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Pakistan Deaths
Pakistan Cases
4.9% positivity

Losses that exceed hundred percent of topline and debt in excess of book value of assets; both glaring tell-tale signs for any firm going under. But Fauji Foods Limited (PSX: FFL) may not succumb to this fate, were it not for sponsor’s largesse that keeps rolling in.

Since the new sponsors took over in 2015, FFL has raised over Rs7 billion in equity, in addition to raising close to Rs8 billion from creditors to restructure the business, put up new plant & machinery, drive category expansion, hire professional resource, and aggressive spending on marketing campaigns.

And despite adverse regulatory environment that has plagued the dairy sector from reversal of zero-rated tax regime to prohibitive tariffs on import of skimmed milk powder – a crucial raw material for organized dairy producers – sponsor commitment has persisted.

In fact, BoD’s approval to convert outstanding ST borrowing of Rs 2.6 billion from parents into equity is what kept the auditors from raising doubts on business’ going concern assumption, based on CY19 accounts. Budget for CY20 includes incremental sponsor support of Rs 2.5billion, taking cash injections from sponsors to a total of Rs12 billion since acquisition.

But is it a case of putting good money after bad? Consider that accumulated losses have increased from Rs 0.12 billion at the time of acquisition to over Rs 12 billion – nothing but a hundred times since June 2015! Regulatory indicators are no better, as tariffs and GST has stayed put. Whereas an acquisition bid by a Chinese state-owned corporation for controlling share also fell through.

The question, then, is whether the usual platitudes about Pakistan’s growing urban demographic and increasingly brand & hygiene conscious consumers sufficient to keep the company afloat? Despite recurrent losses in new portfolio such as tea whitener and UHT milk, one positive is company’s commanding share in flagship butter segment, where it has recently upgraded its plant.

In that spirit, the 20 percent recovery in first quarter sales is a welcome sign, as is the contribution margin, which has dropped from 12 percent in red as of last quarter CY19 to negative 6 percent. It appears that rebound in topline is a result of improved off take, as players across UHT category reported volume exceeding targets during Feb and March – an outcome of panic buying that has ensued since lockdown. It remains unclear whether FFL also took price increase during the quarter, as did major competitors such as FCEPL.

If it is correct that the good streak is a consequence of panic buying, then the turnaround may prove fleeting. In the longer term, the management remains caught between the devil and deep blue sea. Secular decline in disposable income may mean lower spending on FMCGs such as cheese, butter, and beverages. If these value-driving categories suffer, then the shadows over enduring profitability may persist.

FFL’s only hope then, is easing in regulatory trauma that has afflicted its volume-driving UHT and tea-whitening categories. While the dairy industry has been hyperactive on the advocacy front during past year, it remains to be seen whether the incumbent government will be able to come through, considering that tax revenue collection is also receiving blows due to import compression. Fingers crossed.


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