Wednesday, July 23, 2008

Peoples Food

Fundamental Analysis. Risks are in red. Opinions (as opposed to facts) are in blue.

Pfood is one of the largest meat producers in China. Its business is to buy live pigs from farmers, slaughter them, package and process into manufactured meat or fresh meat, which is sold in its retail outlets.

About 20% of Pfood's profits came from soy-beans (Pine Agritech) and less than 1% of profit comes from Chicken. I will ignore these segments and concentrate on pork.

1) Competitive position
a) China's pork market is highly fragmented with over 30,000 producers (article #1). The top producer holds less than 5% market share. In 2007, pfood was identified as the second lagest producer.
b) The three largest pork producers are Shanghui Henan (Shineway), Pfood and Yurun. It is hard to get an idea of their exact size:
  • In a paper, their 2004 turnover is listed (on p16) as 16020, 10047 and 7921 million RMB respectively (however the number for pfood is wrong as it was 6500 million RMB in 04....)
  • Another article says that in 05, Shanghui had revenue of 20 billion while Yurun had 4.45 billion. In 05, pfood has 7.6 billion.
  • Only thing I can get from this is a general idea that Shangui is 2-3 times bigger than pfood in terms of sales, and pfood is abt 50% bigger than Yurun.
c) Some more information about these competitors:
  • Shanghui was an SOE, sold to a private group (headed by Goldman Sachs!) in 2005. I believe its subsidiary was listed on Shenzen Exchange (code 000895.SZ), not sure if it still is.
  • Yurun is listed in HK (1068.HK). It also does property development and unrelated stuff.
I find it difficult to find information since I do not speak Mandarin.

I would like to be able to plot a graph showing trends of the 3 companies' revenue, gross profit and operating profit quarter-by-quarter throughout the years. This would compare their market share, branding power, and production efficiency respectively. Plotting these metrics is the only objective way of keeping track of a company's competitive advantage, and I don't have the information to do this here. Since I cannot keep track of this, I do not intend to hold these shares for years and years.

2) Business Model

I try to get a feel for how the company makes money by going through the financial statements:
  • Their main cost is in raw materials. Operating profit margin is abt 10%, and almost all the cost is raw materials.
  • Low depreciation, this business does not require much capex.
  • So basically their business model is to buy stuff, add a little value, and try to sell it as quick as possible.
3) Quality of Earnings

Next I check for any problems with inventories or accounts receivables:

End of PeriodRevenueProfitAccounts ReceivablesInventory
057,667 (+17%)736
880 (+200%)
068,702 (+13%)852
1,318 (+50%)
078,861 (+2%)491
924 (-30%)
1Q08 2,562 (1/4 of year only)142
757 (-22%)

  • Accounts receivables is low, usually < 5% of profit. Most of their working capital is tied up in inventory.
  • Pfood's management made a decision in 04 to increase the inventory in subsequent years due to the SARs crisis - hence the jump in 05 inventory. In 07 and 08 they are drawing down the inventory. Perhaps they are expecting prices to fall.
As mentioned before, depreciation and cash-flow-used-for-investment have been minimal. Pfood has always generated high free cash flow, even during its worst years.

4) Debt

Peoples food has consistently had low debt (less than one years earnings) throughout the years.

5) Cyclical Factors

This is where Pfood may shine!

The pork industry is highly cyclical due to the time lag between high market prices, and the time it takes to breed more pigs. From trough to peak, the average time is 2 years (ie: 2 generations of pigs), though this cycle time may vary from 1 to 3 years.

Peoples food benefits from low live pig prices, as live pigs make up their raw materials (80-85% of Cost Of Goods Sold).

Unfortunately, Chinese pig prices rose dramatically in 2007, mostly due to an outbreak of Blue Eared disease from June to September 07. China has since said the disease is under control. The Chinese govt will do anything possible to increase pig supply, including subsidizing, vaccinating and insuring sows. The last should be very effective as it removes the risk of raising pigs.

If the pork cycle follows its normal course, we should see more and more people raising pigs, and should see a price drop in 1 to 3 years time (Sept 2008 to Sept 2010). We may be starting to see this happen: (From

Shandong’s live pig in stock up 45.6%
[22 July 2008]
The number of live pigs in stock in China's eastern province of Shandong for the first five months of 2008 jumped 45.6% year-on-year, guaranteeing a steady pork supply. Contributing to this is the preferential policy and rising profits. The provincial government expects that the total live pigs in the province to reach 33.4 million by the end of the second quarter of this year, rising 45.6% over a year earlier.

In Jan 08, the snowstorms killed about 6m pigs. This may delay the recovery a little.

In June 08, the Sichuan earthquake reduced the pig stock (

Pork production in Sichuan to fall
[9 June 2008]
The earth quake in China’s Sichuan province has killed about 3.65 million live pigs and 184,500 sows in the affected regions such as Deyang, Mianyang, Chengdu, Aba, Guangyuan and Ya’an, according to a report of People’s Daily, saying that total pig production in the province is expected to fall 10% from last year to about 90 million heads while pork production to fall 9.5% to 6.7 million tonnes year-on-year.

A secondary factor pushing up the pig price is the price of corn, up 25% in two years. This seems to be less of an influence that the disease, looking at the second chart in the above article.

Baring disease or natural disaster, then pork prices should fall significantly sometime between Sept 08 and Sept 10. Lets estimate it happens in Sept 08. Since the stock market tends to look 6 months ahead, maybe I should buy pfood in Mar 09. However prices will not reach their previous 2006 lows due to rising corn prices.

6) Potential Growth

Long term, there are two sources of potential growth for the industry:

a) Consolidation: From article:

Dr Zhou Guangzhong, professor and vice president of Nanjing Agricultural University and chairman of the Chinese Society of Animal Products Processing, told the World Meat Congress in Brisbane this year that he expects large and medium meat processors to have 70 per cent of the market by 2020.

If pfood was to double its market share by 2020 implies 6% annual growth.

b) Increased meat consumption: Another article (Aug 05):

Chinese average meat consumption will increase by 20 kg or more in the years to come....At present, a rural Chinese consumes 50 grams of meat per day, and the figure for an urban citizen is less than 100 grams, the paper said. The goal is to let the average Chinese eat 100 grams of meat, or more, every day....

However, China's per capita meat consumption is less than 53 kg now, compared with the 70-130 kg consumed by citizens in developed countries.

I don't believe in modeling things like this, since:
  • I cant keep track of Pfood's market share anyway (See 1c), and
  • this would involve having an opinion and trying to predict 10 years into future, rather than relying on facts.

7) Valuation

Trailing PE is abt 10. Annualizing its 1Q08 results (i.e.: multiply by 4), we get a profit of 568m RMB. With a market cap of SGD 989m (@ 87c), this gives a PE of 8. A bit too low! I'm usually wary of low PE stocks, but can't find anything wrong here.

8) Chart

A falling knife since May 07:

Just yesterday dropped though the support zone at 89-94c - really lucky its taken me 3 days to finish this blog entry! Next support is around 83-84c, I will wait to see if it reaches there before buying.

9) Conclusion

Buy. Peoples Food's profit is inversely correlated to live pork prices. These are cyclical, and if things follow their normal course, we expect pork prices to fall in 1 to 2 years from now. Every article I have read indicates it is highly profitable to raise pigs in China now (unlike in 2006).

Risks: pork recovery could be derailed by pig disease or natural disaster.

Without being able to judge Pfood's performance against its competitors I'm just buying for the shorter term cyclical effect. I would sell when the stock reaches its previous high, around $2.00. I expect to wait 1 to 3 years for this to happen.

Catching a falling knife, especially in a falling market, is risky. It is dangerous to assume that I know more than everybody else in the market. This time I will take the chance. No cut loss, since I am buying on fundamentals. For risk management I would limit this one stock to 10% of my portfolio.

I will consider more on how I handle risk management and overall trading strategy in this sort of market later.

Pig photos from

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