Ajinomoto Earnings: Price Hike Benefits of Food Neutralize Further Weakness of ABF and Biopharma

Narrow-moat Ajinomoto 2802 posted mixed second-quarter results, with sales up 5.6% (0.6% decline currency neutral) year on year and nearly flat business profits (5% decline). The advanced price hike benefits of the moaty food businesses, particularly in the overseas markets, offset widened profit decline of the functional material, or ABF, and biopharma services businesses, the two growth engines of the group’s profits during COVID-19. Contrary to management’s confidence in improved healthcare (ABF and biopharma service) demand from the second quarter reiterated just three months ago, the downward revision of healthcare sales and profits points to limited visibility to cyclicality and a business model depending on a few clients, the risks that we have flagged but the market seems to have overlooked. After the recent rally, we view shares, trading at 33% premium to our fair value estimate of JPY 4,500, as overvalued. Our business profit forecast for 2023 is 3% above the guidance.

The profit loss in biopharma and persistent weakness in ABF were negative surprises, although management emphasized no change in the long-term growth prospect of the two businesses. It appears that economic slowdown in the U.S. has prompted a major pharma client to accelerate the pace of inventory correction of which Ajinomoto expects to end soon. Likewise, it expects ABF sales will return to its growth path from the January-March quarter when impacts of inventory correction cycle end. Despite attractive growth stories, we are not convinced that decade-long growth of ABF and CDMO of oligonucleotides will last given the industry nature of cyclicality. The biopharma firms may face greater financing obstacles in a high interest rate environment that may slow investment in new drugs and thus CDMO demand.