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Morningstar | No-Moat IncitecPivot Disappoints with Worse Than Anticipated 1H. No Change to AUD 3.00 FVE.

Our AUD 3.00 fair value on no-moat IncitecPivot is unchanged. While the company reported weaker than expected underlying first-half fiscal 2019 NPAT, down 70% to AUD 41.9 million, the drivers are transitory, and our long-term forecasts stand. The company in the lead-up to this result flagged a combined AUD 195-235 million in EBIT detractions, including a one-in-one-hundred-year flood of the rail line to Phosphate Hill, unplanned down-time at Louisiana ammonia, and separate gas supply issues to its Gibson Island, Phosphate Hill, and St Helens plants. The first-half fiscal 2019 underlying result includes AUD 141 million in pretax nonrecurring expenses for these, and the second half is expected to include a further AUD 68 million.

But the ramifications were clearly greater, and not sufficiently captured in our numbers. Consequently, we reduce our fiscal 2019 EBIT forecast by 29% to AUD 400 million, including the nonrecurring expenses, to near the midpoint of rare EBIT guidance. IncitecPivot doesn’t normally provide EBIT guidance but has elected to in this instance in consideration of the significant impact from nonrecurring items. This includes AUD 55 million of additional anticipated EBIT impact for the rail flooding in second-half fiscal 2019, included in the AUD 68 million. Our fiscal 2019 EPS forecast plunges 37% to AUD 0.13, though our fiscal 2020 EPS forecast is unchanged at AUD 0.29.

IncitecPivot shares are 25% below November 2018 AUD 4.24 highs. But at AUD 3.22, they still trade marginally above fair value. We project dividends to grow at an 8.2% CAGR for the next five years, assuming maintenance of 50% payout ratio. But this would still be only to moderate real 3.1% fiscal 2023 yield at the current AUD 3.24 share price, inflated at WACC. IncitecPivot’s first-half dividend fell 71% to a below-expected AUD 1.3 cents. We rein-in our full-year estimate to AUD 6.6 cents from AUD 10.5 cents for a lowly 2.0% unfranked yield at the current share price.

Our fair value estimate equates to a little changed fiscal 2023 EV/EBITDA of 6.5, a P/E of 12.4 and an unfranked dividend yield of 4.0%. It breaks-down broadly to 70% for explosives and 30% from fertilisers. We allow for 1.8% group revenue CAGR to AUD 4.2 billion by fiscal 2023, supporting five-year annual EBITDA CAGR of 4.8% to AUD 1.1 billion. Our mid-cycle EBITDA margin assumption is 25.5%, ahead of the five-year average of 21.9% to fiscal 2018, and first-half fiscal 2019’s event-impacted 15.2%. IncitecPivot’s is a margin story, assuming recovery in mining company capital expenditure following a period of unsustainable deferment, in addition to new premium technology offerings including in fourth generation electronic initiating systems to boost margins.

First-half net operating cash flow is typically seasonally negative, and this half’s minus AUD 35 million print actually betters first half fiscal 2018’s negative AUD 138 million. Still, net debt increased marginally to AUD 2.24 billion versus AUD 2.08 billion in the pcp, and first half net debt to annualised EBITDA is a hefty 4.2, given the event-challenged first half EBITDA. But seasonally adjusted net debt/EBITDA is nearer 2.0 and we project net debt/EBITDA to favourably fall towards 1.0 by as soon as fiscal 2021, anticipating normalised operating conditions. Much of the rectification expenditure undertaken as a result of recent failings favourably defers next maintenance turn-arounds, including by 12 months to fiscal 2021 work otherwise required on the Louisiana ammonia plant.

In addition to the impact from manufacturing and business interruption, adverse first half weather and customer issues impacted explosives volumes for Dyno Nobel in both the Americas and Asia Pacific, and drought conditions in Australia crimped fertiliser demand. But IncitecPivot says the second half should benefit from the typical seasonal trend, in addition to fewer nonrecurring items. This excludes one-off costs that would be incurred if Gibson Island is closed due to a lack of competitively priced gas. In cash terms, the latest closure cost estimate is AUD 45-55 million, though to be substantially offset by associated land sale proceeds of AUD 30 million. Gibson Island may yet stay open if affordable gas supply can be locked-in.