What's eating Nufarm Limited (ASX: NUF)? The crop protection chemical supplier is among the biggest losers on the S&P/ASX 200 (Index: ^AXJO) (ASX: XJO) this afternoon and there's no company news driving the selloff.
The stock has shed 3.8% to $7.43 in after lunch trading but Nufarm is still trading within striking distance of June's five-year high and is up a whopping 73% over the past 12 months.
Interestingly, agriculture prices have slumped around 10% over the same period, which should spark questions about whether there's a disconnect between the two.
While the price of grains and food related commodities have been under pressure from the firmer US dollar, the fall in soft commodities coincides with a bigger sell off in hard commodity and energy prices.
The outlook for metals and oil is downbeat at best due to slowing economic growth stemming from China and Europe, and I can't help but think that the headwinds constraining the raw ingredients used to power economies also extend to food.
I wrote in March that there was further upside to Nufarm's share price when it was trading comfortably under $7. I think there isn't much upside left in the stock and it's not only due to falling agricultural prices.
Australian meteorologists have been warning of an El Nino for some months now, and if the severe drought comes to pass it will impact on Nufarm's key markets.
Ironically, a bad drought in Australia's "food bowl" will help to lift soft commodity prices but that outcome will be of little help to Nufarm.
The other issue is that the consensus forecasts of 20% earnings per share (EPS) annual growth for Nufarm in 2014-15 stems largely from cost cutting with management targeting at least $100 million in cost savings by 2018.
That's significant given that its earnings before interest, tax, depreciation and amortisation (EBITDA) was $269 million in 2013-14, but I doubt that Nufarm can sustain a 20% EPS growth momentum into 2015-16 (like most analysts are expecting) on cost cutting alone if there is no top-line growth.
The stock is trading on a price-earnings (P/E) multiple of 16x for the current financial year, and while that doesn't look expensive for a stock with solid predictable earnings growth, I think Nufarm might struggle to fall into this category given the cloudy outlook for soft commodities.
Further, other similar stocks on the ASX like Incitec Pivot Ltd (ASX: IPL) and Ruralco Holdings Ltd (ASX: RHL) are trading on P/Es around 13x and it's difficult to get excited about Nufarm unless the stock is trading closer to that level.
