Seeds Of Doubt For Nufarm

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Nufarm’s much-lauded omega-3 seeds business posted a shockingly weak first half result. Under balance sheet pressure, the company has placed the business under review.

-Nufarm posted a big first half miss, all to do with omega-3
-Weaker than average fish oil prices to blame
-The Seeds business is now up for sale (maybe)

By Greg Peel

Agricultural company Nufarm’s ((NUF)) base business has long been that of Crop Protection herbicides, insecticides and efficient application technology but in more recent years the company’s jewel in the crown, and expected source of strong growth potential, has been its Seeds Technologies business.

Within that business Nufarm’s carinata (a non-food oilseed feedstock) and “energy cane” are supplying sustainable biomass feed stocks for the rapidly growing biofuels industry, but the jewel in the crown of the jewel in the crown Seeds business, as Morgan Stanley puts it, and no-one disagrees, is Nufarm’s Hybrid Seeds business.

Morgan Stanley is specifically referring to omega-3 canola; the world’s first plant-based source of omega-3 for human nutrition and animal feed, which “takes the pressure off the world’s wild fish stocks and oceans and can double the world’s supply of omega-3, essential for good health,” as the company’s website explains.

For a long time now, analysts have been prepared to look past the inevitable weather cycles impacting crops across the globe and thus impacting the Crop Protection business to the sheer growth and margin potential of omega-3 canola when assessing Nufarm.

Damn Those Fish

Last week Nufarm reported first half (end-March) underlying profit well below consensus forecasts due to a “shockingly weak” performance in Seed Technologies, as Bell Potter puts it, and no-one disagrees. Investors were clearly shocked, knocking -30% off Nufarm’s share price on the day (and more since).

The company’s revenues were up 3% year on year, but earnings fell by -5%. An operating profit of $38.5m compares to $50.9m in the first half FY24 and analysts’ forecasts in the $60-70m range. The shortfall is entirely linked to the Seed Technologies platform, for which sales fell -3% year on year and earnings -46%. The result included a -$28m impairment of omega-3 inventories.

The weak result and write-down were driven by competing fish oil prices falling to -15% below average due to excess global supply.

Outside of Seeds, Nufarm’s result was weak on all levels, Morgans notes, except for the Asia-Pacific operations (earnings up 29% year on year) and Europe (26%).

Ongoing Uncertainty

While a portion of the hit to Seeds is cyclical and temporary, Morgan Stanley suggests, this result did challenge the attractiveness of this supposedly higher quality business. Nufarm has “finally shown”, says Morgans, that this business can also be severely impacted by unfavourable seasonal conditions and volatile pricing, and it is highly capital intensive.

As expected, no formal FY25 earnings guidance was provided. However, outlook comments were cautious and management highlighted several uncertainties which could impact the second half given weak fish oil prices, tariff uncertainty and dry weather in (southern) Australia affecting canola planting.

Previous omega-3 guidance for revenue to more than double in FY25 has been removed. Nufarm stated if the current weakness in fish oil pricing continues to hold, earnings from Seed Technologies for the second half could be -$20m below a year ago. This would imply a second half loss of -$13m.

Nufarm continues to target $50m of annualised savings in overhead costs by the end of FY25, with the full benefits to be seen in FY26. However, the company is facing a more pressing and immediate need.

Under Review

Nufarm’s leverage (net debt to earnings) ratio has risen to 4.5x, compared to a target range of 1.5-2x, and management does not expect leverage to be back in the target range until the end of FY26.

Given subdued fish oil prices in FY25, Nufarm has walked away from its prior $100m revenue expectation from omega-3. There is potentially more pain to come, Citi notes, with more canola seeds being planted and Nufarm having to sell these at losses. The company has opted to review Seed Technologies to assess various options.

Citi believes Nufarm is likely to face pushbacks when it comes to recouping Seed Technologies’ book value (circa $900m according to the first half accounts) given current underperformance in omega-3, as well as a ramp-up of risks associated with biofuels.

Given Seed Technologies had been considered a growth engine for Nufarm, an appropriate multiple for this business is likely to be revised down by the market given its challenges and Nufarm’s decision to review, Citi warns.

While nothing is committed, the company said it would “explore ownership structures to support and accelerate the next stage of commercialisation”. Morgan Stanley thinks questions will be inevitably asked about whether this action has been prompted by either the deterioration in the balance sheet or a reduced attractiveness of this business going forward.

Morgans highlights the state of the balance sheet and the fact the Seed Technologies portfolio requires additional investment to reach its full potential. Management said it has received some inbound interest in recent times, and Nufarm’s jewel in the crown is now up for sale, in part or in full.

Investors may be left with an equity stake in this business or a lower quality and lower multiple Crop Protection business. Trying to sell this business when earnings are so depressed may result in a disappointing outcome, Morgans warns, despite its book value and other recent seed transactions being conducted on large multiples of more than 20x earnings.

Proceeds will likely be required to restore Nufarm’s balance sheet. If the company can’t sell Seed Technologies, a large and highly dilutive capital raising can’t be dismissed, analysts agree, especially if operating conditions continue to deteriorate.

There are various parts of Seeds business, Macquarie notes (eg, hybrid seeds, biofuels & oils), which may have appeal to different potential acquirers across trade and private equity. The $900m book value is a marker.

With exception of the Hybrid Seeds business, Citi suggests Nufarm is likely to find it challenging to offload other parts of Seed Technologies.

Meanwhile, while volumes are progressively recovering with channel restocking, Crop Protection is not out of the woods yet. Citi notes, alongside tariffs, this division faces persistence of just-in-time purchasing patterns and delays in North America, unfavourable weather conditions in Australia, and continued oversupply of active ingredients from China limiting potential for a price uplift.

Citi is encouraged by Nufarm’s cost control as well as stabilisation of pricing in general, but any incremental uplift in the near term is likely to be limited to volume growth.

Too Hard Basket?

Leverage remains elevated, and the fact no guidance was handed down signals persevering uncertainty. Thus Citi retains its Sell rating and cuts its target to $2.60 from $3.75 on forecast changes.

On the -30% share price reaction, Macquarie sticks with Neutral, cutting its target to $3.20 from $4.11. However, balance sheet risks have increased and the earnings outlook is opaque regarding fish oil prices, dry Australian weather and tariffs. A potential Seeds sale may provide value discovery and balance sheet relief, Macquarie suggests, but it would be a six-month-plus process.

Morgan Stanley has cut its target to $2.80 from $3.90. The soft first half result and elevated gearing challenge this broker’s confidence in the business, particularly in the face of increased global uncertainty. Morgan Stanley would like to see an improved leverage position and demonstration that pricing, revenues and earnings are rebounding before considering adopting a more positive stance than Equal-weight.

Just when the Crop Protection industry appears to be recovering from its recent downturn, Seed Technologies is now in a downgrade cycle, Morgans laments, when in recent years, investors have been excited by the growth profile and margins of the Seed Technologies business.

The current situation reminds Morgans of 2019 when Nufarm was also in a downgrade cycle, its balance sheet leverage became too high, and this ultimately resulted in the company selling its South American operations. Post forecast changes, Morgans’ target has fallen to $2.78 from $4.53.

“In our view, Nufarm is in the too hard basket until we know what this company consists of moving forward and it gets its leverage ratios down to more acceptable levels.”

Morgans has downgraded to Hold from Add.

One broker nonetheless retains some faith.

Understandably, says Bell Potter, the stock has reacted to the disappointing result in omega-3. However, the commencement of a process that could unlock value in the $900m asset, when similar businesses have divested minority portions at a PE of around 20x, would imply a potentially compelling break-up scenario that is not reflected in the current share price.

Bell Potter has cut its target to $3.45 from $4.35 but retains Buy.

UBS (Neutral) was as shocked as the aforementioned peers and to date has only released a preliminary, initial response, which makes its $4.50 price target look out of whack.

That leaves one Buy or equivalent, four Holds and one Sell rating for Nufarm among brokers monitored daily by FNArena covering the stock. The consensus target has fallen to $3.22 from a prior $4.32.

That would have been $2.97 without UBS.

RBC Capital has cut its price target to $3.50 from 5.00. Rating is Sector Perform, Speculative Risk.

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