Nufarm Ploughs Ahead Amid Heightened Risks

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

-Heightened risks in South America
-Strong second half skew
-Cost reductions on track
 

By Eva Brocklehurst

Herbicide and pesticide producer Nufarm ((NUF)) is grappling with a range of challenges as befits an agricultural exposure, none the least being an El Nino event. The company has signalled its earnings in the first half are likely to be flat or slightly higher, with unfavourable foreign exchange movements contributing to weaker guidance at the profit line.

JP Morgan trims forecasts to account for the expected FX loss of $10m, which is derived from exposure to volatile South American currencies, particularly the Brazilian real. For the full year the company expects underlying earnings growth and the broker's revised earnings forecast sits at $264.8m, around 11.8% above FY15.

Forecasts are achievable, in Credit Suisse's view, despite the challenges in South America. In that region the broker ascertains that despite rapid currency devaluation, the company is making gains in market share and clear channel inventories are providing a buffer. In comparison, the broker expects some competitors may experience a 50% fall in 2015 earnings in South America.

Credit Suisse highlights speculation on M&A among the larger players could mean Nufarm can acquire high-margin products, as portfolio divestiture may be required to alleviate competition concerns. The broker calculates Nufarm's balance sheet could possibly afford a $300m acquisition and still maintain its leverage.

Meanwhile, Nufarm's cost reductions are on track and are expected to deliver incremental savings of $20m in FY16. Credit Suisse believes the stock is close to fair value as longer-dated savings from FY18 are yet to be fleshed out properly. UBS also considers the stock fairly valued as end markets remain mixed and there is limited scope for upside. The company's focus on working capital efficiencies is expected to be the main driver of improved cash flow conversion.

Deutsche Bank takes a negative view of the AGM update, given the tough seasonal conditions and risks apparent in South America and with the seeds business. The company has made progress in improving margins and returns but this appears to be already incorporated in the share price. Moreover, the broker suspects the market is pricing in potential corporate activity – with Sumitomo holding a 23% stake – as well as the full extent of the $116m cost reduction program.

North America has made a positive start despite soft commodity prices, with earnings improvement expected depending on normal seasonal conditions. Brokers note European and Asian sales were up modestly in the first quarter.

Australian revenue was down in the first quarter, given the dry seasonal conditions, although demand improved following some good rain in early November. Seed sales were slightly lower and the extent of earnings recovery in this business is dependent on the Australian canola crop. In Brazil, stricter credit polices have resulted in some sales being forfeited.

Neither Morgans nor Macquarie is overly concerned about the soft start to FY16. Morgans points out that 50% of Nufarm's profit can fall into the fourth quarter alone. The second half is the northern hemisphere’s key crop period and Australia’s winter crop.

While downgrading estimates to reflect the FX losses, Morgans expects improved seasons, rising market share and new products will underpin strong double digit growth over the next few years. The broker retains a Hold rating, nonetheless, as on near-term multiples the stock appears fairly valued.

Macquarie has an Outperform rating, given the medium-term earnings profile remains intact and, despite seasonal risks, the outlook is underpinned by underlying growth and productivity improvements. Furthermore, the $20m in incremental cost savings for FY16 is likely to be weighted to the second half.

Macquarie believes the company is doing well in Brazil, given the circumstances, and the prospects for Europe and North America are favourable, with both skewed to the second half. Macquarie, too, suspects industry consolidation will provide a supportive background, given the prospect that industry manoeuvering prompts Sumitomo to act on its stake.

Goldman Sachs, while disappointed with first half guidance, also notes this is seasonally the weaker half. On average it accounted for only 27% of the full year earnings over the past three years. What is more disappointing is the heightened macro headwinds, such as increased competition, the depreciating Brazilian real and rising credit risks in South America.

These factors, plus adverse weather conditions, appear to offset the benefits of market share gains and increased plantings, in the broker’s view. Goldman Sachs, not one of the eight brokers monitored daily on the FNArena database, has a Sell rating.

The database contains five Hold ratings, with one Buy (Macquarie) and one Sell (Deutsche Bank). The consensus target is $7.95, signalling 2.0% downside to the last share price. Targets range from $6.10 (Deutsche Bank) to $9.00 (UBS).

See also, Can Nufarm Hold Onto Efficiency Benefits? on September 25 2015.
 

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