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Forsyth Barr

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New Zealand Professional Investment Services Firm, Forsyth Barr

Equity Bottom-Up

<h2>Skellerup Holdings<br>FY20 Result&nbsp;— Capturing US Milk Flow</h2>
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<p><strong>OUTPERFORM</strong></p>
<p>Skellerup's (SKL) Agri division delivered a strong FY20 result, more than offsetting COVID-19 related weakness in its Industrial division. We are encouraged by Agri growth being ahead of expectations given both the high margin and consumable nature of its products. COVID-19 has created a high level of uncertainty, and whilst we acknowledge the weaker economic outlook we view SKL's earnings profile as more resilient than it has been in the past. A healthy balance sheet and low capex growth model provide some flexibility during periods of short-term turbulence or cash flow timing variability. We lift our target price +NZ$0.45 to NZ$2.90 (+18%) following cost of capital changes.​​​​​​​ With strong free cash flow, c. 5% gross dividend yield, and trading on a forward PE ratio of 18x (versus the market 22x) we continue to see value and reiterate our OUTPERFORM.</p>
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<h3>Agri&nbsp;growth offset Industrial challenges</h3>
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<p>SKL&nbsp;reported FY20&nbsp;NPAT&nbsp;(NZ$29.1m) flat on the prior year as its&nbsp;Agri&nbsp;division offset a softer Industrial result.&nbsp;Agri&nbsp;delivered 1) revenue growth as it lifted sales into the US, a market opportunity previously signalled by the company, and 2) margin expansion as it realised further operational efficiencies&nbsp;at its production facility. The Industrial division experienced earnings decline on flat revenue, with its infrastructure, automotive,&nbsp;and oil &amp; gas exposed products the key drag. Earnings mix had&nbsp;a negative impact on margin. Outside of automotive, we view areas of weakness as largely&nbsp;COVID-19 related, with low oil demand weighing on activity and US infrastructure work suspended/delayed due to disruption, and therefore expect this to normalise&nbsp;over the coming two years.</p>
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<h3>Strong cash flow generation</h3>
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<p>SKL's operating cash flow increased +66% on the prior year driven by 1) robust earnings, 2) a working capital release, and 3) its low capex growth model. SKL has targeted growth through the OEM (original equipment manufacturer) channel, with customers paying upfront for product tooling. SKL reduced net debt -22% to NZ$29m. With the balance sheet conservatively geared, SKL has signalled the possibility of further bolt-on acquisitions, which the company has had recent success at executing. The company announced a final dividend of 7.5cps (FY20 13cps).&nbsp;</p>
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<h3>Trading well against an uncertain backdrop</h3>
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<p>Trading commentary was limited but suggests FY21 has started well. As SKL enter a period of heightened economic uncertainty the key question will be the impact on end customer demand for SKL's wide range of products, in particular, related to its Industrial division. Growth is expected to be driven by additional OEM (original equipment manufacturer) business, the nature of which means the timing of earnings contributions can be difficult to forecast, and a single project can be sizable, representing a step change in earnings. Although we suspect COVID-19 travel restrictions have likely added further delays, we see upside risk to our forecasts should SKL execute on growth opportunities.&nbsp;</p>
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<div><strong>Guy Hooper</strong></div>
<div><a href="mailto:guy.hooper@forsythbarr.co.nz" target="_blank" rel="noopener">guy.hooper@forsythbarr.co.nz</a></div>
<div>+64 4 495 5255</div>
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Skellerup Holdings FY20 Result&nbsp;— Capturing US Milk Flow

OUTPERFORM
Skellerup's (SKL) Agri division delivered a strong FY20 result, more than offsetting COVID-19 related weakness in its Industrial division. We are encouraged by Agri growth being ahead of expectations given both the high margin and consumable nature of its products. COVID-19 has created a high level of uncertainty, and whilst we acknowledge the weaker economic outlook we view SKL's earnings profile as more resilient than it has been in the past. A healthy balance sheet and low capex growth model provide some flexibility during periods of short-term turbulence or cash flow timing variability. We lift our target price +NZ$0.45 to NZ$2.90 (+18%) following cost of capital changes.​​​​​​​ With strong free cash flow, c. 5% gross dividend yield, and trading on a forward PE ratio of 18x (versus the market 22x) we continue to see value and reiterate our OUTPERFORM.


Agri&nbsp;growth offset Industrial challenges


SKL&nbsp;reported FY20&nbsp;NPAT&nbsp;(NZ$29.1m) flat on the prior year as its&nbsp;Agri&nbsp;division offset a softer Industrial result.&nbsp;Agri&nbsp;delivered 1) revenue growth as it lifted sales into the US, a market opportunity previously signalled by the company, and 2) margin expansion as it realised further operational efficiencies&nbsp;at its production facility. The Industrial division experienced earnings decline on flat revenue, with its infrastructure, automotive,&nbsp;and oil &amp; gas exposed products the key drag. Earnings mix had&nbsp;a negative impact on margin. Outside of automotive, we view areas of weakness as largely&nbsp;COVID-19 related, with low oil demand weighing on activity and US infrastructure work suspended/delayed due to disruption, and therefore expect this to normalise&nbsp;over the coming two years.


Strong cash flow generation


SKL's operating cash flow increased +66% on the prior year driven by 1) robust earnings, 2) a working capital release, and 3) its low capex growth model. SKL has targeted growth through the OEM (original equipment manufacturer) channel, with customers paying upfront for product tooling. SKL reduced net debt -22% to NZ$29m. With the balance sheet conservatively geared, SKL has signalled the possibility of further bolt-on acquisitions, which the company has had recent success at executing. The company announced a final dividend of 7.5cps (FY20 13cps).&nbsp;


Trading well against an uncertain backdrop


Trading commentary was limited but suggests FY21 has started well. As SKL enter a period of heightened economic uncertainty the key question will be the impact on end customer demand for SKL's wide range of products, in particular, related to its Industrial division. Growth is expected to be driven by additional OEM (original equipment manufacturer) business, the nature of which means the timing of earnings contributions can be difficult to forecast, and a single project can be sizable, representing a step change in earnings. Although we suspect COVID-19 travel restrictions have likely added further delays, we see upside risk to our forecasts should SKL execute on growth opportunities.&nbsp;




Guy Hooper
guy.hooper@forsythbarr.co.nz
+64 4 495 5255




Skellerup Holdings: FY20 Result — Capturing US Milk Flow