GVDBF - Givaudan: Irresistable Scent Of Success

2023-07-18 03:29:14 ET

Summary

• Givaudan, a global player in the flavours and scents market, is considered a solid long-term investment due to its deep moat of competitive advantages and strong financial performance.
• Despite high valuation, Givaudan's share price is currently at its most affordable in the past three years, making it an attractive investment opportunity compared to its peers.
• The main risk for investors is buying at an expensive valuation, but Givaudan's diversified operations and niche sector protect it from excessive competitive pressures.

Givaudan ([[GVDBF]], [[GVDNY]]), has been a tempting investment to me for many years. The company has always passed all of Warren Buffett’s checklist for a solid long-term investment. But valuation has always been high, and that has always put me off from considering investing in this gem. So I never did. I am now delving into more research to assess whether now is the time, or if I have missed the boat already.

Deep moat of competitive advantages that protect the company from competition One of the main attractions I always found about Givaudan as an investment is its deep moat – as described by Warren Buffett. Givaudan effectively operates in a global oligopoly with a handful of other players in the flavours and scents market. Givaudan and three other players control 63% of the global market. Givaudan is the second largest player with almost a fifth of the global market. The value of the global flavours and fragrance market is approx. US$ 40 billion – not too large, which makes it a very niche rather than a mass global market. In the past 9 years, the market doubled in size. Givaudan’s sales increased by 55% during that period, as competition intensified from the likes of International Flavours & Fragrances ( IFF ) which is the leader with 21% market share. IFF sales quadrupled from US$ 3 billion in 2014 to US$ 12 billion last year, following a series of M&A transactions, especially with DuPont’s Nutrition & Biosciences business in 2021. The other two players that share the oligopoly cake are Symrise and Firmenich. Symrise and Firmenich each enjoy around 12% market share.

The hold of the ‘big four’ groups is so strong that they were accused recently by a wide joint operation of the authorities in Switzerland, the UK, the US and the EU of antitrust and anti-competitive practices. The investigation is ongoing, but it shows how tight a grip those big four companies have on their market.

With a deep moat, big profit margins follow

An oligopoly status is not always correlated with a strong financial performance. If suppliers or buyers are even stronger than the oligopolists, then the oligopoly status is of little use. Although a very different sector; but such is the case in the aerospace engine sector. It had always been a duopoly between General Electric and Rolls Royce, then became an oligopoly with Pratt and Whitney becoming a much larger players, but both General Electric and Rolls Royce have been financially in doldrums for the past decade, at least. This is largely because the customers of that sector are even a larger and tighter duopoly; Airbus and Boeing. And, in turn, their end customers – the airline companies – do not operate in the most lucrative business on earth, thus the financial resources and profitability they can share back with suppliers is limited.

In the case of the fragrances and flavours sector, the situation is different. Suppliers are numerous and fully fragmented, production is not capital intensive, and customers are also fragmented although some are very large multinationals but there is no concentration of sales to a limited number of customers.

Givaudan’s niche lies in several business parameters that would be almost impossible to replicate by any new player. The company boasts 65 R&D centres around the world, and 166 locations worldwide for sourcing materials, production and sales, including 78 production sites. 7% of sales revenues were spent on R&D last year in 2022. And the company’s supply chain is immense; it sources 12,400 raw materials from 17,300 suppliers.

Profitability and valuation solid, especially when compared to peers

Givaudan produced revenues of 7.1 billion Swiss Francs last year – a third higher than 5 years earlier. The company’s sales growth has been consistent and stable – no major dips nor jumps. Even during lockdown year 2020, sales grew compared to 2019. EBITDA margin has been in the 21-22% for the past 5 years. The company is well diversified, with sales almost evenly split between the essential taste and wellbeing division and between the luxury fragrance and beauty division. Around 40% of sales are generated in Europe, Middle East and Africa and 25% from North America, and another 25% from Asia Pacific.

Although multiples still high, today Givaudan’s share prices is at its most affordable in the past 3 years. After hitting a record of 50 Francs per share last year, the share price is trading now 40% lower at around 30 Francs – the level of early 2020. This still leads to a pretty high P/E ratio of 32x, and sky-high market cap to operating cash flow of 27x. But valuation parameters are still closer to earth than they were 12 months ago.

International Flavours & Fragrances, the largest player with US$ 12 billion of turnover, has a market cap of US$ 20 billion – 37% smaller than Givaudan. And this is for good reason. IFF’s market cap to operating cashflow is 50x, and P/E is negative. EBITDA margin of IFF was slashed from 17.5% in 2021 to 15.5% last year, and hefty net losses of US$ 1.9 billion were recorded. Revenue size is not everything – profits and cashflows to shareholders are what matters.

Symrise has a P/E of 48x, market cap to operating cash flow of 39x, on the back of revenues of EUR 4.6 billion. Firmenich, with revenues of 4.7 billion Swiss Francs and an EBTIDA margin of 19%, is privately owned.

Givaudan, although pretty highly valued, looks very fairly valued (even cheap) versus its peers. But the main risk for Givaudan, in my view, is for investors to buy at an expensive valuation. If you bought at the peak of 50 Francs, you would have seen 40% of your investment vanish. Although now the share price is way off its peak, it’s still not cheap. Givaudan is otherwise so diversified, and its operations in a very niche sector, protects it from excessive competitive pressures. The increase in input costs, fuelled by inflation, has been fully passed on to customers – again a function of the supplier power that Givaudan enjoys. Givaudan ticks most of Warren Buffett’s list for an attractive investment – only an attractive entry valuation remains.

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