Bargain Shares: Farming upgrades

Specialist agricultural products supplier Wynnstay (WYN:630p) continues to deliver strong trading results across its business, so much so that house broker Shore Capital pushed through its third earnings upgrade since March following a bumper crop of half-year results. Analyst Akhil Patel now expects Wynnstay to deliver full-year pre-tax profit of £15.4mn and earnings per share (EPS) of 58.4p (18 per cent upgrades), up from £11.5mn and 45.9p, respectively, in 2021. He also edged up his full-year dividend per share estimate from 16.3p to 16.6p, or 7 per cent higher than the payout in 2021.

As noted previously, Wynnstay has been benefiting from significant inflationary pressures in the farming industry, accounting for £80mn of the revenue increase in the six-month trading period. In the group’s agricultural division (feed, arable and fertiliser blending products), the price of feed wheat and barley have surged by more than 40 per cent since the autumn, and the cost of ammonium nitrate and potash, both key ingredients in fertiliser, have spiked more than 150 per cent in the past 12 months. This is a direct consequence of Russia’s invasion of Ukraine as the former is a global producer of ammonium nitrate and the two countries account for 30 per cent of the world’s traded wheat.

Admittedly, the one-off gains from fertiliser will not be repeated in the second half, but finance director Paul Roberts noted during our results call that smaller rivals are now taking a different approach to their pricing given the higher working capital requirements, a positive for Wynnstay’s future margin. Chief executive Gareth Davies believes the group, the second-largest player in this market, is well placed to take advantage of consolidation opportunities, too.

Davies also highlighted how Wynnstay’s 3.25 per cent like-for-like increase in feed volumes outperformed a 5 per cent decline in the overall market. The outperformance reflects the group’s exposure to dairy and free-range eggs, both areas posted growth of around 5 per cent, and the benefit of offering clients a team of specialists that act as a “point of difference”. It’s worth noting that the expansion of Wynnstay’s mill in Carmarthen is on track to double capacity by late 2023/early 2024, and will create the opportunity to bring production in-house rather than buying from third-party suppliers. That’s another positive for organic growth in Wynnstay’s profits at a time when UK food security and supply are high on the political agenda.

Wynnstay is also investing around £13mn over the next three years to scale up production capacity at newly acquired Hampshire-based poultry and point-of-lay pullets business Humphrey Feed & Pullets. The company produced 109,430 tonnes of poultry feed from its Twyford manufacturing facility last year, and the new facility at a previously mothballed mill at Calne will increase capacity to 185,000 tonnes.

Wynnstay’s balance sheet strength, a strong bull point in my decision to select the shares, at 424p, in my 2021 Bargain Shares Portfolio, combined with a 59 per cent rise in first-half cash profits to £11.8mn, enabled the group to fund £1.9mn of capital expenditure, £8.5mn acquisition cost of Humphrey and a seasonal working capital movement (£22.9mn) in the six-month period. Closing net debt of £7.6mn (excluding £5mn of property leases) still only equates to 7 per cent of net assets and is well within group bank facilities of £30.5mn, thus offering the board the firepower to make further strategic bolt-on acquisitions.

Moreover, Roberts sees scope for net borrowings to end the financial year lower than Shore Capital’s £3.9mn forecast as the working capital build unwinds in the second half. It’s worth pointing out that Wynnstay has used its balance sheet strength to enable farmers to lock in high grain prices by entering forward grain hedging contracts on future trading exchanges that provide an effective hedge between the grain purchases and subsequent sales to food manufacturers. These hedging arrangements required significant margin calls, thus enabling the group to win business from weaker placed rivals who lack the funding to enter derivative contracts.

Wynnstay’s ongoing robust operational performance explains why the shares have produced a 53.7 per cent total return since I initiated coverage in February 2021. In the 16-month period, the board has paid out 25.5p a share of dividends, maintaining an unbroken 18-year record of increasing the dividend since IPO in 2004.

Note One: Simon recommended tendering 30 per cent of holdings in Vietnam Holdings at US$4.4528 (322.3p) a share, and tendering 3.9 per cent in the excess application ('Exploiting a tender offer', 4 August 2021), with a view to buying back the tendered shares at the lower market price (284p offer price on 13 and 14 September 2021) when the cash distribution was made during the week of 13 September 2021. Total return reflects these transactions which have reduced the entry point to 188.3p a share.

Source: London Stock Exchange.

A forward price/earnings (PE) ratio of 11, prospective dividend yield of 2.6 per cent and price-to-book value of 1.15 times are modest ratings for a group that is well placed to deliver organic growth in a market that remains well supported by strong farmgate prices, which in turn underpin farmer confidence and investment. I edge up my fair value target from 685p to 725p. Buy.

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