Ag Growth International Inc T.AFN

Scotia Analysis - JUST A BLIP - NOTHING FROM TD TODAY??

[SunsetGrill]

Just a Blip

OUR TAKE: Mixed. AFN raised its 2023 EBITDA guidance by 2% despite missing consensus for 1Q EBITDA by 4%. The 1Q miss was driven by higher SG&A, which, despite strong sales growth, drove margin compression. We view this as a blip – and continue to see considerable upside in the shares. In fact, we view the reasons for the 1Q margin softness as temporary and expect SG&A to decline through 2023; combined with strong sales growth, we expect meaningful margin expansion through 2023 – with positive momentum into 2024.

All the same value creation drivers remain in place: (i) favorable end-market exposure and company-specific growth initiatives means growth is more secular than cyclical, (ii) margin expansion (reduce cost redundancies) and higher FCF conversion (lower capex/WC) should lead to significant debt repayment over the next 12-24 months (we forecast FCF of >$12/share through 2024), and (iii) reduced leverage ratios should lead to multiple expansion. Altogether, we expect significant value to accrue to equity holders. Our 2023E/24E EBITDA are largely unchanged; AFN trades at 7.4x EV/EBITDA on our 2023E below its historical average of 9.0x.

KEY POINTS

1Q23 sales/EBITDA came in at $347 million/$48.1 million vs. consensus of $326 million/$50.1 million. Farm sales/EBITDA increased 21%/34% and Commercial sales/EBITDA rose 17%/10%. Canada Farm drove significant profit growth, driven by strong demand and an easy comp (due to drought conditions in 2022), and should perform considerably better than 2022 comps through 3Q23. US Farm activity accelerated through 1Q and, we believe, will generate incremental EBITDA growth through the balance of 2023. Commercial margins were negatively impacted by the anticipated slowdown in Food and the (unexpected) increase in lower-margin third party components. Food is expected to remain soft for most of 2023. Growth in India continues at a healthy clip; Brazil growth slowed due to the macro (but we believe the company continues to win share).

We attribute the 1Q miss to the higher-than-expected SG&A. SG&A (ex. D&A, non-recurring items) started 2022 at ~$60 million and climbed to $74 million in 4Q22. It moderated to $72 million in 1Q. By the end of 2023 we expect SG&A to normalize to the mid-$60s million despite higher sales. The company is incurring cost redundancies on several integration efforts, which are expected to drive long-term efficiencies. The two main initiatives include its (i) centralization of North American Commercial in Chicago and (ii) food unification project. Moreover, the AGI Digital restructuring initiative announced at the end of 2022 is expected to generate incremental savings through 2023. In our view, such operational excellence initiatives will enable the company to expand EBITDA margin beyond its goal of 17% in 2023 (we think between 18% and 20% beyond 2023).

• Quarterly Financials
• Yearly Financials

Historical price multiple calculations use FYE prices. All values in C$ unless otherwise indicated.
Source: FactSet; company reports; Scotiabank GBM estimates.

Note: The payout ratio is calculated based on dividend as a percentage of FFOPS.

Qtly Adj EBITDA (M)	Q1	Q2	Q3	Q4	Year	EV/Adj. EBITDA
2021A	$39	$46	$46	$45	$176	8.3x
2022A	$41	$66	$76	$51	$235	7.4x
2023E	$48A	$74	$88	$63	$272	7.3x
2024E	$51	$77	$86	$67	$281	6.7x

AFN reported 1Q23 sales and adjusted EBITDA of $347 million and $48.1 million versus consensus of $326 million and $50.1 million (see Exhibit 1). On a consolidated basis, 1Q23 revenues and adjusted EBITDA were up 19% and 16%, respectively. From a segment perspective:

• Farm sales increased 21% and adjusted EBITDA grew 34%. Sales growth of portable grain handling and permanent equipment across Canada, the U.S., and Asia Pacific contributed to profit growth. EBITDA margins expanded 200bp due to favorable mix (more portable equipment), higher margins in permanent equipment, and higher volumes in North America.
• Commercial sales increased 17% and adjusted EBITDA grew 10%, with Asia Pacific and South America contributing to the growth. Adjusted EBITDA margins was 13.3%, down 80 bps y/y due to reduced volume in Food as well as higher-than-normal mix of buy resell third party components on commercial projects. Company expects the trend to normalize towards the end of 2023.
• Regionally, EBITDA grew by 76% in Canada and 24% in the U.S. EBITDA declined by 6% in International. Other EBITDA was a loss of $12.2 million versus a loss of $7.3 million last year.

Exhibit 1 - Margin Compression Offset Revenue Strength

Source: Company reports; FactSet; Scotiabank GBM estimates.

The company raised its 2023 EBITDA guidance to “at least $265 million” from “at least $260 million”. The outlook noted an active quoting pipeline as customers across all regions continue to show strong interest in capital investments to support increased crop production. The order book (formerly “backlog”) increased 7% y/y (Farm +25%; Commercial -7%). The company maintained its margin outlook calling for EBITDA margins of 17% in 2023. Together, the 2023 EBITDA guidance of >$265 million and EBITDA margin guidance of 17%, implies 7% organic growth, which we expect the company to exceed in 2023.

AFN generated FCF -$12 million in 1Q, which was better than expected given that FCF is typically negative in 1Q. Net debt to EBITDA as per the company’s calculation was 3.6x as at the end of 1Q (vs. 3.7x as at 4Q). The company continues to prioritize debt repayment and expects leverage to be within the target of 2.5x by mid-2024.

 

Exhibit 2 - Peer Group

Source: Company reports; FactSet; Scotiabank GBM estimates for AFN.

Exhibit 3 - Financial Forecasts (in CAD million, unless noted otherwise)