MHP S.A. (OTC:MHPSY) is Ukraine's leading agricultural business. The company is producing mainly poultry and is highly vertically integrated. This model includes breeding facilities, grain production, the production of fresh, frozen and convenient food.
MHP is distributing its products not only domestically but also to the European Union, North Africa and the Middle East. Exports to the Russian Federation have been banned lately. The company's plant and sites are spread over the whole country and include large fields in Russia since 2013. These fields are used for the production of grain. The latest military conflicts in the eastern part of the country led to the temporary closure of one breeding site due to security issues. The needed young chickens (app. 30% of the company's demand) are now bought from European suppliers. Furthermore, the management decided to re-equip another plant to compensate for the loss of productivity. Apart from that, the company runs its business as usual. The facilities in the Crimean area operate as well.
The current share price is reflecting the overall uncertainty.
However, the political crisis in the region has indirectly affected the company's results: The massive depreciation of its national currency against the US dollar has caused negative results due to foreign exchange losses.
This is especially painful, as the company is strongly improving its exports and foreign sales. The monetary situation for the country becomes clearer, when we take the specific CDS in consideration. It stands at 1884 basis points at the moment. This means that insurance against default costs 18.43% premium.
(Source: Deutsche Bank Research)
As the chart shows, the probability of default has nearly doubled since June 2014.
This general picture holds true for the overall Ukrainian economy and is partly responsible for the depreciation of the local currency and hence the weak results for MHP.
Our claim is that while the weak currency undoubtedly influences MHP's results over the short term, the general downturn towards its all-time lows is overstating the political and currency risk in this specific case.
The specific default risk
We suggest that a look at the company's bond performance gives a good idea of how much risk is associated with the company and its ability to pay interest. The soon maturing 2015 issues are trading close to par. This shows that the bond market trusts the company to pay interest and principal as planned next year. The 2022 issue is currently trading at a significant discount, while the overall yield to maturity is similar to the short-term issues. It is reasonable to assume that the discount here might be based on the general unclear situation in the company's domestic market.
The company's performance has been quite impressive during the last 12 months. Before accounting to foreign exchange losses, MHP improved its revenue and increased exports. The domestic demand remains stable within the typical fluctuations. Without going into further detail here, we think that these are indicators for a capable management. A nice dividend was paid for 2013. I doubt that the company will be able to pay a similar amount for 2014 under the impression of currently negative earnings.
If the political situation improves in the region and approaches an equilibrium again, we assume that the Ukrainian currency will recover. This would then lead to a sudden spike in the company's earnings and probably push prices higher quickly. Under depressed circumstances like these, investors might be looking at an attractive buy here. The good thing is that the business is extremely stable and constantly growing its revenue-stream. The only (!) problem is the weak currency. I therefore assume that once the currency issue becomes less relevant, the company will be able to report surprising earnings and the shares could trade at higher multiples than today.
MHP is a very important poultry producer in Ukraine. While its operations run smoothly and show constant growth, the share price has suffered with the depreciation of the Ukrainian currency.
We showed that the default risk, which is partly accountable for the currency decline, is not equally present in the company's bonds.
MHP is operating a stable and growing business. The management is improving the overall business over time with measurable success. Therefore, the company's share price does not fully reflect these efforts.
Once the currency recovers, MHP's earnings will be leveraged by the stronger currency and the improved business cycle of the company.
I think this setup is an interesting constellation for further value-based research.
Please note: The situation in the region remains unclear. A specific time frame seems impossible to sketch. Furthermore, MHP's shares are not very liquid in the US markets. Investors must be careful when considering an investment here. Individual due-diligence is mandatory.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.