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Date : 09/08/2022

How Incitec Pivot (ASX: IPL) is profiting from the food shortage

This earnings season, there is immense pressure on companies to deliver cashflows. The possibility of persisting high inflation, high-interest rates, and a recession will result in investors scrutinising company earnings a lot more than usual. We have already seen guidance downgrades lead to a heavier sell-off than usual.

Income investors have had a fantastic run with the miners guaranteeing them a 10% yield for the past 12 to 18 months. A weight bearing on these income investors is where the big miners – that is, BHP Group (ASX: BHP), Rio Tinto (ASX: RIO), and Fortescue Metals (ASX: FMG) go from here.

An economic slowdown is already underway, and this means commodity prices will be under pressure. Iron Ore and Copper especially are economically sensitive and have historically not performed well during economic downturns and/or recessions.

To retain exposure to the mining industry, it is more than worth having a look at industries and companies that support these mining operations, and one of them is Incitec Pivot Limited (ASX IPL).

Incitec Pivot (ASX IPL) manufactures, markets and distributes a range of industrial chemicals, explosives and fertilisers and is Australia’s largest fertiliser supplier and the world’s second-largest explosives supplier. The company operates through Asia Pacific and America.

This is an ideal stock candidate for the current macroeconomic backdrop. Incitec Pivot’s businesses, fertilisers and explosives, have tailwinds that ensure the company can maintain its cashflows.

Fertilisers are essential irrespective of how the food crisis plays out

Much of the Western world is battling a food crisis. Supply chain bottlenecks due to the pandemic and disruptions initiated the crisis, which was then exasperated by Russia’s invasion of Ukraine.

Wheat, corn, seed oils, and other soft commodity markets are under extreme pressure. It is worth noting that Russia and Ukraine are the world’s #1 and #5 exporters of wheat. The broken supply chain in Europe and the sanctions levied on Russia have meant that these grains have to be replaced by other large exporters.

The USA is the 2nd largest wheat exporter, and Australia is the 6th – both regions where IPL has a significant presence. With Russia and Ukraine exports out of the picture, this raises production and export volumes from other nations.

So how is Incitec Pivot (ASX: IPL) profiting from the food shortage?

We think Incitec Pivot (ASX IPL) is very well positioned to take advantage of this. They are also able to pass on the inflationary cost to their customers. Remember, fertiliser is a no-brainer for all producers.

To support the demand, fertiliser is the latest commodity experiencing a parabolic price increase. CRU Group’s fertiliser price index has hit a new record high of $377 per metric tonne. That’s a 30% gain since the start of the year, and higher than the previous record in 2008 – and the commodities analysts say the peak has yet to be seen.

IPL’s Australia Fertiliser Segment is already reaping rewards

For the half year ended March 2022, IPL reported:

  • EBIT of A$20m, a significant improvement from a loss of (A$10 million) in HY20, reflecting solid operating performance in a competitive market, strong manufacturing performance and benefits from commodity price upswing.
  • Agronomic conditions have generally been favourable, with La Nina rain events increasing soil moisture and water storage levels across eastern Australia.
  • Good progress on soil health strategy, with soil test revenue up 22% and liquid fertiliser volumes increasing 39% over the last 12 months, setting the business up for future growth.

IPL is well positioned to leverage favourable market conditions and commodity strength.

IPL’s Explosives Segment will pass on costs to miners

The explosives segment accounts for 64% of Incitec Picot’s revenues as of FY21. Again, the USA and Australia are IPL’s biggest playgrounds. In the American Explosives segment, IPL caters to Coal, Base & Precious Metals and Quarry & Construction sectors. 80% of their exposure is non-coal in this segment, and the outlook is fairly positive. Volume growth is expected across all sectors as they recover from FY20 COVID-19 closures. Sales volumes thus are expected to grow in the 2H vs FY20, driven by mine recoveries and technology-driven market share gains.

In Australia, the Explosives segment is exposed to coal by up to 50%, and Iron Ore makes up the rest. Both these markets are expected to support high mining activity. Coal demand is extremely high and given the energy crisis, also brewed partially by the Russia-Ukraine war, the outlook for IPL’s explosive demand is extremely high.

Australia is exporting more than ever

Australia’s trade surplus hit a record $16 billion in May, bolstered by surging demand and record prices for commodities, including coal and gas. The two main drivers of the May rise were coal and liquefied natural gas, which were trading near record levels due to the war in Ukraine.

The value of coal exports rose 20.4 per cent in May and is up 299 per cent over the past year. In dollar terms, the value of coal exports was larger than the value of iron ore exports.

On the 4th of August, Australia’s trade surplus hit a fresh record high, driven by high prices of key exports from grains to metals and gold, which is likely to boost second-quarter gross domestic product. The surplus swelled to A$17.7 billion ($12.3 billion) in June, surpassing economists’ estimate of A$14 billion, Australian Bureau of Statistics data showed on Thursday. Exports jumped 5%, while imports rose 1%.

This supports the case for prolonged mining activity and a robust export market. Incitec Pivot is leveraging this situation, and its explosives segment performance will remain strong in the medium-term.

IPL’s Explosive Segment Performance is Strong

More of Incitec Pivot’s Dividend News & Update and ASX IPL’s Profiting Analysis below:

Dyno Nobel Americas:

  • Dyno Nobel Americas (DNA) reported EBIT of US$182m (A$252m), up US$159m (A$220m) on pcp, supported by improved volumes and technology driven margin improvements
  • DNA explosives sales improved across all sectors: Quarry and Construction volumes increased 9% on pcp with strong infrastructure spending, Base and Precious Metals volumes increased 2% on pcp with gold and copper production driving growth, Coal volumes increased 17% on pcp with increased demand from the Powder River Basin
  • Continued technology growth with Electronic Detonator sales and further Delta-E uptake
  • Waggaman plant production and efficiency were strong through to the unexpected outage in mid-February, with the plant continuing to perform well since the restart in April.

Dyno Nobel Asia Pacific:

  • Dyno Nobel Asia Pacific delivered EBIT of A$79m, up 13% (A$9m) on pcp, improved by solid growth in volumes across all markets, technology, and recovery in the international business
  • Strong momentum in technology continued with revenue growth and margin expansion with Electronic Detonators sales up 20% and premium emulsions up 16%, on pcp
  • The end of WA contract losses (as previously disclosed in 2018) accounted for a $4m earnings improvement on pcp.

Incitec Pivot Dividends Deserve a Look

ipl dividends
Source: ASX

Incitec Pivot dividends have taken off recently as the firm’s business segments are boosted by high demand and prices. Shares are currently trading with a 5% dividend yield, fully franked. Expectations for the 2H22 results remain bullish, and a dividend expectation is higher than we saw 12 months ago.

But there is more to ASX IPL’s dividends than just what will come in the second half of this year. As demand increases, the high volume of sales will increase IPL’s revenues in the short-to-medium term. The high prices of fertilisers and explosives will improve profit margins.

This improved business performance will increase dividend distributions further. The dividend policy for ASX IPL currently pays out about 50% of NPAT. As NPAT increases due to high profitability, so will the dividends.

Summing Up

Incitec Pivot’s operates in the fertiliser and explosives segment. Prices and demand for both these products have expanded. Fertiliser prices have reached the peaks last seen in 2008, and explosives prices are rising on the back of heightened activity in the mining sector. This business tailwind is expected to continue as the Russia-Ukraine war has exasperated the food and energy crisis. Given the critical nature and market position of IPL, they are successfully able to pass on the inflationary costs to its customers. Hence, IPL’s profitability is increasing, and they are in line to increase dividends once again for FY22. This is another growth + dividend play with a 5% dividend yield that is trading at a P/E of just 6x for FY22.

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