A Long Wait For Nufarm

This story features NUFARM LIMITED. For more info SHARE ANALYSIS: NUF

By Greg Peel

While slightly better than late August guidance suggested, the FY09 profit result from crop protection specialist Nufarm ((NUF)), released yesterday, was still a poor one. Weak glysophate margins in the US and credit issues in Brazil belied some resilience in Australasia and Europe, but at the end of the day a drop in US gross profits from $55m in 2008 to a loss of $21m in FY09 told the story. The result was also of poor quality, with a lower than expected tax rate fooling all analysts and an increase in total debt flying in the face of post-GFC market deleveraging.

But the story was a GFC one, and all analysts agree that FY10 has dawned much brighter for Nufarm. Management highlighted a partial recovery in glysophate demand, an end to credit issues in Brazil, and growth in the company’s non-glysophate offerings as providing potential. Nufarm’s glysophate cost base is also now on par with indutry peers allowing the company to compete more evenly. All brokers have raised earnings forecasts for FY10-11 in the expectation of a solid return to strength, albeit in a still oversupplied glysophate climate.

But it’s all academic anyway. Moves by analysts to reassess target prices based on higher earnings forecasts have been overridden by yesterday’s announcement of a Heads of Agreement (HOA) having been signed by Chinese company Sinochem for an exclusive, non-binding takeover proposal at $13.00 per share. The offer will also include payment of the upcoming interim dividend, extending the offer’s value to $13.15. The HOA ratifies Sinochem’s earlier indication of interest.

There is little disagreement among analysts that the price is a reasonable one. GSJB Were notes that if one assumes an enterprise value to earnings ratio (EV/EBITDA) of about 10x based on previous transaction in the agricultural chemical sector, one arrives at a valuation range of $11.50 to $14.00 with a midpoint of $12.75. No analyst is querying the price, including Macquarie who had previously assumed an offer of $14.00. With Nufarm shares having traded as low as $7.30 late last year, shareholders should be happy their stock is in play.

Except it isn’t. No analyst expects a counterbid to emerge, and the path from the HOA to an actual takeover is a long one. The HOA merely allows Sinochem exclusive access to Nufarm’s books in good faith for the purpose of conducting due diligence.  This process will begin on October 15 and end on November 18. Assuming Sinochem is happy with what it finds, the next step is to enter into a Transaction Implementation Agreement which should be signed on December 3.

The deal must then be put to shareholders for approval, and the Australian Foreign Investment Review Board must be given its usual couple of months to assess the impact of the sovereign takeover. Chinese authorities must also grant approval.

Realistically, securities analysts suggest, nothing’s going to happen until at least March. That’s a long time for investors to be licking their lips over a $13.00 payout for a stock which yesterday was trading around $12.00. And so it is shareholders have voted with their feet this morning, sending Nufarm shares down 3% on a day when the ASX 200 has surged a net 1.8%. Take the money and run appears to be the mantra.

This is exactly what JP Morgan was advising this morning, noting the upside to the offer price was little comfort for six months of waiting. Similarly Deutsche Bank maintained the FNArena database’s sole Sell rating, suggesting the glysophate outlook remained challenging. JP Morgan downgraded from Overweight to Neutral now the cat’s out of the bag. RBS Australia followed a similar route, downgrading from Buy to Hold on a pre-assumed $13.00 target.

Credit Suisse, by contrast, upgraded Nufarm from Underperform to Hold in lifting its valuation from a stand-alone $10.20 to the $13.00 offer price. Credit Suisse is among a posse of brokers who do not see any barrier to the deal going ahead in the end. Macquarie notes that an important consideration is Sinochem’s ability to fully fund Nufarm’s growth ambitions.

Not all agree, however. JP Morgan raises the issue that Nufarm is the dominant player in the local crop protection market and this could raise some domestic concerns. The FIRB has been clearly in the spotlight of late, rushed off its feet as offer after offer from China materialises for Australian resource companies. The rejection of a Chinese offer for 51% of rare-earth metal miner Lynas last week and a subsequent indication from the FIRB that stakes of only 15% would be permitted for existing companies, and 50% for greenfield projects, indicates the government is not going to allow the farm to be sold out from under it to Australia’s biggest customer. As to how a glysophate producer fits in among the metal and mineral considerations is anyone’s guess. (One presumes, however, that there will be no disapproval from Chinese authorities.)

GSJB Were also points out the small matter of managing director’s Doug Rathbone’s 11.3% stake in Nufarm. Rathbone recently sold 1.75m shares at $11.25 but his stake remains sufficient to block any takeover.

So the bottom line is that the Sinochem bid is merely in infancy, that the price is unlikely to improve given a lack of obvious contenders, that the offer price is not one of significant premium over the recent share price level given the time to potential settlement, and that there are barriers to consider despite many brokers assuming no disapproval.

The FNArena database now shows seven Hold ratings and one Sell, with BA-Merrill Lynch moving to No Rating as is the broker’s takeover offer policy. The average target price has today increased from $11.91 to $12.41 with three brokers assuming the $13.00 bid as a target.

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