A farming stock beefing up its profits

NWF (NWF), the Nantwich-based agricultural supplies group, has faced significant weather-related fluctuations in demand at two of its three main operating divisions.

The Aim-traded group’s biggest business delivers heating oil and diesel to farmers and other rural domestic and commercial customers. As a result, when winters are as mild as in 2023 it faces a natural downturn in demand.

Its feeds business is similarly at the mercy of the meteorologists. Warmer summers provide good grass-growing conditions on which dairy farmers can feed their herd. But when the weather turns soggy, as it has this year, cows are kept in sheds and so demand is boosted.

In both cases, however, NWF lacks much pricing power, which is evident in the respective divisional margins. The feeds business generated an operating margin of just 1.9 per cent last year. The fuels business fared even worse at 1.2 per cent.

The fuels arm, which provided 72 per cent of NWF’s revenue and just over half (56 per cent) of headline operating profit for the year to 31 May, is also at the mercy of oil prices. With the average Brent crude price dropping to $83 (£64) per barrel from $90 a year earlier over the period, revenue fell by 10 per cent to £678mn despite 3.6 per cent volume growth.

Against this gloomy backdrop, however, there are reasons for optimism. Although oil has since fallen further to $71 a barrel, the company said in a September trading update that it had managed to increase its margin.

This is because volatility matters as much as the overall price (although higher prices clearly help). NWF buys fuels from the majors and looks to make a fixed amount per litre to reflect the service it has provided in delivering it.

Stressed for success

“What we find is we can make a higher margin in times when our customers are concerned about supply – either worried about a situation where they could run out, or where there’s really high oil price volatility. In both of those situations, customers become less price conscious,” chief executive Chris Belsham told the IC in July.

The fuel arm’s revenue rose by 39 per cent in 2022 and by a further 22 per cent in 2023 as prices jumped following Russia’s invasion of Ukraine. Operating profit soared by 83 per cent in 2022 but fell back by a quarter in 2023 due to a mild winter.

The other source of growth for the division has been acquisitions. The division has completed seven in the past five years, although the most recent – the £2.6mn purchase of Kent-based Geoff Boorman Fuels – was more than a year ago.

As the name of that business suggests, this sector remains one largely made up of small, family-run firms. Many owners are now either at, or even past, retirement age, according to Belsham. They also tend not to have succession plans.

Few have been willing recent sellers, though, as falling oil prices made it difficult for them “to gauge what profit stream they were trying to sell”, Belsham said. NWF is nonetheless continuing to pursue deals.

The smaller feeds arm is the oldest part of the business, dating back to 1871. It mills up to 580,000 tonnes of feed for dairy, beef and sheep herds per year and generates 20 per cent of company sales, although its headline operating profit contribution is slightly lower at 18 per cent.

It is also at the mercy of commodity prices, such as wheat (and gas, given the amount of energy required for milling feed), while milk prices affect demand from owners of dairy herds.

Last year’s profit was a third lower than the prior year, when commodity prices were higher and milk prices hit record levels. For the current year, broker Panmure Liberum expects headline operating profit to remain flat, with the higher forecast volume offset by a lower margin.

Racking up profit

Greater things are expected elsewhere. While both the fuels and the feeds arms focus on deliveries, using a fleet of 358 vehicles, the third part of the business (foods) picks up goods from small producers, consolidates them in warehouses and delivers directly to wholesalers and supermarket chains. This business, Boughey Distribution, has increased capacity from 50,000 pallet spaces in 2007 to 187,000 now. In May, it opened its third warehouse, Lymedale, adding 52,000 spaces. Fitting this out meant NWF’s capital expenditure (capex) jumped from £2.2mn in 2023 to £9.7mn, but the project was delivered on time and slightly under budget and the warehouse is already “approaching optimal capacity”, according to Panmure Liberum’s Adrian Kearsey.

The foods business is not only more resilient in general, it also generates a healthier margin – 4.3 per cent for each of the past three years. Kearsey believes that a more proactive pricing strategy should drive this higher – to 6 per cent this year and 7 per cent thereafter. He expects the unit to double its operating profit from £3.7mn last year to £7.4mn by 2027.

This rosier outlook is not reflected in NWF's share price, which has fallen by 35 per cent since the start of this year. It has been trending downwards since June, when it dropped below both its 50-day and its 200-day moving average.

Heightened selling volumes in recent weeks suggest the threat of increased capital gains taxes, or the removal of inheritance tax relief for Aim shares, in Labour’s Budget this week was a cause for concern. Panmure Liberum’s Simon French pointed out last week that the average Aim share price has fallen by 5 per cent since July’s general election, while FTSE small- and mid-cap shares have been flat and large-cap shares are up by 4 per cent. The broker highlights NWF as one of 25 stocks “where further market dislocation may throw up highly attractive entry points”.

On a multiple of less than eight times consensus forecasts, NWF’s shares already trade at a discount of around 30 per cent to their five-year average, according to FactSet.

The company is also generous when it comes to payouts, having increased its dividend for each of the past 13 years. Although consensus forecasts are for earnings per share to decline by 7 per cent this year, the FactSet forecast dividend of 8.4p would still be more than twice covered by earnings.

This steady stream of cash has been an attractive factor for the Icelandic pension funds that hold just shy of 15 per cent of NWF’s shares.

In the run-up to the global financial crisis, when Icelandic companies with access to cheap debt were buying assets across Europe, an investment company named Atorka snapped up a quarter of NWF.

However, Atorka's holding was later broken up when it was taken over by its lenders, and sold to several local funds that were keen to gain foreign currency exposure at a time when Iceland still had currency controls in place.

Although some have since sold their positions, others have been willing to weather the recent storm.

“We still have faith in the management and consider our investment [to be for the] long term”, says Gylfi Jónasson, managing director of the Festa Pension Fund.

 “Our view is that the company is currently undervalued, with an attractive dividend yield and low multiples.”

With NWF's shares trading on a lowly forward price/earnings ratio and a 16 per cent discount to their book value, the evidence supports Jónasson's argument.