4 more interesting candidates from the ASX’s rural sector

Financial journalist and commentator on 3AW and Sky Business
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In June, I looked at some of the stock exchange’s major agricultural stocks, some of which continue to rebound, including the two rural services heavyweights, Ruralco (RHL) and Elders (ELD). Let’s see how they’re now travelling.

Since that article, Ruralco and Elders have both moved higher – and while RHL appears to be fully valued, analysts see Elders as having significant scope to move higher.

Grain business Graincorp (GNC) is also seen as having strong upside, as is Australia’s largest cattle company Australian Agricultural Company (AAC). Farming real estate investment trust (REIT) Rural Funds Limited (RFF) also has analysts’ consensus target prices higher than its market price – but faces a messy situation of having to defend itself against short-seller Bonitas Research, which claims that the trust, which owns more than $900 million worth of agricultural assets, is worthless (RFF has taken Bonitas to court).

Changes since June:

1. RHL at $4.17 – now $4.39
Analysts’ consensus target price: Thomson Reuters $4.40, FN Arena $4.40

2. ELD at $5.93 – now $6.87
Analysts’ consensus target price: Thomson Reuters $8.20, FN Arena $7.30

3. GNC at $8.15 – now $8.01
Analysts’ consensus target price: Thomson Reuters $8.48, FN Arena $8.95

4. AAC at $1.09 – now $1.025
Analysts’ consensus target price: Thomson Reuters $1.33

5. RFF at $2.32 – now $1.98
Analysts’ consensus target price: Thomson Reuters $2.38, FN Arena $2.42

Here are 4 more interesting candidates from the ASX’s rural sector.

1. Costa Group (CGC, $3.55)
Market capitalisation: $1.1 billion
12-month total return: –46.5%
FY20 projected dividend yield: 3.2%, fully franked
Analysts’ consensus target price: $3.64 (Thomson Reuters), $4.136 (FN Arena) 

I described horticulture group Costa Group in August as one of the losers of the reporting season: even though it was only reporting half-year results, Costa was a major disappointment all the same, with the company reporting a 15% decline in profit, and warning of “further downside risk” in its outlook.

However, what Costa is doing in China is potentially a transformative opportunity: in its 70%-owned joint venture with its US partner Driscoll’s, the company is growing berries, in Yunnan in south-western China, in hydroponic farms, where it can produce blueberries, raspberries and blackberries that are larger and tastier – and get to stores fresher – than other brands, and which can thus command a significant price premium. The addressable market in China is estimated to be about 150 million people, but could be as large as 400 million, as incomes rise and more people are able to afford products with perceived health benefits. Costa has faced horticultural, labour and logistics challenges – which are still not wholly solved – but Costa has the kind of sustainable competitive advantage that should enable it to grow its business in China for a long time.

That should allow investors to look past some of the challenges that Costa faced during the first half of 2019, including adverse conditions during the Moroccan blueberry season, low mushroom demand, varying raspberry quality, and water costs and fruit fly impacting the citrus category – the latter being the company’s main earnings driver.

Costa has had a tough 2019. Its January update, which told the stock market to expect “largely flat growth” in net profit for 2019, after sales of tomatoes, berries and avocados for December and January came in lower than expected, was a shock to investors – given that the company had previously told investors to expect low double-digit profit growth. Then there was another downgrade, in May – and more recently, the weak interim result.

In the short term, analysts are pessimistic on full-year earnings growth – FN Arena puts analysts’ consensus at a 52% fall – but profit is expected to rise in 2020.

2. Webster (WBA, $1.21)
Market capitalisation: $438 million
12-month total return: –29.6%
FY20 projected dividend yield: no dividend expected
Analysts’ consensus target price: $1.67 (Thomson Reuters)

Webster exemplifies the new style of “corporate farming” business, which has been in the media spotlight recently – and not always in a good way. The company as it now exists was formed in 2015, when the Tasmania-based horticultural and rural services business Webster Limited – Australia’s fourth-oldest business – merged with Mildura-based cotton, pastoral and water management company Tandou. Webster is now based mainly within the southern Murray-Darling Basin (SMDB) area, where it has built a horticultural/agricultural operation backed by a large holding of water entitlements. These were estimated at the March 2019 half-year by the company to be 150,000 mega litres, worth, at market prices, about $350 million – while carried at just over $160 million on the balance sheet.

Effectively, the company’s strategy is to maximise the economic use of this water, aiming to convert its water assets into more valuable horticultural and agricultural products, while retaining the option of selling the annual water allocations derived from these entitlements.

The water supports cotton, walnut, almond, sorghum and chickpeas operations, as well as cattle and Dorper sheep-raising operations. Webster produces 90% of Australia’s walnut crop – is the southern hemisphere’s largest producer of walnuts – and like almonds, the beauty of this crop is that Webster is a counter-seasonal exporter, able to offer fresh walnuts to its markets in the opposite six months to the northern hemisphere crop.

To a large extent, Webster has spent a couple of years transitioning its operations to focus on the Riverina region in New South Wales, where its water can guarantee it a competitive advantage in perennial horticulture (walnuts and almonds), which are the highest-value of its commodities. But even with its large water holding, Webster is not drought-proof through this transition, and the drought has affected it: in May, Webster reported results for the half-year to March 2019, which saw revenue more than double, to $53.4 million, but net profit fall by 43%, to $2.1 million. Webster’s sales and earnings are heavily skewed to the second half, because of the timing of harvesting and sales of its crops, but the company said in its half-year result that “drought affecting all areas of production” would limit it to achieving a “near-breakeven position” for the full-year at best: with no dividend declared for the half-year, it is unlikely that there will be any dividend this year.

Webster has built an excellent position in the SMDB market, where water tends to be allocated to its highest-value use, and is very well-placed to be a significant player in Australian export agriculture in the future. The stock looks to be a long-term play in this growing sector, with a cheap entry level based on the market not quite appreciating the transition that has taken place in recent years.

3. Wingara Ag (WNR, 30 cents)
Market capitalisation: $32 million
12-month total return: 9.1%
FY20 projected dividend yield: no dividend expected
Analysts’ consensus target price: n/a

Wingara Ag is another corporate agricultural player that is following a strategy to develop and operate crucial infrastructure assets in the food export supply chain. Wingara listed on the ASX in early 2016 after acquiring its first business, Victorian based fodder products exporter JC Tanloden, and in April 2018 the company bought Austco Polar Cold Storage (APCS), a Melbourne-based meat export service and logistics business.

The Bendigo-based JC Tanloden has become the centre of Wingara’s oaten hay, bedding straw and fodder production. In January this year, WIngara commissioned a new greenfield fodder processing plant at Raywood near Bendigo, in addition to the nearby existing Epsom facility, which received approval from the General Administration of Customs of the People’s Republic of China (GACC) to export oaten hay to China – only the third such export licence granted since 2016. Demand for Australian oaten hay, to feed livestock, exceeds the market’s capacity to supply it: Wingara also exports to Asia, Korea, and the Middle East. The second plant at Raywood boosts Wingara’s export capacity, and also allows the company to expand into processing, storing, and marketing other commodities, including wheat, barley, oats, canola, legumes.

In April 2018 Wingara diversified its business with the purchase of APCS, tapping into increasing global demand for high-quality Australian red meat. In July, Wingara sold the APCS property to KordaMentha Funds Management, but continues to lease it and carry on business as before: the transaction decreased Wingara’s gearing to about 30% and unlocked a capital gain of just over $5 million that Wingara will reinvest in growth.

At the FY18 result, Wingara released guidance saying it expected to achieve operating revenue of more than $35 million in FY19 (year to March), more than triple the $10.7 million it generated in FY18, and EBITDA (earnings before interest, tax, depreciation and amortisation) in FY19 of at least $6 million, compared to $1.1 million in FY18.

The FY19 result came in at operating revenue a bit short of guidance, at $29.1 million, and EBITDA of $4.7 million. However, Wingara made a net profit of $906,000 for the year, compared to a $434,000 net loss in FY18.

Revenue generated from hay trading was 58% of the total, while cold storage contributed 42% of total revenue. 78% of the hay trading business revenue came from exports to Asia.

Wingara did not give guidance for FY20, but research firm Gordon Capital expects revenue of $36 million and EBITDA of $7.3 million, on the back of full-year contributions from the Raywood plant and APCS. Wingara is a small company with no dividend in sight, but it appears to be well-managed company with a clear strategy to invest in value-added opportunities in Australian agriculture.

4. Duxton Broadacre Farms (DBF, $1.155)
Market capitalisation: $50 million
12-month total return: –25.2%
FY20 projected dividend yield: no dividend expected
Analysts’ consensus target price: n/a 

Duxton Broadacre Farms – part of the same stable as Duxton Water (D2O), which is the only pure water investment on the ASX – is a very interesting portfolio of farming operations and water assets, but an investment that has been hit by the drought. Listed in 2016, Duxton Broadacre Farms is a very well-diversified agricultural business, generating revenue from cotton (46% of FY19 revenue), wheat (20%), cattle (8%), as well as hay, chickpeas, barley, canola, sheep and wool.

In FY19, the company made a net loss of $1.1 million, with most crops affected, although the (summer) cotton crop was DBF’s largest ever. On the plus side, the value of DBF’s land increased by 25.5%, to $76.2 million, and land and water assets represented 78% of total assets at balance date. DBF has a portfolio well-diversified by crop and geography, and could be a rural investment to watch as more normal rainfall conditions return.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regard to your circumstances.

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