Despite cheap valuations and pretty decent historical dividend payments, AECI’s share price has been a serial underperformer on both a relative and absolute basis over the past few years.
Though the company reported record 31% growth in revenue in its interim results released during July, the share price has continued to go in the wrong direction. This is happening despite customer demand for its products in its core mining unit starting to return, as evidenced by key factors such as global mining volumes looking better now than they did during the pandemic.
The manufacturing sector in SA, where AECI supplies speciality chemicals, is unfortunately emerging from the Covid period at a disappointingly slow pace. But this has not prevented AECI from delivering a solid performance in this business unit over the past six-month reported period (helped by increases in commodity prices).
After an initial post-Covid rally, AECI’s share price is back down at the levels seen at the height of Covid restrictions during 2020. Why are investors shying away from a business that trades on supposedly cheap multiples (including an almost 8% historical dividend yield) and trades at a discount to its reported net asset value (NAV)?
Delving deeper into their interim results, AECI’s numbers show that the past six-month period was a good one, with all its operating units growing revenue. Thanks to a strong ammonia price (up 83% during the reported period) the group’s core mining division generated an outstanding 39% increase in revenue against the comparable six months. Though this increase was mainly on the back of raw-material price increases, the mining and especially the chemicals businesses were able to pull some of the strong revenue growth through to the earnings before interest and tax (ebit) line, growing 10% and 25% respectively.
Despite a solid performance from its SA business, AECI’s agri health unit disappointed, reporting a growth contraction of 62% at the ebit level against last year’s first-half results. This unit was hit hard by AECI’s Schirm business (predominately in its operations in Germany). In the bigger scheme of things this unit is still small in terms of its group ebit contribution, compared with AECI’S mining and chemicals units.
The agri health business unit has great potential for growth but the Schirm business in Germany is detracting from the Schirm business as a whole (the US operation is performing relatively well). A turnaround strategy, embarked on in the Schirm operation in Germany, may prevent further negative contributions from this business in the short to medium term.
Group gearing has ballooned from 24% to 44% since the group reported its annual results for the year ended December 2021. It is always concerning when debt levels almost double over a short period. To be fair the group is emerging from extraordinary Covid times and higher commodity prices have resulted in the inventory line on the balance sheet increasing.
But this increase has been matched by an increase in short-term debt. In other words, the group funded inventory at higher commodity prices by taking on more short-term debt to ensure stock on hand for its customers. The increase in debt is not ideal, considering the recent increase in the rates of the cost of debt funding as we move into an environment of rising interest rates, domestically and globally.
Despite the increase in gearing, the group is still well within covenant levels and its stated gearing comfort zone of between 40% and 60%.
After the initial euphoria felt by businesses when the world began to emerge from pandemic restrictions, financial stress across most markets has generally increased following Russia’s invasion of Ukraine. Despite this, AECI is taking a long-term view and for the first time in a long time the business is investing more capital into organic growth projects than into maintenance capital.
Commodity prices are generally off their recent highs but AECI still views the global status of mining as healthy, which is also evident in the group’s good potential sales pipeline across most of the geographic areas in which it operates.
The group should soon start to see some benefit from its investment in organic growth and will continue to push its offshore investment strategy. Though a weaker rand does affect input costs, profits benefit from a weakening rand: more than 60% of its core mining business is now outside SA.
AECI has a strong dividend-paying track record and current valuations on most metrics are not excessive. This means that, for patient investors, this may be a chance to invest in a great SA business with good rand-hedge capabilities.
Would you like to comment on this article?
Sign up (it's quick and free) or sign in now.
Please read our Comment Policy before commenting.