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Has Costa Group been leading investors up the garden path?

The Costa Group Holdings Ltd (ASX: CGC) share price could get smashed this week after the fruit and vegetable grower went into a trading halt ahead of an update on its trading outlook.

It’s probably fair to speculate Costa is set to deliver a third profit guidance downgrade on the back of weak fruit and vegetable prices. Previously it has warned raspberries, blueberries and mushrooms in particular were seeing weak demand and pricing in Australia. 

Blueberries it suggested were seeing increased supply in NSW, with “downside risk” to its May 2019 guidance for net profit between $57 million to $66 million on EBITDA-SL between $140 million to $153 million.

The market is not going to take kindly to a third guidance downgrade for a management team that is losing credibility given its short track record as a public business. Evidently risks such as price and production levels that are partly out of management control mean forecasting is a challenging business with earnings less certain than the market first believed. 

Another point to note is that is a relatively recent IPO with debt blowing out to $354.8 million as at June 30 2019 versus $290.4 million at June 30, 2018. The debt has grown due to an aggressive overseas acquisition policy that may prove a mistake.

The company is now leveraged up on around 2.59x EBITDA-SL with any more pressure on profits potentially meaning the dividend will come under threat given the debt load. 

As such I wouldn’t suggest buying Costa shares even if the stock is heavily marked down by investors.

In fairness there is also a chance Costa has a profit upgrade up its sleeve, although this seems unlikely given its interim profit report featured plenty of unequivocal warnings about downside risk to guidance. 

Others in the agricultural space include Elders Ltd (ASX: ELD) and Australian Agricultural Company Ltd (ASX: AAC).

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Motley Fool contributor Tom Richardson has no position in any of the stocks mentioned.

You can find Tom on Twitter @tommyr345

The Motley Fool Australia has recommended COSTA GRP FPO and Elders Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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