Ag Growth International Inc T.AFN

Scotia Update Analysis -$82 target

[SunsetGrill]

Smoother, Before a Reacceleration

OUR TAKE: Neutral. We trimmed our 3QE EBITDA, raised our 4QE EBITDA (nets to an increase in 2H23E EBITDA), and see potential upside to AFN’s 2023 EBITDA guidance of >$290 million. For 2024, we expect several growth/margin-expansion initiatives to drive continued EBITDA/FCF growth despite some cooling demand in Canada (and, to a lesser extent, in the U.S.) and maintain the view that EBITDA/FCF margin expansion remains an area for upside surprises.

AFN shares remain cheap considering ‘new’ management’s highly effective execution and AFN’s attractive M-T growth prospects (AFN trades at 6.7x EV/EBITDA; lowest EBITDA multiple in a decade; FCF yield of 9.5% on our 2024E). AFN is on pace to nearly double EBITDA in 2023 vs. 2019; through the period, the strong backdrop provided tailwinds, but we attribute the bulk of the growth to the management-led business optimization. When factoring the runway for incremental operating efficiencies, capacity expansion, and product transfer opportunities – i.e., company-specific drivers – we not only expect AFN’s EBITDA growth through 2023 to prove sustainable but view it as a new base from which to expand.

KEY POINTS

Strong finish to 2023... On the back of incremental data points on harvest conditions across several regions, varying crop/commodity prices, and a recent discussion with management, we made adjustments to our estimates. We expect strength in Brazil, India, and EMEA (partially offset by softness in Canada) to drive higher profitability in 4Q23. Following the outsized price/cost spread in 2Q, we expect a moderation in 3Q23 EBITDA margin.

...and continued growth in 2024. In 2023, Brazil, India, and EMEA started slow and accelerated. Canada started strong but is likely to soften in the 2H23 (production of six primary crops are expected to decline 11% y/y, according to StatsCan). Given we expect these regional trends to continue into 2024 (Brazil, India, EMEA likely have easy comps; Canada more challenged), we model ‘flattish’ EBITDA growth in the 1H24, before assuming a resumption of a stronger EBITDA uptrend in the 2H24. A recovery in Food profitability, which is at trough levels (and is being restructured), should also provide a tailwind in 2024.

Becoming bigger. On Sep. 14, AFN announced plans to manufacture portable grain handling in India to meet customer demand in Australia/New Zealand; this represents a single example of its product transfers strategy and a part of the $4 billion product transfer opportunity it highlighted at its Investor Day. In addition to product transfers, management continues to refine the company’s manufacturing footprint (potential for additional facility consolidation and increased automation). In essence, AFN is moving from a business optimization story to one where the balance sheet is sufficiently delevered such that it can aggressively pursue accretive organic opportunities (we model $70 million of capex in 2024).

• 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	$88A	$82	$78	$296	6.8x
2024E	$49	$86	$83	$83	$300	6.4x

Exhibit 1 - U.S. Corn Crops Conditions

Source: United States Department of Agriculture; Scotiabank GBM.

Exhibit 2 - U.S. Soybeans Crops Conditions

Source: United States Department of Agriculture; Scotiabank GBM.

Exhibit 3 - Brazil Corn Production

Source: Conab (https://www.conab.gov.br); Scotiabank GBM.

Exhibit 4 - Brazil Soybeans Production

Source: Conab (https://www.conab.gov.br); Scotiabank GBM.

Exhibit 5 - Canada Crop Condition Compared to Normal (Sept 10)

Source: Scotiabank GBM; Statistics Canada, Crop Condition Assessment Program, 2023-09-15. Reproduced and distributed on an "as is" basis with the permission of Statistics Canada.

Exhibit 6 - Canadian Production in 2023 Down, But Not as Bad as 2021

Source: Scotiabank GBM; Adapted from Statistics Canada, Table 32-10-0359-01, 2023-09-15. This does not constitute an endorsement by Statistics Canada of this product.

 

Exhibit 7 - Financial Forecasts (in CAD million, unless noted otherwise)

Source: Company reports; Scotiabank GBM estimates.

Company Overview

Company Description

AFN is a leading shortline agricultural equipment manufacturer. The company is a provider of the physical equipment and digital technology solutions required to support global food infrastructure including grain, fertilizer, seed, feed, and food processing systems. AFN has manufacturing facilities in Canada, the United States, Brazil, India, France, and Italy and distributes its product globally. In 2021, 44% of sales were based in the United States, 22% in Canada, and 33% in the rest of the world.

Investment Thesis

The setup for AFN may be as good as it has been for a while. The shares trade at near its lowest EV/EBITDA multiple in more than a decade. Strong growth prospects and moderating steel prices (~30% of COGS in 2020) should boost profits and cash flows into 2022. We think its leverage has peaked. And its margins are likely to improve. Further, with one of the bin projects remediated, we see little incremental risk of negative surprises and believe AFN will look to fully resolve the issue in 2022. The wind-down of the bin incident and wind-up of profits should enhance FCF and ROIC, accelerating the prospects for delevering and, therefore, aiding the shares to re-rate higher.

Key Risks

Farm economics, crop and trade flows, weather, FX (US$), steel prices, competition