these AvangardCo bonds have similar risks and maturities to other Ukrioane High Yielding Yankees bonds such as 10.7%% Myria Agro bonds, 9.6% Ferrexpo bonds, or review our first article published May 21 2013 on AvangardCo on our Bond-Yields.com blog.

Summary and Conclusion

It is our opinion that AvangardCo has positioned itself well for the future as a leading global provider of eggs and egg products from one of Europe's richest farming districts. It has a good cash position, excellent earnings and interest expense coverage, and an improving balance sheet. As a result, we believe these AvangardCo's bonds offer an extremely attractive and high yield relative to its exceptionally short maturity and the financial risks that we can identify, and have therefore targeted it for an overweight position within our Fixed-Income1.com and Fixed-Income2.com portfolios.

Issuer: AvangardCo

Coupon: 10.0%

Ratings: B- (Fitch)

Maturity: 10/29/2015

CUSIP: M15537AA7

Price: 101.9

Yield to Maturity: ~8.8%

Disclosure: Durig Capital and certain clients may have positions in AvangardCo 2015 bonds. I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Source: Eggs-Cellent 8.8% Short-Term Yields With AvangardCo's 21 Month Yankee Bonds