Inghams Comes Home To Roost

This story features INGHAMS GROUP LIMITED. For more info SHARE ANALYSIS: ING

Inghams Group has provided a surprisingly positive first half guidance upgrade, although not all brokers see a sustainable change in fortune.

-Inghams’ first half guidance upgrade substantial
-Plenty of tailwinds at play
-Second half will nonetheless see an easing
-Not all brokers hold a positive medium term view

By Greg Peel

Inghams Group ((ING)) is the largest poultry producer in Australia and New Zealand, commanding 40% and 35% market shares respectively.

The company has suffered through some tough years of late, as first covid led to supply chain issues for stockfeed and then the Ukraine war sent prices of the likes of wheat and soybean meal skyrocketing.

On the flipside, prices of other meats at the supermarket also soared, hence the cheapest protein among them — chicken – saw increased demand, which continues to increase in today’s cost of living crisis.

Inghams’ share price has thus had its ups and downs, falling from a peak of $4.60 at the beginning of 2019 and hitting a trough in September last year of $2.38. Following the release yesterday of first half FY24 earnings and profit guidance, the share price leapt 8.9% to $3.68.

The upgrade took the market by surprise, and so too brokers. Guidance suggests an 18% increase in earnings year on year and 25% ahead of consensus forecasts.

Management outlined several tailwinds behind the upgrade, including increased wholesale pricing. Pricing increased throughout FY23 and has continued into the first half FY24, with average selling prices now around 17% above the first half FY22.

The price increases are now more than offsetting inflationary cost pressures (particularly feed and labour), resulting in margin expansion.

Thanks to the installation of a new CEO, the formerly struggling New Zealand business is seeing an accelerated recovery.

Guidance also takes into account continued improvement in operational performance and processing. Inghams will continue to invest in its network and automation projects, but the balance sheet is well-placed to not only fund this capex, but also provide for potential capital management down the track.

Given rising demand for chicken, some retailers have been materially increasing the shelf space provided for chicken (and turkey), particularly higher-margin free-range products.

The Second Half

Taking some gloss off the first half upgrade is management’s expectation the second half will see a decline from the first. However, the second half is seasonally weaker, leading to first half earnings skew. Christmas is clearly a critical time for turkey, and that falls in the first half. The second half also contains more public holidays, which increases labour cost.

Labour cost is one thing Inghams can’t much control, and recent industrial action led to higher wages. Wages don’t tend to come down. Management also expects ongoing inflationary pressure in feed and other costs such as electricity and fuel.

Wheat and soybean meal prices have continued to rise post-FY23 in Aussie dollar terms. Bell Potter’s feed index is currently up some 7% in the period. Inghams is hoping to be able to sustain whole prices increases in the second half.

Then there’s the weather.

The 2017-19 drought resulted in widespread destocking of livestock across the country, as graziers were unable to access sufficient feed or could not afford the prices at the time. Saleyard prices fell. But that all swung around in the La Nina years of 2020-22.

Graziers restocked once more, and record saleyard prices were achieved. But now El Nino is back, and there’s been little in the way of rain since December. Prices are crashing again.

So why are lamb/beef prices at the supermarket still elevated? Firstly, producers (of most anything) are quick to put prices up but very slow to put them down again. Otherwise, animals in good condition still attract higher prices given their increasing rarity.

Without rain, feed growers (eg hay) have to water their fields with electric-powered sprinkler systems, and the cost of electricity – well, you know. Wholesale pricing needs to compensate.

There is thus a risk other meat product prices could fall more than the small decreases seen to date, which would undermine chicken’s place as the cheap alternative, but not necessarily in any hurry.

Can it Last?

Brokers have rushed to upgrade first half earnings forecasts and subsequent price targets to take guidance into account, but are not getting carried away in later periods.

Morgans is upbeat, believing FY24 will provide a sustainable base for Inghams’ future earnings. The broker estimates FY19-24 will see a 15% increase in production volumes at a compound annual growth rate of 2.8%. Efficiency improvements have led to stronger margins.

Morgans (Add) believes Inghams remains undervalued trading on a low PE multiple, especially for what is a market leader, with a vertically integrated operating model and assets that are difficult and costly to replicate. It is also leveraged to poultry, which the broker describes as the affordable, healthy, sustainable growth protein.

Additionally, the stock offers an attractive fully franked dividend yield.

Jarden (Overweight) views the near to medium-term outlook as increasingly positive, seeing upside risk to its forecasts given poultry is in arguably the most favourable environment for producers in more than ten years. This broker does not believe this is priced in and sees valuation as attractive, with the stock trading at around a -20% PE discount to global peers.

In light of recent share price strength (the stock has risen some 40% from the end of May low), Bell Potter pulls back to Hold from Buy.

This broker notes while first half guidance is stronger than expected, Inghams was cycling relatively soft year-on-year comparables. As El Nino bites, feed inflation is again emerging, the broker notes, without comparable inflation in competing protein products.

Ord Minnet retains its Hold rating.

Near term conditions might be favourable, this broker acknowledges, but longer-term is a different story. “Poultry is highly commoditized, and Inghams is subject to the tribulations of powerful supermarket customers, frequent oversupply and volatile input costs”.

This broker notes just a year ago, Inghams was grappling industry oversupply, weak pricing and input cost pressure. Ord Minnet believes the stock is fairly valued.

Goldman Sachs does not.

Inghams’ material first half guidance earnings beat is in the broker’s view likely being driven by temporary benefits from a robust pricing environment and volume recovery, rather than a structural change in the profitability of the business.

Management has already indicated persistent inflation will see earnings decline in the second half and Goldman can see an earnings decline into FY25 given permanent cost increases such as wages.

It is worth noting, this broker points out, first half earnings guidance is some 25% above the company’s previous record half-yearly earnings.

Goldman Sachs retains its Sell rating.

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