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Australian Rural Commodities Wrap

30 August 2013

Economic Report NAB Post-farmgate Agribusiness Survey - June Quarter 2013Economic Report NAB Post-farmgate Agribusiness Survey - June Quarter 2013

Post-farmgate agribusiness conditions rebounded in the June quarter to be mildly positive but confidence fell marginally.
Rural Commodities Wrap published by National Australia Bank

Business conditions rebounded on a devaluing exchange rate and lower interest rates

In the June quarter, a number of significant weather and economic developments have influenced business conditions and confidence of post-farmgate businesses. First of all, the long-awaited autumn break arrived in late May, with decent rains across most parts of the country replenishing the much needed subsoil moisture critical for the growth phase of the newly planted winter crops. Secondly, the Reserve Bank of Australia cut the cash rate by 25bps to 2.75% somewhat unexpectedly in May, which served as a catalyst that sparked a period of sustained falls in the exchange rate, to be 12% lower over the three months to the end of Q2. Perhaps then not surprisingly, more survey respondents reported good conditions than poor in the quarter. Driving the rebound in the business conditions index had been broad-based increases across the three key components that make up the index: employment, trading and profitability.

Protein exports continued to grow at robust pace in the quarter, with beef exports reaching a monthly record high in May. However, the movements in the agribusiness result are in contrast to that of industry overall, which suggests that conditions during the June quarter have deteriorated. Post-farmgate agribusiness confidence remained in negative territory following a minor deterioration of 2 points to -11, largely reflecting the still-weak expectations on export sales, sales margins and profits.

Stronger conditions but demand still weak

On the positive side, the news of a falling AUD and a rate cut in the quarter against a backdrop of a loosening labour market has provided some impetus to the post-farmgate agribusiness sector. These developments nevertheless suggest a weakening domestic economy needing injections of stimulus from the central bank. As a reflection of that, demand indicators continued to perform poorly in the quarter, with 55% of survey respondents citing sales and orders as a constraint on output while around half of the respondents cited demand as being the most constraining factor likely to impact on profitability over the next twelve months. That said, a higher proportion of respondents reported more forward orders and export sales which culminated in better trading conditions in the June quarter, but this came at the expense of sales margins. A higher share of respondents also reported that they had more employees and better cash flows.

Medium-term expectations are still resilient

Post-farmgate agribusiness’s expectations for business conditions for the next 12 months have been reasonably positive for some time. Similarly, expectations on profitability were also quite solid, with 42% of respondents expecting an improvement in the next twelve months, marginally above the 39% for the broader economy. The lack of demand continues to be the most cited constraint on future profitability. Consistent with the current low-interest environment and softening labour market, respondents view interest rates, wage costs and the availability of suitable labour as relatively minor constraints on future profitability. The overall optimistic outlook has translated into the strongest capex expectations for the next 12 months since June quarter 2011.

Post-farmgate agribusiness conditions exceeded expectations

After a weak March quarter, the post-farmgate agribusiness conditions index has rebounded to be back in positive territory. While this series continues to exhibit volatile quarter-to-quarter movements, it can be observed that the index has been on a gentle upward underlying trajectory since the recent low in June 2011. According to the survey, 25% of the respondents have cited good or very good conditions, compared to just 17% in the March quarter, and a smaller share citing poor or very poor conditions. The strengthening of the index reflects broad-based improvements in profitability, employment and trading conditions. Trading and profitability conditions have risen remarkably by 18 points and 15 points respectively, with the former now in positive territory while profitability conditions are marginally negative still. Employment conditions have leaped by a somewhat impressive 10 points into positive territory. Strong export demand from emerging economies, accompanied by the 25bps cut in interest rate and the significant falls in AUD have undeniably provided some relief to post-farmgate businesses, especially those which are export-reliant.

Post-farmgate employment increased in line with better trading conditions

Post-farmgate agribusiness employment conditions have defied expectations to be effectively positive in the June quarter. The survey results showed that on balance, there are more respondents reporting an increase in hiring in the quarter compared to those which reduced their staff numbers. Against the current backdrop of slower employment and wage growth, there should be less competition for labour faced by post-farmgate businesses, especially if more casual workers are needed to meet seasonal spikes in demand. This is also consistent with this quarter’s result of better trading conditions (more forward orders and export sales) which could have spurred some businesses to increase the hire of temporary workers. In contrast, businesses as a whole continued to experience a gradual decline in employment conditions, as weak domestic activity levels in many sectors are forcing employers to reduce head counts. The three-month employment outlook for both agribusiness and total business remains cautious, with 65% and 68% of employers respectively intending to keep their headcounts unchanged.

Capacity utilisation tracked lower as inventory building slowed

Capacity utilisation of post-farmgate businesses moved marginally lower in the June quarter to 78.9 %, but remains above its five-year average of 78.3%. This suggests that the inventory building phase undertaken by post-farmgate businesses in the last quarter has slowed, as stock levels in the quarter increased. The capacity utilisation within post-farmgate businesses is rising at a time when capacity utilisation of total businesses is faltering gradually as a result of weaker domestic activity. The relatively resilient readings of agribusiness capacity utilisation suggest that this sector is perhaps better shielded from the cyclical factors affecting other parts of the economy at present, with the sustained strength in agricultural exports providing some offsetting support. The increasing trend in capacity utilisation also favours capacity expansion in the medium-term, as indicated by this quarter’s strong result for capex expectations for the next 12 months.

Trading conditions picked up on strong export performance which resulted in better cash flows

Trading conditions within post-farmgate businesses improved markedly in the quarter to be back in positive territory at +5, broadly in line with expectations made a quarter ahead. Domestic sales and export volumes of livestock and dairy were strong in the quarter, but they were largely driven by reduced prices of these products, resulting in poorer margins. Nonetheless, larger trading volumes have boosted cash flows of businesses, with 86% of respondents indicating that cash flows are satisfactory, good or very good, relative to only 71% in the March quarter. The steady slide in the AUD in late May to early July has also provided further impetus to trading conditions through enhanced export sales, while customer confidence was a detractor to overall trading conditions overall in the quarter.

Stocks higher after a period of inventory building

The stock levels index rose marginally in the June quarter to +3 on higher forward orders, export sales and some degree of restocking activity carried out in the previous quarter. According to the survey results, 27% of respondents reported an increase in stock levels during the quarter relative to 22% reporting a reduction. This corresponded to a higher capacity utilisation rate during the March quarter. When asked about future stock levels, respondents expect overall lower levels in the September quarter with destocking carried out by a higher share of businesses.

Export sales improved marginally in the June quarter

During the June quarter, the export sales index rose marginally to the neutral point of 0 after three successive quarters of negative readings. Exports of proteins, dairy, animal feed and horticulture products gained further traction from a significantly weakened AUD, which fell about 12% over the quarter. According to the survey results, an equal percentage of 22% of survey respondents reported either an increase or reduction in export sales. When asked about the quarter ahead, expectations by survey respondents were at their most optimistic since December 2011 at +21, possibly reassured by a more favourable exchange rate outlook.

Forward orders improved in the June quarter

In line with better export performance, forward orders from the customers of agribusinesses picked up in the quarter, albeit falling short of expectations, with the index rising by 2 points to -3 points. A tight seasonal supply during the winter months for some of the major commodities such as wool and livestock, supported by more competitive pricing of these products have prompted some downstream and export customers to lock in orders as production catches up. According to the survey results, a smaller share of 21% of respondents reported lower forward orders compared to last quarter’s 30%. Survey respondents were seemingly more upbeat about the September quarter, with the expectations index at +5 points.

Profitability remained subdued, expectations for September quarter surged

The profitability index rose sharply in the June quarter but continued to be mired in negative territory at -3 points (up from -18), with the lack of demand persisting to be the most constraining factor on post-farmgate businesses’ profitability. Surveyed firms were relatively less concerned about wage costs, government policies and other concerns. Consistent with historically low borrowing rates as well the welcomed moderation in the exchange rate, on average survey respondents no longer viewed these two indicators as significant constraints as they used to be. In the June quarter, 31% of respondents reported poor to very poor profitability while 27% reported good to very good profitability. For the quarter ahead, survey respondents were notably more optimistic, with the expectations index at +9 points.

Sales margins conditions took a battering in the June quarter

Sales margins conditions plummeted in the June quarter to record the lowest index in more than four years, with lower prices of products and higher labour costs significantly outweighing the marginal moderation in purchase costs. According to the survey results, only 12% of respondents reported an increase in sales margins compared to 34% reporting a fall. However, due to the more competitive pricing, trading volumes in the quarter have increased so the overall cash flow picture is looking healthier than what the sales margins index indicates.

Long-term expectations unchanged but capex plans jumped

Medium-term expectations for business conditions within the post-farmgate agribusiness sector were largely unchanged in the June quarter at +13 points, consistent with the index of total businesses. In contrast to the stable outlook for business conditions, the index for expected capital expenditure over the next twelve months maintained its momentum from the previous two quarters to surge to the highest level in two years at +31. A number of factors could have contributed to this: increasing export demand for chilled and frozen meats and dairy etc. has increasingly taken up spare capacity in processing facilities. A softer outlook for interest rates (NAB is forecasting another rate cut by the Reserve Bank in November) also served to buoy the confidence of businesses that they are likely to be able to borrow at lower costs for the purposes of facility upgrades.

Agribusiness confidence in commodities and other supplies

Post-farmgate agribusiness confidence in crops has improved, on balance, over the June quarter. Of all crops, wheat was the strongest performer to have risen by 12.5 points from the neutral point of 0 last quarter, supported by strong domestic prices as a result of a tight inventory of old crops while new winter crops have only been just planted a few months back. The confidence index for sugar tracked sideways in the quarter at overwhelmingly pessimistic levels, possibly reflecting the stubbornly low levels of sugar prices, which have witnessed steady declines from December last year to June 2013. The wine confidence index remained unchanged at the neutral point but has improved from over the last two years as the wine glut slowly alleviates.

Post-farmgate agribusiness confidence in animal proteins was the standout in the June quarter, with sheepmeat recording the largest increase of 11 points to +21, followed closely by beef with an increase of 10 points to +10. Dairy also recorded an improvement to be at the neutral point of 0, while the confidence index for poultry was the only exception to have fallen by 12.5 points to the neutral level.

In the quarter, strong demand for Australian lamb and beef exports by China and the Middle East has undoubtedly helped to lift prices and sentiment, accentuated further by a seasonally tight demand for these products during winter months. Strong global prices for dairy commodities, which surged to a record high in April, would likely to have contributed to the uptick in processors’ confidence level as well. Confidence in poultry has been weighed down by sustained high levels of feed costs which have been propped up by the tight supply of old grain crops at the moment while the supply of new crops has yet to come to fruition.

Confidence in fibres was broadly higher in the quarter, with indices for cotton and wool both entrenched firmly in positive territory. The index for cotton rose by 11 points to +25, likely to be attributable to the resilience in cotton prices from increased export demand from major global buyers and weaker new crop prospects in the US due to persistent drought conditions in the largest growing state of Texas. Meanwhile, the index for confidence in wool is largely unchanged at +15, with support likely to have stemmed from the significant devaluation of the AUD in the quarter, despite recent lacklustre price performance.

Agribusiness confidence in farm input was mixed in the quarter, with the fall in confidence for farm equipment partly offset by a rise in confidence in chemicals. The sustained low prices for fertilisers due to excess global supply has translated into manageable input costs for farm chemicals, propping confidence in farm chemicals above the neutral point since March quarter 2010. Confidence in farm equipment has been fluctuating around the neutral mark for the last year, suggesting that the earlier perceived affordability advantage from a high exchange rate has waned somewhat from a prolonged period of AUD strength.

August 2013

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