Company Overview: Incitec Pivot Limited (ASX: IPL) manufactures and distributes industrial explosives, industrial chemicals, and fertilisers. The Group operates several strategic divisions and has its business units in the Asia Pacific and America region. The reportable segments under which it does business are Fertilisers Asia Pacific (Fertilisers APAC), Dyno Nobel Asia Pacific (DNAP) and Dyno Nobel Americas (DNA).

IPL Details

Revenue Visibility from Fertiliser Segment & Technology Leverage to Aid Performance: Incitec Pivot Limited (ASX: IPL) is engaged in the manufacturing and distribution of industrial explosives, chemicals, and fertilisers. The market capitalisation of the company as on 07 December 2020, stood at ~$4.58 billion. IPL’s business has been performing well despite the COVID-19 disruption, aided by upgraded technology which delivers safe and efficient operations to its customers in the key markets of quarry, construction, base, and precious metals. Dyno Nobel Asia Pacific reported a net decrease of $15 million in contract renewals, which comprised $28 million from lower pricing on renewed contracts. However, this was offset by $13 million of earnings growth from technology-related cost efficiencies. It further expects technology growth to offset $12 million re-contracting impact in FY21.

During FY20, the company reported top-line growth of 1%, with Group revenues of $3,942.2 million from $3,918.2 million in the previous corresponding period. The revenue from fertilisers business had gone up by 6% to $1,502 million from $1,419.4 million, in the same period. Dyno Nobel Asia Pacific business revenue increased by 1% to $999.2 million from $990.7 million, during the same time. However, the Dyno Nobel Americas business saw a drop of 4% in revenues to $1,506.5 million in FY20. IPL reported 23% growth in EBIT to $374.5 million in FY20, due to better operating leverage. As a result, EBIT margin also improved to 9.5% from 7.8% in the prior period. NPAT (excluding IMI) also saw a healthy growth of 23% to $188 million in FY20. The company had raised ~$646 million of equity in May 2020, and the proceeds had been used to repay debt. Interest bearing facilities stood at $1,870 million in FY20, down from $2,656 million in FY19. It reported a capital expenditure of $278.4 million in FY20, which was 70% lower than the prior year. IPL decided against paying a dividend in FY20, owing to COVID-19 impact.

Despite the challenges faced by the company in the wake of COVID-19 pandemic, IPL seems to be well placed to capture the growth, going forward. It is of the opinion that technology will play a key role for the continued growth in the explosives business and sees an upside in the fertilisers business once commodity prices recover.

FY20 Key Highlights (Source: Company Reports)

Restart of Range Gas Project: As per a recent update, Central Petroleum Limited, a joint venture between Central and a subsidiary of IPL, restarted its Range Gas project in Queensland’s Surat Basin. Both the JV partners seems to be positive on this project and believes it to be a competitive new source of gas for the east coast market.

Details of Top 10 Shareholders: The top 10 shareholders have been highlighted in the table, which together form around 35.23% of the total shareholding. Perpetual Investment Management Limited is the largest shareholder in the company, with the percentage holding of 7.99%.

Top 10 Shareholders (Source: Refinitiv, Thomson Reuters)

Decent Margins Expansion: IPL reported improved financial performance during FY20 with almost all the key metrics performing better due to better operating leverage. It reported a gross margin of 53.7% in FY20, up from 50.1% in FY19. EBITDA margin also improved to 16% from 13.3% in the same period. There was a decrease in net margin to 3.1% in FY20 from 3.9% in FY19, mainly because of the increase in effective tax rate during the year. The company had been working on negative cash cycle (days) for the past few years, reflecting a lower need for working capital. It reported a reduction in net debt to $1,028.7 million in FY20 as compared to $1,691.4 million in FY19. This resulted in improved leverage (Net Debt/EBITDA) of 1.4x from 2.8x in the same period. Interest cover also improved to 6.1x in FY20 from 4.6x in FY19.

Key Margins (Source: Refinitiv, Thomson Reuters)

A Quick Look at Business Segment Performance in FY20: IPL delivered EBIT growth of 23% to $375 million in FY20 from $304 million in FY19. Dyno Nobel Americas reported a decrease in EBIT by 1% to $230.8 million in FY20, with volumes in explosives business being impacted by the decline in coal mining activity and COVID-19 curbs at some mining operations. However, margins from this segment were decent with the use of premium technology which aided in operational efficiencies. EBIT of Dyno Nobel Asia Pacific saw a decrease of 17% Y-o-Y, to $149.3 million in FY20. As per the company, volumes were in line in the Australian business, however earnings were impacted from re-contracting its Moranbah foundation customers, and also lower earnings from Indonesia. The Asia Pacific Fertilisers reported EBIT increase of 133% to $26.2 million, with decent volumes and higher commodity prices in FY20. According to IPL, this vertical should benefit from the growth of new value-add products and services, as well as future improvement in commodity prices. As per IPL, there was a positive impact of manufacturing efficiency throughout the year, in comparison to the prior period.

EBIT from Key Business Segments (Source: Company Reports)

Key Investment Risks: The company operates in a high-risk sector and as such, is responsible for the safety and well-being of its employees. Its Total Recordable Injury Frequency Rate (TRIFR) has come down from 0.94 in FY18 to 0.57 in FY20. The Group also operates in a highly competitive market, and the action of other players can have an impact on its performance. IPL and its clients are exposed to environmental regulations and require operating licenses and other statutory measures in order to perform its operations smoothly. It earns its revenue from projects through key customers and clients, and any change in their relationship may have an impact on its financials. The price of some of its final products (fertilisers, ammonia, ammonium nitrate) and raw materials (phosphate rock etc.) are dependent on internationally traded commodities, and as such may impact the profitability of the business.

Outlook: The company remains positive on the profitability from fertilisers segment and expects increased soil moisture across the East Coast of Australia, and better summer rainfall in FY21. The company anticipates borrowing costs to be lower in FY21, due to lower levels of debt in the balance sheet.

IPL understands the risks stemming from the ongoing COVID-19 pandemic and has come up with a response plan to sail through the tide, without impacting the business. It has devised a response plan that is expected to deliver cost savings of ~$60 million per annum by FY22. It expects ~$30 million of savings to be delivered in FY21. The company’s effective tax rate is expected to be lower in the range of ~21% to 23% in FY21, giving more room for net margin expansion.

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: Despite the impact of COVID-19 on the business, IPL reported a decent number in the year FY20, with reported NPAT (ex IMI) increasing 23% year over year to $188 million. As the business environment improves further, the company expects improved volumes and sales. As per ASX, the stock of IPL is trading below the average of its 52-weeks’ levels of $1.565-$3.415, proffering a decent opportunity for the investors for accumulation. The stock of IPL gave a return of 18.35% in the past three months and a return of 20.09% in the last one month. On a technical analysis front, the stock of IPL has a support level of ~$2.278 and a resistance level of ~$2.782. We have valued the stock using an EV/Sales multiple based illustrative relative valuation and have arrived at a target upside of lower double-digit (in % terms). Hence, considering the current trading levels, decent financial performance, quality clients, and expected increase in volumes in key markets, we recommend a ‘Buy’ rating on the stock at the current market price of $2.43, up by ~2.97% on 07 December 2020.

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

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