Positive Momentum Continues For Graincorp

This story features GRAINCORP LIMITED. For more info SHARE ANALYSIS: GNC

By Chris Shaw

The Australian Bureau of Agricultural Resources (ABARE) has revised up its forecasts for total winter crop production for the east coast regions of Australia to around 22 million tonnes.

This is an increase of 40% from the group's forecast in June and implies total production will be around 45% above the average for the past 10 years. The total Australian winter crop is now forecast to be 40.7 million tonnes, which would be the third largest Australian winter crop on record.

There remains some scope for the crop to fall short of ABARE's new expectations, as JP Morgan points out a larger crop means increased risk of damage arising from plague locusts in the south eastern states. The wet conditions also mean increased risk of stripe rust, which could impact on yields in some areas.

The upward crop revision has positive implications for Graincorp ((GNC)), as the company captures about 70% share of the production of wheat and barley in New South Wales and Queensland and about 50% share of production in Victoria through its bulk handling system.

Given a higher crop implies higher receivables, earnings estimates for Graincorp have been revised up on the back of the increases to the ABARE crop forecasts. As an example, JP Morgan has lifted its earnings per share (EPS) forecasts for the company by 1.5% this year, by 26.9% in FY11 and by 15.3% in FY12 to 52.7c, 90.5c and 78.7c respectively.

Credit Suisse had been expecting the revision so it notes the new ABARE estimates are broadly in line with its forecasts. Only the broker's FY11 numbers have been lifted, by 6%, so its EPS estimates now stand at 45.7c in FY10, 80.3c in FY11 and 73c in FY12.

Citi is forecasting EPS of 45.7c, 78.1c and 70.1c respectively, which means increases of 26% to its FY11 numbers and 6% to its FY12 forecasts. Consensus estimates according to the FNArena database now stand at 47.2c for FY10 and 77.4c for FY11.

As well as the increases to earnings estimates, the improved crop outlook offers greater certainty to earnings, reports Credit Suisse. This is a positive for the share price as investors are more likely to pay up for earnings certainty.

The other positive for Graincorp, in Citi's view, is its leverage to a larger crop, as this implies improved capacity utilisation and volume throughput and increased operational efficiencies. Add in the fact malt prices have risen by 30% in US dollar terms since June and Citi suggests earnings conditions at present are about ideal for Graincorp.

Citi sees scope for further earnings upgrades in coming months and suggests the improved earnings outlook is not yet fully reflected in the Graincorp share price, as on the broker's numbers the stock is trading on an earnings multiple of less than 10 times in FY11.

This implies solid potential share price upside, as evidenced by Citi's revised earnings estimates generating an increase in its price target for Graincorp to $8.80 from $8.00 previously. JP Morgan has similarly lifted its price target to $7.60 from $7.10 to reflect the increases to its own earnings estimates.

Post the ABARE crop revision there have been no changes to ratings for Graincorp, the FNArena database showing the stock is rated as Buy four times, with an average price target of $7.93. This is up from $7.67 prior to the update.

Shares in Graincorp today are stronger and as at 1.35pm the stock was up 25c at $7.70. This compares to a range over the past year of $5.10 to $9.08 and implies upside of almost 7% to the average price target in the database.

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