The Last Of Downgrades For Nufarm?

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Minimal rain and major reductions in summer planting in Australasia have caused Nufarm to, again, make substantial reductions to earnings forecasts for the first half.

-Loss anticipated in first half operating earnings in Australasia
-Prospect for further challenging conditions in the second half
-Key issue of margin headwinds in the second half in Europe

By Eva Brocklehurst

Weather conditions continue to plague Nufarm ((NUF)), which has made a further downgrade to expectations for the first half, although the issues are unchanged from the AGM trading update.

Operating earnings (EBITDA) guidance of $55-65m compares with $121m achieved in the first half of FY19. While disappointing, Morgan Stanley assesses the downgrade is largely confined to FY20, and a result of known issues worsening.

The broker calculates a decline of -45% in first half operating earnings. Assuming the absence of one-off difficulties, Morgan Stanley expects the second half earnings will increase by 5% which would represent a modest improvement.

Given the outlook, Ord Minnett remains hesitant about the near-term return of the dividend, assessing the risk/reward is balanced at the current share price. Macquarie downgrades to Neutral from Outperform, envisaging limited shareholder returns and the potential for conditions to remain challenging in the second half. The stock is also assessed as trading at a PE premium to global peers on an EV/EBIT basis.

Nufarm anticipates a loss at the operating earnings level in the first half on the back of dry conditions continuing in Australasia. That said, the company is not overly worried about the impact of the bushfires on its Australian business as dairy farmers have been the main victims, rather than cereals, and this is not a large market for Nufarm.

More To Come?

The uncertainty over the weather provokes the question: is this the end of the downgrades? Ord Minnett notes the Australian Bureau of Meteorology envisages only a "roughly equal" chance of average conditions through to April.

The area planted to summer crops is forecast to fall by -49% in 2019/20, reflecting very low moisture levels in Queensland and northern NSW. Summer crop production is forecast to decline by -52%. Drought-breaking rain is required and, to Ord Minnett, this appears an unlikely outcome in the second half of FY20 as temperature forecasts remain warmer than average.

Credit Suisse is more positive, assessing the seasonal outlook in Australia appears consistent with average winter rainfall and this should support more normal second half crop input requirements.

Regardless, the earnings bias to the second half – 30/70 – is now even higher, given the selling windows in the US, Europe and Australia. As a result, Morgans downgrades FY20 and FY21 underlying operating earnings forecast by -14.5% and -28.2% respectively.

Europe

Sales have lifted in Europe although gross margins are weaker amid higher raw material costs and greater levels of competition. In this region the company's forecast operating earnings loss compares with Bell Potter's prior forecast for a minor positive outcome.

The main issue, the broker perceives, is just how material the margin headwinds are in the second half, and the potential impact of softer winter wheat plantings in some European markets.

Credit Suisse, too, is cautious about Europe and assesses execution is variable, although higher costs, a legacy from the prior period, should be worked through. The company has indicated its cost base will be more leveraged in the second half, when the majority of sales are generated.

Americas

There has been no recovery in North America from the -$20m adverse impact highlighted in the first quarter update. Revenue has shifted to the second half because of a delay in purchasing activity.

The sale of the South American crop protection business appears likely to close in the second half, which Credit Suisse suggests will make first half debt appear high. Still, there should be no persisting issue if the sale proceeds. The sale of the business will de-leverage the balance sheet, Morgans acknowledges, although, given a full valuation and operating challenges, this broker sticks with a Hold rating.

Macquarie notes some positive signs for the North American spring planting season, albeit the market is competitive. Credit Suisse is also positive about a more normal North American spring.

Elsewhere, Ord Minnett envisages further growth opportunities in the form of Omega-3 commercialisation but notes seasonal and regulatory risks continue and the ramp up of commercialisation activities will weigh on the seeds business.

Bell Potter, not one of the seven stockbrokers monitored daily on the FNArena database, has a $5.45 target with a Hold rating. FNArena's database has two Buy and three Hold ratings. The consensus target is $5.97, suggesting 7.0% upside to the last share price. Targets range from $5.05 (Morgans) to $7.14 (Credit Suisse).

See also, Sale of Sth American Assets Revitalises Nufarm on October 1, 2019.

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