Fruit and mushroom grower Costa Group Holdings Ltd (ASX: CGC) has been a star performer on the market but there are reasons to think its share price will struggle over the medium term despite management's bullish update yesterday.
The stock has more than tripled since it debuted on the ASX in mid-2015 when the All Ordinaries (Index:^AXAO) (ASX:XAO) is up by less than 9%, but the stock is quickly backing away from last week's record high of $6.90 and is trading 2.7% lower this morning at $6.60.
This is despite management upping its FY18 net profit guidance to around 20% ahead of last year's figure. This is about double the growth management was initially forecasting but this is unlikely to lead brokers to make any upgrades to their valuation as consensus forecasts are sitting 2% above the company's upgraded guidance already.
Costa Group is a victim of its own success. A profit upgrade doesn't quite have the same impact when the market is expecting it. But that in itself isn't the real problem.
The issue is that too much good news is already priced into the stock and that has prompted UBS to downgrade Costa to "neutral" from "buy" even as it increased its price target to $6.80 from $5.70.
Even other bullish brokers who have held on to their buy recommendations, such as Macquarie, are struggling to justify buying the stock at these levels based on their price target on the stock. Macquarie has a $7.00 per share target on Costa Group.
Perhaps management is too conservative with its upgraded guidance, which could leave room for an upside surprise down the track. The company's African Blue JV has been going very well and is a big contributor to its guidance upgrade. Further upside could come from improving yields, cost cutting and its expansion into China.
Macquarie believes that international revenue will increase to $104 million in the current financial year compared to $12 million last year.
This means Costa Group could increasingly become an attractive way to gain leverage on a weaker Australian dollar.
Still, with the stock trading at close to 30 times on a forecast FY18 price-earnings (P/E) basis, there is little room for error. This may be a good time to think about taking some profit off the table due to the lack of obvious catalysts that could push the stock to break its record high anytime soon.
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