A brief analysis of Nufarm as an opportunity

The following is a small extract taken from a research report sent to our clients on 11 July 2017.

Nufarm (NUF) is a Melbourne-based crop protection and specialist seeds companies. The Company produces products to help farmers protect their crops against damage caused by weeds, pests and disease.

The Company’s sales are exposed to demand from the agricultural sector of the respective economies in which it operates, as well as weather conditions, which can create year-to-year volatility in sales. This risk is mitigated by the group’s broad geographic exposure.

As the majority of NUF’s earnings are typically generated in the second half of the year (~70-80%), the biggest near-term risk will be weather conditions ahead of the US, European and Australian growing seasons, as well as the extent to which subdued soft commodity prices continue to put downward pressure on herbicide pricing and demand. We also note that there is upside risk to earnings should the recent improvement in prices for corn, soybeans and wheat be sustained.

In a broader context, while Nufarm expects market conditions to remain competitive due to relatively low soft commodity prices (which have declined substantially from their peak in mid-2012), the Company has successfully navigated the competitive market conditions and key risks to the business, as evidenced by the impressive progress it is making toward improving its key metrics (i.e. on track to deliver cost savings target; better-than-expected improvement in ANWC; and an improvement in Return on Funds Employed (ROFE), which increased from 10.7% to 13.2%, with Nufarm targeting ROFE of 16% by FY18).

The next major catalyst for Nufarm shares is the Company’s participation in industry consolidation. Further details on the scope and economics of the Omega-3 project, which is expected to be forthcoming over the next 12-18 months ahead of commercialisation, could provide another catalyst as the market begins to focus on the earnings contribution from this project.

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We do not consider the current 1-year P/E multiple of 15.6x to be excessive, in light of consensus EPS growth estimates of 20% for FY18 and ~15% for FY19.

Looking at the chart for Nufarm to get an entry level, we can see something interesting. Firstly, we can see that the stock a few weeks ago broke under the uptrend line, so for the moment the chart is saying to stay away. If we look at the movements since the peak in May, Nufarm appears to be in a “third wave” which was expected to be completed when it hit about $8.90. That level also happened to be the 38.2% Fibonacci retracement of the uptrend that started in 2016. Nufarm should be finding some good support there and it may represent a buying opportunity, but for the moment it is failing under that level. If it can bounce, then to stay long the stock we then need to see the stock push past $9.60. Otherwise continued weakness at this current level would imply that the fall since May needs to be completed in 5 waves not 3. That would suggest levels back towards the low $8’s at some point.

 

Michael Gable is managing director of Fairmont Equities.

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