Select Harvests (ASX:SHV) has issued several updates to the market since the release of its FY19 results in November. These updates are important in assessing the Company’s operating performance in light of the Coronavirus (COVID-19) outbreak. From this, we can determine if SHV makes a good investment case here. We also look at the charts to determine if we now have a buying opportunity.
About Select Harvests
Select Harvests is an integrated grower, processor and marketer of almonds. It owns and operates farming and processing assets in Australia. SHV operates a vertically-integrated model with core capabilities across horticulture, orchard management, nut processing, sales and marketing. SHV operates a diversified portfolio of almond orchards, as well as a processing facility in Carina, Victoria (with capacity to process 30,000 tonnes of almonds) and a value-added processing facility in Thomastown, Victoria.
The Company operates two divisions: Almond and Foods. The Almond division is the largest contributor to segmental EBIT, accounting for nearly 94% of EBIT before corporate costs. Within the Almond division, almonds are cultivated, harvested, processed, and sold to domestic and international markets.
Key Fundamental Drivers
1. Macro conditions for almonds are currently favourable
Almond demand is growing in both developing and developed nations. This is because almonds have been shown to have health benefits without the same level of allergen risk as peanuts or cashews. They are also considered a relatively cheap source of protein.
2. Almond Production to Increase
SHV expects its almond production to incrementally increase over the next three years, with the likelihood that SHV maintains yields above the industry average. The continued favourable pricing for almonds and the Company’s ability to control costs underpin strong earnings growth recovery in FY21/22.
3. Strong balance sheet provides growth options
A significantly higher crop size in FY19 allowed the Company to reduce the level of net debt. As such, gearing (on a net debt to equity basis) is now modest, at 6.6%. This allows SHV to fund additional CAPEX requirements, as well as pursue acquisition opportunities over the medium term. Further, there are no immediate debt expiries and we see limited refinancing risk given the strong cash generative nature of the business.
4. Numerous Factors Support Almond Pricing
SHV has indicated that almond prices for FY20 would be in a range of A$8.00-8.60/Kg, with forward sales in excess of 65% of the crop struck in a range of A$8.00-8.50/Kg. We highlight two factors providing short-term support to the almond price.
Firstly, world demand from major almond importers and domestic customers remains strong. Both domestic and export shipments for February 2020 were record results. Secondly, there is minimal US stock available in market, which provides pricing support despite short-term demand impacts.
Despite the attractive medium-term outlook for the Company, a key risk for SHV over the shorter term is that once orders from China begin to flow again, there is potential for almond prices to revert.
Earnings in FY20 are set to decline due to crop yields normalising and a further expected increase in water costs. Accordingly, we consider SHV to be more of a medium-term story, especially as water allocation pricing has seen a material correction in recent months and a more favourable near-term outlook for east coast rainfall is supportive of lower water costs in FY21-22.
At present levels, the share price is trading on a 1-year forward P/E multiple of 17x, which is in excess of the 5-year average of 15x.
The recent sell-off saw SHV head back near the 2018 low and bounce strongly from that, indicating that the low $5’s will offer good support for now. In the last couple of weeks we have also seen SHV hold up well with the daily ranges getting a bit smaller compared to a few weeks ago. Not only that, but it seems to be consolidating very well here against the mid-March rally. This is a good sign and tells us that SHV wants to head higher. A break through $7.50 would be the next buying opportunity.
Michael Gable is managing director of Fairmont Equities.
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