Scales Corporation Limited (SCL) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Scales Corporation 2023 Interim Results Announcement. [Operator Instructions] I would now like to hand the conference over to Mr. Andy Borland, Managing Director. Please go ahead.

Good morning. I'd like to welcome to the Scales half year results announcement for the 6 months ended 30th of June 2023. With me is our CFO, Steve Kennelly; and also our Chief Operations Officer, Geoff Smith. Earlier this morning, we lodged our results with the NZX, which included a presentation pack that we'll base our comments on that presentation during this call. Steve and I will run through the slides, and then we'll take questions and agenda is provided on Slide 2. Moving on to Slide 4, an overview of the period and Scales delivered an overall resilient performance for the first 6 months, and excellent performance by Global Proteins and solid earnings from Logistics were partially offset by a commendable Horticultural operational results, which was affected by Cyclone Gabrielle. Underlying NPAT attributable to shareholders was $14.5 million, down 43.5% on last year, and reported NPAT was $14.3 million, down 59.3% on last year. During the 6-month period, we've continued to strengthen our Board with the formal appointment of Mike Petersen as Chair in April and the appointment of Tony Batterton. Steve and I will comment on the results for each of the divisions later in the presentation. Slide 6, moving on to our recovery endeavors following Cyclone Gabrielle and the associated sustainability undertaking. As previously mentioned, we've committed to make $250,000 to the cyclone recovery. Donations to date have been made to the Evergreen Foundation and Rural Support Trust, both of which provide a wide range of support services for Cyclone affected families and communities. In terms of our orchards, a significant amount of work has gone into the cleanup and remediation and we'd like to say a big thank you to our teams for their outstanding efforts. Current estimates are that our 2023 export crop will be down around 18% on last year with total tree losses of around 5% or 50 hectares. However, less than 50% of this area will need to be replaced due to expiring leases. As mentioned previously, we're taking the opportunity to review and mix it with continued focus on Premium varieties in line with our overall strategy. In Slide 7, during the recovery, our primary focus has been our people and the community. This current slide summarizes the few initiatives that have been put in place, including well-being workshops, counseling and medical checks. We've also provided financial assistance to protect the staff and help other growers with their harvest where possible. As I mentioned, a significant amount of work has gone into the remediating our orchards and this has taken post in conjunction with managing the day-to-day harvest and packing operations. Whilst the recovery was bigger than initially envisaged, the net impact of our earnings was consistent with our expectations. As an example of the scale of the recovery effort is estimated around 17,500 truckloads of silt is being removed from the orchards. Where possible every effort has been made to dispose the material in a sustainable manner and minimize the amount of waste going to landfill. We're pleased to note that around 50% of the recovered blocks have already been reseeded and the Horticulture team with a target to complete reseeding by the end of this month. I'll now pass over to Steve to discuss the financial results in the first half of the year.

Thanks, Andy. Slide 10 summarizes our group financial performance. We note that this result has been negatively affected by the impact of Cyclone Gabrielle. And as Andy previously mentioned, underlying NPAT attributable to shareholders for the first half of the year was $14.5 million, down 43.5% on last year. Underlying NPAT was $24.8 million, down 28.3% and underlying EBITDA was $41.5 million, down 25.1%. As you can see in the table, a combination of Cyclone Gabrielle and market conditions have resulted in NZ IFRS impairments and asset write-downs and these have had a pretax earnings impact of $11.2 million. Turning to Slide 11. Our divisional performance is summarized here. Global Proteins earnings provided a strong base for the overall group result with first half earnings slightly up on the prior period to $30.1 million. This was in part due to the division building on the operational improvements we've made last year. Given the effects of the cyclone, Horticulture generated a commendable underlying EBITDA of $11.4 million. And Logistics produced a solid result of $2.7 million, notwithstanding lower volumes, also an effect of the cyclone. Slide 12 summarizes our financial position. Net debt as at 30 June 2023 was $29.8 million, with significant expenditure over the past 12 months, including investment into the Fayman businesses groups and Meateor Australia of $29 million and CapEx of around $15 million. Our forecast net cash position at the end of the year is expected to be around $10 million. The value of our agricultural produce inventory at 30 June 2023 decreased by [ $22.7 million ] compared to 30 June 2022 due to a higher proportion of apple sales compared to the prior period. I'll now hand you back to Andy to give a further update on the divisions.

Thanks Steve. As mentioned, we further -- we saw further growth in Global Proteins, both in terms of underlying earnings and volumes. These results, including our share of a full 6 months of trading from the Fayman businesses. The transition of our Australian business to the Meateor Australia factory has begun with the factory in Melbourne being commissioned this month. Slide 15 summarizes the results of the Horticulture division. As previously mentioned, this has been an extremely difficult 6-month period for the division, for the industry -- and for the industry in general. The division journeys were predominantly impacted by lower volumes with Mr Apple's total own-grown export volumes are forecast to be down 18% on prior year. This is in line with reductions and estimates for the overall New Zealand crop. We continue to focus on our strategy of supplying Premium varieties to the Asia & Middle East markets. We're extremely positive about returns from this strategy with this year's in-market pricing for our branded varieties supporting this approach. We also believe that performance in 2024 will return to more normal levels with expected increases in volumes and increasing percentage of Premium apples as well as lower freight costs, FX rates and improved labor availability. Our automation projects are also expected to deliver operating efficiencies. Moving on to Slide 16, Mr Apple's premium volumes in market. We saw encouraging growth in our Dazzle and Posy volumes with a proportion of these varieties compared to total Premium volumes continuing to increase. In fact, demand for Dazzle has outweighed supply in China. The Asia and Middle East markets continue to comprise a significant proportion of Mr Apple's total sales, and we expect increased demand in the forthcoming mid-autumn festival in China. Our export packout to date was down last year at 70% due to the effects of the cyclone. Turning to Slide 17 and an update on Logistics. The division generated a solid result with underlying EBITDA of $2.7 million for the 6-month period. This was down 25.7% on last year with the decrease being in line with reduced apple and other crop volumes due to the cyclone. However, the business experienced higher airfreight demand due to new customers and changes in product mix being [ brought -- traded ]. Fortunately, the global supply chain has shown signs of improvement with prices easing and delivery times improving, and this improvement is expected to continue. And as a result of the growth in the region, we're exploring options for an improved Auckland facility. We hope to provide further details on this shortly. I'd now like to take a bit more -- talk a bit more about the Global Proteins division. We recently announced transaction with Esro Food Group and the overall strategy of the division. Slide 19 shows -- summarizes the Esro transaction. As announced it is a 50-50 joint venture between Scales and Esro Food Group with Scales providing lending facilities up to EUR 15 million initially funding this through cash reserves. The first site for the JV is in Belgium, where we're converting an existing Esro food-group edible processing facility to a petfood ingredients operation. Since we expect this will be operational in the last quarter of this year, we're also considering a second facility in Europe, although the decision on this yet to be made. As you can see on Slide 20 from the map, the initial site in Belgium is ideally located in the largest retail markets in Europe. Hoeselt is also located close to key customers being European specific customers with whom Esro already had their relationship with and other future -- expected future customers comprising existing customers of the Global Proteins division who have operations in Europe. Slide 21 shows the global reach of the Global Proteins division now has as well as the range of proteins available through these -- throughout these geographies. It's our intention to continue to build on this space and grow -- further grow the division. Slide 22 illustrates how Esro Petfood JV aligns to the overall Global Proteins strategy. This can be summarized into 4 main categories: the provision of global supply and logistics excellence, diversification into additional protein species, the ability to add value through innovation and deepening of their relationships with global customers with a view to position ourself as a preferred global partner of choice. Slide 23 illustrates some of the new initiatives and opportunities available to us within each of our Global Proteins businesses. These initiatives span the value chain in which Global Protein operates from supply through processing [indiscernible] customers. We believe there are many more opportunities available to the division and we look forward to updating you as we progress in strategy. Moving on to the last item of our agenda, the full year outlook for 2023. The directors would like to reconfirm an underlying impact of net profit attributable to shareholders for 2023 is expected to be within the previously advised range of $14 million to $19 million. This guidance takes into account the following: broader economic trends that are likely to affect the international markets for our group businesses. The second half results for the Global Proteins will be affected by initial trading losses for the Australian and European petfood ingredients plant as well as the transition of the Australian operations to the new joint venture and the level of apple crop still to be sold within Horticulture. With opportunities to further expand Global Proteins and the expectation of a more normal performance for Horticulture for 2024, we're excited for the potential of the group. That concludes today's formal presentation, although I'd like to point you to open its one of the presentation pack, which provides us additional financial information and reconciles underlying earnings to reported earnings for the group and each of our divisions. We're now happy to take questions.

[Operator Instructions] Your first question comes from Joshua Dale with Craigs Investment Partners.

Just on Global Proteins EBITDA, it had grown in leaps and bounds from 2019 to 2022, now it's flattened out. If we think about organic growth only, do you think from here, it's probably more in line with industry in terms of growth rather than leaving it like it has been?

I think we've certainly got a couple of initiatives underway already that will kick in for 2024. So I'd sort of say that the growth will stabilize, but we are still working on a couple of initiatives that will be earnings accretive coming out of 2024.

Okay. Are those organic initiatives? Or are they sort of potential M&A type?

They're really just projects we're doing now that we know will start producing more product in a different -- or a different form or a different place for 2024. So yes, they're more organic in nature at this stage.

Got it. And have you actually had official confirmation that the supply for Meateor International is exiting in December?

Yes. Well, we have -- we told that a couple of years ago. It's just -- that's exiting as sort of -- as a final sort of a word. We -- some of the product start doing themselves, but we're also doing other products for them and pass that date.

Yes. That's really what I was keeping it. I think at some point, they might find it difficult to actually exit from the services you provide. And just wondering if you had any sort of further thoughts on that.

Not really that we can't speak to them, but our relationship is fine with them. And we -- as I said, we're doing other -- the main products that we do with them, we'll be starting doing our own account. And then there's some other peripheral products that we will continue to sell forth -- through or will be getting to the [indiscernible] product and we'll be selling them.

Okay. Just switching to Horticulture. The margin you earn from selling for third parties comes through in the second half, if I understand correctly, that crop will obviously be impacted this year. Do you know how material that will be to your second half horticulture earnings?

No, the margin from outside growers also comes through in the first half, but it's only what's actually sold in the second half that we get the margin on the outside growers. So most of that is already built into the result.

Got it. Okay. Just last question. You said on the net cash balance for quite some time, but now it feels like you're closer to neutral. Do you feel like that's sort of on the capital allocation front for the time being? Or would you go into [ debt ] for some other acquisitions or expansion opportunities as they come up?

No. Of course, we're going to be continue growing. We're going to be very conscious of managing our [ debt and services ]. And some of the reasons we're borrowing is because of hedging the currency in the international wherever the country we're investing in. And we're still -- I guess, have cash in our balance sheet because we've got Mr Apple working capital coming back. We've still got on an asset listed, we're going to sell our Whakatu cools store in -- probably next year when the market is more stable. So we will still be in a strong cash -- net cash position for the whole year.

I think we're pointing in the presentation to a forecast net cash position at the end of this year of around $10 million. And that really is the 31 December is the time to look at that as opposed to 30 June. So net cash position of $10 million is still pretty strong and it's pretty [indiscernible] for other acquisitions.

Your next question comes from Christian Bell with Jarden.

Yes. Well done on the solid results for the year. I'll just -- I'll start with Horticulture if I could. So just please confirm that your future cost volumes still only expected to be impacted by the 5% of trade losses as you had indicated in your April update. I just wanted to clarify because in your commentary it seems like the reseeding [indiscernible].

Yes. Look, I think we did say we've got that crop volume and variety mix under review. So that continues to be the case. Will obviously -- will come out later in the year on some more definitive numbers, but a pullback out of Europe and reduction in crop-side Braeburn are ongoing. So calling the Braeburn out, which we had done and done some grafting, et cetera, is net positive to profitability in the future because the variety struggles to be profitable today. So we've sort of got some -- that's the whole review process. We want to put more Dazzle and Posy or we are going incredibly well. We're investigating a new variety at the moment as well. And so we're just continuing that movement to Premium brand varieties that we own [indiscernible] and targeting Asia and the Middle East. So Christian, I think we'll try and get more definitive for you on those crop areas in the variety mix later in the year.

Christian, reseeding refers to grafts on the orchids as opposed to replanting the trees.

So I mean just to clarify. Can we -- it's relative to your sort of previous guided volumes, can we expect more than 5% lower volumes in the next 2 or 3 years? Or should it be still under 5%.

No, it's probably going to be a bit more than that because we've been revisiting the whole thing and pushing more to the high-value branded varieties are going to Asia. And with grafting, we can get it -- if we grafted a tree today, it will be giving a relatively strong yield in 3 years. So it's a couple of years sooner than replanting a brand new tree. And so we've sort of taken -- we're taking advantage of the -- some of the damage that's been created to replace some of the -- with the redevelopment program for this year is targeted to develop those damaged areas. But also, we've taken out some more of the low return in traditional varieties such as Braeburn. And some of that land might sit vacant for a year or so or some of it, we have regrafted. And we're just in the process of analyzing that. So we'll come back to you when we've got some more definitive numbers.

Just sort of ballpark give us some sort of starting point. Could that be -- is there sort of more like in -- next 2 or 3 years, just to give us some sort of...

Yes, yes, more in that area.

Okay. And then obviously, the second one part of the Horticulture, significantly higher input prices this year. Is it reasonable to carry forward noting you mentioned demand is outweighing supply in China simple varieties and the overall New Zealand crops [indiscernible].

Look, I think we -- the prices were good, and we were pleased with the prices. We do expect them to hold at those levels. The real win back for [ '24 ] for Mr Apple in New Zealand, their New Zealand apple industry is reduction in the freight rates, normal but we've still got to absorb extra labor costs, but the availability there. So that's been a plus as well. Yes, and it's sort of obviously an improving currency position. So we're expecting [ '24 ] to return to a more normal level of profitability and at those sort of prices that we've had this year following on to next year should enable that.

Okay, perfect. And then if I could just move to the Global Proteins. Firstly, overall volumes are up, but pit fruit volumes are down. Can you just explain what that reflects, is it lack supply for raw materials specific to pit fruit as a product optimization between pit fruit and [indiscernible] -- or is it a slowdown in demand?

It's a repositioning in pit fruit. The main area is apples where the reduction has come through where a high, the [ MD ], the mechanically deboned meat particularly in America and the beef sector is performing strongly. So it's probably just a -- our customers are, if you like, taking stock post COVID, there's no doubt about that. And it's really -- we would see these markets sort of returning to a more normal position. They do slow in the hot summer. The consumption is down to the dogs anyway and cats because of the heat, but it's also most -- a lot of people on holiday. So we're seeing a volume reduction that we used to see at this time of year pre-COVID.

There's obviously the transition in Australia to take into account as well on volumes.

Okay. So you're not worried about a slowdown in the pit fruit demand but [indiscernible].

No. No, we're sort of seeing it just sort of getting back into a normal supply demand flow.

Are you able to sort of [indiscernible] contribution was in the first half of the year.

Look, it's to our expectations. Can we say that?

Okay. So, I guess, the follow-on would be policy margins helped by the dollars per kilo was down quite [ troublesomely ]. So what does that reflect?

Well, the interval business is a lower-margin sector for us. We can use that and we're still pleased with the way that's performing. It's just -- it's a low margin gain.

So given that margins were actually flat half-on-half was that eatables usually -- was protein -- sorry, was petfood margin slightly higher, and that was diluted by eatables.

Yes. That's a fair assumption. Yes. Pricing has offset some of the volume reduction.

Sorry, just a final question. Are you able to provide -- so your guidance was $14 million to $19 million NPAT to shareholders. Are you able to cover the sort of EBITDA range?

We haven't got that at this stage, Christian. No.

Are you able to sort of indicate what the trading cost assumption would be for Australia and Europe [indiscernible].

It's pretty minimal. They are reasonably small start-up losses.

Okay. So there's a few million bucks of EBITDA?

It wouldn't be there. No.

Your next question comes from Margaret Bei with Forsyth Barr.

I just wanted to clarify and probably just following on questions around tree losses. So can I just clarify that your current expectation is about 50%, which is what you've said previously. Is this expected to be the total impact? Or are you actually waiting for more to come after buddying?

Well, we're not really sure. I mean the -- we don't we're going to get to that into risk, but we really won't know that for yet -- as there's no starting. There might be still impact of the trees production because of how wet that the season was. We don't know about that yet either. But in the main, we're not expecting any more losses than we've said, but we'll have to be keeping a watching brief on as the spring budding takes place. And that's over the next couple of months.

Okay. Brilliant. In terms of the 165 hectares that have been remediated that you spoke to in this result, can you give us a sense of what proportion of this is relative to the total land that needs to be remediated. In other words, how much more needs to be remediated.

No, that's the total number. We've done a lot of work on that area. Some blocks with older trees were just -- we would leave -- we haven't touched them and they will be part of the future redevelopment program, if you like. So they don't have a crop next year, but we haven't really targeted them for the full cleanup, but that's a small area. But in the main, we pulled massive amount of silt out. We've reseeded the grafts and the roads between the trees, and we're expecting the vast majority of that area to be producing apples next year.

Okay. Brilliant. In terms of the historical planting that you've done into more premium varieties and, I guess, that production now coming hopefully online from about next year onwards. Do you think that will actually offset some of the 10% decline in harvest over the next 2 or 3 years? Or is that 10% decline kind of a net number?

Well, I hope that it will offset because we did have that -- those plantings coming to maturity, as I sort of said before, but then the opposite of that is they may have more plantings the Braeburn that was grafted or pulled out. It will take 2 or 3 years to catch up as well. So it's sort of a -- you've probably got to see there's an ongoing program, Margaret. And as I said earlier, we'll have to come out with some more abundant guidance on the future crop profile when we've got that detailed down.

Okay. I guess, moving on to sort of a broader picture view. You mentioned in your outlook comments about macroeconomic pressures in key markets. Can you kind of give us a bit of context on which markets you think would be most affected and by what?

Well, I guess, we're just signaling that the world is in a pretty tricky spot at the moment. If you think of what China is doing, for example, our assumption is that China carries the way last year -- this time last year, it went into further big lockdowns and really the market was very, very difficult. We're not expecting that. We're expecting the market to be staying where it is not going particularly down or not going particularly up. So it's more and more of a macroeconomic outlook, is pretty fragile in some of these markets. I would reiterate that we've -- I've been saying that we're way more advanced in our sales -- our sales of the apple crop are back to a more normal profile. Last year, they were very slow at this stage. So we're in a better position in that regard.

Okay. Brilliant. In terms of -- sorry, this is my final question. In terms of the geographical mix of what you sell in Horticulture, can you sort of give us a rough indication of how much China is as a percentage of total?

Probably, I guess, and I think it had pulled back a bit from last year, but it still is in the 20s.

Your next question comes from [ Graeme Edwards ] with [indiscernible].

I understand that Horticulture had a severe hammering and the economic impacts as well, but you seem to be indicating it's going to recover. Can you explain the $8.5 million goodwill impairment?

Yes, it's a -- I suppose, an NZ IFRS accounting standard adjustment for us, we required in every reporting period to test for impairment, if there's signs of impairment. And obviously, the cyclone was a sign of impairment, increasing interest rates also puts pressure on valuations. So the work we did testing the carrying value of our assets against the recoverable value and accounting standard terminology meant that there was a write-down required and that was to the goodwill that we were carrying in the balance sheet in relation to Mr Apple.

There are no further questions at this time. I'll now hand back to Mr. Borland for closing remarks.

Okay. Well, thanks very much for taking part in the call. We're very proud of the performance of the team in a very difficult environment. So yes, we look forward to return to normality to 2024. We'll be around today if anyone wants any other discussions with us, and we'll provide a further update later in the year meanwhile.

That does conclude our conference for today. Thank you for participating. You may now disconnect.