Usual Suspects Weigh On Incitec Pivot

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Incitec Pivot remains a slave to the usual suspects – cropping conditions, explosives demand and pricing. A capital raising has alleviated some concerns for the balance sheet.

-Low coal prices likely to impact on volumes
-Suspends dividend, defers capital expenditure
-Fertiliser prices expected to weaken
 

By Eva Brocklehurst

There are limited effects to date from the pandemic on Incitec Pivot ((IPL)) Instead the fertiliser and explosives business remains a slave to the usual suspects – crop conditions, pricing and mining/quarry demand.

First half results was supported by an improved manufacturing performance while the global explosives business, Dyno Nobel, was resilient, delivering a flat earnings outcome despite contract re-pricing and a sharp decline in US coal volumes. US coal is expected to remain weak because of lower electricity demand, while low prices for the Australian coal business could also impact on the company's volumes.

On the positive side, production at the main manufacturing plants was solid and Credit Suisse points out operating rates and safety indicators have improved at both Phosphate Hill and Waggaman.

Nevertheless, margins were weaker, particularly in fertilisers, even as sales were supported by improved weather conditions. UBS remains attracted to the strong position in the explosives markets but the other part of the business, fertilisers, is expected to remain depressed.

The company will raise $600m via an underwritten institutional placement and up to $75m in a share purchase plan, to improve liquidity. This alleviates concerns over the balance sheet for brokers.

Incitec Pivot has also conserved cash by deferring capital expenditure of $40m, suspending the interim dividend and targeting cost savings in the second half of $20m. Morgan Stanley is pleased with the decision to raise capital, believing the business had carried more gearing than was appropriate given the cyclical nature of earnings.

Credit Suisse assesses the downward pressure on commodity prices and risks to mining & quarry markets limit the upside for the prospective new investors, and also points to a heightened debate about the extent and timing of a recovery in commodity prices.

Still, there are long-term drivers of value which should re-emerge once the extent of the risks are clearer. Moreover, there is now an opportunity to pursue small bolt-on acquisitions.

Explosives

Dyno Americas explosives earnings were flat in the US, with value-added products offsetting some weakness in coal. Australia and North America are the main explosives markets for Incitec Pivot and there is minimal exposure to Europe, the Middle East or Latin America. Dyno Asia-Pacific also has no thermal coal exposure in Australia.

Morgan Stanley assesses there are limited impact from the pandemic, largely because mine disruptions are predominantly in Latin America where the company is under-represented.

The company's products are classified as essential in its primary markets and Morgan Stanley expects explosives revenue will remain resilient. Nevertheless, management expects deferrals on technology projects will cost around $7m in FY20.

A deceleration in the taking up of technology reflects current constraints on mobility and is likely to be temporary, yet Credit Suisse assesses this will change if there is a prolonged downturn in mining profitability.

Fertiliser

Despite the improved cropping conditions across both Australia and the US, UBS believes depressed ammonia/diammonium phosphate prices will weigh on earnings throughout the second half amid excess global supply.

Fertilisers are the "swing factor", Morgan Stanley contends, noting Incitec Pivot has previously announced it will retain its fertiliser business are the best outcome for shareholders.

Fertiliser prices have begun to reflect a bear market in energy and weaker soft commodity prices. Global ammonia prices have dropped recently because of lower demand and lower gas/oil costs. Yet the cost of gas is not low enough to support the sustainability of manufacturing at Gibson Island, Credit Suisse asserts.

Credit Suisse expects fertiliser prices will weaken throughout the second half and Morgan Stanley now forecasts diammonium phosphate and ammonia, ex Tampa, will decline to US$290/t and US$240/t, respectively.

FNArena's database has two Buy ratings and four Hold with a consensus target of $2.73, signalling 31.6% upside to the last share price.

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