Stock price has recovered 17% since its unexpected 3Q11 loss. We believe 4Q11 results, to be announced on 28th February, will be watched closely by the market. The difficulty in forecasting Noble’s short-term earnings with certainty is most evident in light of the loss, which took the entire market by surprise. We expect Noble to return to profitability with 4Q11 net profit of US$106m, but this would still be below profits of US$140-200m recorded in previous quarters.
Recapping the reasons for the third quarter loss. Outside of the macro uncertainty and overall volatile market, there were three one-off events which resulted in the perfect storm:
1) US farmers defaulting on cotton contracts;
2) Mark-to-market losses on carbon credits; and
3) Depreciation of the Brazilian Real.
We believe that if any one of these events had not occurred, Noble would have been in positive territory.
Not this time. Noble was hit by unprecedented price volatility in the cotton markets in the first half of 2011, which made the defaults expensive. Since July, prices have stabilised. Carbon credit prices continued to decline in 4Q11, but management has limited new origination activities and further write-downs, if any are likely to be limited. The Brazilian Real, which had been the worst-performing major currency up to 3Q11, recovered strongly in 4Q11.
Macro factors still weak in 4Q. However, the macro factors which affected 3Q11 continued to linger into 4Q11. Soybean crushing margins in China (where Noble has four crushing plants) sank to new lows and remained in negative territory on soft demand. The sugarcane harvest in Brazilian (where Noble has four sugarcane mills) remained weak due to adverse weather factors. On the positive side, the commodity demand outlook has improved since the turn of the year, which may herald a much more positive 2012 for Noble.
Reiterate BUY ahead of results. With a possible agri business spinoff in the pipeline, a sharp recovery in earnings (which are leveraged to macro factors) and a return in investor confidence, Noble represents an asymmetric bet to a market recovery. The current price represents 1.3x FY12F P/B, a strong floor to the share price, in our view. Maintain BUY with a TP of $1.85 (pegged to 13x FY12), in line with its historical mean.
Recapping 3Q2011 losses
Cotton contract defaults. Noble’s role in this business is as an intermediary between cotton farmers and industrial users such as factories. In this market, US farmers traditionally sell cotton for delivery in about six months to Noble at an agreed price, with the latter locking in price risks by hedging on the futures market. Due to the extreme price volatility this year, US farmers defaulted on their contracts in an unprecedented way. In order to cover their commitments to customers, Noble had to buy on the open market at a higher price, resulting in a significant loss. Other major players such as Louis Dreyfus and Glencore also announced similar losses here, and the industry is likely to change its pricing mechanism.
European carbon credit prices plunging. Noble markets the carbon credits which their industrial partners will receive over the next few years. It typically tries to hedge the risk of these inventories on its balance sheet. With the onset of the European debt crisis, carbon credit prices and liquidity plunged, which meant that the shorter-dated carbon credits which could not be hedged had to be marked down in value. Noble has since limited new origination activities in this area.
Brazilian Real decline. Noble has a significant business in Brazil, via its four sugar mills, where it purchases sugarcane from farmers and produces ethanol and sugar. Up until 3Q11, the Brazilian real was the worst-performing major currency in the world, eroding the value of inventory in the pipeline. However, these are considered hedging losses and will be unwound when products are sold. In any case, the Brazilian real has staged a strong rally in 4Q2011.
Company Background
Noble Group Limited was incorporated in Bermuda in 1994. The Group manages the global supply chain of agricultural, industrial and energy products. Noble operates a diversified portfolio of raw materials from over 80 offices in more than 40 countries, originating product from low cost producing countries and delivering to high growth demand markets - its "pipeline" strategy. An experienced team of 10,000 employees serve more than 4,000 customers.
52 Weeks Range 1.055 - 2.320
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