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Cherkizovo Publishes 2008 Annual Report

by 5m Editor
2 June 2009, at 10:26am

RUSSIA - Poultry, pork and meat processing giant, Cherkizovo Group, has published its annual report for 2008.

Highlights by Business Sector

Poultry business

The Poultry business contributed $505.2 million or 42 per cent to the Cherkizovo Group's total sales in 2008, and $93.2 million (57 per cent) to adjusted EBITDA (Earnings before Interest, Taxes, Depreciation and Amortisation).

Cherkizovo is Russia's leading producer of both chilled and frozen poultry. During 2008, alongside important investments in capacity, we successfully integrated our major 2007 acquisition, Kurinoe Tsarstvo (Chicken Kingdom), into our existing operations to gain from new synergies in production, distribution and sales. Our vertically integrated organisation helped to protect us from the most damaging impact of rising grain prices, enabling us to post a profitable year on which we are excellently placed to build further.

The company says it made substantial progress in 2008 on realising the synergies delivered by fully integrating the operations of Kurinoe Tsarstvo (Chicken Kingdom), Russia's fourth-largest poultry producer which we acquired in 2007. Alongside further investments in capacity and efficiency, this enabled Cherkizovo to keep its promise of ensuring the stable development of our Poultry business.

Its Petelinka chilled poultry brand and Kurinoe Tsarstvo frozen poultry brands are the top brands in their categories at a premium to the market, according to TNS Gallup Media, 2009 research.

Petelinka is the number one selling brand in Moscow and Moscow region in volume and value terms, being priced at a premium to the market.

Pork business

The Pork business contributed $112.5 million or nine per cent to the Cherkizovo Group's total sales in 2008, and $45.1 million (28 per cent) to adjusted EBITDA.

The company completed an intensive five-year cycle of investment that has significantly increased the capacity and efficiency of its Pork business to ensure a highly profitable year.

Today, Cherkizovo is Russia's largest greenfield pork producer, gaining from the efficiencies that also make it the one of the country's lowest-cost producers. This is a business that will only grow in profitability as it approaches full capacity.

Cherkizovo says it produced 38,847 tonnes of pork in 2008 – a 246 per cent increase over output in 2005.

With substantial increases in capacity and efficiency during 2008 resulting from the completion of a long-term investment programme, the company's Pork business recorded a highly profitable year. This profitability is set to grow substantially in the years to come, as the state-of-the-art new facilities reach full capacity and production costs are further reduced by the increasingly efficient sharing of overheads.

Meat Processing business

Its Meat Processing business contributed $577.9 million or 49 per cent to the Cherkizovo Group's total sales in 2008, and $25.6 million (15 per cent) to adjusted EBITDA.

Cherkizovo invested $12 million in meat processing in 2008, increasing automation, improving efficiency and raising quality.

Innovation was the central theme in 2008 for the company's Meat Processing business – both in its most important production facilities and in the creation of new brands to meet emerging consumer demands. By investing in automation, it improved the quality, productivity and efficiency of several production lines. And with the launch of our new Akti Meat range for the health-conscious consumer, Cherkizovo extended its market reach to satisfy the requirements of a fast emerging segment of the Russian population.

Chairman's Statement

Igor Babaev, company chairman, said that in 2008, a 42 per cent rise in revenues took Cherkizovo past the US$1 billion milestone for the first time, and represented delivery against the primary goal to become the number one company in Russia's agricultural sector. The importance of Cherkizovo to the national economy was demonstrated by its inclusion on the official list of 300 Russian enterprises that form the basis of the Russian Federation's GDP.

Last year's financial and economic crisis gave a powerful impetus to the development of the agricultural sector in Russia. The extent to which the country is dependent on food imports – meat in particular – became evident, as Russia was again the largest meat importer in the world, despite the substantial resource potential and competitive production advantages available to the country. Accordingly, the issue of import substitution became one of the highest priorities for the Government, which announced a programme of food supply security, setting a goal to achieve self-sufficiency in pork and poultry meat by 2012.

In the face of the challenging conditions of 2008, the Russian government announced practical support to agricultural producers, and Cherkizovo Group, one of the most prominent enterprises in the production sector of the economy, was able to fully benefit from the one-off direct subsidies.

The revival of Russian agriculture is directly linked to the producers' ability to secure Government subsidised loans for major investment projects. In 2004, when Mr Babaev spoke at the session of the State Council of Russia, he raised the need for Russia to address this issue – the development of the Russian agricultural production – and the pursuit of this aim has led to a fresh start for agro producers as they started to receive subsidised lending. At this time, Cherkizovo began to implement its large-scale investment projects in poultry and pork, and over the next three years, it has significantly increased debt levels, which was necessary to ensure the construction and development of production.

Mr Babaev said that, at the time of taking on debt to increase production, some investors questioned when this would translate in to increased volumes. However, it is essential to understand that in the agricultural sector results are seldom visible across a short-term horizon. Despite this, in 2008 the company has already started to see returns on capital investment as production volumes in pork and poultry increased substantially, and pleasingly – this growth has translated into strong financial results that show further strengthening in market positions.

Pork and poultry businesses in Russia have enormous opportunities for growth and development and accordingly, the company has pool of new projects in those segments to further enhance its capacities and scale of operations. At the same time, it is progressing existing projects without material delay or disruption, enabling the company to benefit from more subsidised lending in the future.

2008 was a successful year across all segments of the Group, which delivered a strong set of financial results due to our commitment to relentless execution and increased operational efficiencies, while benefitting from essential Government support, said Mr Babaev.

Business and outlook

Cherkizovo is the largest producer of poultry and pork meat in Russia and its fully integrated structure runs across the entire agricultural production cycle, said Mr Babaev.

It is currently developing its own land bank, and considering crop production, as well as a silo storage base with the aim of fully satisfying its feed needs and providing its livestock with the highest quality feed available.

On a separate note, Mr Babaev added that in all the regions where the company operates, it is grateful for the continued support of the local administrations. Cherkizovo shares trust and confidence and is committed to a single goal, which is to revive and further develop Russian agriculture, and the broader economy of the country.

People

The commitment and skills of our professional team remain key to the overall success of the Company and its ability to deliver against its strategic objectives, said Mr Babaev. He thanked them all for all their hard work and trust, which has contributed enormously to the performance.

Dividend policy

Mr Babaev said that the company remains focused on steady development and accordingly, it continues to reinvest net profits in the business. On an ongoing basis, Cherkizovo reviews this policy to ensure the best strategy for the Company and all shareholders is being pursued.

Today, Cherkizovo is the leader of the Russian agriculture sector: its business is in the real production sector of the Russian economy and the nature of the business provides a defensive strategy in the most challenging of market conditions.

While current stock market valuations remain depressed, Cherkizovo believes it continues to offer investors good value in a defensive sector that is of strategic importance to the Russian government. In 2008, Cherkizovo continued all of its investment projects and increased production efficiencies and volumes. Accordingly, the board remains confident of the Group's future prospects, underpinned by our diversification and the advantages of a vertically integrated group, concluded Mr Babaev.

Chief Executive's Statement

Sergei Mikhailov, chief executive officer, said that 2008 was the year when the strength of our consolidation and diversification strategy was proven in the most unpredictable and difficult of market conditions. During the year, the company's balanced portfolio of business segments and commitment to targeted investment started to provide the stable development and margin growth it is looking for. Even in an environment where it has been difficult to make forecasts, this ongoing focus on the strategy has helped keep the company on track to deliver against it.

The results of the strategy

During the year, Mr Mikhailov said the Pork division emerged as a highly profitable business, driving higher margins based on our investments in state-of-the-art greenfield facilities. This combined strongly with the steady forward momentum of our Poultry operation to highlight the value of the protection against risk enabled by diversification.

There was strong evidence of the increasing opportunities for margin improvement, both within and between our divisions, that will be enabled by further growth and vertical integration. The ability to spread overheads more efficiently across maturing operations, combined with growing potential for self-sufficiency at every point of the value chain, are successfully driving down operating costs. This trend is set to accelerate further as more of recently completed facilities and new investments achieve full capacity over the next one to three years.

Investing in the business

An important driver of success, which is set to deliver greater returns in the near and long-term future, was our commitment to continued investment during the global financial crisis that gathered pace in the second half of 2008, commented Mr Mikhailov.

There were three primary reasons for this. Firstly, Cherkizovo believes strongly in the market opportunity that the efficient production of scarce but essential resources such as pork and poultry represents in Russia. Second, in addition to the subsidised long-term loan finance that is substantially cutting the cost of investment and facilitating repayment, the company is reducing the value of debt by keeping it in roubles. And third, it is approaching the end of a major investment cycle in our pork business that is already driving new sources of profitability ahead of full capacity being achieved.

Responding to world market conditions

2008 was also a year in which new opportunities arose as a direct result of the crisis, said Mr Mikhailov. Costs in areas such as construction and land values have fallen, enabling the company to moderate our projected capital expenditure. It means it can also consider additional investments in our land bank, enabling further exploration of the potential this will provide for reducing the risk of feed price fluctuations.

At the same time, the rouble's performance against the US dollar and the euro have driven up the price of imported meats, beef in particular, to enhance the competitiveness of home-produced pork and poultry. Russia remains the world's largest net importer of meat, and the global crisis and challenging financial situation will lead to an import substitution policy that favours Russian producers by replacing imports with domestically produced goods.

Due to the importance of this sector to the national economy, the government has also allocated specific funds within the 2009 Budget to agricultural producers. As one of Russia's largest integrated producers, Cherkizovo is excellently positioned to benefit from this commitment.

The company believes that the medium and long-term indications for our business are positive. Levels of meat consumption in Russia have historically been low and are not expected to significantly decline in the future. In addition, domestic meat production is expected to grow increasingly at the expense of costly imports, highlighting the status of Cherkizovo as a prominent defensive stock.

Satisfying our domestic market

Turning briefly to the performance of the three business segments during 2008, the vertically integrated structure helped the Poultry division to overcome major challenges created by a drastic increase in the price of feed stock to deliver a profitable year. The support of the Russian government also made an important contribution – recognising the sector's importance, the government introduced as a one-off measure a direct subsidy of five roubles per kilo for the first half of the year.

Other major achievements included the successful continuation of work to integrate our 2007 acquisition, Kurinoe Tsarstvo (Chicken Kingdom), into established operations, achieving synergies in production, distribution and sales. Cherkizovo also completed the reconstruction and commissioning of the first zone within the Vertunovka parent stock facility, which will become one of the largest hatching sites in Europe with an annual capacity of up to 60 million eggs.

The company significantly increased the volumes of its Pork business, which is set to achieve full capacity at end of 2010 and successfully gained from major upward price movements. Critically, by completing construction and commissioning at the final four of six new greenfield pig farms brought to an end the large-scale construction programme that started in 2005. The business is already highly profitable, gaining from a substantial decrease in per-kilo production costs enabled by the efficiency of the new farms.

2008 presented a particularly tough operating environment for the Meat Processing division, where the purely domestic focus of the business and high fragmentation of the market carried the risk of weakened future growth in premium products as the economic situation reduced household spending. Cherkizovo responded by improving automation of the production processes for enhanced efficiency, while continued concentration on product innovation and quality resulted in several top awards for market-leading brands at the 2008 Meat Industry International Forum. The company believes these activities have strengthened its ability to build on economic recovery and position it well for the potential consolidation of the market.

Looking ahead

Mr Mikhailov said that the company believes the future for Cherkizovo is encouraging. He foresees no significant reduction in demand or consumption in the near future, and is confident that recovery will bring even greater opportunities for market growth.

Above all, the company is certain that it has the right strategy to deliver long-term success for the business, its staff, customers and shareholders, concluded Mr Mikhailov.

Further Reading

- You can view the full report by clicking here.