Tag Archives: Agriculture

article 3 months old

Brokers Sense Significant Upside For TFS Corp

-Ramp up in harvests
-Unique supplier position
-Earnings to accelerate
 

By Eva Brocklehurst

TFS Corp ((TFC)) is adeptly expanding from a grower of Indian sandalwood to a product development and distribution company. Brokers welcomed the FY15 results which suggest earnings are about to accelerate.

The 2016 harvest is expected to be at least 10 times 2015. While this ramp-up in volume is likely to deliver strong earnings down the track, even more upside is probable over the next decade, brokers suspect, emanating from new pharmaceutical products.

The first pharmaceutical - a treatment for acne - is likely to be on offer by the end of this year and treatments for eczema and warts are also in train. Should the new products offer long-term pricing contracts, UBS believes the stock could be significantly de-risked as an investment.

The broker increases long-term forecast plantations to 22,500 hectares and FY17-25 earnings estimates by 5-18%. The 2016 harvest is unlikely to materially affect the FY16 result, which will also reflect a higher net interest expense as a result of a falling Australian dollar. Free cash flow is not expected until FY17. UBS has a Buy rating and $2.80 target.

TFS Corp is setting up its end markets for this increase in production, intent on servicing the Chinese wood market as well as oil. The company has a unique listed exposure to a scarce product. There are limited regions where this tree can grow - the plantations are in Western Australia - and the tree is semi-parasitic so management is complex.

Hence, the company's 20-year lead time advantage in becoming a sole supplier of sustainable Indian sandalwood in commercial quantities is significant.

Over the next four years Canaccord Genuity estimates TFS Corp will generate $265m in Indian sandalwood product revenue at lucrative margins. The broker also envisages a hidden value in the company's pharmaceutical subsidiary, with potential for it to be worth more than the plantation management business.

The company has secured a monopoly supply contract for Galderma's Benzac (acne) product. Two fully developed products (eczema and HPV) are now awaiting commercial distribution partners while there are another two in phase 2 clinical trials (MSV and eczema) and one in a phase 3 trial (HPV).

Canaccord Genuity estimates the company is currently selling oil to Galderma at an effective price of $7,750/kg, which compares favourably with all-in-production costs over the past 15 years of $500/kg at current yields.

The broker also expects TFS Corp to enter the Chinese wood market over the next 12 months at similar prices to its current oil price, estimating that around 50% of the harvest proceeds will be sold to the Chinese wood market in FY17-20. This leaves around 30% for pharmaceuticals and 20% for the cosmetics/fragrances industry.

TFS Corp appears one of the most leveraged stocks to the depreciating Australian dollar listed on ASX, as it generates US dollar product revenue off an Australian dollar fixed cost base. Canaccord Genuity has a $3.02 target with a Buy rating and believes the stock is in the best shape on all fronts since it listed in 2004. The broker expects TFS Corp will likely control over 80% of the commercially available Indian sandalwood heartwood over the coming decade.
 

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article 3 months old

Tassal Makes Headway In Key Markets

-Pricing the main FY16 risk
-Expands wholesale share
-More upside from De Costi?
 

By Eva Brocklehurst

Salmon producer Tassal Group ((TGR)) has made a substantial recovery in terms of volumes over the past 12 months, and stronger second half retail sales and recent contract agreements suggest FY16 is shaping up well. 

Revenue grew 17% in FY15 and earnings grew 15%. Pricing weakness was mainly confined to the wholesale and export market. The company provided no quantified guidance for FY16 but expects further operating efficiencies amid continued integration of the De Costi acquisition. Contracts with Woolworths ((WOW)) and Aldi will start on October 1.

The company's retail focus is considered an advantage and a means to mitigate the volatility in wholesale markets. Having expanded market share in wholesale over FY15, the company now has a domestic retail/wholesale mix around 70/30. Credit Suisse expects an uplift from the De Costi acquisition will support earnings growth around 10%. Pricing is the main risk for FY16 and first half growth may be weak, the broker warns.

Credit Suisse understands that despite higher global salmon prices in recent months - which are based in Norwegian krone - and a weaker Australian dollar, export prices are still not high enough for this channel to be anything other than an opportunistic outlet in the short term.

Without assuming upside beyond the De Costi base case, Credit Suisse continues to view the stock favourably and has an Outperform rating and $3.95 target. The broker envisages De Costi as a way of improving margins and growing Tassal's market while helping to push back against imports.

JP Morgan was a little disappointed with the result because of the decrease in operating earnings per kilogram but expects this to improve on the back of the selective breeding program. The domestic market is currently balanced but the broker suggests exports may improve enough to take the extra volumes.

The broker also suspects De Costi could offer more in synergies than is currently being acknowledged. The acquisition of De Costi allows Tassal to improve vertical integration and optimise current processing facilities.

Salmon prices are not expected to rise domestically but global prices have improved. JP Morgan has previously estimated that at a price of $7.50/kg, domestic salmon producers make a reasonable margin from the export market, similar to the retail market. 

JP Morgan believes there could be upside in the near to medium term if Tassal can win share back from imports, or if the export price improves. The stock is considered good value and the broker has a Buy rating and $4.20 target.

There are two Buy ratings and one Hold (Morgans) on FNArena's database. The consensus target is $3.97, suggesting 8.8% upside to the last share price. The dividend yield is 4.5% on FY16 forecasts and 5.0% for FY17.
 

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Weekly Broker Wrap: Trends, Tourism, TV, Clothes, China Steel And A-REITs

-New confidence in tourism, farming
-AFL deal has downside for SWM
-Summer less bright for clothiers
-China facing steel overcapacity
 

By Eva Brocklehurst

Corporate Trends

Analysts at ANZ Bank have recently held meetings with corporates across the country and found certain themes are being widely discussed. The lower Australian dollar is clearly supporting non-resource exports while importers are struggling to pass on costs.

Discussions with the agricultural sector were uniformly positive, supported by the lower Australian dollar and higher prices. Offshore demand appears mixed, with grain traders reporting strong demand but meat and dairy facing difficulties with contract enforcement.

There was a clear divergence in views between the mining states and the industrial states. The analysts found conditions in Victoria positive while South Australia was more sombre. The property market remains patchy across the states. Feedback suggests activity continues to be concentrated in the major capitals while the regions remain lacklustre.

Concerns were raised about the implications of a slowing of growth in China on foreign investor demand for new housing. A view also emerged among Victorians that property market conditions were more sustainable than in Sydney.

The implications for gas prices from the burgeoning LNG export industry was also a key point of conjecture. A combination of international pricing, demand from projects and high development costs are expected to push domestic gas prices substantially higher.

Tourism

While the mining industry investment boom is ending, Australia's tourism industry is benefitting from a lower currency. Trends in the data show arrivals have lifted and the monthly tourism trade balance is in positive territory. The national accounts signal that as the Australian dollar has headed lower, spending on hotels, restaurants and cafes has lifted considerably, particularly in Queensland.

Commonwealth Bank analysts welcome the decline in the Australian currency for those sectors with a high export propensity such as tourism and expect the trend to continue. Tourists from Asia and China in particular are the major growth area. In 2014/15 the number of short-term arrivals from China rose to 935,000 from 770,000 the prior year. This is also partly a result of rising income in China and some softening of travel controls.

The impact of the lower currency is expected to be most notable for inbound tourists from the UK and US. The analysts note those states which benefit the most are those with the highest tourism specialisation which includes Queensland's Barrier Reef and Sydney in NSW. Other areas such as Canberra and the Northern Territory's Kakadu and Uluru are also important.

TV

The Australian Football League has negotiated a 6-year rights package from 2017 to 2022 across free-to-air TV, payTV and digital streaming, doubling the value of the current deal to $2.51bn. The bidding process appears to be uncontested, highlighting to Citi analysts the plight of TV broadcasters forced into negative value deals to protect the viability of their companies.

Seven West Media ((SWM)) has a deal worth $950m, while Foxtel's deal is reportedly worth $1.25bn. Based on the revised deal as reported by industry press, Citi estimates the potential earnings downside for Seven West of 10-16% in FY17 and 20-25% in FY18.

Clothing

ASX-listed clothing retailers have reported mixed trading in the 2015 winter season. Sales appear to have been good, helped by colder than usual weather, and Citi analysts believe Premier Investments ((PMV)) brands such as Just Jeans and Jay Jays have traded well, helped by good denim sales.

Looking ahead to summer, the analysts are less impressed with the offering. and do not expect shoppers will be inspired to update their wardrobes.

Citi upgrades current earnings forecasts for Premier Investments, Pacific Brands ((PBG)) - the stock upgraded to Buy from Neutral as well - and OrotonGroup ((ORL)), downgrading forecasts for Specialty Fashion ((SFH)).

Chinese Steel

Chinese steel exports are up 26% so far this year, despite a 10% export rebate being removed in January. ANZ analysts observe China's steel exports will total 14% of domestic production this year.

The wave of cheaper exports has triggered a rise in anti-dumping duties with European steel producers leading the way and the US now considering similar initiatives. The analysts believe the short term implications for raw materials such as coking coal and iron ore are negative, either dragging steel prices lower or lowering overall demand.

The overcapacity of steel making in China is expected to weigh heavily with a slowdown in consumption triggering heavy price discounting. The analyst predict China's steel demand will fall for the second year in a row in 2015, after 35 years of consistent growth.

A-REITs

In the year to date, Australian Real Estate Investment Trusts (A-REITs) have delivered a 10.6% total return versus 1.2% in the US and the global sector's negative return of 0.5%, Credit Suisse observes. Of note, the Australian dollar has depreciated by 9.8% against the US dollar, 10.2% against the British pound and 2.3% against the euro.

Credit Suisse expects sector earnings growth to remain stable at 4.6% over FY15-17 with a shift in composition. The broker envisages Westfield Corp ((WFD)) will deliver the most acceleration in FY16 earnings, to 4.0%, while Dexus Property Group ((DXS)) and GPT Group ((GPT)) should decelerate to 4.5% and 3.3% respectively.
 

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article 3 months old

Capilano Honey In Sweet Spot

-Poised to increase share
-Large increase in dividend
-Record of innovation
 

By Eva Brocklehurst

FY16 could be even better for Capilano Honey ((CZZ)). The company has retained its strong market share, with domestic honey supply relatively constrained in the second half.

Canaccord Genuity believes the second half result could surpass the record witnessed in the first half. The broker upgrades earnings per share estimates for FY15 and FY16 by 13.2% and 19.4% respectively. Valuation is rolled forward and the target is lifted to $14.00 with a Buy rating in place. The stock continues to trade at undemanding multiples and offers an attractive yield, recently announcing a 37.5c full year dividend. This compares with the 20c paid in FY14.

Capilano's supply is likely to be up 10% in FY15 and with the acquisition of Chandlers in February, the company's share of domestic supply is likely to increase to between 62-65%. Canaccord Genuity continues to rate the stock based on its strategy of adding higher value products - such as manuka honey - and export market opportunities - increasing supply to China. The balance sheet is lightly geared which means the company can continue to bolt on acquisitions. This also makes it an attractive target for other food companies.

Capilano augments its domestic supply with imported product and imported volumes are expected to grow to 5,000 tonnes in FY15, up 20% on FY14. With domestic supply not coming back in significant volume, competition in the private label segment has been subdued. This is the segment of the market that is the main competition for Capilano's blended honey brand, Allowrie.

In FY16, assuming the company retains its grocery market share of 74% seen in the second half, there should be substantial revenue growth. Canaccord Genuity assumes 2.5% growth in domestic market demand and no growth in exports and on-grocery channels, which potentially renders the estimates conservative. Morgans recently initiated coverage on Capilano Honey with an Add rating and $12.30 target, noting the stock's attractive price when compared to its growth profile. Moreover, the broker hails the company's track record of innovation. Capilano exports to over 32 countries and is the largest packer and marketer of honey in Australia.

Demand for honey is increasing globally, as marketers capitalise on medicinal properties. Specialist honeys sell for substantially more than the basic product. Morgans notes honey is the only growth category in the  "spreads" category on supermarket shelves. Honey demand is growing at around 5.0% per annum. There is also strong demand from Asia for Australian honey.
 

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Weekly Broker Wrap: Property Portals, WA Miners, Builders And A-REITs

-Farmers stay focused in Ukraine
-REA Group retains upper hand
-Streamlining continues for WA
-Labour scarcity for builders
-Turnover rent pressures for A-REITs
 

By Eva Brocklehurst

Ukraine Crops

Macquarie has conducted its first ever tour of crops in Ukraine. The broker had expected difficult macro economic conditions would force farmers to withdraw marginal land from corn production and limit investment in inputs. In reality, only corn acreage is reduced. Grains and oilseeds producers have continued operating as usual and sought to improve yield efficiency. The main problem for producers has been the rise in the cost of inputs. Nevertheless, farmers were still planning to keep up applications of crop protection and fertiliser. With the usual weather related caveats Macquarie has higher production expectations for corn and wheat in the country's 2015/16 season.

Property Portal Wars

There has been conjecture about the relative performance of REA Group ((REA)) and the Fairfax Media ((FXJ)) portal, Domain. Citi observes REA Group continues to beat Domain in terms of absolute growth. Agent numbers may have risen for Domain but the online metrics remain skewed in REA Group's favour. The broker observes Domain's rate of revenue growth is set to pass REA Group in the second half of FY15, albeit Domain is still a minnow in terms of its revenue base. 

Domain has now reached parity with REA Group in terms of agent numbers and property listings and has lifted consumer awareness. The broker finds REA Group is extending its lead on audience engagement, implying it is more cost effective for driving sales to vendors. Competitive attention from Domain has centred on Sydney, Melbourne and South Australia but the broker's inspection of online usage suggests there has been little visible impact on REA Group. Citi finds no evidence that REA Group is losing market share although the slowdown in property transaction volumes has curtailed its growth rates.

Western Australian Miners

Morgan Stanley recently visited resources businesses in the west and found four main themes prevail. A search for cost reductions is the most common, given the slump in commodity prices. Lower staff turnover rates have allowed the miners to push through more economic rosters and savings are also coming via attrition, with new workers on lower awards. Another theme is the increase in corporate activity. Independence Group (((IGO)) and Evolution Mining ((EVN)) are cases where strong balance sheets have been used to pursue mergers.

Many bulk miners are adapting their mine plans to suit the commodity price outlook in order to reduce capital outlays and operating costs. Fortescue Metals ((FMG)) described its actions of running lower strip ratios as targeted mine planning rather than "high grading". Hence, the company does not expect its actions will have a long-term impact on reserves. Morgan Stanley is not sure this can be sustained, particularly where strip ratios have progressively declined below the five-year mine plan over the last 12 months.

Lastly, office market data has reflected the tough environment in Perth, with that city showing a vacancy rate of 12% to January 2015, with a rising trend. The broker suspects vacancy rates could be in the vicinity of 15% by mid 2015, a level not seen since the mid 1990s.

Home Builders

Macquarie has met with a number of home builders to develop a view of the current state of the market. The broker notes exceptionally strong pre-sale demand with expectations the market will stay firm for another two years at least. Availability of land remains a recurring issue. Approval processes are banking up, with notable areas being the north west and south west of Sydney. The ability of the trades to deliver on the opportunity remains a concern for builders. Some are importing bricklaying skills to overcome shortages with the hoped-for return of capacity away from mining not developing as expected.

The extent of home price growth has heightened nervousness regarding settlement risks emerging for builders, although there is no evidence of increased risk at this stage in pre-sales of detached homes. The price increases in materials did not appear to bother the builders but the broker did note labour costs growth were a concern, with rates increasing as much as 25% for some trades such as bricklaying. All up, the broker considers the fundamentals are good for building material producers.

Nib Holdings

Nib Holdings ((NHF)) may provide a surprise in its upcoming earnings report. Bell Potter contends the stock is a potential underperformer. Recent presentations confirm earnings are likely to be near the lower end of the guidance range of $75-82m, still slightly ahead of FY14's $72m. Bell Potter suspects earnings growth will more than likely be flat. Data from aggregator iSelect ((ISU)), an important sales channel for Nib Holdings, shows many younger people are looking for better value in health insurance.

The broker is increasingly of the view that relying on this demographic for policy sales is not an avenue to profitability. The company has an 8.0% share of the private health insurance market but earnings from its core business have been declining. Bell Potter expects the international student and workers segment will support some earnings growth in FY16 but retains a Sell rating and $3.30 target.

Yowie Group

Yowie Group ((YOW)) has announced that Walmart will roll out the brand fully to its US stores, all 4,300 of them. This announcement confirms the trial has been successful and Walmart expects the product to sell well. Canaccord Genuity had assumed that Walmart would need to place purchase orders at the end of May or early June for Christmas delivery but Walmart has requested delivery for an August date, well in advance of expectations. Hence, the broker upgrades assumptions for the first half of FY16, noting that when Walmart commits to a product other retailers take notice. This could be a catalyst for Yowie in the US market. The company has a patent in the US for "chocolates with a toy inside" for another three years. Canaccord Genuity has a Speculative Buy rating on the stock and $1.80 target.

A-REITs Outlook

Woolworths ((WOW)) has indicated no improvement in sales at supermarkets in May and June to date and this is signalling a negative for turnover rental growth for supermarket-anchored shopping centres, in Macquarie's opinion. Charter Hall Retail's ((CQR)) largest tenant is Woolworths, at 26.4% of base rent. For Shopping Centres Australasia ((SCP)), Woolworths and Wesfarmers ((WES)) contribute a combined 61% of gross rent.

With general merchandising also struggling, and competitive pressures from new international retailers, Macquarie envisages significant disruption to returns in the Australian real estate investment trust (A-REIT) sector. The broker remains underweight on the sector but expects reasonable overall sales conditions will continue. Still, several major tenant categories are undergoing structural change and A-REITs appear expensive.
 

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article 3 months old

Treasure Chest: Incitec Dividend Growth Not Appreciated

By Greg Peel

Back in May when fertiliser/explosives producer Incitec Pivot ((IPL)) released its first-half profit result, only two FNArena database brokers carried Buy or equivalent ratings on the stock. Expecting the contribution of Incitec’s Australian business, as opposed to its US business, to decline further, Credit Suisse downgraded to Underperform.

That made two Sell or equivalent ratings to three Holds and two Buys.

The result was poorly received on the day, although as UBS pointed out, the “miss” was a lot to do about the timing of profits booked. The broker’s Buy rating is predicated on the value of Incitec’s Louisiana fertiliser plant project and the cash it will generate once production begins next year.

Macquarie’s Outperform rating is based on the same theme. Incitec has endured a long period of intense capital expenditure, Macquarie noted this month, but with the local Moranbah fertiliser plant now up and running and Louisiana about a year away, the broker sees FY17 as the year the spending stops and the cash starts to flow.

Macquarie suggests such cash flow provides the opportunity for increased dividends and/or share buybacks.

Citi retained a Neutral rating at the time of Incitec’s result release, but has now upgraded to Outperform. Concurring with Macquarie, Citi believes the opportunity for capital management ahead is being under-appreciated by the market.

Incitec’s strategy to increase shareholder returns has moved on from the company’s 2006-08 M&A stage, which saw Southern Cross and Dyno Nobel acquired, to the 2011-16 internal investment stage, which will include the construction of both the Moranbah and Louisiana plants. Thereafter, Incitec will move into a free cash flow stage.

The quality of these cash flows should not be underestimated, Citi entreats. The broker estimates Incitec’s cash flow conversion (into earnings) will average better than 95% over FY15-18. This should enable the company to deliver a capital return that is both earlier and bigger than the market currently expects. Louisiana will provide a material step-up in cash flow and Citi suggests a share buyback of up to $750m could be on the cards.

The timing is uncertain at this stage, but Louisiana is presently on time and budget for a mid-2016 start-up.

Citi believes that while the market understands the potential earnings contribution from Louisiana, it does not fully understand the cash flow implications. A combination of a post-Louisiana PE of only 11x, a free cash flow yield of 9%, a dividend yield of better than 4% and a potentially higher than anticipated capital return (in the form of a buyback) makes for a compelling investment case, Citi argues.

Following Citi’s rating upgrade, the FNArena database now shows three Buy or equivalent ratings, two Hold and two Sell. Citi’s target price increase to $4.45 from $3.80 takes the consensus target price to $4.09.
 

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article 3 months old

The Impact Of El Nino

- Forecasters predict strong El Nino
- Upside Risk for soft commodity prices
- Downside risk for consumer earnings
 

By Greg Peel

A couple of weeks ago the Australian Bureau of Meteorology announced that El Nino thresholds had been reached for the first time since 2010, and would likely strengthen during the southern winter. The Japanese Meteorological Agency announced on the same day that El Nino conditions are present, and later the US Climate Prediction Center suggested a 90% chance El Nino will continue through the northern summer and an 80% chance it will last all through 2015.

El Nino, a weather phenomenon related to variations in ocean temperatures on either side of the Pacific, usually results in dryer than normal weather in South East Asia and Australia, warmer and dryer weather in South America and higher rainfall in western North America. Such adverse patterns pose a risk to wheat, sugar, coffee and palm oil production in South East Asia and Australia, to cocoa, coffee and sugar production in South America and corn and wheat production in the US.

The bottom line is a risk the prices of these commodities may rise due to limited supply. Whether or not farmers can benefit from higher prices would depend on whether they can successfully harvest a crop in such conditions or not. The more definitive risk of higher prices is to those companies reliant on grains and soft commodities as inputs to production. The food & beverage industry is a case in point.

The last El Nino event occurred in 2009-10 but proved to be weak. Forecasters are concerned this El Nino may prove to be a strong one, similar to that of 1997-98 which ushered in ten years of drought across much of Australia. Or maybe it won’t. El Ninos and La Ninas are notoriously flighty and difficult to accurately gauge.

Which is why Danske Bank analysts are advising consumers of soft commodities to hedge their input prices for the second (calendar) halves of 2015 and 2016. Danske expects grain prices to edge higher in coming years.

There may be some price relief, nonetheless, offered by current global stock levels. Danske notes that thanks to previously surging production, stock levels of soybeans, wheat, coffee and sugar in particular currently account for some 25-30% of annual consumption. Lost supply can be offset by stock drawdowns, thus alleviating price inflation.

By contrast, rapeseed and palm oil stocks are sitting only at around 10-12% of annual consumption. Given most of the world’s rapeseed is produced in Europe and Canada – two regions unaffected by El Nino events – an impact is unlikely. However dry weather for the rest of the year in South East Asia could significantly impact on palm oil pricing, Danske warns.


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article 3 months old

Material Matters: Iron Ore, Agriculture, Molybdenum, Cobalt, Zinc And Lead

-Gloomy iron ore outlook
-Tighter wheat with El Nino?
-Pressure on molybdenum price
-Demand rising for cobalt
-Zinc & lead bulls undermined
 

By Eva Brocklehurst

Iron Ore

The rally in iron ore has peaked. that's Citi's opinion. Spot prices reached US$62.50-63.00 per tonne last week and this likely marks the high point. Fundamentals are weakening and the broker reiterates a forecast for sub US$40/t prices in the second half of 2015. Citi observes a number of mines re-started production on the back of higher prices. Tonkolili, which at 20mtpa was the largest curtailment in the current cycle, has been bought by Shandong Iron & Steel with the intention of re-starting production. Citi notes a number of smaller mines in China have also resumed production.

Meanwhile, iron ore exports from Australia are rebounding. Shipments over the first two weeks of May were strong and increased tonnage from Rio Tinto ((RIO)) is expected in coming months. Chinese steel mill margins have narrowed and steel production, which had risen in April, is expected to fall back in May and June. Credit Suisse also suspects the ceiling for iron ore is around US$60/t. This is where Chinese mills cease buying and try to hold off procuring further stocks. The June quarter is the peak season for steel demand in China but the broker notes this year demand is feeble.

Still, Credit Suisse is not that gloomy about the June quarter. Port stocks are depleted and still falling and the mills will probably procure stocks through the remainder of the quarter, although they will be selective and do this at prices below US$60/t. For the second half the broker is gloomy. Steel production is expected to fade and as iron ore output is ramped up by the majors it is hard to envisage that prices will be steady. Credit Suisse estimates a fall to US$45/t is likely.

Agriculture

The majority of agricultural commodities under Macquarie's coverage have underperformed in the first quarter. Large inventories are the prime cause but exchange rates have also aggravated the bearish price environment.

Macquarie finds it hard to justify any upside across the markets, with the exception being livestock, which may receive some support from seasonal demand through the US summer months. With an El Nino set to arrive vegetable oil prices are likely to benefit as yields underperform in such climatic conditions. Weakening producer currencies versus the US dollar have enabled non-US suppliers to offer more attractive prices to the market and US export competitiveness in agricultural commodities has ebbed as a result. Macquarie suspects that with the impending El Nino, US corn yields may benefit as such an event has historically delivered better pollination.

Wheat prices are expected to weaken further into mid year, before tighter fundamentals emerge because of lower crop production. The largest drop in output is expected to be in Russia, but the El Nino also threatens eastern Australian production as the crop reaches its crucial growth stages. Record stocks of soybeans are expected, provided weather is supportive in the US and Brazil.

Molybdenum And Cobalt

These minor players on the London Metal Exchange are interesting in terms of the physical market, where Macquarie believes the price paths are diverging. Molybdenum demand has suffered most from falling oil & gas capital expenditure and is now at levels that are 50% below last year. A massive surge in Chilean molybdenum production is cited as the main reason for price weakness last year. Macquarie estimates that production rose in that country by 26%. The market is now in surplus and Macquarie has downgraded price forecasts for 2015 to US$8.20/lb to reflect this supply overhang.

The wild card in the supply outlook is China. the Chinese government recently scrapped export quotas on molybdenum products but Macquarie assumes that over time, China will evolve into a regular and growing net importer of molybdenum.

For cobalt, supply disruptions have meant a recent price recovery, while consumption in the battery and aerospace markets supports medium term demand. With a steadily improving demand profile, Macquarie expects cobalt will receive increased attention over coming years. TESLA's recent announcement of a push into consumer storage of power with its Powerwall system has provided a strong boost to the use of lithium-ion compounds. The company's battery technology in cars has been a source of both excitement and disappointment for the cobalt market, Macquarie observes. With domestic and, potentially, industrial storage adding another angle, the excitement is likely to be renewed.

Cobalt remains plentiful and the ongoing ramp-up in the cobalt-rich Democratic Republic of Congo offers the vast majority of future supply. A lack of geographical diversity - the DRC is the source of just over 93% of cobalt units imported by China in 2014 - creates potential for supply shocks, but Macquarie observes in recent years these have proved transient. Nevertheless, news that Zambia's Chambishi operation would halt cobalt output for three months because of feed problems produced a 10% price rally and highlights how crucial African supply is to this market.

Zinc And Lead

Zinc has long been a favoured metal for investors, Citi notes, because of expectations of an impending supply crunch. Large cancellations of warrants in the first quarter helped zinc become the second best price performer on the LME so far this year. Also, the slowing of domestic demand in China has been masked by strong galvanised steel exports but Citi suspects the slowdown will mean reduced zinc import requirements. Confirming a need for caution is the fact that zinc physical premia in the rest of the world have been in decline since late 2013. Citi downgrades the zinc price outlook for the second quarter to average US$2,200/t.

Lead became the star performer on the LME at the beginning of April, following an unprecedented cancellation of warrants. In Citi's view neither zinc nor lead are fundamentally tight and corrections in the prices of both metals may have further to run. Lead has endured an equivalent seasonal slowdown in premia to zinc, marking a reduction in global consumption. Citi expects further downside is ahead for the lead price and expects pricing to average US$1,915/t over the second quarter.

Inventory is only part of the story, nonetheless. Buoyant supply undermines a bullish price outlook. The broker notes, despite the closure of the MMG Century operation in Australia, zinc supply is set to improve. Refurbishment work has started on resurrecting the Gorno mine in Italy, which had historical production of 6m tonnes. Further investment will also be made to refurbish the Skorpion refinery in Namibia. Global refined zinc production was in surplus by 1.14m tonnes in March. Citi suspects these factors have shaken off the short-term speculators in the market.

Similarly, lead is expected to remain in modest surplus as re-starts occur in South Korea, Kazakhstan and Bolivia, although secondary supply will be a key determinant of direction.
 

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Weekly Broker Wrap: Agriculture, Small Caps, Health Care, TV And Online

-Value in Oz small caps?
-Wages growth weakens
-Risks for diagnostics, pharma
-Decline in FTA TV audience
- Domain catching REA
 

By Eva Brocklehurst

Agriculture

It's official. Morgan Stanley notes the Australian Bureau of Meteorology has observed the tropical Pacific is in the early stages of an El Nino. This means abnormally warm sea surface temperatures have been noted in all five regions monitored by meteorologists. An El Nino phase signals drier than normal conditions are likely to prevail over the coming winter-spring on Australia's east coast, a negative indicator for agricultural production.

Small Caps And Strategy

Citi asks if there is value in small cap stocks, as lower interest rates and higher equity multiples make it more challenging to find value in the market. Australian small cap indices have underperformed in recent years and while this is not a certain indicator of value, it may at time be a sign of unduly difficult conditions that will eventually pass. Overall, the broker observes small industrials do not appear much cheaper than their larger siblings. The reason is because of the mixed performance of the domestic economy, on which they are more dependent, which limits small cap earnings.

Still, sub-par growth in the domestic economy means some may be under-earning and offer more value than their price/earnings ratios imply. The stocks Citi finds most interesting in this regard are Super Retail ((SUL)), Skycity Entertainment ((SKC)), Flexigroup ((FXL)), McMillan Shakespeare ((MMS)), Brickworks ((BKW)) and GUD Holdings ((GUD)). The first four are rated Buy.

Given the latest dip in the equity market, Deutsche Bank suggests buying for four reasons. Firstly, the fall reflects normal volatility rather than anything more sinister. The market had rallied 16% since the most recent trough so, given an average 10% gain between falls, a dip was due. Valuations also appear reasonable and Australia's price/earnings relative to global peers is back to average after being slightly expensive. Meanwhile, earnings momentum continues and the earnings revision ratio is above average, which suggests the recent fall in forward estimates may soon be stemmed. Lastly, poor analyst sentiment, while a risk near term, is positively correlated to market performance over the medium term.

Wages

Australian wages growth, as indicated by the Australian Bureau of Statistics' wage price index, was 0.5% in the March quarter, equalling the lowest quarterly growth on record, UBS observes. The year-on-year rate dropped further to 2.3%, also a record low. UBS notes the slowdown of wages growth is very broad based and suggests household income is subdued and inflation pressures low. Despite this, the broker notes CPI data showed core inflation actually ticked higher in the quarter, to above 2.25%. As the Reserve Bank has already reduced its cash rate to a record low of 2.0% the broker doubts it will feel compelled to cut again, given a strong housing market, unless weaker wages lead to lower outcomes for core CPI.

Health Care

Key pointers from the federal government's budget for 2015/16 include a review of the Medicare Benefits Scheme. Credit Suisse believes the government will reduce spending on diagnostics tests and reform GP attendance outlays. This could mean funding cuts emerge in the medium term. The review presents the main medium-term fiscal risk for diagnostic service providers. The government will also remove duplication between certain health assessments under the MBS and child health assessments already provided by the states and territories. On a positive note, a reduction in short GP consultation rebates will not go ahead.

No specific new measures for private health insurers and hospitals were announced but the government remains committed to restoring the rebate on private health insurance. Restoration of the rebate will be of benefit to private hospitals, in the broker's view, but the timing is unclear. Meanwhile, the sixth community pharmacy agreement is being negotiated. Credit Suisse notes Pharmaceutical Benefits Scheme co-pay safety net thresholds will be increased on January 1 2016. Partly offsetting this, savings will be achieved from price amendments for certain medicines. The redistribution of PBS revenues remains the key risk for pharmaceutical wholesalers, in the broker's view.

TV

Easter appeared to be good for Ten Network ((TEN)) as UBS observes MasterChef rated strongly. Ten has improved the most among the FTA networks year on year to April. Nine Entertainment ((NEC)) is still winning in key demographics while Seven West Media ((SWM)) retains the overall ratings crown with a 41% share of the monthly free-to-air ratings. Forecasts are unchanged but the broker notes metro FTA audiences appear to have weakened over 2015.

JP Morgan is also cautious about the metro FTA sector, noting a material decline in 2015 prime time audience, which is the critical signal in terms of advertising dollars. The broker estimates 75% of the $2.5bn FTA revenue pie is prime time, and the audience has declined 7.5% since the start of the year. Why? The broker observes two trends of concern. Younger audiences are turning off, with the 16-39 demographic down by 14% in prime time. The second is the material decline in the main channel prime time audience, which represents 85% of industry revenue and 70% of audience.

The broker is downgrading FTA advertising expectations with industry forecasts now seen down 1.5% and 1.0% respectively for FY16 and FY17. Hence, JP Morgan has reduced recommendations on Nine and Seven to Neutral and remains Underweight on Ten. Prime Media ((PRT)) has an Overweight rating given its long-dated affiliation agreement and the relative defensive nature of regional TV revenue.

Online

The latest online data shows a rise in listings volumes in recent months. Citi notes Carsales.com ((CAR)) is back at the top of the automotive segment while the Fairfax Media ((FXJ)) online property portal Domain is bearing down on REA Group ((REA)). Listing volumes on REA are down year-on-year over 2015 while Domain has steadily climbed. REA remains a comfortable leader in the rental property market.

Citi retains a Buy rating for REA, despite the rate of growth being curtailed, and for Carsales.com as well. The broker rates Fairfax as Neutral, with robust growth in Domain countered by structural print pressures and a premium valuation.
 

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article 3 months old

Tassal Growing Strongly

-Long-term growth profile
-Benefit from vertical integration
-Import threat containable
 

By Eva Brocklehurst

Tassal Group's ((TGR)) share price has suffered recently on the back of negative short-term earnings revisions amid fears increased volumes of salmon could affect future prices. The fear has been partly justified, as weaker prices in the March quarter caused the company to dampen expectations for the second half. Price weakness has flowed, not from additional domestic supply, but, as Credit Suisse observes, from Norwegian imports, coinciding with a Russian ban on Norwegian salmon.

The company is Australia's largest, vertically integrated producer of farmed Atlantic salmon. Credit Suisse believes the company offers an attractive long-term growth profile which is underpinned by strong demand. Global prices can be volatile but there are limitations in major producing regions such as Norway and Chile which support the long run trends.

Despite recent growth, imports remain around 22% of the domestic market and are restricted to certain categories because of quarantine rules. Credit Suisse expects domestic producers can respond to increased imports, given better product and vertical integration, but this takes time. Hence, imports are a short-term risk to domestic volumes and pricing, having grown strongly in recent years.

Major changes from the Senate inquiry into Tasmanian aquaculture currently underway are not considered likely. The report is due in August. Still, coupled with a review of Macquarie Harbour fish biomass limits, there is some regulatory downside risk. Tassal envisages any change will be phased in and production can be flexed to contain any adjustments. Environmental factors are an ongoing risk for the fish farming business, although Tasmania is relatively disease free in a global context.

Credit Suisse expects Tassal to benefit from further efficiencies derived from selective breeding and improved farming methods, with an established infrastructure that allows capital expenditure to target optimisation. The broker expects further benefits from volume growth in FY16, offset by lower margins, and initiates coverage of the stock with an Outperform rating and $3.85 target.

Other brokers covering the stock on the FNArena database have similar price targets. Morgans has a Hold rating and $3.75 target. This broker remains concerned about the domestic market's ability to take up a further increase in salmon supply, given a subdued retail environment. The company has re-entered the lower margin export market and this adds some risk in the broker's opinion. Still, Morgans concurs the stock is fair value and trading multiples are not stretched.

JP Morgan has a $3.86 target and a Neutral rating. The broker downgraded FY15 earnings estimates last month to reflect falls in the wholesale salmon market, but still expects Tassal will deliver 17% growth in FY15. JP Morgan observes pricing did not recover at Easter, as expected, despite volumes being up strongly. This was blamed on discounting. The broker flagged an 11% fall in the export salmon price, as the Norwegian krone price per kilo weakened and the Australian dollar improved slightly against the krone. Tassal needs a price of $7.50-8.00 per kilo to generate a decent margin, JP Morgan calculates.

Tassal has improved in many aspects of its environmental sustainability and the broker is encouraged by the transparency of the company's reporting. Still, JP Morgan is cautious about the potential for oversupply in the next few years and the magnitude of compensation risk needed for what is, after all, an agricultural stock.

The consensus target on FNArena's database is $3.82, suggesting 18.3% upside to the last share price. The dividend yield on FY15 and FY16 consensus forecasts is 4.2% and 4.8% respectively.

There are three major domestic salmon producers in Australia and Tassal has 47% market share. Huon Aquaculture ((HUO)), which listed last November, has 35%. JP Morgan highlights the fact that Tassal earned around 23% of its revenue from the wholesale market in FY14 whereas Huon Aquaculture earned 85%. Major supermarkets account for most of the domestic retail channel while wholesale, Credit Suisse observes, is relatively fragmented.

Australian producers are capable over the medium term of containing the threat from imports, as these are restricted to frozen and value-added products, while the weaker Australian currency should benefit domestic producers, in Credit Suisse's view. Demand for Atlantic salmon is growing, driven by consumer awareness of health benefits and shifting trends in consumption to seafood from meat, as well as improved relative affordability.
 

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