Hippo Valley Research Report August 2012

7/27/2019 Hippo Valley Research Report August 2012

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Hippo Valley Estates LimitedRoot ing for sw eet returns

Major Zimbabwean sugar producer with room for growthHippo Valley Estates Limited (HIPPO:ZH) is one of only two sugar producers inZimbabwe and in the 2011/12 season, contributed approximately 170k tons of sugar(46%) to the countrys total sugar production of 372k tons. Its largest shareholder,Triangle Sugar Corporation Limited (unlisted), holds a 50.3% stake and is the onlyother Zimbabwean producer. Triangle is a wholly-owned subsidiary of South Africanbased Tongaat Hulett Limited (TON:SJ). Hippo Valleys operation is situated in thesoutheast lowveld of Zimbabwe where the topography, climate and established waterstorage and irrigation infrastructure render the area ideal for sugar cane cultivation.The majority of cane milled by the company is grown by Hippo itself (77% in 2011/12)with private farmers supplying the balance. However their contribution over the nextfew years is expected to become more significant following the initiation of theSustainable Rural Communities (SusCo) project in 2010/11. This involves the

replanting of the entire 15,880 ha farmed by private growers across the industry withthe goal ofincreasing private farmers cane deliveries, recorded at approximately 532ktons in 2011/12, to around 1.4mn tons by 2015. This will go a long way to optimisingthe capacity utilisation of the Hippo Valley mill which has the potential to produce 300ktons of sugar per annum i.e. currently only operating at about 57% capacity.

Recent earnings point to improved profitabilityIn May, Hippo Valley released results for the year ended 31 March 2012 which showedsignificant growth in revenue and profitability. A 30% increase in the companys totalsugar production, from 131k tons in FY11 to 170k tons in FY12, together withfavourable realisations on raw sugar exports to the EU drove revenue up 46% to$128.9mn from the prior years $88.4mn. EBITDA almost doubled, rising from $20.8mnto $40.1mn, with a 7.5% improvement in the EBITDA margin, up from 23.6% to 31.1%.PBT rose 198% from $9.4mn to $27.9mn while PAT rose 138% from $8.8mn to$20.9mn. EPS registered a corresponding 138% increase from 4.6 cents to 10.9 cents.

Recent refurbishment of the mill and an on-going cane re-establishment programmemeans the level of net debt has remained relatively high at $32.8mn as at the end ofMarch 2012, however this has come down from $37.6mn as at 31 March 2011 and theborrowings are now all short term. Continued net reductions in debt are expected goingforward and the company became FCF positive in FY12. In light of the cash requiredfor mill refurbishment and cane re-establishment, the company did not declare adividend for FY12 however based on our forecasted future cash flows we expect to seethe resumption of dividends in FY13.

Attractive valuationWe estimate that Hippo Valley trades on a P/E (+1) of 7.4x and an EV/EBITDA (+1) of4.7x. This places the stock at a discount to comparable sugar companies with averageP/E and EV/EBITDA estimates for 2013 of 13.6x and 6.5x respectively. With continuedincrease in cane supply and consequent increasing sugar output, we forecast 2013EBITDA of $47.2mn and 2014 EBITDA of $50.9mn, representing Y-o-Y increases of

18% and 8% respectively. We anticipate a 27% rise in net income to $26.6mn in 2013,followed by an 11% increase in 2014 to $29.6mn. Using a weighted combined multiplesvaluation method (P/E & EV/EBITDA), we have arrived at a blended 12m target pricefor Hippo Valley of $1.33, implying upside of 30%. We therefore initiate coverage ofHippo Valley with a Buy recommendation.

12 Month Share price performance

Equity ResearchAgricultureZimbabwe

Disclaimer

This document has been prepared by IH Securities to provide background information about the

securities and (or) markets mentioned herein, the forecasts, opinions and expectations are entirely

those of IH Securities. This document was prepared with the utmost due care and consideration for

accuracy and factual information; the forecasts, opinions and expectations are deemed to be fairand reasonable. However there can be no assurance that future results or events will be consistent

with any such forecasts, opinions and expectations. Therefore the authors will not incur any liability

for any loss arising from any use of this document or its contents or otherwise arising in connection

therewith. Neither will the sources of information or any other related parties be held responsible for

any form of action that is taken as a result of the proliferation of this document.

Research TeamDzika Danha+263(772) 573 [email protected]

Christine Mhongo+263(774) 171 [email protected]

Lloyd Mlotshwa+263(772) 936 [email protected]

Kate Rowland+263(778) 300 [email protected]

Contact Details

IH Securities (Pvt) Ltd4 Fleetwood RoadAlexander Park

HarareZimbabwe

Tel +263 (4) 745119/133Fax +263 (4) 745879

Market Data

Report Date 7-Aug-2012

Bloomberg Ticker HIPPO: ZH

Rating BUY

Current Price $ 1.03

Target Price $ 1.33

M arket Cap $mn 198

EV $mn 231

M arket Weight 5.3%

Common Shares Outstanding mn 193

Freefloat 26.3%

Av erage Daily Value Traded $000s 61

Last Dividend declared 31.12.04

PER (+1) 7.4

EV/EBITDA (+1) 4.7

Share price performance YTD -10.9%

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In this report, we initiate coverage of Hippo Valley Estates, one of Zimbabwes two majorsugar producers (total capacity: 300ktons per annum), with a BUY rating and a one year target price of $1.33, based on our estimates of Hippos future performanceand the average P/E and EV/EBITDA multiples of selected comparable listed peers. In the 2011/12 season, Hippo Valleycontributed approximately 170k tons of sugar (46%) to the countrys total sugar production of 372k tons. Its largest shareholder,Triangle Sugar Corporation Limited (unlisted), holds a 50.3% stake and is the only other Zimbabwean producer. Triangle is awholly-owned subsidiary of South African based Tongaat Hulett Limited. Hippo Valleys operation is situated in the southeastlowveld of Zimbabwe where the topography, climate and established water storage and irrigation infrastructure render the areaideal for sugar cane cultivation. The majority of cane milled by the company is grown by Hippo itself (77% in 2011/12) withprivate farmers supplying the balance. Our investment thesis is centred on the recent and on-going revival of the Zimbabwesugar industry following the Lost Decade, being driven by initiatives instigated by Tongaat Hulett in co-operation withgovernment and the lowveld communities; from 2009/10 to 2011/12 total national production rose 44% to 372k tons, withHippos sugar output registering a 93% increase from 88k tons to 170k tons.

Figure 1: Hippo Valley Valuation Table

Revenue EBITDA Net Income EBITDA EV Net Debt

($mn) ($mn) ($mn) EPS ($) DPS ($) Margin ($mn) ($mn) EV/Sales EV/FCF EV/EBITDA P/E P/Bk Div yield

1 88.4 20.8 9.0 0.05 0.00 23.6% 235.4 37.6 2.7 -11.6 11.3 22.5 1.1 0.0%

2 128.9 40.1 20.7 0.11 0.00 31.1% 230.7 32.8 1.8 48.5 5.8 9.4 1.0 0.0%3E 153.7 47.2 26.6 0.14 0.03 30.7% 222.0 24.1 1.4 14.5 4.7 7.4 0.9 3.4%

4E 168.0 50.9 29.6 0.15 0.05 30.3% 207.2 9.3 1.2 8.4 4.1 6.7 0.8 5.0%

5E 175.2 52.9 31.4 0.16 0.07 30.2% 192.4 -5.5 1.1 7.0 3.6 6.3 0.8 6.4%

6E 181.9 54.6 33.1 0.17 0.07 30.0% 176.5 -21.4 1.0 6.0 3.2 6.0 0.7 6.7%

7E 182.0 54.8 33.6 0.17 0.07 30.1% 159.7 -38.2 0.9 5.3 2.9 5.9 0.7 6.8%

Source: Company Reports, IH Estimates

Investment CaseIncreasing cane supply yielding aggressive income growth and greater FCF

From 2009/10 to 2011/12, the Hippo Valley mills sugar output rose by 93% from 88k tons to 170k tons, resulting in a 99%increase in revenue to $129mn. The major drivers behind this growth have been increased cane supply and an improvement inthe companys cane-to-sugar ratio; total cane milled rose by 58% to 1.38mn tons while the companys cane-to-sugar ratio

improved from 9.98 to 8.15. In terms of cane production, the companys own harvest grew by 47% to 1.07mn tons while privatefarmers combined cane deliveries rose 72% to 312k tons. Going forward, the company has reached its capacity in terms of landuse with the area planted currently standing at around 12,000 ha but significant continued increases in cane production areexpected from the private farmer sector. Replanting of the entire 15,880 ha of cane land farmed by private growers across theindustry is currently underway as part of a private cane farmer rehabilitation programme, initiated in 2010/11 under theSustainable Rural Communities (SusCo) project. A $30mn four-year revolving finance facility was secured for the projectthrough BancABC (ABCH:ZH). Over the 2011/12 season, 3,476 ha of private cane farmer land was replanted under the SusCoproject, with a further 874 ha replanted by Chipiwa farmers financed by the EU-funded Canelands Trust. Private farmersindependently ploughed out and replanted an additional 1,914 ha during the same period, with input support from TongaatHulett. As a result, private farmers collective cane deliveries increased from 413k tons in 2010/11 to 532k tons in 2011/12 (ofwhich Hippo Valley received 312k tons), representing a year-on-year increase of 29%. It is anticipated that completion of therehabilitation programme will see private farmers cane production reaching 1.4mn tons by 2015. This will go a long way tooptimising the capacity utilisation of the Hippo Valley mill which has the potential to produce 300k tons of sugar per annum i.e.at an average cane-to-sugar ratio of 8, there is scope for a further 74% increase in cane supply to 2.4mn tons from the current1.38mn tons before the mills full production potential is reached.

Figure 2: Hippos sugar production, 2009/10 2014/15(E)


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Executive Summary

Equity ResearchHippo Valley


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The improvement in Hippos cane-to-sugar ratio, from 9.98 in 2009/10 to 8.15 in 2011/12, is attributable to the extensiverefurbishment of the mill undertaken over the last two off-crops. To this end, the companys capital expenditure in FY11amounted to $19.9mn with the majority of this ($18.6mn) spent on the sugar factory buildings and plant. However thiscompleted the major refurbishments and total capex in FY12 came down to $10.3mn, resulting in a positive free cash flow.Hippos cane-to-sugar ratio is now expected to remain level around 8 and management has budgeted for maintenance capex of$10mn per annum going forward. Continued increases in cane production and sugar output and the consequent growth inincome should therefore see significant improvement in the companys future operating and free cash flows.

Figure 3: Operating cash flow, Capex & FCF, 2009/10 2014/15(E)


Improving yieldsAlthough Zimbabwes average sugar cane yield over the last 3 years is on a par with the global average, yields are improving.Hippos own yield improved from 83.5 tons/ha in 2010/11 to 89.6 tons/ha in 2011/12 and over the course of the 2011/12 season,3,263 ha of company land was ploughed out and replanted as part of an on-going cane re-establishment programme aimed atcorrectly positioning the crop for a full return to optimal yields of 105-110 tons/ha by 2014/15. Yields achieved by private farmersin the Hippo Valley mill group improved from 38.1 tons/ha in 2009/10 to 51.4 tons/ha in 2010/11 while those of the Mkwasineoutgrowers rose from 22.3 tons/ha to 39.0 tons/ha. Figures for 2011/12 are not yet available however it is understood that yieldsfor these private farmers and outgrowers are expected to rise to around 90 tons/ha over the next few years.

Figure 4: Cane yields (3-year averages, 2009/10 2011/12) & Zimbabwes expected yield in 2012/13

Source: USDA, Company reports

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Executive Summary



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Key risksGlobal sugar prices weakening on surplus production

After 2009/10, global sugar production has slightly exceeded consumption and ending stocks have been on the rise. Global

sugar prices have come under pressure on the back of the increase in surplus and trended downwards in recent months as aresult. Although Hippo Valley enjoys a premium on its sugar exports to the EU, this could see a reduction in the value of itsexports.

Debt

Hippo Valleys net debt ballooned from $17.2mn as at 31 March 2010 to $37.6mn as at 31 March 2011 to support the re-establishment of cane supply and refurbishment of the mill. As a result, cost of borrowings rose to $3.7mn versus $799k theprevious year. High finance costs continued to impact negatively on the companys profit in FY12, rising to $6mn, however it isencouraging to note that total borrowings were reduced by $1.8mn over the course of the year. Given our estimates of thecompanys free cash flows going forward, we anticipate continued reductions in debt and further improvement in the companysgearing as a result. Net debt to equity came down from 21.3% in FY11 to 16.6% in FY12 and our forecasts suggest that this willdecrease further in FY13 to around 11%.

Indigenization

With a 50.3% stake in Hippo Valley effectively held by South African-based Tongaat Hulett through its 100% ownership ofTriangle Sugar Corporation Limited and an additional 10% held by Tate & Lyle of Great Britain, the companys currentshareholding structure falls in breach of Zimbabwes indigenization regulations requiring 51% local ownership. However theSusCo project initiated by Tongaat Hulett represents the single largest empowerment programme in the agrarian sector and isbeing backed by Zimbabwes Vice President, Joice Mujuru. Under the project, loans are being granted to resettled farmers whohave entered into cane supply agreements with Tongaat Hulett and participating farmers are also being assisted with technicalsupport. As a result, sugar cane production has begun to recover from the decline that initially followed land re-allocation.

Share price performanceThe release of Hippos September 2011 interim results in November saw the market responding to the companys first signs ofrecovery. Following a dip in the share price to $0.80 in November 2011, it recovered to $1.15 by the start of 2012. Since then, ithas declined slightly back to $1.00 and remained relatively stable around that level. Given our estimates of the companys futureperformance, we feel it has the potential to move towards the level attained in Feb/March 2011 of $1.40. Although it has

registered a marginal decline of 5% over the last 12 months, it has outperformed the ZSE Industrial Index which recorded a 19%drop over the same period.

Figure 5: Hippo Valley share price performance, Y-o-Y

Source: ZSE

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Executive Summary



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Valuation

Selected Sugar Comparables

Company Name P/E P/E P/E EV/EBITDA EV/EBITDA EV/EBITDA

2012 2013E 2014E 2012 2013E 2014E

Illovo Sugar Ltd. 29.05 14.26 11.59 9.13 6.51 5.50

Tongaat-Hulett Ltd. 16.92 12.15 9.95 10.21 6.58 5.55

Zambia Sugar PLC 14.40 12.03 10.68 7.7 7.57 7.53

Suedzucker AG 10.50 11.32 12.19 8.31 5.79 5.60

Cosumar 10.71 11.05 9.37 -- 6.72 5.78

Cosan S/A Industria e Comercio 4.39 17.27 17.50 8.53 7.19 6.80

Sao Martinho S/A 17.90 17.35 12.85 6.12 5.03 4.57

Average 14.84 13.63 12.02 8.33 6.48 5.90

Source: FactSet, Bloomberg

EV/EBITDA Valuation

2013E 2014E

International comps 6.5 5.9

Premium/discount 0.80 0.80

Forecast EBITDA ($mn) 47.18 50.93

Implied EV ($mn) 245 241

Net debt ($mn) 24.11 9.31

Market Value ($mn) 221 231

Target price ($) 1.14 1.20

Blended 12m TP ($) 1.16

Source: IH Estimates

P/E Valuation

2013E 2014E

International comps 13.6 12.0

Premium/discount 0.80 0.80

Forecast Net Earnings ($mn) 26.59 29.63

Implied Market value ($mn) 290 285

Target price ($) 1.50 1.48

Blended 12m TP ($) 1.49


Weighted Valuation

Weighting Weighted 12m TP ($)

EV/EBITDA 1.16 50% 0.58

P/E 1.49 50% 0.75

Hippo weighted valuation ($) 1.33

Implied upside/downside 30%

Rating BUY




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Global production and consumptionGlobal sugar consumption has grown at an annual average of 2% per annum over the past decade. Production has typically beenslightly higher than consumption with the gap between the two widening since the 2010/11 marketing season. Global

consumption, expected to end the 2012/13 marketing year at 160mn tons will once again lag behind production, expected to comein at 171mn tons. Ending stocks have therefore been on an upward trend, rising from 26mn tons in the 2009/10 season andexpected to end the 2012/13 season at 33mn tons.

Figure 6: Global Production and Consumption, 2001/02 2012/13(E)

Source: USDA

The top 5 sugar producing countries in the world are Brazil, India, EU-27, China and Thailand. These countries account for 62% ofthe worlds sugar production and 67% of international exports. Brazil is the largest producer, contributing 21% to global productionand 43% of world sugar exports. Africa has produced approximately 5% of world sugar between 2009 and 2011. African producersinclude Mauritius, South Africa, Zambia, Mozambique, Malawi and Zimbabwe. The worlds largest consumers of sugar includeIndia, the EU-27, China, Brazil and the United States.

Figure 7: World Sugar Production, 2011/12 Figure 8: World Sugar Consumption, 2011/12

Source: USDA Source: USDA

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Global Sugar Market



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Sugar pricingAs shown in Figure 9, the world sugar price has been quite volatile since the beginning of 2009. Shocks to the price during thatperiod have largely been the result of production shocks, some speculative behaviour by hedge funds and index funds, along withsome currency volatility in the major sugar producing countries. After peaking around 26 cents/lb in February 2012, prices have

trended downwards this year on the back of increased production and yields in most of the large producing countries. More of thesugar cane harvested in Brazil is expected to be diverted to sugar production versus ethanol. We believe the long term outlook forsugar prices is positive, influenced by growing demand in emerging markets, changes in the EUs policies regarding thecommodity, as well as the diverting of sugar cane to the production of ethanol.

Figure 9: World sugar prices, May 2007 May 2012

Source: Bloomberg

EU trade agreementHippo Valley has benefited from preferential EU prices which are at a premium to the world price. In 1975, the EU signed bilateralagreements with African Carribean and Pacific states including Zimbabwe, known as the Sugar Protocol alongside the firstLome convention. Under the Sugar protocol, the EU would import 1.3mn tonnes a year from these countries duty free, and at aguaranteed price in line with prices received by EU farmers. However, as a result of pressure from the WTO, the EU thenembarked on a reform of its sugar regime, which had guaranteed minimum prices to EU producers in 2006. The EU also signedan Economic Partnership Agreement with countries of the Caribbean region in October of 2008. The sugar protocol wasinconsistent with both of these reforms and was replaced by new market access agreements in October 2009. The price payableto suppliers of sugar to the EU was reduced by 36%. However, it gave free market access to Least Developed Countries. For theACP non-LDC countries a safeguard clause was put in place until 2015, triggered if more than 3.5 million tonnes of sugar areimported into the EU in a single year.

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ProductionZimbabwe is a minute player within the global sugar market producing only 4.6% of the total production in Africa, which itselfproduces 4.6% of world sugar. Zimbabwe therefore produced a negligible 0.21% of world sugar and has no real impact on themarket dynamics.

The amount of land under sugar has barely seen any change since dollarization of the Zimbabwean economy. A total of 35,380 hawere under sugar in the 2007/08 marketing year. This is partly the result of limited financing available to private growers. Privategrowers and newly resettled farmers have therefore been restricted to 11,230ha of an available 15,880ha of land. There arecurrently initiatives in place, however, aimed at rehabilitating and restoring cane production on this private farmer land. These arein part funded by the European Union Adaptation Funding program, through which Zimbabwe was allocated $58mn. Anotherinitiative is the Sustainable Rural Communities (SusCo) project by Tongaat Hulett, aimed at assisting and accelerating privatecane replanting in order to increase sugarcane output to the potential of 1.4 million tons from the entire 15,880 hectares by 2015.Tongaat Hulett has partnered with a local bank, BancABC, to provide a four year $30mn revolving facility to enhance production.As a result the biggest jump in harvested area so far is expected in the 2012/13 marketing year with growth of 6.26% to 37,500 ha.

Figure 10: Zimbabwe Area Harvested, 2005/06 2012/13(E)

Source: FAO

Yields have been somewhat unstable in the local market, until the 2010/11 season in which they started to rise. They are expectedto continue to improve in the 2012/13 marketing season, rising to 93.3 tons/ha, up 9.76% from 2011/12 and a cumulative 44.4%since the 2009/10 season.

Figure 11: Zimbabwe National Sugar Production and Yields, 2005/06 2012/13(E)

Source: FAO

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Zimbabwean Sugar Market



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The aforementioned SusCo project is expected to contribute to this by providing inputs to newly resettled sugarcane growers,assistance with tillage services, replanting of cane and extension services. Changes in yields have been a significant determinantof changes in production as shown in Figure 11. The rise in yields to 93MT/ha is therefore expected to lead to additional growth insugar output, which in combination with the aforementioned 6.26% increase in Area harvested is expected to result in a 16%

increase in cane volumes to 3.5mn tons.

As shown in Figure 12, Zimbabwe sugar cane yields are average on a global scale, and relatively low compared to other players inthe region, such as Malawi and Zambia where yields go as high as 108 and 125 tons/ha. However yields are expected to rise to93.3 tons/ha in 2012/13 and Tongaat Hulett is anticipating company yields of 105-110 tons/ha and private farmer yields of 90tons/ha by 2015 which would bring the average local yield closer to the highest yields in the region.

Figure 12: Sugar Cane Yields (3-year Averages, 2009/10 2011/12)

Source: USDA, Company reports

The countrys cane-to-sugar ratio of 8.0 compares relatively well to those regionally, with ratios as high as 9.1 in Mozambique.Regional leaders Zambia and Malawi, however, outperform the Zimbabwean crop with cane-to-sugar ratios of 6.9 and 7.0respectively.

Figure 13: Cane-to-Sugar Ratio (3-year Averages, 2010/11 2012/13)

Source: FAO, Company reports

Recent events in the local cotton industry have demonstrated that there is political will to intervene when farmers and processorsare in disagreement over crop prices. This development suggests farmers now have increased bargaining power. We believe that

this puts local companies trading in commodities and acquiring significant volumes from out growers at risk of margin compressionin unfavourable market conditions. This is less of a concern in the local sugar industry, however, because private growers andnewly resettled farmers only produce approximately 20 percent of the countrys sugarcane crop, (albeit a percentage that will riseover the next few years).

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Local sugar consumptionZimbabweans are estimated to consume 25kg of sugar per capita annually, ahead of the global average of 23.75 which is weigheddown by relatively low per capita consumption of sugar in Asian countries. This also compares favourably to averageconsumption of 13kg on the African continent, but is trailing the 30kg average in Southern Africa. Countries such as Botswana,

Swaziland and South Africa have higher consumption of sugar in the region, estimated at 32kg, 32kg and 35kg respectively.These fall short of consumption in regions like the EU-27 and South America, where per capita consumption is estimated at 36kgand 51kg respectively.

Figure 14: Annual Sugar Consumption, 2011/12

Sources: Population (World Bank and UNPF), Consumption (FAO, USDA, company reports)

With the exception of a significant dip in consumption per capita at the height of the countrys economic meltdown and foodshortages in 2008, Zimbabwean sugar consumption has been fairly stable over the last 32 years. An average annual growth rate

of 2.3% was achieved in the 20 years between 1980 and 2000. The most significant increase was achieved between 1993 and2000, with consumption increasing 34% during that period and returning to relative stability until 2008. In our view, whilstconsumption is lower than in other markets in the region and other producer countries, Zimbabwes per capita sugar consumptionis likely to continue on a path of relatively stability. Sugar substitutes are unlikely to cause a significant decline in local sugarconsumption in the short to medium term as levels of concern over consumer health continue to lag those in wealthier, developednations. A growth rate of between 2% and 3%, similar to that achieved over the last 32 years is likely. There is upside potentialresulting from the limited use of sugar in value added products in Zimbabwe. These may present an opportunity for higher growthin consumption as the countrys income levels increase. Triangle and Hippo produce 100% of locally produced sugar and importsmake up a relatively low 14% of total sugar consumed in the country, a figure expected to decline to only 7% in the 2012/13marketing year. We therefore believe that there is limited room for growth for these players in the local market and that they willhave to look to regional and international markets for significant growth in sales volumes in the longer term.

Figure 15: Zimbabwe Annual Sugar Consumption, 1980 2017(E)

Source: FAO, USDA

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OverviewHippo Valley Estates Limited (HIPPO:ZH) is one of only two sugar producers in Zimbabwe and in the 2011/12 season, contributedapproximately 170,000 tons of sugar (46%) to the countrys total sugar production of 372,000 tons. Its largest shareholder,Triangle Sugar Corporation Limited (unlisted), holds a 50.3% stake and is the only other Zimbabwean producer. Triangle is a

wholly-owned subsidiary of South African based Tongaat Hulett Limited (TON:SJ).

Figure 16: Ownership Structure

Tongaat HulettLimited

100%

Triangle SugarCorporation Limited

50.3%

Hippo ValleyEstates Limited

Figure 17: Zimbabwe Sugar Production, 2009/10 2011/12

Source: Company reports

Details of operationsThe companys operation is situated in the southeast lowveld of Zimbabwe where the topography, climate and established waterstorage and irrigation infrastructure render the area ideal for sugar cane cultivation. The company grows its own cane andaugments supply with cane from private farmers, who grow specifically for either Hippo Valley or Triangle, and outgrowers onMkwasine Estates, in which Hippo Valley and Triangle each have a 50% interest. In the 2011/12 season, the company milledapproximately 1.38mn tons of cane of which 1.07mn tons (77%) came from its own harvest, up 24% from the 865,676 tonsproduced the previous year. Private farmers in the Hippo Valley Mill Group supplied 217,119 tons of cane and the Mkwasineoutgrowers 94,568 tons, representing increases of 36% and 20% respectively from the previous seasons deliveries. Thecompanys average yield improved from 83.5 tons/ha in 2010/11 to 89.6 tons/ha in 2011/12 while yields achieved by the private

farmers and Mkwasine outgrowers of 51.4 tons/ha and 39.0 tons/ha respectively in 2010/11 are estimated to have remainedaround these levels, still with huge room for improvement. Refurbishment of the mill, which began in the 2009/10 off-crop, saw thecompanys cane-to-sugar ratio (tons of cane milled to produce 1 ton of sugar) improve from 9.98 in 2009/10 to 7.72 in 2010/11.Although this has dipped slightly back to 8.15 in 2011/12, it remains close to the targeted ratio of around 8. Hippo Valleys totalsugar production of 170,000 tons in the 2011/12 season remains well below the mills output capacity of around 300,000 tons ofsugar per annum. At an average cane-to-sugar ratio of 8, this implies scope for a further 74% increase in cane supply to 2.4mntons before the mills full production potential is reached.

34%39%

46%

66%

61%

54%

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400

2009/10 2010/11 2011/12

Tons(0

00s)

Hippo Triangle

Company Profile



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Table 1: Hippo Valleys cane supply & milling statistics, 2009/10 2014/15(E)

2009/10 2010/11 2011/12 2012/13 (E) 2013/14 (E) 2014/15 (E)

Company Area cut (ha) 7,978 10,371 11,950 12,000 12,000 12,000

Yield (tons/ha) 91.48 83.47 89.60 95.00 100.00 105.00

Cane harvested (tons) 729,856 865,676 1,070,700 1,140,000 1,200,000 1,260,000

Private farmers Area cut (ha) 3,539 3,111 4,207 4,904 5,600 5,600

Yield (tons/ha) 38.08 51.40 51.61 65.00 70.00 75.00

Cane harvested (tons) 134,776 159,898 217,119 318,760 392,000 420,000

Mkwasine Estate Area cut (ha) 2,100 2,014 2,610 3,605 4,100 4,100

Yield (tons/ha) 22.32 39.02 36.24 50.00 55.00 60.00

Cane harvested (tons) 46,863 78,591 94,568 180,250 225,500 246,000

Total cane harvested (tons) 911,495 1,104,165 1,382,387 1,639,010 1,817,500 1,926,000

Used for seed purposes 0 0 0 0 0 0

Milled at Triangle (11,075) (95,386) 0 0 0 0

Dumped cane (24,300) 0 0 0 0 0

Total cane milled (tons) 876,120 1,008,779 1,382,387 1,639,010 1,817,500 1,926,000

Cane-to-sugar ratio 9.98 7.72 8.15 8.00 8.00 8.00

Total sugar produced (tons) 87,750 130,647 169,618 204,876 227,188 240,750


Figure 18: Breakdown of Hippos cane supply, 2009/10 2014/15(E)


Figure 19: Hippos sugar production, 2009/10 2014/15(E)


0

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2009/10 2010/11 2011/12 2012/13 (E) 2013/14 (E) 2014/15 (E)

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Company Private farmers Mkwasine Estate

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2009/10 2010/11 2011/12 2012/13 (E) 2013/14 (E) 2014/15 (E)

Tons(000s)

Company Profile



13/18

Sales markets and pricingThe Zimbabwe sugar industrys domestic market sales for the 2011/12 season amounted to 247,000 tons, equivalent to 66% ofthe total 372,000 tons produced. The remaining 125,000 tons was exported to the European Union under preferential marketarrangements at favourable prices. There is currently no incentive to export regionally as domestic prices are in line with regional

prices and domestic demand remains firm. Domestic sales have been on the increase over the last three years, rising from151,000 tons in 2009/10 to 184,000 tons in 2010/11 and now 247,000 tons in 2011/12. Zimbabwes per capita consumption,currently estimated at around 25kg, has the potential to rise to the consumption levels of neighbours Botswana and South Africa of32kg and 35kg respectively. However we expect the increase in total sugar produced to exceed the increase in domesticconsumption which should see domestic sales as a percentage of total sales starting to decline marginally while the exportsproportion goes up. Shortages in the EU market saw the 27-nation bloc accepting bids to import a total of 399,014 tons of sugar(384,000 tons raw, 15,014 tons white) in the 2011/12 season at reduced duty levels. Hippos proportional sales profile, in terms ofdomestic sales versus exports, is estimated to match that of the Zimbabwe sugar industry as a whole. The local price went upfrom $545 per ton to $600 per ton in October 2011 while EU exports are estimated to fetch in the region of $800-$1,000 per ton.

Table 2: Zimbabwe sugar production & sales, 2009/10 2012/13(E)

2009/10 2010/11 2011/12 2012/13 (E)

Zim sugar production (tons) 258,000 333,000 372,000 430,000Hippo's sugar production (tons) 88,000 131,000 170,000 205,000

Hippo's production as % of total 34% 39% 46% 48%

Zim domestic sales (tons) 151,000 184,000 247,000 285,000

Zim export sales (tons) 123,000 133,000 125,000 160,000

Zim total sales (tons) 274,000 317,000 372,000 445,000

Zim domestic sales as % of total 55% 58% 66% 64%


Figure 20: Zimbabwe sugar sales profile, 2009/10 2012/13(E)


55%58%

66%64%

45%42%

34%

36%

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450500

2009/10 2010/11 2011/12 2012/13 (E)

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Zim domestic sales Zim export sales

Company Profile



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Increasing cane supply to drive revenue growthWith regards to its own cane production, the company has reached its capacity in terms of land use with the area planted curr entlystanding at around 12,000 ha so the strategy is to improve yields. Over the course of the 2011/12 season, 3,263 ha of companyland was ploughed out and replanted as part of an on-going cane re-establishment programme aimed at correctly positioning the

crop for a full return to optimal yields over the next three years. The target is to increase the companys average yield from thecurrent 89.6 tons/ha to 105-110 tons/ha by 2014/15. However the real increase in production is expected to come from the privatefarmer sector. The Zimbabwe sugar industrys recent and on-going recovery continues to be underpinned by the private canefarmer rehabilitation programme, initiated in 2010/11 under the Sustainable Rural Communities (SusCo) project. A $30mn four-year revolving finance facility was secured for the project through BancABC (ABCH:ZH). Of the 15,880 ha farmed by privategrowers across the industry, 3,476 ha were replanted under the SusCo project over the 2011/12 season, with a further 874 hareplanted by Chipiwa farmers financed by the EU-funded Canelands Trust. Private farmers independently ploughed out andreplanted an additional 1,914 ha during the same period, with input support from Tongaat Hulett. As a result, private farmers collective cane deliveries increased from 413,000 tons in 2010/11 to 531,990 tons in 2011/12 (of which Hippo Valley received311,687 tons), representing a year-on-year increase of 29%. It is anticipated that completion of the rehabilitation programme willsee private farmers cane production reaching 1.4mn tons by 2015. There is also scope for massive improvement in out-growersyields, with the 51.4 tons/ha achieved by private farmers in the Hippo Valley Mill Group in 2010/11 and 39.0 tons/ha achieved bythe Mkwasine outgrowers expected to rise to around 90 tons/ha over the next few years.

Table 3: Planned replanting schedule of private cane famer land (ha)

Mill Group

2011/12 2012/13 2013/14 2014/15

Plant

crop

Ratoon

cropTotal

Plant

crop

Ratoon

cropTotal

Plant

crop

Ratoon

cropTotal

Plant

crop

Ratoon

cropTotal

Hippo 1,358 2,849 4,207 1,358 3,546 4,904 1,358 4,242 5,600 553 5,047 5,600

Mkwasine 2,185 3,034 5,219 2,185 5,025 7,210 2,185 6,015 8,200 822 7,378 8,200

Triangle 447 1,357 1,804 447 1,495 1,942 447 1,633 2,080 205 1,875 2,080

Total 3,990 7,240 11,230 3,990 10,066 14,056 3,990 11,890 15,880 1,580 14,300 15,880

* The plant crop is new cane which has been planted and not yet harvested.

* The ratoon crop is cane which has been harvested at least once and regrows in time forthe next harvesting cycle.

Source: Company Report

Majority shareholder Tongaat Hulett LtdTongaat Hulett Ltd is an agricultural and agri-processing company headquartered in South Africa, with operations in South Africa,Zimbabwe, Mozambique, Botswana, Namibia and Swaziland. Its focus is on sugar production (cane cultivation, milling andrefining) although it also produces speciality starches and sweeteners and has a land conversion and development division. Iteffectively controls the Zimbabwe sugar industry through its 100% shareholding in Triangle Corporation Ltd and consequent50.3% stake in Hippo Valley. Its total sugar production for the 2011/12 year grew by 14% to 1.15mn tons, including increases of42% in Mozambique, 12% in Zimbabwe and 7% in South Africa. Total revenue rose 25% on the prior year to R12.081bn, mainlyas a result of the increased sugar production together with improved realisations in the regional and EU sugar markets. TheZimbabwean sugar operations contributed a significant R2.266bn (19%) to total revenue and provided the largest contribution tothe groups profit from operations, generating R621mn (32%) of the consolidated total of R1.921bn. Tongaat Hulett has a prima rylisting on the Johannesburg Stock Exchange (TON:SJ) and a secondary listing on the Frankfurt Stock Exchange.

Table 4: Top 10 Shareholders

Rank Account Name Shares % of Total

1 TRIANGLE SUGAR CORPORATION LIMITED 97,124,027 50.322 OLD MUTUAL LIFE ASSURANCE COMPANY OF ZIMBABWE LIMITED 25,863,722 13.40

3 TATE AND LYLE HOLLAND BV 19,314,480 10.01

4 NATIONAL SOCIAL SECURITY AUTHORITY - NPS 5,014,301 2.60

5 STANBIC NOMINEES (PRIVATE) LIMITED (NNR) 4,136,982 2.14

6 NATIONAL SOCIAL SECURITY AUTHORITY 3,573,683 1.85

7 STANDARD CHARTERED NOMINEES (PVT) LTD - NNR 3,048,379 1.58

8 OLD MUTUAL ZIMBABWE LIMITED 2,793,220 1.45

9 NATIONAL SOCIAL SECURITY AUTHORITY (W.C.I.F) 2,446,872 1.27

10 MINING INDUSTRY PENSION FUND 1,705,544 0.88

Other 27,999,354 14.50

TOTAL 193,020,564 100.00

Source: First Transfer Secretaries (Pvt) Ltd

Company Profile



15/18

Financials

Hippo Valley Income Statement

2012 2013E 2014E 2015E 2016E 2017E CAGR

evenue 128,915,000 153,738,687 168,033,243 175,221,906 181,853,186 182,046,640 7%

air value gain on biological assets 15,163,000 5,000,000 - - - -

urnover 144,078,000 158,738,687 168,033,243 175,221,906 181,853,186 182,046,640 5%

BITDA 40,081,000 47,178,190 50,928,601 52,854,763 54,634,774 54,761,988 6%

&A (7,693,000) (7,784,910) (7,872,551) (7,956,724) (8,037,567) (8,115,211) 1%

BIT 32,388,000 39,393,280 43,056,050 44,898,039 46,597,207 46,646,777 8%

et finance income/(expense) (5,999,000) (5,055,720) (4,635,720) (4,035,720) (3,435,720) (2,835,720) -14%

hare of profit/(loss) of associate 1,479,000 1,479,000 1,479,000 1,479,000 1,479,000 1,479,000 0%

BT 27,868,000 35,816,560 39,899,330 42,341,319 44,640,487 45,290,057 10%

axation (6,922,000) (9,222,764) (10,274,077) (10,902,890) (11,494,926) (11,662,190) 11%

AT 20,946,000 26,593,796 29,625,253 31,438,430 33,145,562 33,627,867 10%her comprehensive income (250,000) - - - - -

otal comprehensive income 20,696,000 26,593,796 29,625,253 31,438,430 33,145,562 33,627,867 10%

vidends paid out - (6,648,449) (9,875,084) (12,575,372) (13,258,225) (13,451,147)

etained earnings 20,696,000 19,945,347 19,750,168 18,863,058 19,887,337 20,176,720 -1%

eighted average shares in issue 193,020,564 193,020,564 193,020,564 193,020,564 193,020,564 193,020,564

asic EPS (cents) 10.8517 13.7777 15.3482 16.2876 17.1720 17.4219

vidend per share (cents) - 3.44 5.12 6.52 6.87 6.97

perating margin 25.1% 25.6% 25.6% 25.6% 25.6% 25.6%

BITDA margin 31.1% 30.7% 30.3% 30.2% 30.0% 30.1%

et margin 16.1% 17.3% 17.6% 17.9% 18.2% 18.5%

fective tax rate 24.8% 25.8% 25.8% 25.8% 25.8% 25.8%

vidend ratio 0.0% 25.0% 33.3% 40.0% 40.0% 40.0%




16/18

Financials

Hippo Valley Balance Sheet

2012 2013E 2014E 2015E 2016E 2017E CAGR

PE 196,761,000 198,976,090 201,103,539 203,146,815 205,109,248 206,994,037 1%

ological assets 35,600,000 38,100,000 38,100,000 38,100,000 38,100,000 38,100,000 1%

vestments in associates 3,164,000 4,643,000 6,122,000 7,601,000 9,080,000 10,559,000 27%

on-current assets 235,525,000 241,719,090 245,325,539 248,847,815 252,289,248 255,653,037 2%

ological assets 46,381,000 48,881,000 48,881,000 48,881,000 48,881,000 48,881,000 1%

ventories 19,912,000 20,772,866 21,729,653 22,659,273 23,516,814 23,541,831 3%

ade and other receivables 14,318,000 17,075,053 18,662,684 19,461,096 20,197,602 20,219,088 7%

eferred plant maintenance costs 9,635,000 9,635,000 9,635,000 9,635,000 9,635,000 9,635,000 0%

urrent tax asset 359,000 359,000 359,000 359,000 359,000 359,000 0%

ank balances and cash 10,319,000 17,024,875 26,816,220 36,587,167 47,507,419 59,305,016 42%urrent assets 100,924,000 113,747,794 126,083,557 137,582,536 150,096,835 161,940,935 10%

otal assets 336,449,000 355,466,884 371,409,096 386,430,351 402,386,083 417,593,972 4%

hare capital 15,442,000 15,442,000 15,442,000 15,442,000 15,442,000 15,442,000 0%

on-distributable reserve 128,299,000 128,299,000 128,299,000 128,299,000 128,299,000 128,299,000 0%

etained earnings 53,386,000 73,331,347 93,081,515 111,944,573 131,831,910 152,008,631 23%

hareholders' equity 197,127,000 217,072,347 236,822,515 255,685,573 275,572,910 295,749,631 8%

ovisions 11,419,000 11,419,000 11,419,000 11,419,000 11,419,000 11,419,000 0%

ng-term borrowings - - - - - -

eferred taxation 59,964,000 59,964,000 59,964,000 59,964,000 59,964,000 59,964,000 0%

on-current liabilities 71,383,000 71,383,000 71,383,000 71,383,000 71,383,000 71,383,000 0%

hort-term borrowings 43,131,000 41,131,000 36,131,000 31,131,000 26,131,000 21,131,000 -13%

ade and other payables 24,808,000 25,880,537 27,072,581 28,230,778 29,299,173 29,330,341 3%

urrent liabilities 67,939,000 67,011,537 63,203,581 59,361,778 55,430,173 50,461,341 -6%

otal equity and liabilities 336,449,000 355,466,884 371,409,096 386,430,351 402,386,083 417,593,972 4%




17/18

Financials

Hippo Valley Statement of Cash Flows

2012 2013E 2014E 2015E 2016E 2017E CAGR

BIT 32,388,000 39,393,280 43,056,050 44,898,039 46,597,207 46,646,777 8%

&A 7,693,000 7,784,910 7,872,551 7,956,724 8,037,567 8,115,211 1%

ofit on disposal of PPE 34,000 - - - - -

air value gain on biological assets (15,163,000) (5,000,000) - - - -

ash generated from/(used in) operations 24,952,000 42,178,190 50,928,601 52,854,763 54,634,774 54,761,988 17%

hange in WC 412,000 (2,545,382) (1,352,374) (569,835) (525,652) (15,335)

eferred plant maintenance costs (1,886,000) - - - - -

ovisions (3,544,000) - - - - -

et cash generated from/(used in) operations 19,934,000 39,632,808 49,576,227 52,284,928 54,109,122 54,746,654 22%

et interest paid (5,999,000) (5,055,720) (4,635,720) (4,035,720) (3,435,720) (2,835,720) -14%

ax paid - (9,222,764) (10,274,077) (10,902,890) (11,494,926) (11,662,190)perating cash flow 13,935,000 25,354,324 34,666,429 37,346,319 39,178,477 40,248,744 24%

apex (10,282,000) (10,000,000) (10,000,000) (10,000,000) (10,000,000) (10,000,000) -1%

oceeds from disposal of PPE 233,000 - - - - -

vidends received 872,000 - - - - -

vesting cash flow (9,177,000) (10,000,000) (10,000,000) (10,000,000) (10,000,000) (10,000,000) 2%

CF 4,758,000 15,354,324 24,666,429 27,346,319 29,178,477 30,248,744 45%

vidends paid - (6,648,449) (9,875,084) (12,575,372) (13,258,225) (13,451,147)

ebt issued/(repaid) (1,817,000) (2,000,000) (5,000,000) (5,000,000) (5,000,000) (5,000,000) 22%

quity issued - - - - - -

nancing cash flow (1,817,000) (8,648,449) (14,875,084) (17,575,372) (18,258,225) (18,451,147) 59%

hange in cash 2,941,000 6,705,875 9,791,345 9,770,947 10,920,252 11,797,597 32%

ash bop 7,378,000 10,319,000 17,024,875 26,816,220 36,587,167 47,507,419 45%ash eop 10,319,000 17,024,875 26,816,220 36,587,167 47,507,419 59,305,016 42%




18/18

DisclaimerResearch Team

Dzika Danha+263(772) 573 [email protected]

Christine Mhongo+263(774) 171 [email protected]

Lloyd Mlotshwa+263(772) 936 [email protected] Rowland+263(778) 300 [email protected]

CertificationThe analyst(s) who prepared this research report hereby certifies(y) that: (i) all of the views and opinionsexpressed in this research report accurately reflect the research analyst's(s) personal views about thesubject investment(s) and issuer(s) and (ii) no part of the analysts(s) compensation was, is or will bedirectly or indirectly related to the specific recommendations or views expressed by the analyst(s) in thisresearch report.

Ratings DefinitionBuy - Expected 1 year return is at least 20%Hold - Expected 1 year return of between 0% and 20%Sell - Expected 1 year return of 0% and below

DisclaimerThis document has been prepared by IH Securities to provide background information about thesecurities and (or) markets mentioned herein, the forecasts, opinions and expectations are entirely thoseof IH Securities. This document was prepared with the utmost due care and consideration for accuracyand factual information; the forecasts, opinions and expectations are deemed to be fair and reasonable.However there can be no assurance that future results or events will be consistent with any suchforecasts, opinions and expectations. Therefore the authors will not incur any liability for any loss arisingfrom any use of this document or its contents or otherwise arising in connection therewith. Neither will thesources of information or any other related parties be held responsible for any form of action that is takenas a result of the proliferation of this document.

Contact Details

IH Securities (Pvt) Ltd4 Fleetwood RoadAlexander ParkHarareZimbabwe

Tel +263 (4) 745133/139Fax +263 (4) 745879

mailto:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]

Hippo Valley Research Report August 2012

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