Ready-meals maker Bakkavor Group PLC (LON:BAKK) will struggle to maintain its margins as the supermarkets it supplies to pressures the company to lower prices, according to Barclays.
Bakkavor, which supplies to Marks & Spencer Group PLC (LON:MKS), Tesco PLC (LON:TSCO), J Sainsbury PLC (LON:SBRY) and Waitrose, last month warned that it expects first-half margins to weaken amid subdued consumer confidence and inflationary pressures.
READ: M&S ready meal supplier Bakkavor predicts weaker margins in first half
In a note on the European food ingredients sector, Barclays downgraded the stock to ‘underweight’ from ‘overweight’ and cut its price target to 125p from 212p.
“Despite our bearish stance, we think Bakkavor has done and is doing many things right,” Barclays said.
“It is in relatively attractive categories (fresh food looks like it will continue to grow ahead of other categories) and offers its customers good service with lots of innovation.
“However close on 90% of its UK revenue (which are 90% of company revenue) are with four of the UK’s major food retailers (themselves under significant financial pressure) and we do not think Bakkavor will be able to maintain its margins.”
Sainsbury's and Asda merger could put pressure on Bakkavor margins
The group’s margins could come under pressure if the UK Competition and Markets Authority approve the proposed merger of Sainsbury’s and Asda since the supermarket companies have said they would use their increased buying power to negotiate lower prices from suppliers.
READ: Sainsbury's and Asda vow to cut prices by £1bn per year if CMA approves merger
The same risk faces other companies that provide ready-meals and other grocery products to the supermarkets, Barclays said.
M&S is also facing calls to slash prices to revive its food business after agreeing a tie-up with Ocado PLC (LON:OCDA) to launch its online grocery delivery service.
Barclays said Brexit poses another risk to the firm and other food suppliers as it will hurt consumer confidence, disrupt supply chains and potentially shrink the availability of workers.
Rising labour costs is another factor weighing on the industry as a whole, the bank added.
Shares in Bakkavor were unchanged at 126p in midday trading.
Barclays initiates Greencore at 'underweight'
Barclays said it is concerned about the “increasingly competitive” UK ready meal market and for this reason, it initiated coverage of Bakkavor's rival Greencore PLC (LON:GNV) with an ‘underweight' rating and target price of 190p.
The bank said Greencore, which supplies to all major British retailers except Tesco, has done well to build a dominant share of the comparatively attractive UK own-label food-to-go market.
However, the bank said competition is getting tougher and the UK food-to-go business is the only profitable source of growth for Greencore following its recent exit from the US.
“Anti-consensually we think that Greencore will need the £6mln overhead savings it has identified after its US exit to offset higher costs and commercial pressures and we see adjusted earnings per share stagnating.”
Shares in Greencore fell 1.7% to 198p.
Tate & Lyle to benefit from sugar curbs
Barclays also took a look at Tate & Lyle PLC (LON:TATE), saying it could be one of the food ingredients businesses to benefit from a reduction in sugar in consumers’ diets.
The company has a portfolio of non-sugar sweeteners, texturisers and fibres under its food and beverage solutions (FBS) division that can help food manufacturers cut sugar.
In a note on the European food ingredients sector, Barclays initiated coverage of Tate & Lyle with an ‘overweight’ recommendation and target price of 800p.
The bank thinks Tate & Lyle should be a beneficiary of efforts by governments around the world to combat obesity.
The UK government, for instance, has introduced higher taxes on sugar, prompting many food manufacturers to introduce sugar-free and low-sugar products.
Barclays said it believes Tate & Lyle is on an upward trend with FBS volumes improving for four consecutive years – something that has not been fully recognised by the market yet.
“With CEO Nick Hampton about to start his second year in charge, we see a tighter, more confident operation that we think is less likely to negatively surprise,” the banks said.
Tate & Lyle shares gained 2.1% to 710.4p.
Rise of clean-eaters and vegetarians to boost Kerry
Barclays thinks fellow food ingredients firm Kerry Group PLC (LON:KYGA) is well placed to benefit from the trend of clean, reduced-fat and vegetarian/vegan foods.
It initiated coverage of Kerry at ‘equal weight’ with a €100 target price.
Kerry’s taste and nutrition business delivered a 4.1% increase in volumes in 2018, boosted by acquisitions.
Barclays said the integration of acquisitions will be key to Kerry’s performance and the company has a “good track record” in this respect.
Last year, Kerry’s consumer foods business lost a sizeable contract to make ready meals for Tesco.
Kerry has spent €30mln on reducing the exposure of this business to sterling in the past two years and committed a similar amount for its restructuring this year.
“The company clearly wants to focus its efforts and resources on T&N, but private-label customers are skilled in making sure they get their share and we wonder whether restricting investment in consumer foods will lead to further business losses there,” Barclays said.
Kerry shares dipped 0.7% to 96.3p.