FINANCIALS OF ARÇELİK COMPANY

FINANCIALS OF ARÇELİK COMPANY

Turkish Economy 

Slow growth in Europe and a deteriorating geopolitical environment in its neighbourhood have negatively impacted exports, investment, and growth. The influx of 3 million Syrian refugees in 2015–16 created new social, economic, and political demands, particularly in urban centre where most refugees are living.Political developments in 2015 and 2016 have presented further challenges. Elections in June and November 2015, a cabinet reshuffle in May 2016, an attempted coup in July, and the consequent replacement of public officials have all affected the Government’s reform momentum. At the same time, a series of terrorist attacks has weakened tourist arrivals and foreign investment. Private investments have been delayed, leading to slower economic growth.

In November 2015, Turkish Military shot down a Russian fighter jet with the claim that it was trespassing Turkish airspace. This had resulted in a crisis with Russian Federation that would last for the next seven months. This had been economically relevant because of two things: the first one is the void created by the lack of Russian tourists –who did not come in 2016 due to both the crisis as well as terrorism– had critically impacted the coastal regions and the tourism sector in general. Substantial amount businesses in the accommodation subfield of tourism sector had reported less than 15% occupancy rate, many did not open. The stats the sector representatives share indicate that the amount of tourists visiting Antalya has dropped by 42%.

In July 2016, there was a failed coup attempt, allegedly (alleged by Turkish State)

orchestrated by FETO organization which has reportedly infiltrated the positions of power. While the conflicts between the governing party and the organization had been ongoing for quite some time, according to the government sources FETO tried to end the conflict with the harsh treatment. Following the attempted coup, the stock market fell about 7% in the first day.

Industry Analyse

Arçelik AS is a Turkey-based household appliances manufacturer. The Company is engaged in the production and marketing of durable goods, allied components and consumer electronics, as well as in the provision of after-sale services, exportation and importation of these products. The Company is organized, along with its subsidiaries, into two business segments: the White Goods segment comprises washing machines, dryers, dish washers, refrigerators, ovens, cookers and the services provided for these products, and the Consumer goods segment comprises televisions primarily with flat screens, computers, cash registers, other electronic devices, and the services provided to consumers for these products. In addition, the Company also offers air conditioners, home appliances, and furniture and kitchen gadgets. The Company operates 14 manufacturing plants in Turkey, Romania, Russia, China and Republic of South Africa.

White Goods:

Turkey maintained its position of being the greatest manufacturing centres of Europe in terms of white goods in 2015. As of the end of 2015, the figures mark a growth of

Over 7% compared to the previous year in exports with 18.08 million units and a growth of 5.72% in the local market with 7.09 million units. Having a widest service network in Turkey with its strong authorized dealers and after sale service branches, Arçelik maintained its leadership in the industry with its market share of over 49% in white goods, built-in products and air-conditioners and of around a 22% LCD TV in 2015. 

Efforts regarding the high-segment product groups continued in 2015. The innovative face of Arçelik A.Ş. was highlighted in these efforts not only by campaigns for this segment but also by introducing unique features like FullFresh + which keeps vegetables fresh for up to 30 days. 

The fresh look of Beko dishwashers was also introduced. Aqua intense feature which allows high washing pressure and top-quality cleaning of strong stains through an additional washing blade on the lower blade mechanism was launched by Beko. New range of glass-door white and black dishwashers was also launched. 

With new living spaces created in parallel with the effect of urban transformation and increasing urbanization, demand for built-in devices has increased as well. Oven, furnace and fume hood categories in built-in devices category are still the product groups growing with the highest pace. Sales of built-in products increased by 18% compared to the previous year, exceeding 2 million units. Arçelik A.Ş. maintains its leading position in this growing market with sales exceeding 1 million units.

As the leader in the industry, Arçelik continued to focus on energy efficiency and environmental consciousness and collected a huge amount of old, inefficient products and replaced them with energy efficient products through the Big Change Campaign which was initiated in 2014 and continued in 2015. The number of old and inefficient products collected through this campaign in the last 2 years is close to half a million.

Consumer Electronics:

Consumer electronics market slowed down especially in the second half of the year, mainly due to the price effect of the sudden increase in exchange rates and the decrease in consumer confidence index and 2015 results are a modest increase in terms of numbers and a decrease in turnover. Arçelik A.Ş. improves its position as a retailer with a strong sales channel and strong brands and focuses on consumer electronics in accordance with a leap and grows strategy. In this sense, wholesales increased by 34% and retail sales increased by 37% in Consumer Electronics in 2015. Brand investments on Consumer Electronics brands including Arçelik, Beko, Grundig and Altus and new product launches help the Company strengthen its market position. The Company also continues to improve the product variety at the dealer channel as well as the customer traffic through strategic brand cooperation and investments on new concept stores.

In 2015, TV market growth decelerated as compared to the previous year with a growth of 2% in terms of numbers. However, the turnover growth was 6% with the effect of fast increase in the penetration of products in Ultra HD segment and the increase in average sales prices. Arçelik A.Ş. achieved an increase in market share in its main area of activity, the TV market, with all its brands and grew by 16% in total in 2015. With the new Curved Ultra HD TV technology investment, four new product groups were launched and the sales in 102 and plus inch screen sales grew by 70%

with the new Quad Core Smart TV platform and Product Design Improvements.

Analyse of Arçelik A.Ş.

While end year 2016 information about Arçelik hasn’t been public, we can draw our analysis out of September 2016 third quarter report and 2015 end year reports.From January 2016 to September 2016, the total of Arçelik sales were 11,570,243 TL, while the amount for same time period in 2015 was 10,099,139 TL. The increase comes from the increase in domestic sales.

When we take a look in the comparative financials of Arçelik, we see a slight rise in gross 

profit percentage, from 31.8% to 33.7%. In 2016, we see a  less heavily burdened by the cash flows to financing activities. For an increased level of sales, the expenditure for financing activities had been half the 2015 values. In both years, we see positive and rising net income. In 2016,we see 1,073,787 TL net income, one year ago, in 2015  net income is 681,219 TL. 

For the nine months ended 30 September 2016, Arçelik AS revenues increased 15% to TRY11.57B. Net income increased 57% to TRY1.07B. Revenues reflect an increase in demand for the Company's products and services due to favourable market conditions. Net income benefited from Foreign Exchange Loss decrease of 65% to TRY297.6M (expense), Other Operating Income increase of 61% to TRY178.3M (income).

Depreciating GBP negatively affected sales in TRY terms (around 1% down YoY in 2016 Q3). Increasing steel costs have negatively affected gross margin in white goods. Larger size TV sales and slightly better unit sales in POS cash registers helped gross margins in consumer electronics. Investments to support our long-term branded sales in international markets have partly diluted the margins.

By looking at 9 month 2016 market performance of Arçelik, above market-average growth in all major product groups (MDA, TV, A/C).

Outperforming unit grow around 6% in MDA market. Around 10% unit grow in shrinking TV market. Around 20% increase in unit sales for A/C, especially due to the performance in June.  Despite the slowdown in Q2-Q3, high increase in POS cash registered on sales.

Arçelik Group continued to strengthen its position in international markets. More stable performance in free-standing segment as Beko is already N1 in Europe. Beko also capturing the leading position in total MDA market in East Europe. Continuing strong performance in built-in segment Expansion of Grundy MDA goes on with sales growth of 63% in the first 3 quarters.

Valuation

DCF Analysis

We made a discounted cash flow analysis to value Arcelik shares, based on 10-year 

forecast period with an 8% terminal growth rate and a 12.9% WACC (10% risk-free rate, 5.5% equity risk premium, 0.78 Beta). We adjusted net debt for the projected

cash inflow of TL 559mn from the sale of 4% stake in Koc Finansal Hizmetler. We 

also included equity pick up investments: mainly JV of Arcelik and LG in air conditioner production and Koc Finansman. Accordingly, our valuation model pointed to a target value of TL 23, offering 15% upside potential.

Main assumptions of our DCF model are as follows:

1) We project 13% revenue CAGR in TL terms and 4% CAGR in EUR terms for 2015-

2018E.

2) Following the expected recovery in the EBITDA margin in 2016, we forecast a 

slight contraction in 2017, on the back of the anticipated increase in raw material 

costs and expected downswing in the gross margin of electronics segment. Our 

long-term EBITDA margin estimate stands at 10.8% which is slightly higher than 

the 5-year average EBITDA margin of 10.3%. On top of the organic growth of the 

business, we also think that the fee income contribution from the cash registers 

(0.5% of total revenues in the long-term) will support the EBITDA margin.

3) We estimate 4% capex/sales within 2016-2020 and 3% capex/sales after 2020, in 

line with the historic average.

4) For 2016, we anticipate 5 days decline in cash cycle from 123 days to 118 days. 

Hence, our projection suggests a 32.8% working capital/sales ratio in 2016, 

down 140bp from the 2015 level. Note that the management announced its 

target to reduce the working capital/sales ratio to 30% in the medium term (32% 

according to our calculation). However, given the the volatility in working 

capital/sales ratio, we factored in a 32.8% ratio for the long term in order to 

remain on the conservative camp.

While end year 2016 information about Arçelik hasn’t been public, we can draw our analysis out of September 2016 third quarter report and 2015 end year reports.From January 2016 to September 2016, the total of Arçelik sales were 11,570,243 TL, while the amount for same time period in 2015 was 10,099,139 TL. The increase comes from the increase in domestic sales.

When we take a look in the comparative financials of Arçelik, we see a slight rise in gross 

profit percentage, from 31.8% to 33.7%. In 2016, we see a  less heavily burdened by the cash flows to financing activities. For an increased level of sales, the expenditure for financing activities had been half the 2015 values. In both years, we see positive and rising net income. In 2016,we see 1,073,787 TL net income, one year ago, in 2015  net income is 681,219 TL. The change between years 2015 and 2016 had been in the D/E ratio, with December 2015 having 1.938, and September 2016 having 1.814.            

As a result, we expect consolidated gross margin to grow 110bp to 33% in 

2016, yet opex/sales should increase 40bp to 24.7%. Consequently, 

consolidated EBITDA margin should widen 60bp y/y to 10.9% in 2016. 

In view of the anticipated upward trend in raw material costs and decline in the 

gross margin of electronics segment in 2017, 10.7% EBITDA 

margin for 2017 while our long-term EBITDA margin estimate stands at 10.8%, 

close to the management’s target.