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Edited Transcript of FCG.NZ earnings conference call or presentation 21-Sep-22 9:00pm GMT

·16 min read

Full Year 2022 Fonterra Co-Operative Group Ltd Earnings Call (Pre-Recorded) AUCKLAND Sep 22, 2022 (Thomson StreetEvents) -- Edited Transcript of Fonterra Co-Operative Group Ltd earnings conference call or presentation Wednesday, September 21, 2022 at 9:00:00pm GMT TEXT version of Transcript ================================================================================ Corporate Participants ================================================================================ * Marc Rivers Fonterra Co-operative Group Limited - CFO * Miles Hurrell Fonterra Co-operative Group Limited - CEO ================================================================================ Presentation -------------------------------------------------------------------------------- Miles Hurrell, Fonterra Co-operative Group Limited - CEO [1] -------------------------------------------------------------------------------- Good morning everyone, and welcome to our 2022 annual results briefing. Miles Hurrell, CEO. I'm joined here by Marc Rivers, our CFO. I'm going to kick things off with an overview of our performance before asking Marc to take us through a bit more of the details around the numbers. But before I get into it, I want to start by acknowledging and thanking our farmer owners and our people right around the world who continue to show up and deliver in what has been another tough year. The hard work and resilience of our people was reflected in the 2022 performance. In particular, I'd like to acknowledge Marc, if you want to see a difficult time and under his leadership, we've rebuilt strengthen our Co-op balance sheet and increased the clarity and focus on achieving our financial goals. This is his last annual results for the Co-op and appropriately, it's a great set of numbers. So let's have a look at the results. I'm pleased to say it's a good news story for our Co-op, our farmer owners and unitholders and also New Zealand as a whole. We've seen improved earnings as well as a high milk price. A final milk price for the '21, '22 season was $9.30 per kilogram of milk solids, which sees around $13.7 billion paid into the New Zealand economy and milk price payments alone. This is much needed for our farmers who have seen a significant rise in their on-farm costs this year. Our reported profit after tax of $583 million is $16 million lower than the prior year due to having the benefit of the gain on sale of noncore assets last year. After removing the impact of these gains, our underlying performance has improved despite an increase -- significant increase in the cost of goods and operating expense has been up with a normalized profit after tax up $3 million to $591 million. And normalized earnings per share is $0.35 and the total dividend for the year is $0.20 per share. The higher milk price and earnings performance reflects strong demand for dairy right across multiple markets and products at a time of constrained milk supply, global supply chain challenges and a significantly higher cost of milk for our business. This operating environment and our decisions around the best way to sell our product increased our working capital requirements through the second half of the financial year. At financial year-end, our net debt was $1 billion higher at $5.3 billion. Our strong balance sheet, however, gave us the flexibility to proactively manage this. Our working capital requirements and our net debt position is forecast to improve during the 2023 financial year as working capital returns to normal levels. Marc will go into a bit of detail on the working capital later on. A final comment I'd like to make is the slide here is to note our improved performance has meant our return on capital has increased from 6.6% to 6.8% despite the decision to hold more inventory. Look at the next slide, the increase in dairy prices, as shown on the graph on the left reflects strong dairy fundamentals as I've just mentioned. The significant increase in prices over the season did place pressure on our margins in foodservice and our consumer channels. In particular, you can see the cost of milk manufacturer between February and April averaged $10.40 per kilogram of milk solids, which impacted sales margins in that fourth quarter. The graph on the right, you can see the narrowing price relativities in the first half of the year between reference and nonreference products. The strong increase in nonreference product prices in the second half has been driven by our protein portfolio, in particular, cheese and caseins. These price relativities are reflected in the strong earnings through our ingredient channel in the second half of the year. And as we've seen these continue in the current financial year, they are a key driver in our recent improvement in our earnings guidance, which I'll talk to you later. Before I hand over to Marc to discuss the business performance in more detail, I'll just cover off a couple of the drivers of the high Farmgate Milk Price that we referred to in the earlier slide. You can see the increase in milk prices driven by the higher product prices. Whole milk powder, which is around 65% of the sales, which within the milk price calculation increased some 21%. This year, we did have a high FX conversion rate of 0.84 compared to 0.677, which has partially offset the increase in product prices. And like most businesses, we've experienced inflationary pressures across the board, which is part of the additional $0.17 you can see in our costs, included this as such items has manufacturing, transport and energy costs. I'll now hand over to Marc to speak to the business performance in a little more detail. Thanks Marc. -------------------------------------------------------------------------------- Marc Rivers, Fonterra Co-operative Group Limited - CFO [2] -------------------------------------------------------------------------------- Thank you, Miles. So yes, the 4% decline in our sales volumes were mainly due to lower New Zealand milk collections over the first 9 months of the financial year. Also shipping disruptions in the final quarter relating to continued scheduling difficulties, compounded by challenging weather conditions through July. Total group gross profit increased $226 million despite the lower sales volumes and gross margin due to significantly higher product prices across our regions ingredients channels, particularly in their protein portfolios. Operating expenses increased $155 million or 7%. And some of the bigger drivers were distribution and storage admin costs, which were collectively up $81 million, mainly due to supply chain disruptions and inflationary pressure. We also were recognizing an impairment of $34 million on our Asia brands, Anmum, Anlene and Chesdale with the carrying valuations impacted by higher global interest rates. Other online, which includes other operating income, net foreign exchange movements and share of equity accounted investees, it decreased $32 million, mainly due to the impact of the economic crisis in Sri Lanka. The significant deterioration of economic conditions in Sri Lanka has seen the rapid devaluation of the Sri Lankan rupee against the U.S. dollar. And that means it takes more Sri Lankan rupees to pay for product purchased in U.S. dollars from New Zealand and resulted in $80 million adverse revaluation of our Sri Lankan business payables owing to New Zealand. Now that was partially offset by some favorable foreign exchange movements and other net receivables. So normalized profit after tax of $591 million, which increased $3 million, which is a pretty good result in the context of a significantly higher milk price and increase in operating expenses. The next slide, while our earnings have been helped by favorable price relativities, our teams out in the markets continue to be focused on creating demand in our channels where we can get the greatest value for our milk such as food service channel and our active living portfolio. And the growth of our active living portfolio this year was driven by increased demand for our milk protein concentrate, casein and caseinate products. The allocation of milk solids to our foodservice channel has continued to grow as innovation enables us to expand the uses of our UHT cream range within our Anchor Food Professionals brand. The percentage of solids our consumer channel received this year was impacted by our choice to limit sales volumes in Sri Lanka, given the economic crisis there. Our business is well diversified across both regions and product channels. And you can see the very favorable impact of the price relativities within the ingredients channel across actually all 3 regions. Also, the quarterly EBIT tables to the right highlight the point that Miles touched on earlier how strong the price relativities were in the second half of the year. Our sales teams have worked with our food service and consumer customers to adjust end market sales prices to reflect increased costs, particularly the significant increase in the cost of milk. However, we've not been able to adjust pricing at the same rate as our cost increases. And so this has been a driver for our foodservice and consumer channel performances being down as well as several regions specific challenges in the consumer channel. I mentioned on the prior slide how we'd allocate greater solids to foodservice. And it's just important to note that despite the higher input costs in our foodservice channel, our New Zealand milk generated a higher EBIT margin in the foodservice channel of 6.3% compared to 6.1% in the ingredients channel. So this slide provides some scale to the size and performance of the regions and their channels. And you can see just how significant AMENA's ingredients channel performance has been this year. It's really benefited the most from the strong protein prices and the team there have worked really hard to grow demand for our protein products in the sports and active, healthy aging and medical nutrition ingredients categories. Foodservice, consumer channel margins in Asia and Greater China were impacted by the increase in dairy prices. Greater China's strong ingredients channel improvement more than offset these. However, the additional challenges in Asia Pacific, namely the shrink in economic crisis and impairments to its Asian brands meant the significant improvements in ingredients channel was not enough to offset those. So within our New Zealand manufacturing operations, milk utilization improved, and that's mainly due to improvements in our cheese processing and better planning and scheduling of byproduct streams such as whey , which is produced during the manufacture of cheese and casein. And this improvement was achieved even though we increased the proportion of complex products being manufactured for our active living portfolio, the more complex products can incur greater processing losses of milk solids, but greater -- but provide greater earnings in the Co-op and represent the greatest overall return for our milk solids. Both our product made right first time and our cost of quality indicators have been trending favorably for a number of years. However, this year, both had unfavorable movements as they were impacted by a couple of specific challenges, including 2 matters and a formulation issue. But we do expect both to return to favorable trends. So we've got a strong balance sheet, and this continues to provide us flexibility. As Miles mentioned earlier, our working capital requirements increased, which has meant our key leverage metrics at year-end have also increased, but they will improve as working capital returns to normal levels throughout the year, and I'll discuss this more on the next slide. Our improved return on capital is due to higher earnings, offsetting the impact of additional working capital on our capital employed. So this slide shows how the increase in our working capital impacted our year-end debt. As you can see, our closing debt was $5.3 billion, which is $1 billion higher than the previous year-end and it's driven by $1.6 billion in working capital, of which a significant proportion is temporary and will reverse in the current financial year. Just taking a closer look at the $1.6 billion increase in our working capital, this reflects $1.2 billion increase in inventory and $0.8 billion in receivables, but partially offset by favorable movements in trade payables. And our decisions on sales planning to return to the best overall value for our milk was always going to result in higher year-end inventory, and this was also impacted by increased late season milk production and shipping constraints. The $1.2 billion increase in the value inventory was made of $400 million from price due to higher milk price and $800 million due to holding inventory volume on hand at year-end. So at year-end, we held an additional 126,000 metric tons of product. However, 88% of this product was contracted with an agreed price prior to year-end. So you can also see we had higher receivables due to increased sales revenue in the month of June and July compared to the prior year. And a significant amount of this has already been received in cash in the first month of this financial year. So next, just looking at capital invested. Total capital invested was $617 million. Of this, capital expenditure was $587 million. And as planned, this is an increase of $42 million on the prior year, and it's in response to increasing regulatory requirements on wastewater treatment, reducing emissions from thermal fuel sources and also maintaining integrity and reliability across our network of processing assets. $53 million of our capital expenditure was for projects to drive future growth. As indicated in our long-term strategy, our overall capital investments will progressively increase as we increase our investment in sustainability and future growth opportunities. And this next slide provides an overview of where we allocate capital by business unit and investment type. And as you can see, the majority is allocated to group operations to ensure our processing sites are fit for purpose. Key projects include wastewater upgrades at our Te Awamutu and Tirau site, biomass boiler installation to replace coal at our Stirling and Waikato sites, investing in way (inaudible) concentrate-related assets to manage process risk and improving technology to improve refrigeration of products at our Whareroa site. As part of our strategy, we're committed to investing around $1 billion in sustainability over the period to 2030. And an important part of this investment over time will be converting coal boilers to sustainable alternative energy sources. And this slide highlights some of the recent work we've done. We're currently underway -- as well as future projects to help reduce our manufacturing greenhouse gas emissions. So the increase in our return on capital to 6.8% reflected the increase in our normalized EBIT. The impact of the improved EBIT was partially offset by the additional working capital, increasing our year-end capital and therefore, our average capital employed. So with that, I'll hand over back to Miles. -------------------------------------------------------------------------------- Miles Hurrell, Fonterra Co-operative Group Limited - CEO [3] -------------------------------------------------------------------------------- Great. Thanks, Marc. Our aspirations and our strategy are underpinned by 3 strategic choices. Firstly, a focus on New Zealand milk be a leader in sustainability and be a leader in dairy innovation and science. So in engagement, we're making good progress on putting and placing the necessary building blocks to achieve our 2030 goals. And the changes we've made to organizational structure will enable us to accelerate our progress towards 2030 and increase our focus on innovation and strategic implementation. I'm pleased that we've been able to appoint from within with 2 of our brightest people leading these new business units. Komal Mistry-Mehta as Chief Innovation and Brand Officer, brings a new level of focus, capability and thinking to the FMT to help grow the premium value of our products, while Emma Parsons is Managing Director of Strategy and Optimization is focusing on demand choices, portfolio and asset management. And another change in next month, Judith Swales will head up the new Global Markets team following the consolidation of our MENA and APAC regions. There are some great examples from the last year that demonstrate our strategy and action, I'll touch on a couple. We're partnering with the government, our sector and commercial partners to tackle the on-farm methane challenge. We're just working through the final details of the agreement, but we're excited about the opportunities for New Zealand to provide world-leading solutions in this space. We've also invested in new technology at our Darfield site to expand our cream cheese range. The new equipment allows us to produce a premium high solids, low moisture cream cheese, which can be used in ingredient and other products. Our strategy focus is on New Zealand milk and we have been reviewing the ownership of our businesses in Australia and Chile. We've looked at a number of options for our Australian business have decided that it's in the Co-op's interest to maintain full ownership. Australia plays an important role in our consumer strategy and a number of common and complementary brands and products. The business is going very well. It will play a key part in helping us meet our 2030 targets. The sale process for Soprole business is well underway. As part of our strategy to 2030, we set the goal of return about $1 billion to shareholders and unitholders, which dependent mainly on the set of Soprole and our stake in the Australian business. Even though we've decided not to sell our stake in our Australian business, we're still committed to targeting significant capital return to our shareholders and unitholders. The amount of any capital return will ultimately be determined by the number of factors, including the successful completion of the Soprole sale process as well as our ongoing debt and earnings levels. We'll continue to provide updates as the sales process progress. Also pleasing to see the progress being made on changes to the (inaudible) legislation following the overwhelming farmer support for our new flexible shareholding structure. Along with the Cooperate Counsel, we're looking forward to participate in the select committee process that will be coming shortly. It's great to see the process move in the right direction, it will keep our farmer owners update on progress. The next slide, talk to -- it's been a great year to be part of a cooperative and the continued strong demand for dairy means that future looks bright also. The midpoint of $9.25 per kilo of milk solids forecast Farmgate Milk Price reflects a constrained supply as growth from key milk-producing regions remains low, continued strong underlying demand. We're operating in a relatively uncharted waters at the moment with a particularly volatile market and a wide range of several risks, including COVID-19, the macroeconomic factors, global inflation, global economic growth and volatility in foreign exchange markets. It's really pleasing to be starting the year with an uplift in the earnings guidance range. The strong milk price outlook has been driven by the demand for our reference product prices. In addition, the demand for our nonreference products in ingredient channel is also very strong, and this is supporting our forecast in each range. These higher dairy input costs will continue to place pressure on our food service and consumer channel gross margins due to the higher input costs. The wider guidance range reflects this point as well as a number of unknowns, specifically around milk price. Thank you very much for joining us today.