Company Reports

We increase our fair value estimate for no-moat Orica Limited by 3% to AUD 17.00, equivalent to the time value of money. The world’s largest explosives provider posted a 10% increase in underlying first-half fiscal 2024 NPAT to AUD 179 million. Orica anticipated strong fiscal 2024 adoption of blasting and digital technologies but major plant maintenance, inflationary pressures, and heightened geopolitical risks were expected partial offsets.

Orica has expanded its mining services business around a leading global market share in explosives. Earnings are leveraged to mining volume and commodity prices. The Australian explosives duopoly affords relatively high margins and returns; however, these are coming under pressure as Orica's more lucrative three- to four-year contracts mature and are replaced with longer-duration and lower-margin contracts. Orica benefits from resources development activity in Latin America, South Africa, and Russia. Non-Australian explosives usage also depends on construction demand, which is somewhat less cyclical.

No-moat Orica is acquiring US sodium cyanide manufacturer and distributor Cyanco Intermediate 4 Corp., or Cyanco, for USD 640 million on a cash-free, debt-free basis. The firm serves the gold mining industry in the US, Canada, Mexico, Latin America, and Africa. Orica will fund the acquisition from existing debt facilities, a AUD 400 million placement already completed, and a AUD 65 million share purchase plan, or SPP.

Orica has expanded its mining services business around a leading global market share in explosives. Earnings are leveraged to mining volume and commodity prices. The Australian explosives duopoly affords relatively high margins and returns; however, these are coming under pressure as Orica's more lucrative three- to four-year contracts mature and are replaced with longer-duration and lower-margin contracts. Orica benefits from resources development activity in Latin America, South Africa, and Russia. Non-Australian explosives usage also depends on construction demand, which is somewhat less cyclical.

Orica has expanded its mining services business around a leading global market share in explosives. Earnings are leveraged to mining volume and commodity prices. The Australian explosives duopoly affords relatively high margins and returns; however, these are coming under pressure as Orica's more lucrative three- to four-year contracts mature and are replaced with longer-duration and lower-margin contracts. Orica benefits from resources development activity in Latin America, South Africa, and Russia. Non-Australian explosives usage also depends on construction demand, which is somewhat less cyclical.

We maintain our AUD 16.50 per share fair value estimate for no-moat Orica, with shares trading in a range we consider fairly valued. Orica has announced it will acquire Terra Insights, a sensor and software monitoring platform used in mining and infrastructure. The acquisition is set to be completed in the second half of fiscal 2024, and we expect an immaterial contribution to sales in fiscal 2024 and no contribution to earnings due to implementation costs. However, from fiscal 2025, we estimate Terra Insights will contribute around AUD 100 million of revenue and AUD 40 million of EBITDA, a margin similar to Orica’s existing GroundProbe business.

Orica has expanded its mining services business around a leading global market share in explosives. Earnings are leveraged to mining volume and commodity prices. The Australian explosives duopoly affords relatively high margins and returns; however, these are coming under pressure as Orica's more lucrative three- to four-year contracts mature and are replaced with longer-duration and lower-margin contracts. Orica benefits from resources development activity in Latin America, South Africa, and Russia. Non-Australian explosives usage also depends on construction demand, which is somewhat less cyclical.

Our AUD 16.50 fair value estimate for no-moat Orica stands. The world’s largest explosives provider posted a 16% increase in underlying fiscal 2023 net profit after tax to AUD 369 million, about 4% below our AUD 385 million forecast. Net operating cash flow was very strong, up 140% to AUD 859 million, and while boosted by reductions in receivables and inventory—the result of lower ammonia prices and supply chain optimization efforts—was impressive. The market seemed suitably impressed, the shares up 4% intraday of the announcement to around AUD 15.60.

Our AUD 16.50 fair value estimate for no-moat Orica stands. Our fiscal 2023 EPS and DPS forecasts are unchanged at AUD 0.85 and AUD 0.42, respectively. The dividend equates to a modest 2.7% unfranked yield at the current share price, on a modest 50% payout. Orica shares currently trade 8% below levels prevailing when the fiscal first-half results were released and at AUD 15.40 are somewhat undervalued, though still in 3-star territory.

We reduce our fair value estimate for no-moat Orica Limited by 8% to AUD 16.10. We now think headwinds facing the firm will persist for longer than we’d allowed for. The international explosive supplier’s first-half underlying NPAT to March 2021 suffered a 44% decline to AUD 73.40 million due to the coronavirus and China trade restrictions. At the time of release in May 2021, Orica said ammonium nitrate volumes in the fiscal second half were expected to be better than the first half, though ongoing COVID-19-related disruptions, and trade issues between Australia and China create some uncertainty. It anticipated a fiscal second-half 2021 EBIT result lower than the PCP's AUD 296 million print.

We make no change to our AUD 17.50 fair value estimate for no-moat Orica. The international explosives company reported a 44% decline in underlying first-half fiscal 2021 NPAT to AUD 73.4 million. This was 24% below our AUD 97 million expectations, though reflecting a low bar due to COVID-19 and China trade restrictions, and coming without material implication for our longer-term forecasts. Higher than expected depreciation was a feature and our fiscal 2021 EPS forecast declines by 7% to AUD 0.51.

We make no change to our AUD 17.50 fair value estimate for no-moat Orica. That’s despite reducing our fiscal 2021 EPS forecast by 29% to AUD 0.55. We see no longer-term implication in the drivers of the EPS downgrade. Orica reported a number of likely temporary factors impacting on first-half fiscal 2021 EBIT.

Orica has expanded its mining services business around a leading global market share in explosives. Earnings are leveraged to mining volume and commodity prices. The Australian explosives duopoly affords relatively high margins and returns; however, these are coming under pressure as Orica's more lucrative three- to four-year contracts mature and are replaced with longer-duration and lower-margin contracts. Orica benefits from resources development activity in Latin America, South Africa, and Russia. Non-Australian explosives usage also depends on construction demand, which is somewhat less cyclical.

Orica has expanded its mining services business around a leading global market share in explosives. Earnings are leveraged to mining volume and commodity prices. The Australian explosives duopoly affords relatively high margins and returns; however, these are coming under pressure as Orica's more lucrative three- to four-year contracts mature and are replaced with longer-duration and lower-margin contracts. Orica benefits from resources development activity in Latin America, South Africa, and Russia. Non-Australian explosives usage also depends on construction demand, which is somewhat less cyclical.

No-moat Orica will acquire an 83.5% stake in Peru’s Exsa S.A. for USD 203 million from Grupo Breca. This is not a particularly large acquisition but will strategically consolidate the Latin American market position. Exsa’s circa 300 kilotonnes of ammonium nitrate, or AN, production in 2019 equates to around 7.5% of Orica’s global production but around 40% of Orica’s Latin American output. Orica intends to de-list Exsa, if it can successfully acquire minority interests in a separate tender offer.

We make no change to our AUD 17.00 fair value estimate for no-moat Orica Limited. The company reported a 15% increase in underlying fiscal 2019 NPAT to AUD 372 million, only marginally below our AUD 388 million expectations. Orica shares have almost doubled from June 2016 sub-AUD 12 lows, but are now materially overvalued. We expect the market either over-projects the earnings growth or under-prices for risk, or some combination. Simply lowering the discount rate applied to our forecast cash flows to 7.9% from our base case 9.4%, would increase its fair value to AUD 21.50.

We downgrade our fair value estimate by 40% to AUD 13 per share following a reassessment of the magnitude of headwinds facing the Australian explosives (ammonium-nitrate) industry and global explosives markets more generally. Oversupply, driven by capacity additions, at a time when the outlook for growth in demand for Australian coal and iron ore is muted, is central to the more subdued outlook. Adverse price resets on contracts are only just beginning to evidence and are a key driver of the downgrade. Orica says it expects fiscal 2015 earnings at AUD 415 to AUD 440 million, considerably below our forecasts and those of the market; and we downgrade to AUD 418 million, or AUD 1.24 per share. The company expects fiscal 2016 to be at a similar level, though we downgrade to a harsher AUD 406 million, or AUD 1.10 per share. Considerable headwinds are still to play out given the poor outlook for coal and iron ore.

Orica expects fiscal 2015 earnings to be 10% to 15% below broker consensus at AUD 415 to AUD 440 million, considerably below our last AUD 528 million forecast. Approximately AUD 40 million reflects one-off items, including increased environmental provisions and reduced asset sales compared to the previous year. There are also additional one-off costs associated with acceleration in the transformation program to drive gross benefits. But adverse price resets are a key driver of the downgrade, and these affect our longer-term investment thesis.

We reduce our fair value estimate by 12% to AUD 22 per share. Given the slowdown in Chinese construction, expected anaemic coal and iron ore volume growth, and weaker commodity prices, we expect miners to continue to pressure mining service providers for cost savings. As contracts mature, we think the renewal terms will be less lucrative, lowering margins. With the end of the China commodities boom, revenue growth in the Australia-Pacific region will slow considerably. We pare back Orica's revenue growth to 2.5% per annum from 2017, lower in the nearer term as favourable contracts expire. Orica shares have strengthened materially from December AUD 17 lows and, in conjunction with our fair value estimate reduction, now trade close to fair value.

We review Orica ORI ahead of the release of its first-half fiscal 2013 results on 6 May and in light of weaker trading conditions, particularly for the troubled Minova mining supplies business. We lower our fiscal 2013 net profit after tax (NPAT) forecast 6%, to allow for lower domestic volumes due to weather impacts on the Australian east coast, and also lower volumes and pricing pressure in Minova's core markets. Fiscal 2014 also falls 6% on lower domestic explosives growth assumptions and continued weakness in Minova. Our fair value estimate falls from AUD 27 to AUD 26. Despite the earnings downgrades we continue to view Orica as well-positioned to benefit from medium-term growth in demand for explosives as mining capacity expansion leads to increased production. Our narrow moat rating is unchanged with the global commercial explosives industry retaining its oligopolistic type characteristics. Orica continues to trade at a discount to our lower fair value estimate with the market taking a more pessimistic view. We would now prefer to see the stock trade at slightly lower levels before purchase.