Blackmores: Vitamin $

PORTFOLIO POINT: Fast growth, strong market share and sound business practices all augur well for Blackmores.

Blackmores has been providing healthcare products in Australia for almost 80 years, and for 70 years as the industry leader. Today it commands the leading position within Australia with a market share of 21% in the Pharmacy & Grocery segments for vitamins and herbal supplements. Since the demise of Pan Pharmaceuticals in 2000, Blackmores’ market share has risen from 13%.

Although management are under no current legislative obligation they report quarterly to the market, highly unusual for a business of this size. This is a headache for the finance team but it means the company remains fully transparent about its operations; doing this without any ongoing obligation reflects high levels of management integrity, honesty and shareholder interaction.

Blackmores’ core business is the sale and distribution of vitamins and herbal supplements and involves sourcing natural ingredients from all over the world. For example, the prawn/crustacean shells used to make Glucosamine – one of its leading arthritis remedies – are sourced from China.

The natural ingredients are then sent to one of three contractors where, under Blackmores' strict manufacturing processes, the ingredients are processed into one of Blackmores' 150 products.

The finished product is delivered to the new Warriewood facility in Sydney and stored until an order is received from one of the 7500 distributors.

How does Blackmores make money in this process? Quite simply: it takes all the costs associated with sourcing, manufacturing, storing, packaging and distributing and apply a margin over and above all of the other costs required to get their product to market. The difference is the group’s pre-tax profit – very simple.

Significant outperformance

Significant outperformance over the All Ordinaries over a five-year period shows Blackmores is clearly better than the average business. Market share growth from 13% in 2000 to 21% today has clearly been profitable. Over the entire period the company have not deviated one iota from their core strategy.

Source: CommSec

The underlying fundamentals reveal why this business has outperformed the Index by such a large margin.

Source: www.stockval.com.au

Highly attractive return on equity

From an investor’s perspective these fundamentals are very attractive and are reflected in StockVal’s Normalised Return on Equity, which has averaged 56.1% over the past five years. This is an impressive rate of return on incremental capital. Few listed businesses have the ability to sustain such rates over such a long period time and/or have been able to match the demonstrated consistency in underlying performance.

Source: www.stockval.com.au

High levels of return, coupled with an equity base that has grown from $27.6 million in 2004 to $50.4 million (StockVal’s forecast for 2009 equates to growth of 83% in net assets), has been matched with a 62% increase in after tax profits and a 78% increase in fully franked dividends. These are attractive growth rates over the five-year period and rates that have created shareholder value at a meaningful clip above the market.

Most importantly, the majority of this growth has been funded almost entirely through retained earnings.

Going up a gear

The recent development and move into the Warriewood facility has required a significant increase in the amount of debt on Blackmores' balance sheet. It is estimated that on completion the new facility would have cost in the order of $40–50 million.

This is reflected in interest bearing debt on the balance sheet of $47.4 million. Subtracting cash in the bank (cash equivalents) of $12.2 million and the business has net debt of $35.2 million. On current forecast total shareholders equity of $56.1 million, gearing employed has jumped from conservative levels to 63%. This is not an uncomfortable level, but it does lower the quality of the balance sheet and will become a drag on profitability as increased interest expenses depress Blackmores’ pre-tax profit.

Source: www.stockval.com.au

Being uniquely placed in a market estimated to be worth $900 billion and growing at 6–7% annually is clearly not a bad thing. Better still, Blackmores’ is taking market share from competitors including Natures Own, Cenovis, Herron, Amcal and Swiss, among others. As indicated by this year’s growth rate in sales revenue of 8.3% (for the first nine months), Blackmores is growing faster than the market and continues to grow sales during the current economic environment.

Blackmores’ growth is supported by an ageing population and about 7.5 million Australians who regularly buy vitamins. Blackmores has 7500 distribution points and another 2500 potential sites. If people are going to buy vitamins and herbal supplements, Blackmores products will be right there, front and centre on the shelf.

Check the health section in your local supermarket next time you go shopping. You won’t be disappointed. You may even feel healthier if you pick up a bottle. Remember, all ingredients are natural.

If you own shares in the business, you can be comfortable in the knowledge that you are a part-owner in a high quality business with an enviable track record of performance and well and truly entrenched business practices after 80 years of operations. Just think: not only do you own a great Australian business, but if you reinvest the dividends into purchasing Blackmores' products you will also fund a healthier lifestyle for you and your family. What could be better?

Russell Muldoon uses the company valuation service StockVal. Exclusively for Eureka Report subscribers, StockVal is offering a free two-week test drive. Click here.