IPL - Incitec Pivot

[ukulele]

Not sure what happened on Friday? Huge drop. Technically looks very bad now.

 

[rcm617]

Not sure what happened on Friday? Huge drop. Technically looks very bad now.

Urea and DAP spot pricing has been steadily heading downhill over the last 6 months, now down 30% and 18% respectively.
Probably some analyst downgrades starting to come in after the holiday break.

 

[skc]

Urea and DAP spot pricing has been steadily heading downhill over the last 6 months, now down 30% and 18% respectively.
Probably some analyst downgrades starting to come in after the holiday break.

Just wondering if you have a link that's good for urea and DAP spot prices (current and historical).

The only new news I could find yesterday was that Goldmans released a piece on IPL that talked about the downside risks... but the recommendation actually didn't change.

A potential trade on Monday with the speeding ticket response and a positive lead.

cheers

 

[peter2]

Link for commodity prices incl DAP and urea. It was you, skc that put me onto one at mongabay but it has since changed to indexmundi.com/commodities.

 

[rcm617]

Just wondering if you have a link that's good for urea and DAP spot prices (current and historical).

The only new news I could find yesterday was that Goldmans released a piece on IPL that talked about the downside risks... but the recommendation actually didn't change.

A potential trade on Monday with the speeding ticket response and a positive lead
cheers

No, got those figures off a chart on another forum site. Have had a look at a few different charts including indexmundi and barcharts and they all seem to give slightly different numbers, but all showing a downtrend.
This is a quote from farm futures weekly fertilizer review but it is more about retail pricing.
http://farmfutures.com/story-weekly-fertilizer-review-0-30765
"Chaos on world financial markets has the eroded purchasing of many countries whose currencies have been battered. That’s exacerbated weakness in fertilizer markets caused by low crop prices, sending retail and wholesale costs down again this week.
Urea prices are suffering from oversupply and lack of demand, which sent swaps at the Gulf down 10% last week. That took that wholesale benchmark below $200, with forwards through summer below that level two. Retail costs continue to follow wholesale values lower, with our average slipping around $5 last wee4k to $356, almost $100 cheaper than the cost at planting time in 2015.Fair value based on the whole sale market is about $10 cheaper and fundamentals show little risk of rising values into spring. Demand from Brazil is sharply lower – the real is trading at historic lows –and India is buying from multiple sources, not just China, including Iran, which is likely to put even more supply on the world market now that sanctions are lifted.
Phosphates are also slumping sharply. DAP at the Gulf is $100 below its harvest costs. Retail costs lag that amount some – they’re off $75 – with potential for another $25 to $50 reduction into spring. Our average for DAP is at $470, down $7 this week, matching the decline on the wholesale market. Current fair value is around $453, with swaps for spring $15 to $20 lower than that. Fundaments indicate prices could be lower still if international demand doesn’t recover."

 

[skc]

Link for commodity prices incl DAP and urea. It was you, skc that put me onto one at mongabay but it has since changed to indexmundi.com/commodities.

Haha. I clicked on my own link and it didn't seem to take me anywhere meaningful. I didn't look closely enough to note that there was a name change.

No, got those figures off a chart on another forum site. Have had a look at a few different charts including indexmundi and barcharts and they all seem to give slightly different numbers, but all showing a downtrend.
This is a quote from farm futures weekly fertilizer review but it is more about retail pricing.
http://farmfutures.com/story-weekly-fertilizer-review-0-30765
"Chaos on world financial markets has the eroded purchasing of many countries whose currencies have been battered. That’s exacerbated weakness in fertilizer markets caused by low crop prices, sending retail and wholesale costs down again this week.
Urea prices are suffering from oversupply and lack of demand, which sent swaps at the Gulf down 10% last week. That took that wholesale benchmark below $200, with forwards through summer below that level two. Retail costs continue to follow wholesale values lower, with our average slipping around $5 last wee4k to $356, almost $100 cheaper than the cost at planting time in 2015.Fair value based on the whole sale market is about $10 cheaper and fundamentals show little risk of rising values into spring. Demand from Brazil is sharply lower – the real is trading at historic lows –and India is buying from multiple sources, not just China, including Iran, which is likely to put even more supply on the world market now that sanctions are lifted.
Phosphates are also slumping sharply. DAP at the Gulf is $100 below its harvest costs. Retail costs lag that amount some – they’re off $75 – with potential for another $25 to $50 reduction into spring. Our average for DAP is at $470, down $7 this week, matching the decline on the wholesale market. Current fair value is around $453, with swaps for spring $15 to $20 lower than that. Fundaments indicate prices could be lower still if international demand doesn’t recover."

Thanks for the info.

 

[skc]

IPL recently reported what appears to be a "beat" figure and the market responded by bidding it up ~20% since the news.

However, this is the analysis from Morgan Stanley...

IPL's 1H16 result is messy, significantly impacted by the decision to impair Gibson Island and raise the prospect it could be loss making from September 2018. That said, underlying EBIT appears to have comfortably beaten our forecast. Digging deeper however it appears this beat was entirely driven by a A$32m favourable movement in product in stock eliminations - without this EBIT would have missed our underlying forecast by ~9% (or in line if we adjust for train derailment costs). If we are correct in our interpretation that this elimination benefit will reverse in 2H16 and given the headwinds IPL has highlighted for the period (including the need for a further A$35m of restructuring costs) we expect consensus FY16e estimates may still need to fall ~10%.

I am trying to get my head around this "product in stock eliminations".

Anyone have a view on this and care to explain it in simpler terms?

Thanks

 

[Ves]

I am trying to get my head around this "product in stock eliminations".

Anyone have a view on this and care to explain it in simpler terms?

Thanks

I'm not an expert by any means.

IPL owns many subsidiaries across a few different geographical territorities. Some of these segments would manufacture fertiliser and sell them in-house to the other busineses held within the group.

The accounting standards (some one can correct me if I am wrong) require a business to report stock transfers between subsidiaries as if they were done at arms-length price.

If you look at the graph in the presentation during the period the price of fertiliser changed a fair bit from beginning to end (just over 20%).

So I'd say they transferred stock to a subsidiary when the price was much higher and realised a profit in the 1H accounts.

When the subsidiary actually sells the stock on market in the next half the price will be lower (based on the end of period market price) and this profit would unwind because the COGs is inflated.

IPL releases their profit figures in their presentation both Ex and Pre internal price movements (they call them IMIs, can't remember what it stands for).

 

[McLovin]

IPL recently reported what appears to be a "beat" figure and the market responded by bidding it up ~20% since the news.

However, this is the analysis from Morgan Stanley...



I am trying to get my head around this "product in stock eliminations".

Anyone have a view on this and care to explain it in simpler terms?

Thanks

I'll take a stab at it, although I don't really understand what the broker is trying to say, because my understanding of eliminations is that they are pretty hard to game.

When you have a consolidated group any transactions between group entities need to be eliminated when preparing the group accounts. If they didn't do this then a company could create revenue and profit by selling from one subsidiary to another.

Looking at the IPL accounts, and they are pretty vague and messy, there is this...



My take on that is that during the period IPF sells DAP fertiliser to SCI which results in eliminations to remove the effect of internal profit and the uplift in the value of inventory in the group. Because of the fall in the price of DAP fertiliser, this year the amount of the elimination is less (IPF is making less margin selling to SCI).

Maybe Ves knows a bit more. Business combinations was the one subject at uni I cam very close to failing. The fail rate for the subject was over 50%.

 

[McLovin]

I'm not an expert by any means.

IPL owns many subsidiaries across a few different geographical territorities. Some of these segments would manufacture fertiliser and sell them in-house to the other busineses held within the group.

The accounting standards (some one can correct me if I am wrong) require a business to report stock transfers between subsidiaries as if they were done at arms-length price.

If you look at the graph in the presentation during the period the price of fertiliser changed a fair bit from beginning to end (just over 20%).

So I'd say they transferred stock to a subsidiary when the price was much higher and realised a profit in the 1H accounts.

When the subsidiary actually sells the stock on market in the next half the price will be lower (based on the end of period market price) and this profit would unwind because the COGs is inflated.

IPL releases their profit figures in their presentation both Ex and Pre internal price movements (they call them IMIs, can't remember what it stands for).

Doesn't the unrealised gain in inventory, and the profit to the subsidiary selling the product to the other subsidiary need to be accounted for during the period of the transfer between the two subsidiaries? My understanding is that there can't be any gain in the consolidated accounts that attributable to intra-group transactions.

As an example: If A and B are a subsidiary of G, and A buys a lounge from an external supplier for $500 then sells it to B for $700 and they have it in their warehouse at balance date, then at consolidation there's a profit of $200 that needs to be eliminated and the value of inventory needs to be adjusted down by $200 to reflect the cost of inventory to G (what A paid for the lounge).

 

[Ves]

Doesn't the unrealised gain in inventory, and the profit to the subsidiary selling the product to the other subsidiary need to be accounted for during the period of the transfer between the two subsidiaries? My understanding is that there can't be any gain in the consolidated accounts that attributable to intra-group transactions.

Now I'm actually confused as to why they need to report the pre-IMI figures at all?

 

[McLovin]

Now I'm actually confused as to why they need to report the pre-IMI figures at all?

The IMI's are the one offs right? I'm confused why the eliminations are so prominent in the accounts. Usually you have to dig pretty deep into the segment reporting to find them. There's clearly something I'm not getting about the accounts. I think you might be on the right track about the market value of DAP affecting the value of inventory, and maybe the unrealised gain or loss which would explain why elimination numbers are useful.

You're the accountant, I was hoping you'd know the answer!

 

[Ves]

The IMI's are the one offs right? I'm confused why the eliminations are so prominent in the accounts. Usually you have to dig pretty deep into the segment reporting to find them. There's clearly something I'm not getting about the accounts.

You're the accountant, I was hoping you'd know the answer!

LOL, sometimes I wish I was a corporate / financial accountant. Then I see stuff like this and get a headache.

Probably best to ignore my first post.

They don't look like they are counted in the Accounts (but are shown on the segment reports).

But they're mentioned all over the presentations. It's like they are saying... well, if we actually sold these bags of fertiliser to an external party when we made them, instead of holding them in another subsidiary whilst the price dropped, then would have made X.

But they didn't, because there aren't any buyers in that season.

It sounds like nonsense to me. There's no cashflow effect, no actual reality. It's just stock shuffling via internal transfers.

Most companies don't even mention it, as you rightly commented. We're either missing something, or they're making their disclosures unnecessarily complicated.

 

[McLovin]

But they're mentioned all over the presentations. It's like they are saying... well, if we actually sold these bags of fertiliser to an external party when we made them, instead of holding them in another subsidiary whilst the price dropped, then would have made X.

This might be on the right track, mate. I definitely think having a market price is why the eliminations have come into play. A really simple example of my thinking would be say IPF has fertiliser inventory with a cost price of $100. It then sells it to SCI for $140 which is the market price of fertiliser. If the price of fertiliser is >=$140 at balance date then the inventory is valued by SCI at cost, in this case resulting in an elimination of $40 to inventory. If the market price of fertiliser falls, like it has this half, to say $110, then the value of the inventory on SCI's books is $110, and the elimination required is only $10. So the lower elimination number boosts EBIT in the current period but there will be an economic cost (obviously) once the fertiliser is sold at the lower market price. And IPF will charge SCI < $100 next time so the system should move back into balance. I guess when prices are rising the opposite happens.

Sorry if that sounds muddled I'm really thinking aloud hoping it makes sense to myself.

 

[Ves]

This might be on the right track, mate. I definitely think having a market price is why the eliminations have come into play. A really simple example of my thinking would be say IPF has fertiliser inventory with a cost price of $100. It then sells it to SCI for $140 which is the market price of fertiliser. If the price of fertiliser is >=$140 at balance date then the inventory is valued by SCI at cost, in this case resulting in an elimination of $40 to inventory. If the market price of fertiliser falls, like it has this half, to say $110, then the value of the inventory on SCI's books is $110, and the elimination required is only $10. So the lower elimination number boosts EBIT in the current period but there will be an economic cost (obviously) once the fertiliser is sold at the lower market price. And IPF will charge SCI < $100 next time so the system should move back into balance. I guess when prices are rising the opposite happens.

Sorry if that sounds muddled I'm really thinking aloud hoping it makes sense to myself.

Yep that does make a lot of sense if you put it that way.

For an investor you really just need to look at it as if the inter-entity stuff doesn't exist.

I will note though, because of the volatile nature of market movements of things like fertiliser, you need to be careful when looking at cash flow. Cash flow would look amazing in years when they made fertiliser at the start of the year and it increased rapidly before they sold it and the reverse is if it went down after they made it cash flow might look pretty poor.

These companies are pretty hard to value because they are linked to a market commodity price.

Food for thought, does this make them a price taker? If so, their only real competitive advantage would come from economies of scale or captive customers (No idea how this could apply) I would imagine.

 

[skc]

I'll take a stab at it

But they're mentioned all over the presentations. It's like they are saying... well, if we actually sold these bags of fertiliser to an external party when we made them, instead of holding them in another subsidiary whilst the price dropped, then would have made X.

But they didn't, because there aren't any buyers in that season.

It sounds like nonsense to me. There's no cashflow effect, no actual reality. It's just stock shuffling via internal transfers.

Thanks guys for giving this a crack. I think I am a little bit less unclear. Still unclear.. but less so.

This might be on the right track, mate. I definitely think having a market price is why the eliminations have come into play. A really simple example of my thinking would be say IPF has fertiliser inventory with a cost price of $100. It then sells it to SCI for $140 which is the market price of fertiliser. If the price of fertiliser is >=$140 at balance date then the inventory is valued by SCI at cost, in this case resulting in an elimination of $40 to inventory. If the market price of fertiliser falls, like it has this half, to say $110, then the value of the inventory on SCI's books is $110, and the elimination required is only $10. So the lower elimination number boosts EBIT in the current period but there will be an economic cost (obviously) once the fertiliser is sold at the lower market price. And IPF will charge SCI < $100 next time so the system should move back into balance. I guess when prices are rising the opposite happens.

Sorry if that sounds muddled I'm really thinking aloud hoping it makes sense to myself.

Sort of make sense. I can understand if elimination was a lower negative number...but still not sure why they presented the elimination as a net positive.

I guess the H2 number will bring home to roost whether this $32m will be reversed or not. We will get to see if these analysts covering IPL were the 50% who passed the business combination exam! Something to keep in mind as it could create a "shock" result if no one actually fully understood it.

Thanks again.

 

[McLovin]

I think I am a little bit less unclear. Still unclear.. but less so.

Welcome to the club.

Let me think about the rest, and get back to you.

 

[McLovin]

Guess what I found?!...

...A transcript of the earnings call.

Corporate costs are pretty flat, down a fraction, again proving that the cost-outs that we've delivered so far are sustainable. The elimination at the Group level is AUD32 million lower compared with the first half last year, and that relates to remaining phosphate product sold by the SCI division to the IPF division. And obviously then it gets eliminated until IPF then on-sells that product into the external market. So we had about 100,000 tonnes of product at March 31 this year which was approximately the same amount of tonnes that we had on hand at the same time last year.

The difference is of course is that this year that stock was valued at a lower amount because of the DAP price. So what will occur is that in the second half you'll get less of a profit release as that stock is on-sold into the external market.

So I want to make sure that there is no confusion about this and for absolute clarity, the elimination of profit in stock relates to stock that will be sold in the second half and it actually has had no impact on the first half result at a Group level because it's eliminated. So what it reflects is the fact that as that stock is going to be sold through into the market in the second half, we will realise a lower profit because of lower DAP prices.

Ha! I was on the money, despite confusing myself in the process. The revaluation affects this period and will be unwound in subsequent periods. Showing the elimination has the benefit of providing a look through to what sort of profit is already sitting in inventory waiting to be realised. For most companies we don't see this because there aren't big intra-group sales.

I'm not sure why JP Morgan are saying they had to dig deeper to find this. It seems like management was pretty upfront.

 

[galumay]

Great discussion guys, once again you all taught me a little more about reading financial reports!

 

[Ves]

Guess what I found?!...

...A transcript of the earnings call.

Hah! Thanks for that, definitely a good point about the earnings visibility from the current inventory values.