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Cosan Limited's (CZZ) Growth Potential Solid, Runs Risks

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We issued an updated research report on Cosan Limited (CZZ - Free Report) on Jul 17. Though the company has robust growth prospects in the near and long term, we believe that exposure to headwinds might restrict its growth momentum in the quarters ahead.

Below we briefly discuss the company’s tailwinds and headwinds.

One of the striking features of Cosan is its sugarcane crushing capacity. The company reportedly crushed approximately 59.4 million tons of sugarcane in crop year 2016/17 (Apr 2016−Mar 2017). It anticipates crushing sugarcane in the range of 59–63 million in the crop year Apr 2017–Mar 2018. Sugarcane is the main raw material used for producing sugar and ethanol. Cosan is the largest sugar and ethanol producer in Brazil as well as one of the largest in the world.

Investments targeted at expanding existing facilities and development of Greenfield projects have proved beneficial for Cosan over time. Also, improvement of its services remains a priority for the company. Notably, it has been expanding its network of service stations over the past few quarters. As of Mar 31, 2017, the company operated approximately 6,043 Shell branded service stations.

Business diversification has been an added advantage for Cosan. In addition to its core businesses, the company is engaged in the distribution of fuels and natural gas; lubricants, basic oils and specialties; investments and logistics businesses. Also, the company follows various organic and inorganic means for enhancing shareholders’ returns. The Rumo-ALL merger in particular, is expected to be beneficial for the company.

For 2017, Cosan anticipates revenues in the range of R$45–R$48 billion for Cosan S.A. and EBITDA to be within R$4.75–R$5.25 billion.

However, over the last three months, Cosan’s American Depository Receipts have lost 14.59%, underperforming the gain of 0.66% recorded by the Zacks categorized Agriculture/Products industry. We believe that the company’s poor performance in first-quarter 2017 was primarily responsible for the share price decline. In the quarter, the company’s revenues decreased 10.7% year over year and net income fell 83.8%. Gross margin in the quarter was down 410 basis points.    

We believe that Cosan’s huge debt level, with long-term debt of approximately R$20.4 billion at the end of first-quarter 2017, increases its financial obligations. An unchecked rise in debts and costs will also prove detrimental to its profitability. Also, the company is exposed to risks arising from stiff competition, geo-political issues, adverse foreign exchange variation and unfavorable weather conditions. Adversities, especially drought, frost and heavy rainfall, can severely impact sugarcane production and hence, hurt the company’s crushing activities.  

Also, sugar prices are significantly affected by a highly regulated market and speculation risks, while ethanol pricing is impacted by changes in supply and demand for gasoline.

Zacks Rank & Stocks to Consider

With a 1.8 billion market capitalization, Cosan currently carries a Zacks Rank #3 (Hold).

Some better-ranked stocks in the sector include Clearwater Paper Corporation (CLW - Free Report) , KMG Chemicals, Inc. (KMG - Free Report) and Albemarle Corporation (ALB - Free Report) . While Clearwater Paper sports a Zacks Rank #1 (Strong Buy), both KMG Chemicals and Albemarle Corporation carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Clearwater Paper’s earnings expectations for 2017 improved over the past 60 days. Also, the company’s earnings are predicted to grow 5% in the next three to five years.  

KMG Chemicals pulled off an average positive earnings surprise of 12.54% over the last four quarters. Also, earnings estimate for fiscal 2017 and fiscal 2018 improved over the past 60 days.
Albemarle Corporation performed well in the last four quarters, with an average positive earnings surprise of 8.97%. Also, earnings estimate for 2017 and 2018 improved over the past 60 days.  

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