Australia | Nov 11 2020
This story features INCITEC PIVOT LIMITED. For more info SHARE ANALYSIS: IPL
As outages for maintenance in the year ahead create challenges for Incitec Pivot this should be countered by improved fertiliser prices and a recovery in demand for explosives.
-Underperformance reflects coal concerns and maintenance at major assets
-Mining activity expected to improve, fertiliser demand to recover
-DAP, ammonia prices find support but have they peaked?
By Eva Brocklehurst
Incitec Pivot ((IPL)) faces another mixed year ahead as mine production is reinstated globally and many of the company's facilities endure outages for maintenance.
Sentiment about coal remains the largest fundamental overhang and in Goldman Sachs' opinion, investors have been sceptical about the company's ability to appropriately size its capital-intensive asset base.
While the maintenance events are not without risk, the broker remains encouraged by the asset performance over the past 18 months. Incitec Pivot has reported 86% reliability at major assets over FY20. Should the company be successful in managing the shutdowns without significant issues, Goldman Sachs believes this will go a long way towards validating the company's FY22 95% reliability target.
Morgans expects solid growth underpinned by improved fertiliser prices and a recovery in demand for explosives, noting Incitec Pivot remains on track to deliver $60m in sustained annual cost savings by FY22.
This is in addition to the targeted savings of $40-50m in manufacturing efficiencies through improving plant reliability. Morgans considers the stock undervalued, based on more normalised earnings, and reiterates an Add rating.
Macquarie downgrades to Neutral, assessing the earnings recovery has been pushed out another year and FY21 will be a transition period, reflecting the impact of maintenance at plants and the rolling of legacy contracts.
The company needs to get on top of maintenance issues over the next six months while the coal backdrop remains challenging, in the broker's view. Macquarie expected a final dividend of 3.5c and none was forthcoming because of the uncertainties surrounding the pandemic and the equity raising in May.
Credit Suisse was also surprised by the lack of a final dividend and acknowledges FY21 is no longer shaping up as the "recovery" year it previously expected. Nevertheless, a credible path to improving profit from the second half is envisaged.
Credit Suisse expects mining activity in pandemic-affected regions to improve and support an earnings recovery, while the unfavourable Western Australian supply contract is to be re-set with effect from FY22, offering potential upside.
While US coal remains a structural risk, Credit Suisse senses an improvement in 2021 production should result in the coal issue being "kicked down the road" for several years. Moreover, for Incitec Pivot it is considered a problem with a known solution.
CLSA, on the other hand, anticipates material downgrades to consensus estimates following the result and, while understanding the argument about valuation, remains concerned about the issues in the industry and the fact that most of the profit drivers are out of the company's control.
Goldman Sachs differs, believing current valuations are over-capitalising short-term market conditions. The stock may have materially underperformed the market on the back of the results, yet the broker believes the current price is an attractive point from which to build a position in the stock.
UBS expects earnings growth will be supported by a recovery in global fertiliser prices, ongoing strength in domestic fertiliser demand, improved ammonium nitrate volumes and cost reductions. These factors will be offset by the shutdown of plants for periods of maintenance at Moranbah, Waggaman, Mount Isa and St Helens as well as an appreciating Australian dollar and gas pricing.
Diammonium phosphate (DAP) and ammonia prices have found some support after a lengthy period of underperformance and UBS expects the improved outlook can underpin growth of 13% in earnings (EBIT) in FY21 and free cash flow generation of around $300m. Yet Macquarie suspects DAP prices have peaked at US$360/t for the short term and recovery in ammonia may only be modest because of ample supply.
Morgan Stanley agrees that while DAP prices may have increased meaningfully over the past six months, this has been more than offset by the impact on demand.
Furthermore, Henry Hub gas prices have increased to more than 40% above FY20 averages and with modest ammonia price increases this means a squeeze will be exacerbated by Incitec Pivot's plant shutdowns in the first half.
Dyno Nobel Asia-Pacific benefited from improved agricultural conditions on Australia's east coast as well as robust Australian mining volumes. The company expects US Dyno Nobel earnings will return to normal as coal production stabilises and mines re-start.
Macquarie welcomed the "better quantified" technology benefits for Dyno Nobel, although for Asia-Pacific this benefit is essential to offset the negative -$12m impact from legacy ammonium nitrate re-contracting.
Moreover, in Morgan Stanley's view, while US explosives earnings are likely to recover back to pre-pandemic levels in FY21 an Asia-Pacific earnings recovery, given the lost WA contracts and challenging conditions in Indonesia, is likely to be delayed to FY22.
The broker is prepared to look through near-term weakness in ammonium nitrate volumes while asserting commodity prices are the main driver of earnings… and these will be challenging.
CLSA, not one of the seven stockbrokers monitored daily on the FNArena database, retains an Underperform rating with a $2.12 target, while Goldman Sachs, also not one of the seven, retains a Buy rating with a target of $2.56. FNArena's database has five Buy ratings and two Hold. The consensus target is $2.51, signalling 19.9% upside to the last share price.
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