Description

Ferreycorp is the Caterpillar dealer in Peru (not a country option on VIC). It’s been a durable enterprise, founded about a century back and publicly listed for ~60 years.

It’s a pretty good businesses, albeit with a few notable drawbacks, including: (i) exclusive reliance on CAT to produce good products at competitive prices, (ii) servicing customers whose relationship often sits with CAT (procurement department at majors), and (iii) CAT could withdraw the distribution rights to a territory on limited notice, so when they say “jump” dealers must ask some variation of “how high?”

CAT dealers also have positive attributes, such as: (i) strength in the mining sector, with many mines using only one supplier for logistical reasons (CAT or Komatsu)n, (ii) trucks and excavators may effectively operate 24/7 and are continuously being repaired at the middle-of-nowhere mine site (or rebuilt in specialized workshops), and (iii) as with many dealerships, aftermarket service is recurring and attractive (frequently have good absorption ratios). 

Peru is a nice territory in that it’s well-endowed with high-grade minerals (the 2nd and 7th largest copper and gold producer, respectively). In both cases, Peru’s position on the cost curve is strong and the country’s resources are considered under-developed vs. its more pro-mining neighbors (such as Chile). Over time, it may be reasonable to expect that numerous discovered but undeveloped ore bodies get mined (the world probably needs that copper eventually).

Hang on a second… didn’t Peru recently elect a communist president that just got thrown in jail after an ill-fated coup, leaving simmering civil turmoil that has impacted mines? OK fancy-pants Economist reader, I guess that’s worth touching on pre-valuation…

Rewind ~4 years: Peru is the new South American golden child (Chile had its own challenges) with an impressive decade of GDP growth, a young population, and no communist leaders or coup in a while. But like most of South America, things have been tilting populist as the fruits of capitalism haven’t made their way onto countryside tables (plus Peru had an atrocious pandemic). Anyway – the last election turned on a knife's edge as the dark horse leftist beat the controversial establishment candidate (last dictator’s daughter) by less than a point. That new president was, somewhat predictably, ineffectual (Presidency is a weak office without congressional support), and he responded to impending impeachment by trying to dissolve congress. That was a checkmate-in-one blunder without institutional support, and he’s now in “preventive detention”. The replacement figure(s) are viewed as much more “traditional.”

Clearly even Peruvian experts don’t know exactly how the ball bounces from here (they didn’t foresee this guy in the first place, or his coup). It’s worth noting that many institutional forces in Lima are quite anti-communist (Shining Path not that long ago). I expect market forces/property rights will remain intact and that low-cost mines will stay open/half built mines will be finished. That’s not a very quantitative prediction, but at least the bond markets seem to be handicapping some comparable normalcy. Lending Peru dollars for ~10 years earns you about ~5%, while local bonds (Soles) earns you ~8%. Those rates are comparable-ish to Mexico (lower in local).

Valuation: I think Ferreycorp is cheap, trading near its tangible book value with an attractive ROTE and a P/E of something near-ish ~5-6x (maybe an ~15-20% earnings yield targeting a ~60% payout ratio). Is high-teens earnings yield attractive if you get them in Soles (clearly with some expectation of depreciation)? I think so, but it’s actually a somewhat dollarized business and weak local FX can somewhat help (fair bit of gross profit are effectively USD, fair bit of the SG&A is Soles). There are also some global comps, and Ferrey seems like good value relative to those as well (many of whom also have macro risks – such as Finning in Chile or Barlo in [cough] “Eurasia”).

Honestly, I think Ferreycorp’s capital allocation is pretty good. They’ve paid very healthy dividends, bought back shares when it made sense, funded organic growth at attractive returns, and will probably de-lever a bit over time. The governance also seems solid and they seem to legitimately care about their perception by capital markets (they’ve won best-corporate-governance awards in Peru and that type of thing). My conversations with local market participants / other knowledgeable parties have always indicated they’re an ethical and prudent company.

In summary, I think this is a good business at an attractive price offering a very decent risk-reward for some appropriately sized position.

Risks: Peru stuff, mining cycle stuff, Komatsu and (someday) Chinese equipment

Disclosure: Have ownership interest in Ferreycorp S.A.A. at the time of this write-up that can change at any time without notice. There are no plans to provide future updates on the authors buying or selling activities for this or other stocks. The author may buy or sell shares of Ferreycorp S.A.A. without notice for any reason at any time.

Catalyst

Value baby!