Maurice Blackmores In The 1930's

Table of Contents

Title Page

Executive Summary 3
1. Company Overview 6
2. Industry Analysis 19
3. Current Issues 33
4. Blackmores Financial Analysis 42
5. Share Valuations 53
6. Valuation Discussion 72
7. Appendix – Financial Statements 80
References
92
Executive Summary

• Blackmores Limited is an industry leader in both natural health and research, basing its principle activity on the development and marketing of health products and natural supplements.

• Blackmores Limited (BKL) listed on the Australian Stock Exchange on the 2nd May 1985. Ownership structure has remained relatively constant, with the largest shareholder with a total substantial holding of 24.69% of the company is the Executive Director Marcus Blackmore, son of the founder Maurice Blackmore.

• The company has over 150 products, catering for all areas in natural health and vitamins. Products are distributed primarily through retail pharmacies, supermarkets and health food shops and operations now stem offshore to New Zealand and throughout Asia.

• Products are developed by Blackmores Scientific Researchers and are governed under the strict guidelines and control of the Therapeutic Goods Administration (TGA).

• Blackmores’ initial process of the research of alternate medicines was initially via the supply of products and funds to external researchers. However, the late 1990's saw the company to shift towards a more in-house, formalised process, with the appointment of a research manager based at Southern Cross University. This involvement runs from the supply of products to the full funding of clinical trials.

• Commitment and attitude towards their socially responsible and environmentally friendly business practices sits high on Blackmores’ priority list, continually incorporating more and more socially and environmentally sustainable practices to all aspects of their business model.

• The Complementary health care industry in Australia distributes primarily through its pharmacy and supermarket channels and therefore caters to customers in each of these markets. Competition in both markets is derived from two major firms, namely Symbion and Sigma Health.

• Blackmores is currently operating in an industry which has witnessed recent rapidly accelerating growth, placing itself at the beginning of its mature growth life-cycle. Blackmores is the only mainstream brand that has been able to diversify its position across health food stores, pharmacy, grocery and practitioner channels.

• An aging population, exchange rates and the expected increase of patients, have all had a significant impact on the operations of Blackmores, with many of these contributing to a variety of key success factors.

• The well-knows pan Pharmaceuticals scandal has had an astounding impact on the entire complementary health-care industry, with it now acting as a precedent for all industry and issues going forward.

• DuPont analysis highlights the rapid accelerating growth seen by the industry and Blackmores specifically. This is evident across all aspects of DuPont analysis, with ROE, operating cash flows and dividend growth reaching all time company records, just to name a few.

• Our final company analysis reveals share price to be in fact undervalued by all relevant measures expect for Free cash Flows to Equity. Further research implies this can be contributed to the excessively large increases in Cap Expenditure witnessed over the past 2 years.

• Blackmores is currently positioned to continue to uphold its market leading position in an industry which is ever-expanding. Exciting new opportunities in Asia present avenues for future company growth.

• Management has remained fairly constant and it’s capability in the past and going forward should allow the company to further develop with the ongoing changes in health-care and alternate medicines.

• We believe as such the company’s full potential has not been reached and as such is not being fully valued for the market, consequently presenting a long-term investment opportunity.

1. Company Overview

Company Overview

Business Description

Blackmores Limited is a leading expert in natural health and research. Its principle activity is the development and marketing of health products and natural supplements throughout Australasia. The company has over 150 products and caters for all areas in natural health and vitamins. Products are distributed primarily through retail pharmacies, supermarkets and health food shops.

A key reason for the success of Blackmores is the strong brand platform that has been developed and remains a differentiating factor in the marketplace from its competitors.

Blackmores strategic planning is closely linked to its focus on heritage and core values. This enables the company to maintain their market position and to achieve continuous ongoing success for the both the company and its shareholders. Core values have been identified to include:
• Passion for natural health
• Integrity
• Respect
• Leadership
• Social Responsibility

Products are developed by Blackmores Scientific Researchers under the strict guidelines and control of the Therapeutic Goods Administration (TGA). Company growth is highly important and is driven by high levels of research and development with particular emphasis placed on growing areas and problems such as obesity, cardiovascular and joint problems.

The company is highly interested in international diversification and since its initial break into the New Zealand market in 1981; the company has paid particular attention to other emerging markets in the South-East Asian regions. These areas are of particular importance to Management, in the quest to meet goals and expectation, further develop the Blackmores brand name and capture a larger market share of the industry.

 'Blackmores' is the idea and vision of its creator Maurice Blackmore a naturopath in the 1930's, considered ahead of his time.
 Blackmores considers itself a leader and innovator in the continuous clinical research of health products.
 Blackmores considers it to be a socially responsible company and was successful in winning the 2006 Pharmaceutical Packaging Action Award for the reduction in packaging waste across the business.
 Blackmores sales and manufacturing is stringently regulated and tested by the Therapeutic Goods Administration.

Company History
Blackmores had its beginnings in the 1930's through the vision and passion of its founder Maurice Blackmore (1906-1977), an English immigrant with ideas ahead of his time. Maurice Blackmores’ belief in the health-giving properties of herbs and minerals led him to develop a system of healthcare based on naturopathic principles. Maurice Blackmore first opened a naturopathic rest home in Rockhampton, Queensland in 1934. He than moved amongst other Queensland towns before settling in Brisbane in 1938 when he opened the first health food store in the Fortitude Valley. Blackmore was a pioneer in the naturopathic industry which heralded him the title,’ the father of Australian
Naturopathy'.

Blackmore helped establish the Australian National Naturopathic Association, a body setup to set the standards and codes of naturopaths in Australia.

The company was setup initially in Brisbane in 1962 as Blackmores’ Naturopathic Organisation Pty Ltd as a family naturopathy business and this later expanded to Sydney. Maurice Blackmore retired in 1973 leaving the company to his son, Marcus Blackmore.

On the 2nd of May 1985, Blackmores Laboratories Limited was listed on the Australian Stock Exchange. The company in an expansion phase acquired ‘Russell Health Foods’ and retail chain ‘Healthy Life’. The latter was later disposed of in 1991. In 1988, Blackmores’ established a manufacturing and distribution base in New Zealand.

Fiscal 2001
The 2001 year saw a slowdown in the Australian and New Zealand market which saw sales revenue set at $76.497 million. This could be contributed to the introduction of the GST which automatically led to a 10% price increase, or perhaps a slowdown in overall Australian GDP. Sales across South-East Asia were up nearly 24% as Blackmores attempted to move into the growing kids healthy snack market with the introduction of the product 'Fruity Bitz'. Total dividends paid to shareholders for the year increased to 18 cents per share.

Fiscal 2002
2002 saw sales revenue increase by 6.5% to $81.4 million however profitability was down 7.1% on last years profit figures. Blackmores also implemented their new business system which was somewhat successful for the purpose of assisting with the problems associated with multiple products, channels, retailers, ingredients, suppliers and regulators. South-East Asia continued to be a strong winner for the company with increased and unprecedented growth despite a downturn in the local Malaysian and Thailand markets. New Zealand continued to be a difficult market and saw the reduction in capital base and sell-off of the Auckland premises.

Positively, the Australian Medical Association seen traditionally as a staunch opponent to complementary medicine publicly expressed and acknowledged support for the industry.

Fiscal 2003
2003 was an unprecedented year in Australian complementary medicine industry with the license suspension and total recall of all Pan Pharmaceutical products. While Blackmores was not directly affected by the recall it did face a significant increase in demand as competitors products were removed from the shelves. Sales increased domestically, as well as in the hostile Asian market whereby sales were incidentally boosted during the SARS epidemic. Interestingly in the ailing New Zealand market Blackmores formed a strategic alliance with PSM Healthcare, the leading New Zealand pharmaceutical and toiletries company to stock Blackmores range.

A total dividend of 35 cents was paid to shareholders, as Blackmores increased marketing and customer relations. The Blackmores Health and Wellbeing Survey was conducted, and in light of the Pan crisis a greater commitment was made to research and development with over $1.5 million granted toward external research at Southern Cross University.

Fiscal 2004
2004 witnessed Blackmores’ achievements in protecting the market share that was captured in the post Pan-Pharmaceuticals fallout. Fully-franked dividends for the year were paid to shareholders at a rate of 46 cents. Debt levels were reduced to $6 million when compared to $8.2 million in the year previous. Consumer sentiment seemed to be at a high, with specific atonement to 'the Wellness Revolution' and widespread interest in maintaining health.

Fiscal 2005
2005 was an exciting year for the healthcare industry and in particular for Blackmores with sales climbing to $134 million and Group Net Profit growing by 26% over the year. A total fully-franked ordinary dividend of 46 cents per share was paid to shareholders as well as a special dividend of 14 cents. Debt levels were once again reduced, and excitingly the Company announced the construction of a new home base in Warriewood, on the Northern Beaches of Sydney.

Fiscal 2006
The 2006 fiscal year saw Blackmores win the prestigious Hewitt Best Employer award with over 160 organisations over Australia and New Zealand taking place. The Asian market continued to flourish, with combined sales growth of 27.5% in both the Thailand and Malaysian markets. Furthermore, Blackmores announced its intention to track and enter the Taiwanese market. This would represent the company’s first market entry for nearly a decade.

Sales grew to $148 million as profit increased 20% over the previous year. Dividends grew to a fully-franked amount of 69 cents.

Recent Financial Performance
Source: IbisWorld
Research and Development
Blackmores places a large emphasis on the research and development of products, and in particular the validation of products and their claims. This has mainly come about through a shift in ideas and attitudes mainly pushed by regulatory bodies, health professionals, consumers and suppliers.

Blackmores has always been involved in the research of alternative medicines. This had been a difficult process in the past given the magnitude of products. This was initially through the supply of products and funds to external researchers. However, in the late 1990's, the company decided to formalise this with the appointment of a research manager based at Southern Cross University. This involvement runs from the supply of products to the full funding of clinical trials.

Blackmores focus is mainly on clinical research rather than scientific research, with an overall goal of supporting the medium to long-term objectives of business development and marketing.

Social Responsibility and the Environment
Blackmores is highly regarded for their commitment and attitude towards their socially responsible and environmentally friendly business practices. Blackmores adopts socially and environmentally sustainable practices to all aspects of their business model. Blackmores places extreme importance from its clinical research, to responsible regulation, marketing claims, education and thoughtful attention to its employees.

The company believes strongly in environmentally sustainable practices, and has achieved solid outcomes in its broad based approach to reducing packaging waste across all aspects of the business. The company has maintained the ability to reduce packaging waste in landfill, achieved a waste-free flow of packaging between the Balgowah plant and Brookvale warehouses; and has implemented a system of re-use for all cardboard cartons, shippers and pallets.

The company has also created a virtually paperless system at its Brookvale warehouse with state-of the-art technology and software in which stock is electronically recorded on arrival and actioned on departure. Furthermore, the design of the new Warriewood site incorporates a number of features that will minimise Blackmores’ impact on the environment and incorporate the latest concepts in environmental stability. The following diagram outlines the flows of manufacturing, packaging and transportation that are taken to deliver the Blackmores range to the consumer.

Furthermore, the company holds strong intrinsic values in terms of their employees and employee benefits. The company's executive chairman, Marcus Blackmore believes in “the 3 P's – people, product and passion.” The belief is that if you can get those parts of the business right, the rest of the business takes care of itself.
Some benefits that staff members enjoy include:

• A company subsidised on-site gym
• A subsidised staff cafeteria
• A profit-share scheme whereby twice a year all permanent employees receive a proportion of after-tax profit which can either be taken as cash, or Blackmores shares
• Staff discounts on the Blackmores range
• Paid maternity and paternity leave
• Extensive staff training and career development
• Weekly in-house massages
• A program that encourages all employees to donate 0.5% of their salary to the charity of their choice, which the company than matches.

Ownership Structure
Blackmores Limited (BKL) listed on the Australian Stock Exchange on the 2nd May 1985. The largest shareholder with a total substantial holding of 24.69% of the company is the Executive Director Marcus Blackmore, son of the founder Maurice Blackmore. The ownership registry of Blackmores is not dominated by one particular private company or individual investor. It should also be noted that managed fund investors do not hold a large percentage of the shares on issue.

TOP 20 SHAREHOLDERS
30 April 2008 – Courtesy Blackmores Ltd
No. Holder Total Holdings % I/C
1 Mr Marcus C. Blackmore 3,994,302 24.68
2 Dietary Products (Aust) Pty Ltd 576,132 3.56
3 JP Morgan Nominees Aust Ltd 436,779 2.7
4 National Nominees Limited 348,710 2.16
5 Milton Corporation Limited 305,115 1.89
6 ANZ Nominees – Cash Income 211,127 1.3
7 Gowing Bros Limited 207,363 1.28
8 Ms Jennifer Tait 202,281 1.25
9 Blackmore Foundation Pty Ltd 200,000 1.24
10 Sister Esther Whellan 182,868 1.13
11 Queensland Investment Corporation 178,811 1.11
12 Citicorp Nominees Pty Ltd 155,000 0.96
13 Mr Roy Shepherd 109,651 0.68
14 Trans State Nominees Pty Ltd 109,150 0.67
15 Rathvale Pty Ltd 100,411 0.62
16 Mrs Queenie Hannah Elisabeth Praeger 94,980 0.59
17 Invia Custodian Pty Ltd 94,302 0.58
18 HSBC Custody Nominees 80,541 0.5
19 Mrs Patricia Gladys Wright 78,868 0.49
20 Patricia Gladys Wright & Mark Gregory Wright & James Gregory Wright 76,688 0.47

Blackmores Limited
Subsidiary Companies
Source: IbisWorld

Directors/Senior Management
Source: IbisWorld

Share Price Performance

5 YEAR SHARE PRICE PERFORMANCE – as at 28th April 2008
Source: IbisWorld
BKL Historic Performance on $10,000 investment

Source: Aspect Huntley

Recent Company Announcements

28th April 2008 – Blackmores announce quarterly profits
On the 28th April 2008, Blackmores announce a third quarter net profit after tax of $17.5 million. This represented a 19.6% increase on the same period last year. Australian sales increased by 6.3% with moderate growth across the industry, with Blackmores’ market share remaining strong at 21.6%. No new products were made available during the quarter but a number of new products a planned for the last quarter.

Current Debt levels stand at $21.8 million increasing due to the construction of the new Warriewood site which is nearing completion. Relocation remains scheduled for the first quarter in 2009.

24th April 2008 – Change of Directors Interest Notice
Marcus Blackmore disposed of 100,000 shares as a donation to a private philanthropy program approved by the ATO. After the change and as of the 24th April 2008, the number of securities held directly and indirectly by Marcus Blackmore include:

• 3,994,302 ordinary shares held in the name of Marcus Blackmore;
• 2,1094 ordinary shares held in the name of Marcus Blackmore [Darlene Howie Account];
• 576,132 ordinary shares held in the name of Dietary Products Australia P/L;
• 182,868 ordinary shares held in the name of Ester Mercie Whellan; and
• 14,364 ordinary shares held in the name of Estate of Late D Howie.

2. Industry Analysis

Market Characteristics

Definition
The Complementary Health Care Industry is difficult to define, because it can encompass everything from organic food to homeopathic medicines such as food supplements, natural medicines and external products, such as skincare. This sector can also include 'over-the-counter' products available without prescription. Nonetheless, complementary health care products are intended to maintain health, rather than treat illnesses.
For the purpose of this analysis we define Complementary medicines as those of herbal, vitamin, mineral and/or other substance, presented in a ‘pharmaceutical’ dose form – these include, tablets, capsules, liquids, powders and/or other forms.
Figure 1: Entire spectrum of complementary medicine. Statistics
• In Australia in 2000, it was estimated that 52% of the population used at least one complementary healthcare product. Recent studies have shown that it has now risen to more than 70% of the population using complementary healthcare products and a quarter of the population visit complementary health practitioners each year. Furthermore in regards to the entire world population it is estimated that between 40% and 90% use complementary medicine.

• A News poll survey conducted by the CHC (Complementary Healthcare Council of Australia) in September 2001 showed that out of all participants polled:
- 86% agreed that supplements have a role to play in maintaining good health;
- 83% agreed that supplements have a role to play in preventing illness; and
- 66% agreed that supplements have a role to play in helping cure illness.
• Research cited by the Australian Medical Association shows that more than 80% of GP’s have referred patients for some form of complementary therapy.

• Australian domestic sales of natural healthcare products exceeds $A1.5 billion.

• The total expenditure on healthcare in Australia was estimated to be approximately $57 billion in the financial year ending June 2002, which would have equated to approximately $2,850 per head of population. Of this amount, the public cost is around $2,000, while the individual contributes $850. However the actual cost was $60 billion.

• More than $2.5 billion a year is now spent on alternative and complementary healthcare in Australia in which the figure is growing by the day.

Regulation – Complementary Medicines
In previous years, complementary medicines were often regulated around the world as a subset of food regulation; however they were very often limited in what they could claim on labels and in advertising, and the quality standards for manufacture varied considerably. But over the past decade the increase in demand has caused complementary medicines to be regulated in global markets as “medicines” and “health care” products and not “foods”. With this shift have come improved manufacturing standards.

Blackmores’ products are referred to in Australia as complementary medicines. They can also be referred to as 'traditional' or 'alternative' medicines and can include vitamins, minerals, nutritional supplements, herbal, aromatherapy and homeopathic products. Blackmores’ products are developed by in-house experts, using a combination of scientific evidence and hundreds of years of traditional knowledge. Products are made to exact requirements, with quality ingredients sourced from all over the world and produced under good manufacturing practices. Products are approved by regulatory bodies in each country where they are sold and are approved by Australia's and the various importing government's stringent standards of safety.

Complementary medicines are generally used for self-medicating of small minor deficiencies and for the purpose of maintaining general health and well-being. In Australia, complementary medicines are regulated by the Therapeutic Goods Administration (TGA) and all medicines must be registered with the Australian Register of Therapeutic Goods (ARTG).

The Therapeutic Goods Act (TGA) 1989, came into effect on 15 February 1991 aims to ensure the quality, safety and efficacy of medicines and ensure the quality, safety and performance of medical devices. More than 15,000 medicines are listed on the Australian Register of Therapeutic Goods. Registered medicines have been evaluated by the TGA for quality, control and importantly efficacy. When any company makes claim in regard to efficacy they must have the supporting research.

Complementary Medicines is a highly regulated industry in Australia which has put the industry at the forefront, helping protect all Australian and overseas consumers, ensuring that Australian consumers have medicines produced at a high level of quality control.

Key competitors
The Complementary health care industry in Australia distributes primarily through its pharmacy and supermarket channels and therefore caters to customers in each of these markets.

Blackmores major competitors are tiered in these two distinct markets; the pharmacy channel - where Bullivants (part of the Mayne Group) trading as Symbion on the ASX, is the main competitor, and the retail / grocery market where - Nature’s Way, Cenovis and Golden Life all compete for market share.

In terms of actual of product range and image within the pharmacy market Symbion can be considered Blackmores’ major competitor.

However, there does not seem to be any no clear dominate service providers reaching Blackmores target industry, with much of this being contributed to the Pan Pharmaceuticals scandal, which essentially removed from the market a large amount of competition. In light of this, Blackmores recorded its market share, based on combined retail sales in both of the two channels, remained strong at 21.6 per cent.

Market Distribution and Access to Complementary Health Care

Complementary health care are available to consumers through a number of different channels, with the total complementary health care market achieving a value in the target of $800 million to $1 billion AUS. Pharmacy remains a primary outlet for many complementary healthcare products, which is reflects approximately 40% of the entire market. This suggests the changing face of pharmacy practice as Pharmacists are becoming more knowledgeable about recommending appropriate complementary health care and otherwise employing in-store naturopaths to meet consumer’s needs.

Health food stores are also an important distribution channel for many complementary health care products provided by Blackmores, which represents approximately 20% of the market.

However in recent years there has been a shift in the availability of major brands through grocery channels which now has also increased to approximately 20% of the market, not only within the vitamin and mineral supplement shelves, but within the medicinal aisles competing alongside pharmaceutical products such as cold, flu and allergy relief.

Direct to Consumer (DTC) sales also remain a consistent channel which are approximately 7% of the market for complementary health care, particularly those products with high "brand loyalty" to companies that provide a wide range of complementary medicine products. This distinct relationship is evident across a wide variety of Blackmores’ products.

Another source of distribution is availability from a complementary health care professional such as; Herbalist or Naturopath which in itself represents approximately 10% of the market. It has become increasingly popular for appropriate medicines to be supplied as a part of a holistic consultation regarding the immediate and longer term health needs of a patient rather than just addressing immediate symptomatic problems. Barriers to entry
The level or degree of barriers to entry into the Complementary Health Care industry will indicate how limited the industry is to new entrants. Ultimately Blackmores will be seeking to raise the level of barriers to entry into the industry, to minimise other potential competitors from entering the market and taking a portion of its market share.

As stated before in previous sections of the paper the Complementary Health care industry is difficult to define as it covers so many different sectors. But if we focus on the products that Blackmores distributes, namely herbal, vitamin, mineral and other substances we can see that the industry is not dominated by any group of major competitors.

We are aware that Blackmores is a recognised and strong performing company and based on its retail sales its share of the market only accounts for 21.6%, which seems quiet small considering its industry leading position. The industry’s low level of concentration limits the power that the leading companies have over the rest of the market; hence they are unable to set the price like an oligopoly market and effectively remove the other competitors.
In addition companies are not able to experience the full benefits of economies of scale due to their relatively small size. Thus no company has any significant cost advantage over any of the other competitors.

There is a considerable level of regulation within the industry which has increased more so in the recent years from Australian government. Entry into the complementary health care industry requires strict processes which can potentially be a lengthy process.

As mentioned, in Australia complementary health care products are regulated under the Commonwealth Therapeutic Goods Act 1989 and regulations are administered by the Therapeutic Goods Administration. These goods must be manufactured under the strict pharmaceutical standards of good manufacturing practice by Australian manufacturers and on many occasions regulators have been forced to take action.

In one instance in April 2003 the TGA suspended the licence of Pan Pharmaceuticals, Australia’s largest manufacturer of herbal products, mineral and nutritional supplements at the time, and ordered the immediate withdrawal of hundreds of products it had manufactured. This in turn would deter many potential entrants into the industry.

Overall, the current barriers to entry are high, this industry is on track to continue to grow in the future where we will possibly see a further increase to the restrictions into the industry and further developments in regards to regulation.

SWOT Analysis
Strengths Weaknesses
Most of the products used in Australia are manufactured in Australia to some of the highest standards in the world, based on GMP validation and strict therapeutic regulations. Low risk dietary supplements are effectively regulated under the same law as pharmaceutical drugs, except the supplements attract 10% GST where most drugs are GST-exempt.
According to the CHC, complementary healthcare products can be of benefit in the management of some age-related diseases such as arthritis, certain types of cancer, heart disease and brain function disorders such as dementia, and help relieve symptoms of age-related changes such as the menopause. There is a 30% private health insurance rebate that is applied to some consultations, there is no subsidy for complementary health therapy.
The increase use of complementary health care medicine can effectively reduce health care costs, as it evident that vitamin and mineral supplements and herbal supplements can reduce certain diseases, therefore there would be a reduction in hospital costs, maintenance costs etc. Pan recall has caused customers to think twice about purchasing complementary health care products.
The non-prescription nature of these medicines means that the consumer is empowered to pursue a strategy of self-care.
Greater training in undergraduate courses for medicine, pharmacy and nursing.
There are minimal side effects with complementary health care products.
Blackmores is the only mainstream brand that has diversified its position across health food stores, pharmacy, grocery and practitioner channels.

Life Cycle
The industry life-cycle illustrates the growth path of an industry and indicates the level of sales over the cycle’s time period. This is illustrated in the diagram below.

Life Cycle of an Industry

Based on the analysis of the Complementary Health Care market, the industry is at the ‘Rapid Accelerating’ stage of its life cycle. The primary reason is that people are living longer. Over the past century, life expectancy at birth has increased from 57 to 80 years. As an ageing population becomes more health conscious the greater demand for complementary health products will be a logical progression.

More than $2.5 billion a year is now spent on alternative and complementary healthcare in Australia and the figure is growing by the day. As people increasingly turned to complementary health cures, analysts forecast the emergence of a multi trillion dollar, global industry.

Support
Complementary Healthcare Council of Australia (CHC)
The CHC of Australia is the peak body representing the overall natural and complementary healthcare industry in Australia.
The CHC aims to enhance the health and wellbeing of Australia’s population through providing education and information on the use of complementary healthcare products. The CHC seeks to show that part of the answer in reducing public healthcare costs requires a different approach to healthcare policy. The CHC contends that by adopting healthcare practices that prevent illness, existing resources will be made available to provide improved levels of acute and crisis care. Implicit in this approach is the need for public education on the ability of individuals to take control of their health and prevent illness and disease, and the proven health benefits of lifestyle and natural approaches to maintaining good health.

Basis of Competition
The industry primarily competes on quality rather than price, although price does bare some importance. The stringent regulation of contemporary health care ensures the quality, safety and efficiency of medicines

The industry however would have suffered substantially from decrease in revenue growth due to the Pan Pharmaceutical recall situation, where Pan Pharmaceuticals were accused of substituting ingredients, manipulating test results and for having substandard manufacturing processes. This caused the TGA to suspend the licence of Pan Pharmaceuticals and ordered the immediate withdrawal of hundreds of products it had manufactured. This reduced sales dramatically which in essence decreased the industries revenue.

There is however no real external competition to this industry and it contains very low levels of globalisation. Most of the products used in Australia are manufactured in Australia to some of the highest standards in the world, based on GMP validation and strict therapeutic regulations. In addition the Australian companies do not have any significant exposure to any overseas markets. Although Blackmores is adopting a globalistic approach and as such does have significant and expanding operations in New Zealand and increasingly parts of Asia, which are mentioned throughout this report.

Market Sensitivity
The key factors that impact the performance of the Complementary Health Care industry include:

Ageing of population
The proportion of the population aged 65 or more is set to double over the next 40 years due to the fact that life expectancy for the average person is longer. Older age groups are typically more health conscious and are prepared to seek alternative ways to increase their general well being.

Disposable Income
This factor does not have a major impact on the performance on the industry but does contribute to the industries revenues. Changes to household disposable income directly affect the budget and expenditure paid on complementary health care products and may case some people to opt for cheaper alternatives. Typical economic factors that impact disposable income are petrol prices, interest rates, tax rates and the labour market growth, all of which are ripe in current economic conditions both nationally and abroad.

Technological changes
There is always constant research and developments when considering the prevention of illnesses. This is despite complementary health care products not being presented to the population as a cure for illnesses.

Increasing patient expectations
The public is demanding more autonomy and involvement in their own health care. They want to prevent or slow down ageing and aim to optimise health by achieving higher levels of functioning. Additionally, the exponential increase in scientific studies being published on these products has no doubt added to public interest and confidence in its use.

Key success factors
The key success factors to the Complementary Health Care industry are:
• Unwillingness to restrict healthcare to prescribed medication when ill and being prepared to test a range of natural products for our own condition all for a sense of wellbeing;
• There are minimal side effects with complementary health care products;
• Recent studies have indicated that complementary medicine is finding a growing preference amongst patients with chronic or serious diseases who are looking for natural options to assist in the ongoing management of these conditions;
• The population as a whole are longer-lived, more urbanised, more readily informed, more affluent, demanding and mobile; and
• Whilst interest in complementary medicine has increased among practitioners and patients, this has been paralleled by increasing support by the government. This is evident by recent moves to grant degree status to schools of natural medicine, exemption of some complementary medicines from GST, as well as government support for private health insurance, many of which cover complementary health care.

3. Current Issues

Recent Acquisitions

The PAN Pharmaceutical recall in Australia

A ‘virtual tsunami’ was taken against the Complementary Health industry after Pan Pharmaceuticals was closed down by the TGA in early April 2003. Pan was the fourth largest supplier of natural ingredients in the world, and privately owned. It was serious competition to the drug industry, which was taking steps to get into the supplement market.

The company was accused of substituting ingredients, manipulating test results and for having substandard manufacturing processes. The TGA was first alerted to the possible manufacturing problems when dozens of adverse reaction reports to a pharmaceutical motion sickness tablet known as Travacalm were lodged, a product that had been produced under licence by Pan Pharmaceuticals. After some investigation it was found that manufacture of this product was substandard and doses of active ingredient varied enormously from that stated on the label.

Pan Pharmaceuticals was not given a chance to fix this product before the TGA closed the company down, and all of its 1400 other natural health products were ordered removed from the shelves by the regulator. Health food shops and chemist’s shelves were stripped nearly bare of product overnight. Pan was placed into the hands of a corporate liquidator which was well known as a consultant to the multinational pharmaceutical industry. Pan was disposed of (in record time) only six months later for a miniscule fraction of its true value, destined never to be a serious competitor to the drug companies again.

Although the original product in question was a pharmaceutical drug, media attention remained focus on natural medicine products, with some commentators seizing the opportunity to call into question the value of complementary medicine in general. The regulator claimed that the public’s confidence in the Australian supplement industry had been undermined. This was done deliberately by the TGA after creating mass consumer panic by calling a ‘class one’ recall on vitamins, minerals and other health supplements. Class one meant the TGA claimed that Pan’s vitamins, minerals and other supplements had caused death or serious injury when in fact nobody had died of any of Pan’s supplements or anyone else’s supplements.

As a result the Federal Government set up an expert committee to examine the role of complementary medicines in the health care system, including the supply of safe, high quality complementary medicines, quality use and timely access to these medicines, and the maintenance and responsible and viable complementary medicine industry.

After Pan, the TGA began a regulating frenzy. The TGA closed dozens of companies, fined others and imposed crippling compliance fees on the rest of the mainly Australian based supplement industry. This created a nationwide shortage of natural health products and eliminated much of the multi national pharmaceutical industry’s local competition.

Pan Recall Impact Lingers
30 Jun 2003
Two months after the Pan Pharmaceutical recall, the complementary health care industry is still reeling from the shock of Australia's biggest medical recall. One WA retailer has been forced to close and industry groups have stated that hundreds of jobs have been affected across the country.
Complementary Healthcare Council executive director Val Johanson said several retail outlets and small companies in the Eastern States had gone to the wall. Bigger companies had to contract and there had been hundreds of jobs lost. She said “overall turnover was estimated to be down about 15 per cent to 20 per cent, which was not as bad as had been initially expected… Between 30 per cent and 40 per cent of products were still off the shelves.”
"We had reports of people coming in and buying up bottles of products that had been recalled but which they had used for many years and still had faith in," she said. "The picture that is coming through is that there is still very strong support out there for natural health care products. But we are not out of the woods yet."

The council had no knowledge of any serious adverse effects from Pan Products despite the company having made up 11.4 billion doses last year.
Ms Johanson further added that there had been 71 cases reported to the Therapeutic Goods Administration but the TGA did not believe most could be linked to Pan.
She repeated concerns voiced at the time of the recall that the entire complementary health care industry was being targeted by the TGA because of the sins of one manufacturer.
Marcus Blackmore, chairman of natural health care company Blackmores, which did not have any products manufactured by Pan, said the industry was devastated but people still strongly believed in the products.
"Where is the evidence that these products were ever harmful?" he asked.
"It's like the weapons of mass destruction. The Government just went ahead with what they wanted to do anyway."
He said Blackmores' own research showed 14 per cent of people in Australia went ahead and used recalled products despite Government warnings.
A spokeswoman for the TGA did not comment on the number of cases of adverse effects but it was made known that this would be carefully assessed. At this stage there was no link to any of the Pan products. She said it was disturbing that companies were in the position of having to close, but the health and safety of Australians was most paramount.

Red tape and GST continue to hamper Australians’ wellbeing
April 19, 2006
Marcus Blackmore made an impassioned plea to the Federal Australian Government to make access to complementary medicines cheaper and easier for Australian consumers.
The Executive Chairman of the leading vitamins producer Blackmores Ltd. told the Australian Financial Review (AFR) that an independent review of the ‘red tape’ associated with complementary medicines was badly needed.
Mr Blackmore, has been talking to government ministers about high industry manufacturing costs, and is lobbying for the removal of GST from complementary medicines, in line with the current GST waiver for prescription medicines.
Mr Blackmore spoke to Tony Abbott, stating he believed said it is the treasurer’s problem. He believes federal and state government support is needed to remove the GST on complementary medicines.
Consumers may also face higher prices for vitamins and minerals across all brands because the federal drug regulator, the Therapeutics Goods Administration (TGA) is trying to raise listing fees. Rent increases and falling revenues for the TGA have been cited as reasons for the increased fees that manufacturers will need to pay the regulator.

Upcoming Issues
• Remove the GST from the complementary health care products for which there is evidence to show they are as effective as PBS listed pharmaceuticals;

• Remove the GST from complementary health therapies conducted by approved therapists for which there is evidence of effectiveness;

• Provide reliable public information of the safety and efficiency of complementary health care, including information software for GP’s and pharmacies;

• Continue to penalise poor manufacturing practice but reduce the need for costly testing, in line with the relative risk of the product;

• Integration of complementary health training into university based courses for conventional health care providers, particularly GP’s, nurses and physiotherapist; and

• Funding for more research into complementary health product and therapies.

High Barriers to entry
This industry specific issue has great impact on future earnings of Blackmores. The Complementary health care has relatively high barriers of entry. It is now highly regulated which can potentially discourage prospective entrants entering the market therefore Blackmores will have higher market share which in turn typically means higher earnings. If the barriers to entry were Blackmores could risk other companies taking portions of future earnings. By continuing to build on their service to customers, Blackmores can maintain industry leader and eliminate any issues of low barriers to entry.

Interest rates
Blackmores has recorded a relatively low debt to equity ratio of under 40% at the end of the 2007 calendar year. This ratio has been maintained over the past 10 financial years. It can then therefore be assumed that a considerable amount of their acquisitions are funded via equity rather than debt. This essentially removes a substantially the impact of interest rates on their borrowings. Although increasing the interest component of the liability, in the context of current financials this affect will be marginal at that. Maintaining such a low debt (gearing) ratio has the ultimate affect of allowing financing costs to remain down and as such potentially increasing their cash flow and future earnings.

Exchange rates
Fluctuating exchange rates have an impact on Blackmores. Their recent increase exposure and as a result sales activity in Asian markets means they are subject to the favourable and unfavourable movements in the Australian and Asian currencies. Either way the currencies move will have a significant impact on their future earnings of Blackmores, and will cause the value of their international acquisitions to either increase or decrease, respectively.

Ageing Population
The longer people live the greater the impact on Blackmores’ future earnings. Over the past century, life expectancy at birth has increased from 57 to 80 years. Older age groups are typically more health conscious and are prepared to seek alternative ways to increase there general well being. If people know that there are products out there to help achieve this then they will be more willing to purchase and use these products.

4. Blackmores Financial Analysis

Recent Financial Performance

Blackmores’ financial performance and share price activity is heavily dependant and strongly affected by market trends for both domestic and international macroeconomic conditions. In particular, is consumer confidence in which the company relies on heavily to enhance its revenues, and subsequently profit.

Blackmores’ sales have increased sharply over 5 years with an 81.83% increase from 2003 to 2007, this has led to an increase in Profit before Interest and Tax (EBIT) of 147.34%. 2007 witnessed an increase in revenue of 15.99% and subsequent increase in EBIT of 21.15%. 2003 to 2007 has been a period of sustained growth for the company due to an increase brand awareness, increase in market share (as international markets such as the Asian markets flourished) and furthermore a shift in attitude towards the benefits of complementary medicines.

Source: Blackmores Annual Report 2007

2003 was an unparalleled year in the area of complementary medicines due to the Pan Pharmaceutical Crisis whereby a number of Blackmores’ competitor’s products were removed from stores. Blackmores’ products were not directly affected by the recall and as a result, the company faced a significant increase in demand. The industry crisis caused sales to increase 14.08% from 2002 to 2003. Earning per share has continually increased as has the amount of dividends paid to shareholders. Blackmores share price has steadily increased each year, finishing at $20.56 as at the 30th June 2007.

Figures: Aspect Huntley
Similarly to Blackmores’ sales trend, total assets have grown considerably from 2004 to 2007. This is largely due to the development and construction of a new site in the Northern Beaches of Sydney, set for completion in mid-2008. Long-term debt has also increased from $10 million in 2006 to $15.4 million in 2007. Net borrowings are at its highest since 2004, but unlike 2004 where Net Gearing was at 21.81%, Net Debt Levels are now 12.11%. Furthermore, the increase in gearing should not warrant a large increase in Blackmores’ riskiness as the funds are being used for investment purposes with the aim of streamling business activities and the clear intention of increasing profitability.
Figures: Aspect Huntley
Operating cash flows has increased to its highest ever levels in 2007 to $16.79 million. This is a result of increased revenues and cash receipts from its customers. The large investment spending from acquisitions and the purchase of operating assets in 2007 was partly offset by the greater increase in customer receipts.

Investment Cash Flows grew to an outflow of $7.58 million in 2007. This is directly related to the purchase and investment in property and production infrastructure. Interestingly, Blackmores’ purchased $13.61 million of production, parts and equipment in 2006 however this was offset with the sale of $9.8 million of non-current assets.

2006 and 2007 witnessed a combined total borrowing of $31.88 million which was offset by a combined total repayment of $22.50 million. Furthermore, dividends grew to over $10 million for the first time.

Du Pont Analysis

The Du Pont Analysis system aims to provide a measure of a firms return on its total assets. The return on total assets can be made up of the net profit margin that is depicted on the left hand side of the chart, and the total asset turnover of a firm, which is depicted on the right hand side of the chart.

The formula for calculating a firm’s total return on assets is:

(Net profit/Total asset)= (Net profit/Net sales) x (Net sales/Total assets)
According to this formula Blackmores’ historic return on assets is:
Source: Aspect Huntley
In 2007, Blackmores has made a 20.41% return on its total asset base.
Return on Equity (ROE)
The Return on Equity (ROE) measures Blackmores’ return from the capital raised by its shareholders equity. This ratio can be broken into the contributing factors of a firm's ROE.
Du Pont ROE analysis distinguishes between the results of a firm’s decisions regarding operating and financial leverage, which is accomplished by measuring the underlying determinants of the return of assets used by separating the effects of the amount of debt used by the firm from the cash flow implications of that chosen amount of debt. The Du Pont ROE framework is as below:

We have chosen to compare Blackmores (BKL) with two of its closest competitors in the industry of complementary medicines. When deciding upon Blackmores most relevant competitors we took into consideration opposition products that consumers would directly compare against, when purchasing from supermarkets and retail outlets. A summary of the companies are outlined below:
Symbion Health Limited
Symbion Health Limited formally Mayne Group Limited, is a health-care focused company comprising of 5 divisions, medical centres, imaging, pharmacy services and Symbion consumer services. Symbion complementary and consumer brands include Natures Own, Cenovis, Golden Glow, Bio Organics, Natures Nutrition, Bullivants and Vitelle.

Symbion Health Limited provides wholesale distribution of pharmaceutical and healthcare product lines to around 3,000 retail pharmacies, as well as public and private hospitals. Its brands include Terry White Chemists and Chemmart. Furthermore, it is a provider of nutraceuticals (vitamin and mineral supplements) with over 1.3 billion tablets and capsules produced annually.

Sigma Pharmaceuticals Limited
Sigma Pharmaceuticals Limited (SIP) is a developer of generic pharmaceutical products and a distributor of pharmaceuticals for pharmaceutical companies across Australia. Sigma Pharmaceuticals Limited is the new name of the company listed on the Australian Stock Exchange (ASX) following the merger between Sigma Company Limited and Arrow Pharmaceuticals Limited on 19 December 2005. The operation of a pharmaceutical business encompasses the manufacturing, development and distribution of own branded and contract over the counter, prescription and generic pharmaceutical products for the Australian and overseas markets.
Sigma’s product range includes Herron, Amcal, Chemist Own and all Guardian generic products.
Sigma Company Limited was founded by two Melbourne pharmacists in 1912 and aims to be the leading Australian pharmaceutical manufacturer and marketer, and the most efficient pharmaceutical wholesale distributor and retail banner group in Australia.

Summary of Extended DuPont Analysis
Year end 31st December, 2005
Total Revenue Blackmores Symbion Health Sigma Pharmaceuticals
EBIT/Sales 13.10% 4.51% 5.66%
Sales/Total Assets 227.00% 93.88% 112.59%
EBIT / Total Assets 29.86% 4.23% 6.37%
Profit Before Tax / Total Assets 28.54% 3.69% 5.11%
Total Assets / Total Equity 193.00% 162.58% 154.49%
Profit Before Tax / Total Equity 55.32% 6.00% 7.74%
Return on Equity 38.39% 3.32% 5.21%
Inventory Turnover 917.97% 918.80% 744.56%
Current Ratio 1.54% 1.12% 1.09%
Gross Gearing Ratio 21.24% 26.79% 20.25%
Asset Turnover Ratio 227.92% 93.89% 103.93%

Summary of Extended DuPont Analysis
Year end 31st December, 2006
Total Revenue Blackmores Symbion Health Sigma Pharmaceuticals
EBIT/Sales 14.09% 4.64% 6.12%
Sales/Total Assets 217.71% 159.01% 132.69%
EBIT / Total Assets 30.68% 7.37% 8.13%
Profit Before Tax / Total Assets 29.80% 3.69% 6.50%
Total Assets / Total Equity 185.59% 264.03% 153.86%
Profit Before Tax / Total Equity 55.32% 16.45% 10.01%
Return on Equity 39.28% -0.06% 7.32%
Inventory Turnover 1031.13% 11122.00% 762.25%
Current Ratio 2.38% 1.09% 1.89%
Gross Gearing Ratio 27.18% 7339.00% 22.73%
Asset Turnover Ratio 217.83% 15898.00% 103.93%
Summary of Extended DuPont Analysis
Year end 31st December, 2007
Total Revenue Blackmores Symbion Health Sigma Pharmaceuticals
EBIT/Sales 14.25% 4.83% 5.27%
Sales/Total Assets 207.45% 171.87% 145.44%
EBIT / Total Assets 29.56% 8.30% 7.67%
Profit Before Tax / Total Assets 29.43% 6.58% 9.11%
Total Assets / Total Equity 191.26% 254.19% 172.48%
Profit Before Tax / Total Equity 56.29% 16.72% -4.09% Return on Equity 38.34% 13.32% 6.43%
Inventory Turnover 1134.34% 1368.43 861.23%
Current Ratio 2.52% 1.11 1.82%
Gross Gearing Ratio 35.41% 68.66 39.04%
Asset Turnover Ratio 207.50% 93.89 145.45%

EBIT / Sales

This ratio calculates the operating profit margin of the business and reflects the rate of profit (before interest and tax) on sales. It also gives an insight into the relative cost structure of the firm.

Blackmores’ EBIT / Sales ratio has grown slightly over the three year period in question returning 14.25% in 2007. The other peers seem to be negatively performing with relatively low percentage figures.

Sales / Total Assets
This ratio represents total asset turnover, which indicates the effectiveness of the company’s use of its total asset base.

Blackmores shows to be making quite effective use of its total asset base. Although this has decreased over the 3 year period, it is likely to increase upon completion of the new site. Both Symbion and Sigma have made large percentage gains, mainly due to also being in a development stage.

EBIT / Total Assets
This ratio represents operating profit relative to the firm’s total assets. It indicates the effectiveness of the company to generate profits from its asset base before allowing for the effects of financial leverage and taxation.

Blackmores seems to be well established in their asset turnover as, again they financial figures seem to keep them much above the rest of their international peers with 29.56% in 2007. Symbion overtook Sigma in 2007 with a 0.93% gain.

Profit before Tax / Total Assets
This ratio represents return on assets prior to the distortion of taxes. Calculating return of assets prior to taxes is particularly relevant in this instance as we are comparing firms with international operations. Blackmores’ are producing higher returns in comparison to their asset base with 29.43%. Their closest competition is Sigma with 9.11%.

Total Assets / Common Equity
This ratio represents the financial leverage multiplier (FLM) which demonstrates how much a company has leveraged its shareholders equity (by raising debt) to build its asset base. A higher FLM implies higher financial risk and a greater risk to return for equity holders due to an increased portion in cash flows to debt holders.

Profit before Tax / Common Equity
This ratio represents the return to equity holders prior to the payment of tax. Blackmores is returning a considerable amount of their profit to equity holders in comparison to their peers with 56.29%.

Return on Equity
Return on Equity (ROE) is an important measure of the performance of a business as it indicates the rate of return that management has earned on capital provided by shareholders. This ratio can be broken into the contributing factors of firms ROE.

Blackmores have a significantly higher return on equity than any of their other international peers, recording a current ROE of 38.34%, in comparison to Symbion, with the next highest ROE of 13.31%. It is a financially healthy sign that Blackmores’ growth in comparison with its peers is successfully being achieved.

Inventory Turnover Ratio
Inventory turnover aims to determine how productively the company has been utilising their inventory. This is particular important for firms such as Blackmores who rely heavily on the movement of inventory in order to produce income.
Current Ratio
Calculated by dividing current liabilities by current assets. This ratio is a useful measure of the short term debt-paying ability of the company. The higher the ratio, the more liquid the company is. Whilst a ratio of 2 or more was traditionally considered desirable many companies have reduced this in recent years, as operating cycles have shortened. It is more relevant to understand the ratio in the context of the sector average and the trend over the last few years. Blackmores’ current ratio has increased over the period while both Sigma’s and Symbion’s have reduced from 2005 to 2007.

5. Blackmores Share Valuation Assumptions
Evaluation Timing

All of our evaluations are as at the 8th May 2008, where our forecasts for 2008 and beyond incorporate the relevant data and market news of the past four years.

Beta (β)

Beta is a standardised measure of systematic risk that relates the individual asset covariance to the variance of the market portfolio.
Blackmores’ Beta is measured against the Australian market and was listed as 0.671. The All Ordinaries, the primary Australian market index, was listed as 1.092.

Risk Free Rate (Rf)

We have assumed the Australian Government 10 year bond rate as the relevant measure of risk free return. The current 10 year bond rate is 6.19%2 on the 8th May 2008.

Market Risk Premium (Rm - Rf)

The valuation of Blackmores using the CAPM approach requires the calculation of a market risk premium. This can be defined as the difference between the expected return on the market and the risk free rate. The market risk premium represents the compensation risk adverse investors require to be enticed into investing in the riskier market portfolio. Using the S&P 200 index as our benchmark market portfolio, we have assessed the expected market return to be 11.12% on the 8th May 2008. Based on this assumption, the market risk premium is 4.93%.

Expected market return can be defined as follows:

Ke= Rf+ β(Rm-Rf)
Where: Rf = Risk Free Rate of Return β = Beta
(Rm-Rf) = Equity Risk Premium

Based on Blackmores’ beta and the market risk premium, their cost of equity is equal to:
Ke=6.19%+0.67(4.93%)
= 9.4931%

1. Aspect Huntley - FinAnalysis 08/05/2008
2. Comsec - All Ords Index 08/05/2008
Dividend Discount Model (DDM)

The dividend valuation model is a commonly used discounted cash flow model that assumes that the current value of a companies stock is equal to the present value of all future dividends.

V=∑ (Dt/1+k)

Where: V = Value of common stock
Dt = Dividend during period t
K = Required rate of return

However this model does not take into account a company’s future growth prospects. As such, the DDM can be extended to assume that future dividends grow at a constant rate for an infinite period. In effect, this approach treats dividends as a growing annuity.

V=∑ (Do (1+g)/ ke-g)

Where Do = Dividend payment in the current period
G = Expected growth rate of dividends
Ke = required rate of return

While this approach is not suitable to companies with varying rates of growth, it becomes a suitable valuation technique in the analysis of companies such as Blackmores, who have historically been able to maintain a relatively stable dividend growth rate.

This stems from the first major assumption that the DDM, which intuitively concludes that dividends are steady, or grow indefinitely at a constant rate. However, even for the most historically proven steady, reliable, blue chip-type stocks, it can be a seemingly difficult task to forecast exactly what the dividend payment will be next year, let alone the preceding decade.

In itself, the DDM attempts to demonstrate the underlying principle that a company is worth the sum of its discounted future cash flows. The question of reliability and accuracy of this means of cash flow measurement becomes an entire other question. The real challenge thus lies in ensuring the model remains in keeping as applicable as possible to reality, incorporating the most reliable and up-to-date information in assumption models.
Blackmores’ Dividend Policy & History

Since listing on the stock exchange on 2 May 1985, Blackmores have paid dividends in each year. The payout ratio has remained comparatively stable throughout the past ten years, maintained at just below 90%.

Dividend Forecasts

Blackmores’ future dividend growth will heavily reflect the growth of its revenues. Despite the supernormal growth that has been observed over the past number of years, industry growth rates from prior years are not sustainable. Despite becoming an industry leader following the Pan Pharmaceuticals scandal in 2003, we believe that the market will mature with competition re-joining in the long-term (post 2013), thus reducing the market power held by Blackmores.

In light of this, Blackmores is uniquely positioned to benefit from an ageing population and increasing health conscious consumers. Management has established a strong long-running reputation consistently providing shareholders with steady returns and growth. They will, therefore, continue to enjoy a healthy growth rate, however at a much lower, steady rate. It is forecast that over the next five years, an ageing population, increased popularity of alternate medicines and an increase in the Asian market growth, along with the strong and steady Australian currency, should allow the industry to maintain its credibility and maintain growth.

Looking beyond 2012, these steady returns can again be maintained through a matured industry and large barriers to entry, making it difficult for competitors to penetrate the market. Substantial overseas gains may be eaten away due to the currency impact affecting these off-shore revenues.
As a result, we believe Blackmores will grow going forward in a constant manner, with dividend growth rates eventually increasing in line with a constant-growth model. Utilising a constant - growth model, we have split the stages of growth into three time periods. They are:

To reflect and assist in most accurately assessing the sensitivity of changes to our valuation assumptions, we utilised the multi-stage model in our analysis. Multi Stage models take the DDM a step closer to reality by assuming that the company may experience differing growth phases in the future. Stock analysts build complex forecast models utilising many phases of differing growth to better reflect real prospects.

By incorporating a Multi-Stage growth model into our sensitivity analysis, it essentially allows any changes to future company growth outside the constant growth model to become evident and the overall affect this will have on the forecasting of share prices.

Considering our forecast dividend growth rates, we have applied them to the Dividend Discount Model (DDM) below: Based on our model Blackmores is valued at $21.81, which is at a premium to the current market price of $19.45 (05 May 2008). Therefore, according to the DDM Blackmores is considerably undervalued by the market, trading at just over 12% below our estimation.
Sensitivity Analysis

The DDM is sensitive to both the expected investor return (Ke), which is derived from the CAPM, and the growth rate. Furthermore the variability of the CAPM is determinant on the market risk premium and Blackmores’ beta. This is illustrated in the diagram below:

A higher risk premium and beta will increase the expected investor return (Ke), due to the need for investors to be further compensated for the extra risk they will be assuming. This will in turn decrease the value of the company.

Our valuation won’t be affected by the dividend growth rate assumptions, as we have assumed a constant-growth model, however we have incorporation a multi-stage growth model to more accurately demonstrate the impact of changes to our forecast growth rates. We have implied 3 distinct stages of growth. Considering the short-term time frame of phases 1 and 2, they will be the most sensitive to change. The effect on the valuation of altering the growth rates is as follows:

As illustrated, the higher the growth rates in both phase 1 and 2 will increase the value of the share price. The estimated growth rates have resulted in the model producing considerably higher valuations than the current share price.

The longer-term nature of the phase 3 growth rate minimises the volatility of the growth over the time frame. However the sensitivity analysis illustrates that a change in a percentage point either way will have a substantial impact on the current share price. Free Cash Flow to Equity Model (FCFE)

Unlike the DDM, which values cash flows expected by the shareholders (eg: dividends), the FCFE model values the cash flows that could be distributed to the shareholders. These cash flows are measures after allowing for debt related payments and capital expenditure requirements necessary by the company.

Increasing “Free Cash Flows” are frequently a preface to increased earnings. Companies that experience growing “Free Cash Flows”, be it through revenue growth, efficiency improvements, cost reductions, share buy backs, dividend distributions or debt elimination, tend to reward investors tomorrow. That is why many in the investment world look upon this model as a measure of value. When a firm's share price is low and cash flows are rising, it is increasingly probable that earnings and share value will also increase.

The Free Cash Flows to Equity model is represented by:

V=∑ (FCFt/ (1+k)t)

Where: V = Value of the firm
FCF = Free Cash Flow
K = required rate of return

Where, Free Cash Flow is calculated by making adjustments to a firms earnings as follows:

FCF=EPS-(Capital Expenditure-Depreciation)(1-Debt Ratio)-(Change in working capital)(1 – Debt Ratio)

Assumptions
• The change in working capital is calculated as the change in current assets less current liabilities;
• The Debt Ratio is calculated as Net Debt over Net Debt plus Equity; and
• Capital Expenditure is Capital Expenditure/Operation Revenue Ratio times the operating revenue figure.

Based on these assumptions we have calculated Blackmores’ historic free cash flow to equity:

Free Cash Flow to Equity (FCFE) Forecast
Similar to the DDM, Blackmores’ future growth earnings will provide the basis of the FCFE model and its evaluation. We anticipate that Blackmores’ revenue will increase by 8% over the next three years from sustained growth and acquisitions of new premises, especially in the Asian region, where market share is expected to increase. In saying this, much of the revenue growth would need to be financed through debt. Further, according to Blackmores 2006 Annual Report, “Blackmores’ heritage and values are coupled with a commitment to superior business performance. Our strategic direction is focused on delivering growth and continuous improvement to maintain and enhance Blackmores’ industry leadership position and achieve ongoing success for our company and our shareholders.”

Looking beyond 2010, we expect the growth to decrease to a slower, steadier rate of 5% as it is improbable for the company to maintain this period of supernormal growth. This is in line with our assumptions of a maturing industry, as well as increased competition and the impact of the strong Australian currency affecting the forecast off-shore gains in the Asian region. Over this period we expect Blackmores to consolidate their position as the main industry driver and with their new premises fully operational, should be in a prime position to maintain this stabilised long-term growth.

Considering our forecast revenue growth rates, we have applied them to the FCFE model below:

The valuation from the Free Cash Flow to Equity model would suggest that the share is actually over-priced. This is inconsistent with our valuation using the DDM, which indicated that the share was trading at a discount. Our calculated share price of $16.45 now demonstrates that Blackmores is trading at a premium. We believe that the substantial increase in capital expenditure over the past 2 financial years may have skewed the valuation technique, therefore suggesting that this valuation model may not be entirely appropriate to value Blackmores at this current point.

Sensitivity Analysis

Again like the DDM, the FCFE model is sensitive to both the expected investor return (Ke) and the growth rate. Furthermore the variability of Ke is determinant on the market risk premium and Blackmores’ beta. This is illustrated in the diagram below:

Our valuation will also be affected by the dividend growth rate assumptions. The three-stage growth model again implies three distinct stages of growth. Phases 1 and 2 will be the most sensitive to change. The effect on the valuation of altering the growth rates is as follows:

It can be seen that the growth rates have a similar impact on the FCFE model compared with the DDM. Further, it should be noted that the range in growth rates is less in our FCFE sensitivity analysis than the DDM, yet the FCFE model still produces a relatively similar disparity in share prices.

Like the DDM, the phase 3 growth rate has had the greatest impact on the share price, where a change in percentage point either way dramatically changed the estimated price, by far greater proportions than any changes in Phases 1 and 2 growth. This therefore implies that the long-term growth rate (phase 3), is heavily reliant on our forecasts of Blackmores long-term growth patterns and its accurate projection is vital in the overall estimation of expected share price. Price Earnings Ratio Model (P/E)

The price/earnings ratio (P/E) is the best known of the investment valuation indicators. The P/E ratio does have its imperfections, but it is nevertheless the most widely reported and used valuation by investment professionals and the investing public. The price/earnings ratio may also be known as the earnings multiplier model. It attempts to relate the current market price of the company to its earnings per share. This broad relationship can be computed using the following formula:
P/E Ratio = Market Price of Shares / Earnings Per Shares

This model can be derived from the simple DDM whereby:

Po = D1/ (ke-g)

Where: P = Value of the common shares
D1 = Dividend in period one
Ke = required rate of return
G = growth rate in dividends

As the dividends in period one are the current dividends times the expected growth rate in dividends:
Po = D0(1+g)/(ke-g)

Dividing both sides by Earnings per Share:

Po/ EPSo = (Do/ EPSo(1+g))/ke-g

As Do/EPSo represents the dividend payout ratio, the price earnings multiplier can be simplified as:
Po/EPSo = Payout Ratio (1+g)/ ke-g

Data provided by Aspect Huntley.

Po/ EPSo = 0.727(1+.055) 0.094931-.055

Implied P/E Ratio = 19.20x

Po = 19.20 x 117.6 cents
Price (Po)= $22.58

According to our P/E ratio model the market is willing to pay 19.20 times Blackmores’ earnings, which translates to a $22.58 share price. This is very similar to our result upon using the DDM, and is also similar to the current market share price, which is trading at $19.45. This would again suggest that Blackmores is trading at a discount to the market and is not fully priced.

Blackmores P/E multiple has increased year on year ever since it was listed on the stock exchange, however in 2006 being the first year that the multiple decreased from the previous year, an aberration. Since 2006, the P/E multiple has again increased, suggesting 2006 was a one-off result. Despite this, we still consider the P/E ratio to be a relevant and effective valuation tool.

An increase in the earnings per share will translate to an increase in the dividend growth rate, assuming that the payout ratio remains relatively constant, which it has in Blackmores’ case. In turn, as illustrated in the diagram above, Blackmores’ share price will dramatically increase with an increase in the growth rate.
Price / Book Value Ratio Model

The Price/Book Value Ratio Model is widely used as a relative valuation technique. The rationale is that if individual firms have consistent accounting practices they can be meaningfully compared. The price/book value ratio is the market value of equity to the book value of the equity (ie: the measure of shareholders equity in the balance sheet). Book value is measured by dividing shareholders equity by the number of shares outstanding, as of the financial year end balance sheet.

Market value is what the investment community’s expectations are and book value is based on costs and retained earnings. One situation where the book value can be useful is if the market value is trading below the book value. This rarely happens, but if it does it could mean that the company is undervalued and therefore worth investing in.

The common formula used in deriving the Price/Book value is as follows:
Po = Pvt / Bvt Where:
Pvt = current market price of the company
Bvt = the current book value per share (Book Value $/ Number of outstanding shares)

First the current book value per share must be calculated

Bvt for 2007 = $43,486,000/15,989,396
= $2.72

Therefore applying the following formula derives the Price/Book valuation model:

Po = $20.56 / $2.72
=7.56 times

Blackmores is currently trading at 7.56 times its book value per share. The book value per share has increased over the past four financial years due to an increase in book equity and a relatively level weighted average number of shares. The high Price/Book value indicates that Blackmores’ returns are generated by the high amount of assets that it has set up. In line with its relatively low Gearing Ratio, and assumption that the majority of assets have been acquired through equity, this valuation technique suggests that Blackmores is a value share and is under-priced in the market. Net Tangible Asset Model (NTA)

The Net Tangible Asset Backing Model is used to show on a per share basis what investors would receive if the company was sent into liquidation. The figures used to calculate the NTA Model come from Blackmores’ balance sheet (Aspect Huntley). The balance sheet shows what resources the firm controls and how it has financed these assets.

The formula is as follows:

NTA = (Net Assets - Intangibles)/Weighted Average Number of Shares

For the financial year ended 30 June, 2007:

No of Outstanding Shares = 15,989,396
Net Assets = $83,164,000
Intangibles = $0

NTA = (83,164,000 - 0)/15,989,396
= $5.20

The Blackmores’ ‘net tangible assets per share’ has increased steadily over the previous 5 years. This can be attributed to maintenance of nil intangibles, in conjunction with the annual increase in Net Assets. This relationship is specifically evident in 2006 and 2007, with Net Asset dramatically increasing relative to no intangibles. It can be seen consequently that Net Tangible Assets Per Share increased accordingly.

As a result it can again be implied that, through a growing NTA ratio matching a growing share price, the Net Tangible Assets per Share Model is relevant in the assessment of Blackmores current share price at the current point in time.

6. Valuation Discussion Dividend Discount Model (DDM)

From our initial underlying assumptions and estimations, it can be seen that Blackmores has consistently paid dividends to shareholders in each proceeding year since listing on the ASX in May 1985. The payout ratio has remained comparatively stable at almost 90%. Over the past decade, dividends have appreciated gradually at an average rate of 14%, alongside an approximate 16.8% increase in EPS over the last 10 financial years. These figures suggest Blackmores’ ability to maintain appreciating company growth, whilst still maintaining a proportionate return to investors.

In estimating future expectations on Blackmores, our model incorporates an 8 year focus, with our forecast dividend payments, Earnings per Share and growth rates based on the assumption that it’s likely to experience constant dividend growth over the next 8 years. Its future growth rate will heavily reflect the growth of its revenue base and a variety of current issues directly and indirectly affecting the company.

Considering the supernormal growth achieved by Blackmores and the industry as a whole for that matter, over the last decade, we do not expect such a high level of growth to be maintained, although we do expect sales growth to continue to outperform the market, however at a considerably lower and more stable level.

Blackmores continues to sit at the premium end of the natural healthcare market and whilst industry growth rates are not sustainable going forward, Blackmores is uniquely positioned to benefit from the continued growth generated from this industry. Currently holding over 20% of the market share (Aspect Huntley), an ageing population and increased popularity of ‘alternate’ medicine, we believe should act as the main contributor of the expected dividend growth of 5.5% over the next 3 years to 2010.

Furthermore, alternative medicines, such as those offered by Blackmores and gaining popularity as adjuncts to popular medicines, with an ageing population and social awareness towards healthy lifestyles being the driving forces behind this shift in perception. Competitive advantage has been gained by Blackmores through its ongoing brand awareness, product innovation and extensive distribution channels, which combined, will take a new competitor some time to replicate or threaten.

With economic conditions expected to weaken and uncontrollable economic factors such as rising interest rates and soaring petrol prices, large pressures are being placed on the average homeowner and as such we expect growth to be maintained at the steady rate of 5.5% between 2010 and 2012.

Looking forward again, Blackmores’ steady return and growth will be maintained, driven by its credibility and market leading position in its industry. High barriers to entry as noted previously will continue to allow Blackmores to maintain its market share and with initiatives being set up in Asia, increases in market share look to be achievable. This will all affect company revenues which in turn should allow the continual increased dividends payments to be returned to investors at payout ratios at current or even higher levels. Dividend yield should therefore act accordingly, settling into a steady and constant rate of 5.50% going forward, a figure considerably higher than the forecasted economic growth aims of 4.0%.

With this analysis in mind, based on our assumptions and subsequent findings, we believe the DDM to be an appropriate valuation model for Blackmores, which has historically been able to provide continual dividend yield to investors. We anticipate this pattern to continue going forward with investors to continue to benefit from generous dividend payout ratios. In addition, Blackmores’ current leading position in the industry along with the industry’s low inherent risk suggests that Blackmores’ dividends should continue to increasing steadily, indefinitely.

Our DDM evaluates Blackmores at $21.81, which is marginally above its current market price of $19.45. Considering that revenue growth is expected to continue to increase at a steadier rate, Blackmores is nicely positioned to continue to increase its share price over the long term. Despite an already high payout ratio, its moderately low debt to equity ratio allows for some scope for Payout Ratios to increase should directors wish to reward investors, without significantly affecting business operations.

As such, under current circumstances we re-enforce our belief that the DDM accurately portrays the company’s true value. Therefore we maintain our estimation that Blackmores is undervalued by the market, priced almost $2.00 below it’s intrinsic value.

Free Cash Flow to Equity Model (FCFE)

Similar to the DDM, Blackmores’ future growth earnings will provide the basis of our FCFE model and its evaluation. We anticipate that an increase of 8% in Blackmores’ revenues over the next three years can be credited to further acquisitions and strong overall performances in pharmacy and grocery channels, however this comes with the intention to substantially increase funding via debt.

In addition, a large emphasis has been placed on Asian markets and the successful obtaining of valuable offshore market share. Although international sales now representing over 15% of revenues, locals markets continue to be the driving force, with Blackmores priding itself on the continual research and development that allows it to stay top of its market. Further health awareness and brand awareness that can be seen creeping into the market can only allow Blackmores to consolidate its superior position in it’s industry, as long as another Pan pharmaceutical scandal does not cripple the market.

For these reasons, we believe the following three years are expected to produce slower growth rates than current due to the unsustainability of previous year’s industry growth rates, and as such we anticipate growths rates in be in the vicinity of 8.0%

For many of the same reasons outlined in our DDM evaluation, we are estimating that long-term revenue growth rates will be 5.0%, once again reflecting a higher rate than the long-term economic growth rate.

Unlike the DDM, which we have found to be fairly accurate in reflecting the current market share price, the FCFE does not reflect the market price, instead indicating the share is in fact over-valued by more than 15%. From our analysis, we believe the high capital expenditure over the past 2 financial years (2006-2007 cap ex increased by over $17 million compared to 2004-2005) has skewed our results, and therefore does not accurately forecast the intrinsic value of the share.

Price Earnings Ratio Model (P/E)

The P/E ratio multiple is one of the most common valuation techniques used by both retail and institutional investors as it allow quick calculation and easy comparison to market peers and observers.

The P/E ratio model also illustrates that Blackmores’ market price is again slightly undervalued. Blackmores’ historic P/E ratio indicates a slight, incremental increase from 2004 to 2007, increased from 16.80 to 19.75.

This is a result of the company’s ability to continually increase revenue over the period, whilst at the same time translating their gains onto investors through the maintenance of relatively constant, high payout ratios (over 80%). Based on our assumptions of marginal long-term revenue growth below current supernormal growth rates, our P/E ratio multiple for 2008 will drop to 19.20, which translates to a share price of $22.58. Therefore similarly to the DDM model, we believe the share price to be undervalued by the market, with opportunities for it to grow to its intrinsic value as calculated by us.

It should be noted however that based on our assumption of constant growth going forward, we expect the P/E multiple to be unable to sustain its current growth in the future. As illustrated below we expect the P/E multiple to plateau in the short-term, relative to revenue growth.

Price / Book Value Ratio Model

The price/book ratio model has widely been considered as a good indicator of intrinsic value because it ultimately provides you with an idea of whether you’re paying too much for what would be left of the company if went into liquidation immediately.

Blackmores is another example of the relationship between price-book value ratios and returns on equity. It is likely to see firms which have high returns on equity selling for well above book value and firms which have low returns on equity selling at or below book value. For instance, Blackmores has fairly high returns on equity, averaging 37.50% over the past 4 years, highlighting the fact that it’s currently trading at 7.56 times its book value per share.

This ratio is a key indicator on whether a company is undervalued or overvalued. Currently, this model considers Blackmores to be overvalued, where the market value is trading many times over book value. However, observing the past 4 years of data, the model has tended to remain fairly constant, only increasing relative to increase in Book Equity. Given the mature nature of the company, these figures reflect a fairly constant increase in equity and therefore book value, showing no fluctuations or discrepancies in the model, as would be expected.

In determining the future Price-Book Value ratio, scenario analysis could be used to work out the best, worst and most likely outcomes for a company.

Future outcomes of our book value can be derived from the current issues facing Blackmores. It is expected that an increase in the ageing population, further acquisitions and increased Asian market share we could expect that the current market price of Blackmores will also grow. In assuming a relatively constant share price, if we predicted that the market price would increase by 10% to $21.40 per share and book equity to grow by 10% to $47,000,000 this would see the Price/Book ratio drop from 7.56 to 7.15. As a result remaining relatively constant to our estimations. Net Tangible Asset Model

The Net Tangible Asset Model indicates what shareholders would receive if Blackmores went into liquidation in 2007 due to relatively stable net assets.

As a result of Blackmores’ maintenance of zero intangibles* on their balance sheet, it can be said that investors can expect to receive a percentage share of all assets. This coupled with the relative increase in Net Assets over time has allowed Blackmores’ Net Tangible Asset Multiple to also increase relatively.

It is not unusual to expect the structure of a firm’s assets and liabilities to vary over time, however this does not seem to be the case for Blackmores. This multiplier has remained constant over the past 4 years, highlighting to investors that liquidity has not decreased over the given time period.

Also it’s important to remember that the NTA calculation is drawn purely on historical data and includes no forecasts of growth or earnings. Therefore, it’s difficult to value the company to the current share price.

* Intangibles exclude goodwill on the Blackmores’ balance sheet.

7. Appendix - Financial Statements

Statement of Financial Performance Dec-03 Dec-04 Dec-05 Dec-06
Operating Revenue $141,836,000 $149,920,000 $150,471,000 $163,196,000
Other Revenue $8,239,000 $4,857,000 $1,193,000 $7,027,000
Total Revenue (Ex. Int) $150,075,000 $154,777,000 $151,664,000 $170,223,000
Operating Expenses -$109,112,000 -$108,355,000 -$104,340,000 -$121,083,000
EBITDA $40,963,000 $46,422,000 $47,324,000 $49,140,000
Depreciation -$6,775,000 -$5,787,000 -$5,716,000 -$7,130,000
Amortisation -$3,156,000 -$3,180,000 -$589,000 -$728,000
Depreciation&Amortisation -$9,931,000 -$8,967,000 -$6,305,000 -$7,858,000
EBIT $31,032,000 $37,455,000 $41,019,000 $41,282,000
Interest Revenue $683,000 $494,000 $780,000 $976,000
Interest Exp. incl. Cap Int. -$14,115,000 -$11,895,000 -$12,814,000 -$11,258,000
Capitalised Interest $0 $0 $0 $0
Net Interest Expense -$13,432,000 -$11,401,000 -$12,034,000 -$10,282,000
EBT Before Abs. $17,600,000 $26,054,000 $28,985,000 $31,000,000
Tax Expense -$5,917,000 -$8,909,000 -$8,797,000 -$9,363,000
Outside Equity -$45,000 -$57,000 -$47,000 -$90,000
NPAT Before Abs. $11,638,000 $17,088,000 $20,141,000 $21,547,000
Abnormals Before Tax $0 $0 $0 $3,571,000
Tax on Abnormals $0 $0 $0 -$1,071,000
Net Abnormals $0 $0 $0 $2,500,000
Reported NPAT $11,638,000 $17,088,000 $20,141,000 $24,047,000 Ordinary Dividends -$15,067,000 -$14,698,000 -$26,160,000 $0
Preference Dividends $0 $0 $0 $0
Share of Associates Profit $0 $0 $0 $0
Net Capital Profits $2,651,000 $0 $0 $0
EBT Pre-Cap. Profits $14,949,000 $26,054,000 $28,985,000 $31,000,000
NPAT Pre-Cap. Profits $8,987,000 $17,088,000 $20,141,000 $24,047,000
Source: Aspect Huntley

Statement of Financial Position Dec-03 Dec-04 Dec-05 Dec-06
Current Assets
Cash $7,143,000 $687,000 $4,000,000 $5,717,000
Debtors $14,223,000 $14,575,000 $15,778,000 $20,606,000
Other Debtors $344,000 $465,000 $986,000 $0
Prepaid Expenses $2,276,000 $2,331,000 $2,093,000 $0
Inventories $9,962,000 $10,945,000 $11,081,000 $12,743,000
Current Investments $0 $0 $0 $0
Other CA $5,258,000 $3,468,000 $504,000 $528,000 Total Current Assets $39,206,000 $32,471,000 $37,525,000 $42,677,000 Non-Current Assets
Receivables $7,306,000 $7,325,000 $7,653,000 $9,069,000
Investments $0 $0 $0 $1,486,000
Inventories $0 $0 $0 $0
PP&E $261,837,000 $262,479,000 $264,759,000 $201,797,000
Accumulated Depreciation -$55,801,000 -$59,156,000 -$73,964,000 $0
Intangibles Ex. Goodwill $6,195,000 $0 $750,000 $47,288,000
Goodwill $26,302,000 $23,805,000 $29,539,000 $0
FITB $6,022,000 $5,422,000 $5,981,000 $0
Other NCA $0 $6,687,000 $7,061,000 $7,397,000
Total NCA $251,861,000 $246,562,000 $241,779,000 $267,037,000 Total Assets $291,067,000 $279,033,000 $279,304,000 $309,714,000

Current Liabilities
Accounts Payable $17,822,000 $15,534,000 $17,095,000 $21,013,000
Provisions $8,525,000 $8,741,000 $14,883,000 $12,210,000
S/T Debt $2,515,000 $17,000 $0 $0
Other CL $3,177,000 $2,773,000 $2,867,000 $2,940,000
Total CL $32,039,000 $27,065,000 $34,845,000 $36,163,000 Non-Current Liabilities
Accounts Payable $0 $29,000 $7,000 $559,000
L/T Debt $152,549,000 $131,532,000 $139,504,000 $152,084,000
Provisions $5,336,000 $5,910,000 $37,349,000 $33,381,000
Other NCL $37,029,000 $38,823,000 $40,138,000 $41,167,000
Total NCL $194,914,000 $176,294,000 $216,998,000 $227,191,000
Total Liabilities $226,953,000 $203,359,000 $251,843,000 $263,354,000 Statement of Financial Position – continued
Shareholders Equity
Share Capital $52,026,000 $52,589,000 $55,729,000 $64,473,000
Reserves Ex. SPR $0 $0 -$1,898,000 $1,171,000
Share Prem Reserves $0 $0 $0 $0
Retained Profits $11,033,000 $22,041,000 -$27,377,000 -$20,334,000
Other Equity $0 $0 $0 $0
Convertible Equity $0 $0 $0 $0
Outside Equity $1,055,000 $1,044,000 $1,007,000 $1,050,000
Total Equity $64,114,000 $75,674,000 $27,461,000 $46,360,000
Source: Aspect Huntley

Statement of Cash Flows Dec-03 Dec-04 Dec-05 Dec-06
Operating Cash Flows
Rcpts from Customers $161,413,000 $168,824,000 $165,890,000 $179,801,000
Payments to Suppliers -$119,266,000 -$128,784,000 -$123,545,000 -$132,831,000
Dividends Received $0 $0 $0 $0
Interest Received $683,000 $494,000 $256,000 $302,000
Interest Paid -$14,841,000 -$12,007,000 -$10,811,000 -$10,987,000
Taxes Paid -$4,361,000 -$8,357,000 -$8,898,000 -$10,295,000
Other Op CF -$94,000 $2,741,000 $2,714,000 $3,641,000
Net Operating CF $23,534,000 $22,911,000 $25,606,000 $29,631,000 Investing Cash Flows
Cash Paid for PP&E -$6,054,000 -$4,011,000 -$6,904,000 -$9,817,000
Sale of PP&E $7,129,000 $3,744,000 $3,012,000 $5,055,000
Purchase of Investments $0 $0 $0 $0
Proceeds from Invests $0 $0 $0 $0
Purch of Subsidiaries $0 $0 -$3,431,000 -$25,203,000
Proceeds from Subsid $0 $0 $0 $0
Loans Granted $0 $0 $0 $0
Loans Repaid $0 $0 $0 $0
Other Investing CF $0 $0 $0 -$1,674,000
Net Investing CF $1,075,000 -$267,000 -$7,323,000 -$31,639,000 Financing Cash Flows
Proceeds from Issues $2,026,000 $563,000 $2,166,000 $5,077,000
Proceeds from Borrow $65,000,000 $2,000,000 $159,000,000 $40,505,000
Repayment of Borrow -$49,580,000 -$25,500,000 -$150,500,000 -$28,000,000
Dividends Paid -$15,067,000 -$6,148,000 -$25,587,000 -$13,857,000
Other Financing CF -$25,041,000 -$15,000 -$49,000 $0
Net Financing CF -$22,662,000 -$29,100,000 -$14,970,000 $3,725,000 Net Increase in Cash $1,947,000 -$6,456,000 $3,313,000 $1,717,000
Cash at Beginning $5,196,000 $7,143,000 $687,000 $4,000,000
Exchange Rate Adjs $0 $0 $0 $0
Other Cash Adjs $0 $0 $0 $0
Cash at End $7,143,000 $687,000 $4,000,000 $5,717,000
Source: Aspect Huntley

Financial Ratios Dec-03 Dec-04 Dec-05 Dec-06
Profitability ratios
Net Profit Margin 8.21% 11.40% 13.39% 13.20%
EBIT Margin 21.88% 24.98% 27.26% 25.30%
EBITA Margin 24.10% 27.10% 27.65% 25.74%
EBITDA Margin 28.88% 30.96% 31.45% 30.11%
ROE 9.23% 22.90% 76.14% 47.55%
ROA 3.71% 9.14% 10.46% 9.53%
ROIC 6.53% 15.49% 21.89% 15.46%
NOPLAT Margin 17.09% 18.88% 19.41% 18.11% Asset Management Ratios
Invested Capital Turnover 38.18% 82.04% 112.77% 85.34%
Inventory Turnover 711.89% 1369.76% 1357.92% 1280.67%
Asset Turnover 24.36% 53.73% 53.87% 52.69%
PPE Turnover 34.42% 73.73% 78.87% 80.87%
Depreciation/PP&E 1.29% 2.20% 2.16% 3.53%
Depreciation/Revenue 4.78% 3.86% 3.80% 4.37%
Wkg Capital/Revenue 0.90% 3.16% -0.88% 0.49%
Working Cap Turnover 2793.15% 3165.54% -11399.32% 20476.29% Safety Ratios
Financial Leverage 453.98% 368.73% 1017.09% 668.06%
Gross Gearing (D/E) 241.86% 173.84% 508.01% 328.05%
Net Gearing 230.72% 172.93% 493.44% 315.72%
Net Interest Exp. Cover 2.2 3.15 3.2 3.67
Current Ratio 1.22 1.2 1.08 1.18
Quick Ratio 0.91 0.8 0.76 0.83
Gross Debt/CF 2.45 3.74 3.98 4.14
Net Debt/CF 2.34 3.72 3.87 3.98
NTA per Share 0.33 0.54 -0.04 -0.02
BV per Share 0.67 0.79 0.27 0.46
Cash per Share 0.08 0.01 0.04 0.06 Cashflow Ratios
Receivables/Op. Rev. 5.01% 9.72% 10.49% 12.63%
Inventory/Trading Rev. 3.51% 7.30% 7.36% 7.81%
Creditors/Op. Rev. 6.28% 10.36% 11.36% 12.88%
Funds from Ops./EBITDA 57.45% 49.35% 54.11% 60.30%
Depreciation/Capex 111.91% 144.28% 82.79% 72.63%
Capex/Operating Rev. 4.27% 2.68% 4.59% 6.02%
Days Inventory 51.27 26.65 26.88 28.5
Days Receivables 73.2 35.48 38.27 46.09
Days Payable 91.73 37.82 41.47 47
Gross CF per Share 0.16 0.37 0.36 0.38
Sales per Share 0.71 1.56 1.55 1.67 Financial Ratios – continued
Market Data
Year End Share Price $2.14 $3.35 $4.19 $5.55
Market Cap.($m) 200.99 318.26 406.08 549.59
Net Debt ($m) 147.92 130.86 135.5 146.37
Enterprise Value ($m) 348.91 449.12 541.58 695.96 Valuation Multiples
EV/EBITDA 4.26 9.67 11.44 14.16
EV/EBIT 5.62 11.99 13.2 16.86
Market Cap./Rep NPAT 8.6 18.56 20.11 22.77
Market Cap./Trading Rev. 0.71 2.12 2.7 3.37
Price/Book Value 3.13 4.21 14.79 11.85
Price/Gross Cash Flow 3.17 9.05 11.6 14.95
PER 9.15 18.82 20.14 25.18
Source: Aspect Huntley

Financial Per Share Data Dec-03 Dec-04 Dec-05 Dec-06
Shares Outstand. (EOP) 93,918,733 95,002,978 96,915,931 99,025,548
Weighted Avg. Shares 96,920,114 94,399,665 96,086,636 97,541,881 EPS(ex. Cap P/L & Cap. Int) 9.27 18.1 20.96 24.65
Reported EPS Before Abs. 11.7 17.8 20.8 24.6
% change 0.0% 52.1% 16.9% 18.3% Dilution Factor -- -- -- --
Cumulative 1 1 1 1 Reported EPS Before Abnormals Adjusted 11.7 17.8 20.8 22.04
DPS - Adjusted Ex. Special 0 15.4 16.5 19.5
DPS - Adj. 0 15.4 27 19.5 Interim Div - Ordinary 0 6.4 7 8
Interim Franking - Ord -- 100% 100% 100%
Gross Interim Div - Ord 0 9.14 10 11.43 Final Dividend - Ordinary 0 9 9.5 11.5
Final Franking - Ordinary -- 100% 100% 100%
Gross Final Div - Ord 0 12.86 13.57 16.43 Special Dividend - Ord -- 0 10.5 0
Special Franking - Ord -- -- 100% --
Gross Special Div - Ord 0 0 15 0 Total Div - Ex. Special -- 15.4 16.5 19.5
Total Div - Inc. Special -- 15.4 27 19.5 Total Franking - Ex. Spec -- 100% 100% 100%
Total Franking - Inc. Spec -- 100% 100% 100% Total Gross Div- Excluding Special 0 22 23.57 27.86
Total Gross Div- Including Special 0 22 38.57 27.86 Tax Rate 33.60% 34.20% 30.30% 30.20%
Corporate Tax Rate 30.00% 30.00% 30.00% 30.00%
Payout Ratio Ex. Special 0.00% 86.50% 79.30% 88.50%
Payout Ratio 0.00% 86.50% 129.80% 88.50% Dividend Yield 0.00% 4.60% 6.40% 3.50%
Dividend Yield Ex. Spec 0.00% 4.60% 3.90% 3.50% Gross Div. Yield 0.00% 6.60% 9.20% 5.00%
Gross Div. Yield Ex. Spec 0.00% 6.60% 5.60% 5.00%
Source: Aspect Huntley
Sundry Analysis Dec-03 Dec-04 Dec-05 Dec-06
Invested Capital
Operating Current Assets 32,063,000 31,784,000 33,525,000 36,960,000
Non Int Bearing CL -29,524,000 -27,048,000 -34,845,000 -36,163,000
Operating Working Capital 2,539,000 4,736,000 -1,320,000 797,000 Net PP&E 206,036,000 203,323,000 190,795,000 201,797,000
Intangibles Ex. Goodwill 6,195,000 0 750,000 47,288,000
Net Other Operating Assets -29,037,000 -25,328,000 -56,799,000 -58,641,000
Operating Invested Capital Ex-Goodwill 185,733,000 182,731,000 133,426,000 191,241,000 Goodwill 26,302,000 23,805,000 29,539,000 0
Operating Invested Capital Incl. Goodwill 212,035,000 206,536,000 162,965,000 191,241,000 Cash 7,143,000 687,000 4,000,000 5,717,000
Non Current Investments 0 0 0 1,486,000
Total Investor Funds 219,178,000 207,223,000 166,965,000 198,444,000 Investor Funds
Total Equity 64,114,000 75,674,000 27,461,000 46,360,000
Gross Borrowings 155,064,000 131,549,000 139,504,000 152,084,000
Total Investor Funds 219,178,000 207,223,000 166,965,000 198,444,000 NOPLAT
EBIT 31,032,000 37,455,000 41,019,000 41,282,000
Corp Tax Rate 0 0 0 0
Tax on EBIT -9,946,600 -12,329,300 -12,407,200 -12,447,600
Amortisation 3,156,000 3,180,000 589,000 728,000
NOPLAT 24,241,400 28,305,700 29,200,800 29,562,400 Tax on EBIT
Tax Expense -5,917,000 -8,909,000 -8,797,000 -9,363,000
Tax Shield 4,029,600 3,420,300 3,610,200 3,084,600
Tax on EBIT -9,946,600 -12,329,300 -12,407,200 -12,447,600 Free Cashflow
NOPLAT 24,241,400 28,305,700 29,200,800 29,562,400
Depreciation 6,775,000 5,787,000 5,716,000 7,130,000
Gross Cash Flow 31,653,400 35,185,500 35,018,300 36,755,400
Gross Investment -8,593,000 -6,208,000 2,235,000 -11,934,000
Free Cash Flow 23,060,400 28,977,500 37,253,300 24,821,400 Working Capital
Total Current Debtors 14,567,000 15,040,000 16,764,000 20,606,000
Prepayments 2,276,000 2,331,000 2,093,000 0
Current Inventory 9,962,000 10,945,000 11,081,000 12,743,000
Current Investments 0 0 0 0
Sundry Analysis - continued
Other Current Assets
Creditors CL 17,822,000 15,534,000 17,095,000 21,013,000
Provisions CL 8,525,000 8,741,000 14,883,000 12,210,000
Other Current Liabilities 3,177,000 2,773,000 2,867,000 2,940,000
Working Capital 2,539,000 4,736,000 -1,320,000 797,000 Change in Working Capital
Increase Debtors 14,567,000 473,000 1,724,000 3,842,000
Increase Prepayments 2,276,000 55,000 -238,000 -2,093,000
Increase Inventory CA 9,962,000 983,000 136,000 1,662,000
Increase Current Invest 0 0 0 0
Increase Other CA 5,260,000 -1,790,000 -2,960,000 20,000
Increase Creditors CL 17,822,000 -2,288,000 1,561,000 3,918,000
Increase Provisions CL 8,525,000 216,000 6,142,000 -2,673,000
Increase Other CL 3,177,000 -404,000 94,000 73,000
Increase Working Capital 2,539,000 2,197,000 -9,139,000 2,117,000 Capex -6,054,000 -4,011,000 -6,904,000 -9,817,000
Increase Capex -6,054,000 2,043,000 -2,893,000 -2,913,000 Gross Investment
Increase Working Capital 2,539,000 2,197,000 -9,139,000 2,117,000
Capex -6,054,000 -4,011,000 -6,904,000 -9,817,000
Gross Investment -8,593,000 -6,208,000 2,235,000 -11,934,000 Investment Funding
Funds from Operations 42,147,000 40,040,000 42,345,000 46,970,000
Dividends Received 0 0 0 0
Interest Received 683,000 494,000 256,000 302,000
Interest Paid -14,841,000 -12,007,000 -10,811,000 -10,987,000
Other Operating Cash -94,000 2,741,000 2,714,000 3,641,000
Purchases of PPE -6,054,000 -4,011,000 -6,904,000 -9,817,000
Surplus Funds - Post Capex 17,480,000 18,900,000 18,702,000 19,814,000
Proceeds from PPE 7,129,000 3,744,000 3,012,000 5,055,000
Surplus Funds - Post PPE 24,609,000 22,644,000 21,714,000 24,869,000
Dividends Paid -15,067,000 -6,148,000 -25,587,000 -13,857,000
Surplus Funds - Post Div 9,542,000 16,496,000 -3,873,000 11,012,000
Purchase of Investments 0 0 0 0
Surplus Funds - Post Acquisitions 9,542,000 16,496,000 -3,873,000 11,012,000 Debt Structure
S/T Debt 2,515,000 17,000 0 0
L/T Debt 152,549,000 131,532,000 139,504,000 152,084,000
Total Gross Debt 155,064,000 131,549,000 139,504,000 152,084,000

Sundry Analysis – continued
Change in Gross Debt
Increase S/T Debt 2,515,000 -2,498,000 -17,000 0
Increase L/T Debt 152,549,000 -21,017,000 7,972,000 12,580,000
Change Gross Debt 155,064,000 -23,515,000 7,955,000 12,580,000 Cash 7,143,000 687,000 4,000,000 5,717,000
Increase Cash 7,143,000 -6,456,000 3,313,000 1,717,000 Net Debt 147,921,000 130,862,000 135,504,000 146,367,000
Increase Net Debt 147,921,000 -17,059,000 4,642,000 10,863,000 Shareholders Equity
Capital 52,026,000 52,589,000 55,729,000 64,473,000
Reserves Ex-SPR 0 0 -1,898,000 1,171,000
Share Prem Reserve 0 0 0 0
Retained Profits 11,033,000 22,041,000 -27,377,000 -20,334,000
Other Equity 0 0 0 0
Convertible Equity 0 0 0 0
Outside Equity 1,060,000 1,040,000 1,010,000 1,050,000
Total Equity 64,114,000 75,674,000 27,461,000 46,360,000 Change in Total Equity
Increase in Capital 52,026,000 563,000 3,140,000 8,744,000
Increase Reserves Ex-SPR 0 0 -1,898,000 3,069,000
Increase Share Prem Res 0 0 0 0
Increase Retain Profits 11,033,000 11,008,000 -49,418,000 7,043,000
Increase Other Equity 0 0 0 0
Increase Convert Equity 0 0 0 0
Increase Outside Equity 1,055,000 -11,000 -37,000 43,000
Increase Total Equity 64,114,000 11,560,000 -48,213,000 18,899,000 Capital Structure
Total Gross Debt 155,064,000 131,549,000 139,504,000 152,084,000
Total Equity 64,114,000 75,674,000 27,461,000 46,360,000
Total Capital Invested 219,178,000 207,223,000 166,965,000 198,444,000
Source: Aspect Huntley References

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10. http://www.chc.org.au/scripts/cgiip.exe/WService=ASP0012/ccms.r

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12. http://www.chf.org.au/publications/all_search3.asp?id=330

13. http://www.asmi.com.au/Complementary%20Medicine.htm

14. http://www.nhca.com.au/

15. http://www.blackmores.com.au/News/Detail.aspx?ArticleId=8048

16. http://www.tga.gov.au/docs/html/tga/tgaginfo.htm

17. http://www.abc.net.au/am/content/2003/s843257.htm