There would not be an SMSF investor unaware of the growth story in China, and the other big emerging economies of the world, not just in Asia, but in South America and Africa.
China’s demand for Australia’s raw materials to feed its massive industrialisation and urbanisation plans is one of the major investment ‘themes’ of our time – for very good reasons. Most people are well-positioned to tap into this theme: let’s be honest, all you have to do to benefit directly from this economic force is to hold BHP and Rio Tinto.
But what about the other side of the China story – the ‘soft’ commodities demand?
Feeding the people
As China industrialises, its population is not only moving to urban areas – more Chinese now live in cities than in the countryside – it is rising up the income-per-capita scale. And as people move up the income scale, they also ascend the protein scale, eating better-quality, more protein-rich food.
Australia has long held ambitions to become the ‘food bowl’ of Asia, providing high-quality food to the 3.2 billion affluent and middle-class people projected to be living in the Asian region by 2030, mostly in China, India and Indonesia. As Agriculture Minister Joe Ludwig put it in July: “Australia produces enough food to feed a nation three times its size, our food system is safe and stable and there are many new opportunities to export more food to Asia.”
Ludwig was releasing a draft of a food security plan focused on increasing Australia’s exports and capitalising on the growing demand for food worldwide, which is expected to increase by 80% by 2050.
Sounds like a perfect theme for an SMSF – profound economic changes that will take many years to play out.
But there are some major drawbacks, chief among them that investing in soft commodities in Australia is very different to investing in mineral and energy commodities.
In those sectors, the obvious picks are world-class companies like BHP Billiton (BHP), Rio Tinto (RIO), Fortescue (FMG), Newcrest Mining (NCM), Woodside Petroleum (WPL) and Santos (STO). But in the soft commodities, the Australian sharemarket has shown a bad habit of losing its biggest candidates – and with a takeover bid announced this week for the country’s largest grain merchant, Graincorp, that sorry trend is in danger of continuing.
Takeover targets
First it was ABB Grain, the former Australian Barley Board, picked off the sharemarket by Canadian agribusiness giant Viterra in 2009. That was followed into Canadian ownership by AWB, the former Australian Wheat Board, bought by Agrium in 2010.
Now it is the turn of Graincorp (GNC), handed a $2.8 billion takeover bid by US agribusiness heavyweight Archer Daniels Midland (NYSE: ADM).
Unfortunately, that leaves a fairly small group of agribusiness stocks, which, while ticking all of the boxes in many respects in terms of their business focus, leave a lot to be desired from the viewpoint of an SMSF investor.
Your choices
Take Australian Agricultural Company (ACC). In business since 1824, AustAg is Australia’s largest beef producer, managing a herd of more than 680,000 head of cattle, which it runs on 1.1% of Australia’s land mass. AustAg is transforming itself from a cattle grower into a globally focused vertically integrated producer, building a state-of-the-art meat processing facility near Darwin. The company is very well-positioned to take advantage of rising global demand for high-quality beef, particularly from Asia.
But the pertinent fact is that AustAg has not paid a dividend for the past three years, as it restructured its operation and paid down debt (the board is targeting a dividend in the 2013 financial year). That is not an SMSF stock. Shareholders of rural services company Elders (ELD) are in the same boat.
The fertiliser businesses, Incitec Pivot (IPL) and Nufarm (NUF), are often considered agribusiness exposures, but 60% of the former’s business is explosives – fertilisers gets smaller as a proportion of the company every year – while Nufarm has still not lived down the 18 months of hell it gave shareholders in 2008-10 as it made profit downgrade after downgrade, breached market disclosure rules and got sued by its own investors.
But the sector is not a total dead loss for yield-oriented investors – as SMSFs should be.
Chasing yield
The stand out looks to be Hobart-based Ruralco (RHL), which operates through a national chain of businesses that specialise in rural merchandise and services: its CRT (Combined Rural Traders) brand is the largest network of independently owned rural stores throughout Australia. Ruralco is essentially a buying group for its independent trader members: think of it as the rural services equivalent to IGA supermarkets.
I’m using the dividend expectations of RBS Morgans’ Belinda Moore, whom I consider one of the best agribusiness analysts in the country. She is expecting Ruralco to pay 22 cents a share in FY2013 and 24 cents in FY2014. At $3.36, that places Ruralco on a nominal fully franked yield of 6.55% in FY2013, which equates to after-tax yields of 7.93% for an SMSF in accumulation mode and 9.32% in pension phase.
For FY2014, Ruralco is on a prospective nominal yield of 7.14%, or 8.66% for a fund in accumulation phase and 10.16% if the dividend is funding a super pension. That is starting to look more like it!
Admittedly, Ruralco is an indirect exposure, as it sells goods and services to Australian farmers to enable them to do what they do. If you want a high-yielding stock that actually exports soft commodities to Asia in its own right, Warrnambool Cheese & Butter (WCB) generates 50% of sales exporting dairy products to Asia.
Moore expects Warrnambool Cheese & Butter to pay 15.56 cents a share in FY2013 and 17.12 cents in FY2014. At $3.82, that places the stock on a nominal fully franked yield of 4.07% in FY2013, which equates to a yield of 4.94% for an SMSF in accumulation phase and 5.8% in pension phase. The FY2014 numbers are: a nominal yield of 4.48%; SMSF in accumulation mode, 5.43%; and pension-paying super fund, 6.38%.
Does size matter?
The problem is that these are small stocks. Ruralco is capitalised at $185 million; Warrnambool Cheese & Butter is not much bigger at $211 million; while Warrnambool’s rival, Bega Cheese (BGA) – which is also highly leveraged to increasing dairy consumption in Asia – is larger, at $273.4 million.
Because it keeps losing its large stocks, the agribusiness sector falls away quite quickly in size: this means that investors are constantly forced to go further down the risk curve than they perhaps might have liked. Then there is the inescapable fact that as agricultural producers, and service providers to the agriculture business, these stocks are prone to climatic effects and fluctuating commodity prices.
If Graincorp were to stay on the ASX, it would at least offer a $2.8 billion exposure offering a 4.1% nominal yield in FY2013 and 3.52% in FY2014. But it probably won’t: investors will be hoping for a nice bidding war to ensue to generate the bulk of their returns. (That attraction of takeover appeal is certainly present in Warrnambool Cheese & Butter, too.)
The bottom line
SMSF investors who really want to invest in Australia’s farming sector – and get a decent yield while they’re at it – are at this stage probably limited to Ruralco, or Warrnambool Cheese & Butter. These are well-run businesses, offering good investment access to the China story – more direct in the case of WCB – with their only real negative being that they are small in size.
Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.
