Australia | Oct 18 2021
As people once again enjoy wining and dining Treasury Wine expects earnings growth will ramp up across its operating regions
-New operating structure should better reflect the brands
-Logistical challenges unlikely to be rectified soon
-Treasury Wine Americas has experienced above-market growth
By Eva Brocklehurst
The road ahead for Treasury Wine Estates ((TWE)) has improved, although not without obstacles. The pandemic has affected the recovery in consumption of wine on premises across Australia and the US as well as disrupted luxury sales in Asia.
Treasury Wine has reiterated medium-term growth targets, expecting a sustainable top line and high single-digit earnings growth, yet provided no formal FY22 guidance. Premises have started to re-open globally and serve wine but depletions growth has been slower, because of the greater concerns regarding the Delta variant of coronavirus.
Sydney and Melbourne closed on-premises consumption for long periods, delaying execution of the company's strategy outside of large retailers. Management believes, as restrictions ease across the premium/luxury channels, earnings growth can be delivered. A resurgence of international travel should also support the return of duty-free sales.
While the company provided no quantitative guidance, Jarden cuts earnings forecasts by -4% to reflect commentary regarding a slower pace to re-opening, while acknowledging this is more about timing than execution. The broker's channel checks suggest customer engagement is favourable and re-opening will drive margin accretion. Furthermore, supply/demand is the best it has been in recent years.
Morgans notes the company's new operating model, emphasising brand not region, is already showing value and should achieve "demerger type" benefits without the additional costs, as well as allow the market to properly value Penfolds.
Macquarie points out September 2020 was an unusual month for volumes, because of the impact of Chinese restrictions, emphasising the commentary on Asian volumes, with a depletion rate of -19%, included to the end of August, not September.
While encouraged by comparable depletions in August 2021, the broker notes the prior August was a soft period. Depletion growth, as reported by Treasury Wine, is a measure of underlying demand, and Asian inventory was described as "healthy".
Credit Suisse assumes this means the company is on the way to increasing demand for Penfolds beyond China and establishing a wider Asian base. Morgans agrees the depletion rate is a strong outcome as many parts of Asia were severely affected by the pandemic.
The company has cited widespread logistics challenges, and Macquarie does not believe the issue will be resolved in the short term, although notes logistics costs are less than 10% of the total costs for the group.
Credit Suisse re-assesses the Asian earnings base and notes the logistics challenges relating to international freight, with management indicating this would become more pronounced.
In the second half, the company reinvigorated its Asian business and this required shipments and revenue to fill the distribution chain. In re-considering the impact of logistics, Credit Suisse reduces earnings estimates for FY22 from Asia, also noting the company has guided for an expected -$5m loss from business in China.
Supply chain optimisation is well advanced and Morgans expects cost savings of at least $75m should be delivered from FY23 onwards. Costs per case are expected to remain elevated in FY22, the broker cautions, albeit no worse than FY21. The company expects to sustain an earnings (EBITS) margin of 25% and recover ROCE (return on capital employed) to pre-pandemic levels in 2025.
Macquarie remains cautious for the short term, because of higher costs and a bumper crop that may limit the ability to improve short-term pricing and margins in non-Penfolds brands. There is also the continuing uncertainty around the sustainability of re-allocated volumes from China.
Macquarie was surprised at how well Australian wine prices held up, as volumes increased and there was the loss of the Chinese export market. The recovery in the US was slower than the broker expected. Further asset sales in the commercial portfolio are taken into consideration, in line with company guidance. The company intends to divest its remaining non-priority brands in the US.