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Covid, competitors knock TWE down but not out

Glenn Freeman  |  11 Jul 2020Text size  Decrease  Increase  |  
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The winemaker on Thursday said full-year earnings growth for fiscal 2020 would be down 21 per cent on 2019, to between $530 million and $540 million. This is far below management’s earlier projections for growth of between 15 and 20 per cent, and a January 2020 revision that forecast growth of between 5 and 10 per cent.

It missed even the 8 per cent decline tipped by Adam Fleck, Morningstar director of equity research. He points to a couple of factors behind the poor result including a worse than expected trend of consumers opting for cheaper brands over premium varieties — referred to in the industry as negative mix shift.

“The company has faced greater negative mix shift from reduced sales of higher-priced wines than we anticipated, both from sales in bars and restaurants during coronavirus lockdowns as well as consumers trading down to lower-priced wine at home,” Fleck says.

“This coincides with further competitive pressure in the US, where an oversupply of wine has led to rising low-price private label purchases.”

Treasury Wine Estates (ASX: TWE)

Economic Moat: None | Morningstar Rating: 3-star | Price-to-Fair Value: 0.86

In response, Morningstar’s Fair Value Estimate has been trimmed to $12.30 a share from $12.80, back to the same level as last June. Trading at $10.52 at the market close on Friday, Treasury’s share price is currently slightly below what Fleck believes it’s worth but within a range he considers fairly valued.

“We continue to expect some bounce-back in fiscal 2021 as economies are reopened and a vaccine becomes available, but have delayed the full extent of this rebound given rising new COVID-19 cases and lingering weak economic conditions,” Fleck says.

But there are reasons for optimism, including a rebound in China sales, back to low single-digit growth after falling 50 per cent in February and March versus the same time in 2019. And US retail growth helped offset flagging away-from-home sales, which comprise 12 per cent of Treasury’s volumes and 25 per cent of revenue.

Fleck’s analysis indicates North America’s contribution to overall group profit has dipped from 30 per cent over the last year; Asia is up slightly to 45 per cent from 41 per cent; and Australia and New Zealand comprises around 23 per cent.

This home market held up better than Morningstar had expected in fiscal 2020, with income down 16 per cent versus Morningstar’s projection for a 22 per cent decline.

“But all other segments fared much worse,” Fleck says.

Asia — China makes up more than half of Treasury’s market in the region — saw income fall 14 per cent versus Fleck’s forecast of a flat result.

The Americas dropped 37 per cent, far worse than the projected 10 per cent decline, and Europe dropped 18 per cent versus a forecast 2 per cent dip.

“While we’ve reduced our outlook for fiscal 2021, we continue to expect Treasury to enjoy top-line revenue rebounding to more than $4 billion in fiscal 2024 — $2.9 billion in 2019 — and adjusted operating margins of 28 per cent surpassing management’s aspirational target of 25 per cent,” Fleck says.

His outlook is underpinned by further market share gains over the medium term, a return to positive mix shift and continued cost cutting measures.

“We expect Treasury’s solid balance sheet to comfortably support the business’s path to reach this longer-term state,” Fleck says.

Net-debt-to- equity of 2.2-times is up only slightly from 1.8 a year ago; Treasury has around $450 million of free cash and $920 million of undrawn debt facilities.

“Ongoing positive free cash flow generation means Treasury Wine should have no trouble meeting near-term debt maturities while maintaining its dividend payout between 55 pe cent and 70 per cent of net profit after tax.”

The company is due to post full-year results on 13 August 13. Treasury shares have fallen more than 30 per cent since 1 January amid a wider market downturn from the coronavirus pandemic.

Wolf Blass, Wynns and Beringer are among Treasury’s most recognised brands in Australia, along with its crown jewel Penfolds, which management is considering demerging at the end of calendar 2021.

The company’s biggest offshore brands are Sterling Vineyards and 19 Crimes — as promoted by rapper Snoop Dogg.

 Morningstar's Global Best Ideas list is out now. Morningstar Premium subscribers can view the list here.

 See also Morningstar Guide to International Investing.

is senior editor for Morningstar Australia

Any Morningstar ratings/recommendations contained in this report are based on the full research report available from Morningstar.

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