An Opportunity To Buy Graincorp?

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

By Chris Shaw

Grain storage and handling group Graincorp ((GNC)) yesterday delivered a full year profit result of $90.8 million in net profit after tax terms, which was broadly in line with market expectations. What caused the share price weakness, and post result the stock fell from around $7.75 to below $7.25, was weaker than expected guidance for FY11.

Guidance from management for the coming year wasn't specific but indicated the crop for 2010/11 is likely to be impacted by adverse weather conditions that will delay the harvest. The other key to guidance related to malt earnings and here the outlook was not as positive as had been expected.

As UBS notes, higher depreciation charges and adverse foreign exchange movements mean earnings from the malt operations in EBITDA (earnings before interest, tax, depreciation and amortisation) terms are now likely to come in at around $88 per tonne. This is down from around $110 per tonne achieved by the previous owners of the business.

The update has been met by cuts to earnings forecasts across the market, with RBS Australia lowering its profit forecasts for the company by 19.5% in FY11 and by 16.2% in FY12. Others have followed suit, Citi cutting its earnings forecast for FY11 by 13% and Credit Suisse by around 17% and 22% respectively.

In earnings per share (EPS) terms, consensus estimates for Graincorp according to the FNArena database now stand at 74.7c in FY11 and 65.7c in FY12. There remains a spread of forecasts, as Credit Suisse's numbers stand at 66.9c and 57.3c for FY11 and FY12, while JP Morgan's forecasts are 89.2c and 74.2c respectively.

The cuts in earnings estimates have seen price targets reduced, the FNArena database showing a consensus price target for Graincorp now of $8.38. This is down from about $8.60 prior to the FY10 result and is driven by UBS's target of $9.70, down from $10.30 previously. Next best is Citi with a target of $8.80, down from $9.30.

UBS continues to rate Graincorp as a Buy, pointing out even allowing for the new guidance on earnings there should still be solid growth in profits for the company in FY11. The other positive is core debt of around $50 million appears quite low, which offers potential for dividends to be increased going forward.

Most in the market agree, as the FNArena database shows Graincorp is rated as Buy four times and Neutral once. Citi suggests the sell-off in the stock post the FY10 result was an over-reaction as more favourable seasonal conditions suggest guidance is overly conservative. This should continue to underpin the share price.

The other attraction of Graincorp according to Citi is the potential for merger and acquisition activity involving the company. This view is shared by RBS Australia, who points out the low debt levels leave Graincorp well placed to fund any growth opportunities that may emerge.

The dissenting view comes from Credit Suisse, which suggests a lack of short-term positive catalysts for Graincorp is likely to see the stock underperform for the next several months. Goldman Sachs has a similar view, suggesting currently optimistic market assumptions for the company are likely to be tempered by the late harvest and concerns around grain quality.

Shares in Graincorp today are higher and as at 11.40am the stock was up 15c at $7.14. This compares to a range over the past year of $5.10 to $8.26 and implies upside of around 17% to the consensus price target in the FNArena database.

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