Monday 29th May 2017
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Fat Prophets Hot Stock: Elders
A bumper first half
Elders reported a strong half year result with net profits surging over 50 percent. This was primarily driven by record livestock and wool prices, improved weather conditions and much higher occupancy in the company’s feedlots. This also reflects the impact of management’s Elder’s Eight Point Plan which has eliminated over $30 million in costs since it began in 2014.
Retail products outperformed on the back of normalised weather conditions in northern New South Wales, Victoria and South Australia, prompting increased fertiliser demand. Recruitment of high performing staff and more successful sales promotions also helped, ultimately boosting earnings by $6.5 million, or 12.2 percent.
Earnings in the Agency services business improved 9.6 percent or circa $5.8 million, with higher livestock prices the main driver. Higher prices for cattle (+15%) and sheep (+24%) were caused by tight supply due to a severe 3-year drought across north and western Queensland. The high cattle price will likely be sustained with the recent April 2017 report from the Meat & Livestock Australia still put the national herd somewhere around 26.7 million heads, down from 30 million cattle in 2013.
Sustained high cattle prices combined with low interest rates have also helped boost demand for large cattle farming properties, increasing turnover for the Real Estate services by $76 million or 15 percent, compared with the prior corresponding period. This added $600,000 to earnings, and the recent acquisition of Southern Districts Estate Agency will boost the bottom-line in the 2H of 2017.
The Live export services unit meanwhile has been a loss leader, but is being wound down. The business took a hit from high domestic cattle costs and increased competition from Vietnam and Indonesia. To make things worse, last year also saw a shipping ban after a detection of Bovine Johne’s disease in a shipment of Victorian dairy cattle.
Elders’ North Australian Cattle Company (NACC) and the remnants of its southern counterpart, are being sold to a joint venture between Gina Rinehart, Chairman of Hancock Prospecting, and China’s biggest private agribusiness, the New Hope Group, and is currently “98 percent” complete according to Elders managing director Mark Allison. Once completed, this move will free up an estimated $25 million in working capital which can be deployed in more lucrative operations.
Higher cattle prices have also proven to be a double-edged sword for Elders with the Feed and Processing services seeing earnings pull back by $200,000 mainly as a result of pricing pressure and a stronger Australian currency relative to the export markets in China and Indonesia.
This was nevertheless offset by increased efficiencies in the Killara feedlot with occupancy hitting 93 percent compared to last year’s 88 percent. Going forward, management is implementing new methods to reduce feeding days and other efficiency improvements to stave off margin pressure from the higher cattle prices.
Furthermore, while net debt increased over the period by $44 million, this was largely attributed to increases in working capital funding requirements and investments in the financial services business. Despite that, it is encouraging given that interest coverage has further improved from 7.9x in March 2016 to 8.2x in March 2017. Overall, the company’s financial position remains strong.
In the medium term, management is targeting up to 10 percent annual growth in EBIT for the next 3 years to 2020 with 40 percent of the growth coming from acquisitions, another 40 percent from selective staff recruitment and breaching into new markets while the remaining 20 percent to result from tighter cost control.
From a fundamental perspective, we note that Elders is currently trading at 10.8 times FY17 earnings, with the lack of dividends set to be remedied by year end as evidenced by the prospective yield of 2.3 percent. This positive backdrop is complemented by the stock’s current technical set-up, with prices having closed (on a monthly-basis) above the 78.6% Fibonacci retracement of $4.45 in March, which is a bullish development and activates two additional upside targets.
Though the share price has hit new highs and most of the low hanging fruit is now gone, we remain of the view that further share price gains can be expected over the next 12-18 months. This is as the bottom line benefits from strong cattle prices, expanding volumes, and as efficiency gains continue to filter through.
Greg Smith is Head of Research at investment research and funds management house Fat Prophets. To receive a recent Fat Prophets Report, CLICK HERE
Disclosure: Elders is held in the Fat Prophets Concentrated Australian Share and Small/Mid-Cap Models.
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