Fonterra is heading into 2023 in good shape but its discipline around capital investment and dividend policy will be key going forward, Jarden’s head of research, Arie Dekker, says.
Earlier this month Fonterra announced it had agreed to sell its Chilean business to Peru’s Gloria Foods for about $1.06 billion.
With Fonterra likely to retire $300-400 million of debt associated with the sale, Dekker said he believes a capital return in the order of $600-700m is likely later in the 2023 calendar year.
Adding to that, last week the legislation enabling Fonterra to implement its capital structure changes was approved and Fonterra will implement it in March 2023. Both are positive catalysts.
However, Decker said the Fonterra investment case will be “influenced by a broader set of dynamics”.
Fonterra is about to see base capital investment levels increase as it commences its decarbonisation and other sustainability-driven investment initiatives.
Dekker said only some of this would translate into earnings growth and Fonterra is going to need to make a considerable effort to provide comfort on the return on capital it is generating, particularly as the overall investment envelope would also include growth investment initiatives focused on improving its value-add returns.
He said it’s inevitable that Fonterra’s dividend level is influenced by the underlying volatility in its earnings – something Fonterra has been a beneficiary of more recently but which has negatively influenced the dividend in the past.
Dekker said it would be of value for farmers for Fonterra to consider how the dividend policy might be refined, with potential benefits in considering measures that provide more comfort on consistency in dividends.
Fonterra could consider a payout on a rolling three-year basis of earnings, rather than on annual earnings, or it could look at a minimum dividend level commitment with a variable dividend component tied to the earnings cycle. Widening the range is also an option.
Regarding the core business, Dekker said it would be interesting after the Chile divestment to see whether Fonterra takes another look at other divestment and capital return opportunities across the group – including a relook at Australia in time and whether there are other potential smaller offshore business interests it could exit.
Jarden currently has an overweight rating on the Fonterra Shareholders Fund and a 12-month target price of $3.81. The units last traded at $3.07.
