Nufarm: Mission Accomplished

Back on the 19^th of June in our piece ‘Nufarm: Short the Short’ (and go long!) we made the case for why we believed that a short squeeze was on the way. At the time the share price was wallowing at around the $3.80 level.

If we fast forward to today, we see that the stock price has rocketed nearly 75% in just 4 months. This has surpassed even our own internal expectations, and hence it’s time to ask the question ‘Is Nufarm worth holding at the current price?’

Before we set about answering that, we need to confess that our own fund sold too early, as we did not foresee the sale of the South American assets. This was the defining event which effectively removed the balance sheet risk and hence convinced the substantial short positions that they would not be able to cover by the way of an equity raising. This forced them to step into the market and hence the rapid recovery in the share price.

In hindsight, whilst we missed the specific catalyst and timing, our thesis that the level of short-selling had disconnected from the share price and that short positions would not be able to cover via an equity raising, largely played out. So where to from here?

There are 2 major aspects to consider in our view.

The first of these is around the current level of short positions versus the current share price. When we penned the original piece, NUF shorts were sitting north of 16% with the share price wallowing around the $3.80 level. Today, we see the stock price north of $6.60, whilst the short positions have retreated to around 11%.

Whilst this is still the 9^th most shorted stock on the ASX, the price appreciation means there are likely to be more sellers and the reduced short positions means that there will be less urgency to cover. In fact this combination of elevated price and reduced shorts may even see a new round of short-selling kick off.

The second consideration, is the impact that the sale of the South American assets has on the P&L. For the 2020 financial year, this segment was forecast to contribute between 25-30% on an earnings per share (EPS) basis. With this division now sold and the share price appreciating rapidly, we estimate that NUF is trading on a PER of close to 24x. This is a long way from the single digit PER that first grabbed our attention, and is now trading at a premium to its larger, arguably higher quality global peers – rather than a substantial discount.

We could also throw into this category the effect of the ongoing Australian drought, which now has a magnified impact on NUF’s earnings given that the sale of the South American assets will increase the ANZ region’s weighting on future earnings. Of course on the flipside, when the drought finally breaks, the upside will also be more pronounced.

But weighing up the various factors, we believe that the significant upside that first attracted us to this investment has now largely materialised. And we are seeing some glaring dislocations emerge in other areas of the market, where we may be able to better utilize our capital. So for us at Katana Asset Management, it’s time to file this one away and re-visit in the coming half.