Company Overview: Incitec Pivot Limited (ASX: IPL) is engaged in the manufacturing and distribution of industrial explosives, industrial chemicals and fertilizers, and the provision of related services. It is a recognized world leader in the resources and agricultural sectors. With 66 manufacturing facilities and joint ventures across five continents, including Australia, North America, Europe, Asia, Latin America and Africa, IPL manufacture ammonium nitrate-based explosives, nitrogen and phosphorus fertilizers, and nitrogen related industrial and specialty chemicals.

IPL Details

Decent Fundamentals and Progress in Strategic Agendas: Incitec Pivot Limited (ASX: IPL) is engaged in the manufacturing and distribution of industrial explosives, industrial chemicals and fertilizers, and the provision of related services. As on 19 October 2020, the market capitalization of the company stood at ~$4.11 billion. The company is progressing on its purpose of unlocking the natural resources through innovation on the ground and retains a decent underlying business model with decent fundamentals. Accelerated adoption of electronics and delivery systems by the mining industry resulted in the growth in its premium technology offering and productivity at mine sites.

During 1H20, the company reported resilient mining volumes, continued technology growth, improved manufacturing, and strong cash flow management. During the half-year, revenue of the company went up by 6% to $1,848 million, and EBIT of the company witnessed an increase of 34% to $159 million. In the same time span, NPAT increased by 54% to $65 million. The company is focused on improving ROIC, underpinned by strategic growth drivers and is aiming for cost efficiency. During 1H20, operating cash flows of the company went up to $152 million from negative cash flows of $35 million in 1H19. This was mainly due to improved business earnings and ongoing working capital management. In the same time span, the company raised capital and reported a stable balance sheet with Net Debt/EBITDA ratio of 2.8x.

The company retains decent fundamentals and seems to be well-positioned to deliver higher earnings. It witnessed continued growth in the Quarry & Construction sector and growth in market share through premium technology. It is focusing on leveraging and improving the base business and is aiming value chain optimization and investing in capabilities to create new products and solutions in precision agriculture. The company will continue to attract opportunities to reduce its environmental impact across the business and is looking for the best way for the business to reach its potential.

1H20 Financial Highlights (Source: Company Reports)

Details of Top 10 Shareholders: The following table provides an overview of the top 10 shareholders of Incitec Pivot Limited. Perpetual Investment Management Limited is the largest shareholder in the company, with a percentage holding of 7.99%.

Top 10 Shareholders (Source: Refinitiv, Thomson Reuters)

Higher Gross Margin and Increasing Profitability: During 1H20, gross margin of the company stood at 55.6%, higher than the industry median of 43% and net margin of the company witnessed an increase over the previous year and stood at 3.5%, up from 2.4% in 1H19. This shows that the company is well managing its costs and is capable of converting its revenue into profits. During the half year, EBITDA margin of the company went up to 16.2%, up from 13.2% in the previous half, indicating increased profitability. In the same time span, Return on Equity of the company stood at 1.4%, reflecting an increase from 0.9% in 1H19. This indicates that the company is well managing the capital of its shareholders and is capable of generating profits internally. During the 1H20, debt/equity ratio of the company was 0.59x, and assets/equity ratio of the company stood at 2.06x.

Key Margins (Source: Refinitiv, Thomson Reuters)

Well Positioned in Attractive Explosives Markets: Dyno Nobel Explosives offers products and services which are important to mining and resources industries in the US and Australia. It reported a CAGR of over 6% over the span of three years from FY16 to FY19 and reported earnings of $155 million in 1H20. In the same time span, the American explosives reported a growth of 8% in revenue to $587 million and an increase of 8% in EBIT to $84 million. During 1H20, the Asia Pacific explosives reported higher base and metals volumes because of the strong Australian customer demand and reported an increase of 5% in revenue to $492 million. However, slower customer uptake resulted in fall of 7% in EBIT to $71 million. In the same time span, the company saw an increase of 26% in Waggaman Production, producing 363k mt of ammonia.  

Waggaman Production (Source: Company Reports)

Key Risks: The group is exposed to a variety of risks, including the risks arising from COVID-19 on its people and operations, which includes a financial response plan. The extent of the future impact of COVID-19 is dependent on the duration and spread of the outbreak, regulations imposed by governments with respect to the outbreak response, and the impact of the pandemic on the global economy, including commodity prices and customer demand. The company is also susceptible to the climate change related financial risks, environmental risks associated with product tracking and spills across its fertilizer distribution centres.

Future Expectations and Growth Opportunities: The company has progressed in its strategic agendas with excellence in its manufacturing strategy. It delivered top quartile reliability performance which is likely to uplift earnings by $40 million to $50 million by FY22. The company has an unmatched platform to distribute advanced fertilizer products & services and seems well-placed for recovery in commodity prices. It is targeting prudent investments in high return project opportunities and has successfully raised $600 million via placement. These funds will be used to repay syndicated facilities.

IPL seems to be well-poised for margin expansion and is expecting growth in explosives from FY21 backed by technology and track record of execution in growth delivery. IPL has a long runway of technology adoption in existing markets. IPL is simplifying its debt structures and is expected to set up a strong cash generation from FY23. It is targeting higher returns from premium technology, offering to deliver strong ROIC in commercial businesses. It is likely to release its full year results for FY20 on 10 November 2020.

Key Valuation Metrics (Source: Refinitiv, Thomson Reuters)

Valuation Methodology: EV/Sales Multiple Based Relative Valuation (Illustrative)

EV/Sales Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)

Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Months

Stock Recommendation: The company is focused on delivering long-term growth underpinned by strategic drivers and cycle improvement. IPL has a clear strategy to improve shareholder value through leveraging strategically located assets, premium technology solutions, and manufacturing excellence. The stable balance sheet is likely to offer resilience in an uncertain environment and financial flexibility to support disciplined organic growth opportunities. The stock of IPL gave a return of 13.06% in the past three months and a return of 1.92% in the past one month. The stock is inclined towards its 52-weeks’ low level of $1.565, proffering a decent opportunity for accumulation. On a technical front, the stock of IPL has a support level of ~$1.82 and a resistance level of ~$2.232. We have valued the stock using the EV/Sales multiple based illustrative relative valuation and have arrived at a target price of lower double-digit upside (in percentage terms). Considering the current trading levels, decent returns in the past three months, resilient financial position, and upcoming growth opportunities, we recommend a ‘Buy’ rating on the stock at the current market price of $2.120 on 19 October 2020.

IPL Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

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