Investor - An insider's guide to the market: The long-running court case between DCC and Fyffes is now very close to completion. During the early stages the case generated a lot of media interest but it was not long before the proceedings settled into a routine of detailed and often tedious examination of statements from the various players and their respective expert witnesses.
It is difficult to assess what impact the eventual judgment will have on the share price of each company. Already the legal costs accrued by each side must be very substantial and if there is not a decisive judgment the shareholders of both companies will have lost out.
As the defendant, DCC's share price could suffer if the court were to rule in favour of Fyffes. However, any potential damage to DCC may already be priced into the shares. So far this year DCC's share price has risen by less than 2.5 per cent thus underperforming the Iseq Overall index by -2.4 per cent.
In contrast, Fyffes has enjoyed a strong run this year with a gain of over 24 per cent resulting in a return of over 19 per cent relative to the overall Irish equity market.
While the court case may explain some of this difference in the relative share price movement of the two companies, it is most likely that underlying business fundamentals have been far more influential. DCC is a diversified company that operates in the energy, environmental, food and healthcare markets, and in IT distribution. All of its divisions have been performing quite well with the exception of IT distribution.
In contrast, Fyffes is a much more focused company that is exclusively involved in fresh produce distribution and is best known for its bananas. Fyffes is now one of the world's top five fresh fruit distributors and has a market capitalisation of approximately € 840 million.
The business backdrop for Fyffes has been particularly favourable in 2004 and 2005. Strong banana pricing in Europe combined with a favourable US dollar exchange rate has resulted in very strong profit momentum at the company. Bananas are still the core source of profit for Fyffes, accounting for approximately 50 per cent of total profits, and therefore favourable trends in banana costs and pricing have an immediate and positive impact on the company.
The recent strong run in the share price is a direct consequence of the growth in banana profits and is not due to a rerating of the shares. Fyffes is trading on a modest prospective price earnings ratio (PER) of about 10, which is a substantial discount to the overall market. Uncertainty surrounding the European banana regime is a major concern for investors and is clearly holding back the rating of the shares. From January 1st, 2006, the European banana regime is scheduled to be replaced and this is likely to have a negative impact on the banana industry.
The current regime is a transitional tariff quota system whereby the EU sought to satisfy several competing objectives. These include satisfactory access to the European market for bananas of all origins and all operators, preservation of the interests of banana producers within the EU and protection of the African, Caribbean and Pacific banana producers.
The current regime was agreed in 2001 and includes a process for the transition to a tariff-only regime by January 2006. This is creating uncertainty for Fyffes as it is generally accepted that any new regime will impact negatively on Fyffes profit margins.
Investor therefore believes that further outperformance by Fyffes is unlikely until there is greater clarity regarding the new regime. Furthermore Fyffes needs to accelerate its attempts to diversify its activities so that its dependence on bananas becomes less pronounced.
On the other hand DCC has a good balance of businesses and a long history of steady profit growth. This spread of activities means that there is a much higher degree of confidence in DCC's forecasted profits growth.Investor
