The Steaks Are High For Marfrig
Summary
- If live cattle prices fall as predicted by Trading Economics' analysts, then beef price should also fall.
- Unless Marfrig can increase its total volume sold by more than 15% y-o-y, then being profitable for the fiscal year of 2020 is unlikely for them.
- Over the past couple of years, the company sold its Keystone operations to Tyson Foods and increased its ownership of National Beef.
I will begin my analysis of Marfrig in a very unorthodox manner for me due to the glance I had at their balance sheet. Before I get into the results of my study, I would like to explain why I chose to analyze Marfrig (OTCPK:MRRTY). The company has many brands in its portfolio, but only one of them do I purchase. Bassi and Bassi Wagyu are my go-to brands when I want to eat a great steak and are the reason why I decided to analyze Marfrig. A friend of mine owns a steakhouse, and he swears by Bassi too.
Analysts' Target Prices And Recommendations
In Brazil, investor relations departments usually receive the sell-side reports written on their company, and they publish the reports' target price and recommendation on their website. Occasionally, I review this information, but I have never used it as a part of my research until today.
Figure 1 - Sell-side Analysts' Estimates
| Institution | Recom. | Target R$ | Last Update |
| JEFFERIES | Buy | R$ 16.00 | 5/20/2020 |
| BARCLAYS | Buy | R$ 16.00 | 5/19/2020 |
| BANK OF AMERICA MERRILL LYNCH | Buy | R$ 17.00 | 5/18/2020 |
| CREDIT SUISSE | Buy | R$ 16.00 | 5/6/2020 |
| BRADESCO | Hold | R$ 10.00 | 3/30/2020 |
| BTG PACTUAL | Hold | R$ 11.00 | 3/18/2020 |
| ELEVEN FINANCIAL | Buy | R$ 18.00 | 2/20/2020 |
| JP MORGAN | Buy | R$ 13.00 | 2/13/2020 |
| HSBC | Buy | R$ 14.00 | 1/29/2020 |
| CITI | Buy | R$ 14.00 | 1/13/2020 |
| SANTANDER | Buy | R$ 16.00 | 1/6/2020 |
Source: Company's website as of 06/01/2020
If you go to the website, you will see that I have removed the estimates that were last updated in 2019. I remove these three older reports to ensure that any new material changes to the company were considered.
Figure 2 - Target Price Statistics
Source: Company's website as of 06/01/2020
The average target price for MRRTY is R$14.64, and it has a standard deviation of 2.50. Using the data from figure 1, I created figure 2 to demonstrate better a likely price range (+ or - two standard deviations) for Marfirg. The sample size is tiny, and in my opinion, upside biased, so the quantity and quality of the data available will not be useful to produce a 95% confidence interval prediction and so forth.
The maximum target price is R$18.00, and the minimum is R$10.00, with a possible upside of 38% and a downside of 23%, respectively. The target price in USD is 2.81, using an exchange rate of 5.20 (closing price 06/02/2020). There are nine buy ratings and two hold ratings for Marfrig. If we treated the average target price as the base-case scenario, the upside would be 12.4%, not taking into account FX returns. If the BRL/USD increases to my target of $0.20, the total return of MRRTY would be 16.4%. The possible alpha is 5.1%, using a risk-free rate of 0.7% and a 9.9% return from the S&P 500.
I would like to see how many companies each analyst covers and the percent of buy, hold, and sell recommendations for each. As I mentioned above, I believe the data is upside biased, but without more information on the analysts, I am unable to prove it. The goal of this section of the analysis is to see if there is a reasonable basis for me to move further in my study of this company.
Macroeconomic Factors
Marfrig's primary focus is on beef protein, and it recently started investing in vegetable protein. The macroeconomic factors that most affect MRRTY are cattle prices (its COGS) and beef price (its sales). They do add value to their products by producing select cuts and processing hamburger patties for fast-food chains, but their sales margin is minimal, which is why its average gross margin for the past nine quarters has only been 12%. Marfrig results are susceptible to cattle price volatility. They attempt to sell their products based upon beef prices, but their sales price is stickier than the price they pay for cattle. This is the reason why cattle price volatility affects the company's gross margin.
Figure 3 - FED CATTLE COSTS Vs. BEEF PRICE
| FED CATTLE /@ | FED CATTLE $/LB | 1000 lbs STEER | |
| R$ 36.51 | $ 5.37 | $ 5,366 | |
| BEEF R$/KG | BEEF $/LBS | 610 lbs - On The Rail | DIFF |
| R$ 27.74 | $ 11.15 | $ 6,800 | $ 1,434 |
Source: CEPEA prices have the * in the front them, and the rest are my estimates
My estimates are not an exact science. Some steers produce more or less beef than others, the beef price is an average of many producers and different cuts, and it does not take into account the sale of offal (organs, blood, and such) to the pharmaceutical and beauty industry. Also, the average weight of a steer arriving at the slaughter facility is around 1,300 pounds (in the US) and not 1,000. What you need to understand is that if the Fed Cattle (Live Cattle on the CME) price goes up and three to four days later, the beef price either goes does down or is sticky on going up, the difference shrinks and so does the company's gross margin.
Figure 4 - Live Cattle Trends
Source: Trading Economics Live Cattle
From 2016 until 2018, live cattle prices stayed between the $100 to $120 range. This year, live cattle prices have been between the $80 to $100 range, as seen in Figure 4. As you can see in Figure 4, live cattle prices are forecasted to fall between the range of $80 to $90. If live cattle prices fall as predicted by Trading Economics' analysts, then beef prices will also decline. With lower beef prices, we can expect that Marfrig's net sales will decrease, and they should have lower gross profit (not necessarily a lower gross margin, that depends mainly on volatility).
Conclusion
Unless Marfrig can increase its total volume sold by more than 15% y-o-y, then being profitable for the fiscal year of 2020 is unlikely for them. Marfrig is a hard company to model, even though the company has been in operation for many years. The reason it is difficult to model them is that the company has a higher asset turnover than most WallStreet portfolio managers. As my macroeconomic outlook for the industry is bearish due to decreasing beef prices, and the company has only been profitable three out of the past ten years, I am bearish on Marfrig.
My analysis is essential for investors who want to invest in the OTC ADR MRRTY, but it also crucial because Marfrig is analyzing the possibility of doing an IPO in the United States.
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