Select Harvests Limited (SHV) Earnings Call Transcript & Summary

Good afternoon. Welcome to the 2022 Half Year Results for Select Harvests. I'm Paul Thompson, MD and CEO of Select Harvests. And joining me today is Brad Crump, our CFO and Company Secretary. Before I start with the presentation, I'd just like to acknowledge the retirement of our Chairman, Michael Iwaniw, which will be effective the 30th of June 2002 (sic) [ 2022 ]. Michael has made an enormous contribution to this business over the last 11 years, and the businesses are much stronger and a very different business at the end of his tenure as Chair. He's provided counsel and leadership and friendship to myself and the remainder of the Board. And as I said, clearly, Select Harvests is in a much better place. I wish him and his family well in his retirement. Today, we'll be providing you with an overview of our performance from a triple bottom line perspective, profit, people and planet, an update on the business performance, on the global almond market, plus the strength in the value and the uniqueness of our assets, plus the underlying competitive advantage we have at Select Harvests. At the end of the presentation, we'll be able to ask questions in the Q&A session. We'll provide instruction on how to do that at the end of the formal presentation. It's worth noting that the appendices does contain some valuable information about the industry. Please note our disclosure statement. Now I'd like to give you an overview of our performance and provide insights into the global market, almond market, including pricing. Following this, Brad will provide you with more detail around the financial performance, and I will cover off our activities in the people and planet environments. There's no doubt the first half has been challenging. At the start of the season, global pricing appeared to have recovered from its 10-year lows. Unfortunately, it rapidly returned to its 10-year lows. COVID-19 continued to impact demand and cause significant operational challenges. Supply chains were disrupted with port congestion, increased cost and container availability, the biggest impact being felt in the U.S., where 80% of the global almond supply is grown. Basically, inventory became trapped in the U.S., forcing prices down. Internally, we had the misfortune of a fire at our processing center between Christmas and New Year. On a more positive note, we have not been affected by the freight congestion and cost as much as the U.S. by targeting direct access markets such as China and Southeast Asia and avoiding transit points like Singapore. We've successfully recovered from our fire, invested in commission capital in our Parboil and sorting and packing lines at Carina West. We remain on schedule to exit Thomastown on time and below budget. Again, we are forecasting yields at higher than industry average at a cost per kilo equal to last year, aided by the improved water price. Today, we are confirming on the basis of a fair value forecast that our crop will be 29,630 metric tons at a price of $6 at a fair value price of $6.64 a kilo. As we sit here today, 96% of the crop has been harvested. Due to climatic conditions, inshell volumes are lower than last year. Harvest costs and processing are forecast to be higher due to the wet harvest environment. Corporate costs have increased. This has been driven by increased insurance costs, some corporate acquisition DD, increased investment in our sustainability programs and reporting and the legacy costs around head office as we move from Thomastown to -- move out of the Thomastown facility. The chart -- this is -- the chart is the almond price in USD. It is the contracted price and, in some cases, includes freight. You can see where we finished last September. The market price for all grades has moved significantly higher as economies came out of lockdown, and there were concerns about the U.S. drought impacts on the U.S. crop. As the market realized that product had been trapped in U.S. inventories and inventories in Europe were high, economies were slower to recover from lockdown. In the Northern Hemisphere winter, the U.S. crop was not as far down, but significantly -- sorry, not as far down as forecast. Pricing reverted to the 10-year lows. This has impacted both the buyer and seller trust in the market. Today, there are positive green shoots in the premium snacking products, which are the top 3 grades that you can see there. But the manufacturing orientated product supply prices remain low. This is as much about supply as demand. The European and the U.S. market demands for these products has returned, but old inventory levels are -- old inventory levels remain high. Adding to the price pressure, U.S. growers are chasing cash as they are spending cash on pollination, fertilizer, fertigation, increased labor and energy costs on the 2022 crop. Ultimately, this price pressure will result in the lifting of prices. As you can see further in the presentation, which Brad will talk about, we have carried some higher-priced inventory into this financial year, especially in the lower grades, which we need to support the continuing supply to our value-added facility. As a minimum, we need to carry 6 to 8 months inventory from the end of the year. The simplest way to look at this is that we have not lost money on the crop. We have simply not been able to benefit from the additional margins from value adding. I will provide you an overview of future pricing later in the presentation. Brad will now take you through the financial results.

[indiscernible] Paul, and good afternoon, everyone. The full year '22 half year result is predominantly based on the fair value assumption relating to the 2022 crop. The lower-than-average financial result reflects the fixed cost nature of the business and the linkage to the market price of almonds. The result assumes no improvement in the current 2022 almond market price and overall lower-than-average inshell yields. A reported $15.8 million EBITDA was 22.5% higher than the first half last year. This led to a reported NPAT of $2 million and an operating cash flow that has been materially impacted by delays in shipments of $15.3 million. Our bank debt to equity remains below 25% at 23.7%. Our debt level for -- our debt level of $126 million is close to the seasonal peak, which occurred in May. And as cash flows increase in the second half as shipments increase, this will reduce. All bank covenants are comfortably met, and current facilities remain adequate for operations moving forward. Given the half year result and the current unfavorable market conditions, no interim dividend has been declared. Now move to Slide 8, which is the operating overview. Select is forecasting, as Paul mentioned, to deliver another record crop of 29,630 metric tons, which again is achieved above industry yields. Other than lower inshell production due to the colder weather conditions late in the season, quality appears to be in line with the 2021 crop. The fair value price assumption is $6.64, taking into account 51% of the crop is either sold or committed for sale. The 2022 crop is now fully hedged for the export program at an AUD-USD rate of 0.72. Overall crop cost per kilo have risen by 1.8% to $5.60 per kilo. Growing cost per kilo, excluding water, rose by 9.8%. This is due to increased wages, chemical costs, tree costs and power. Additionally, the rate of capitalization decreased at a greater rate than the yield improvement from our immature trees and the loss of volume from the wet harvest that we just underwent. This was partially offset by a 35% decrease in water cost per kilogram. Harvest and processing cost per kilo rose due to the extra cost impacted by the delayed harvest, wet conditions and lower inshell yields. 2023 growing costs are expected to rise with material increases in fertilizer and chemical costs. And all trees are now at their full maturity levels. 2023 water costs are forecast to remain at their current low values. Pleasingly, Select's LTIFR rate reduced by 8.5% over the period, reflecting the company's ongoing focus on well-being and safety. I've covered most of the factors that are shown visually on this slide. It's worth noting, however, that the bottom right-hand graph clearly shows the impact of being a highly fixed cost business, highly leveraged to price, especially when there is a near to full orchard maturity profile. There are 2 points I'd like to raise on this income statement slide. Firstly, our revenue was down compared to last year due to the impact of lower pricing and the delays in shipments as a result of ongoing global supply chain issues. Secondly, we have recognized the portion of earnings that relate to the discontinued operations separately. Discontinued operations will be finalized by the 30th of June 2022, with all prior provisions raised more than adequate to cover our related costs. I'll quickly move through this EBIT waterfall slide. So for our first box there that you can see, this is a comparison of last year's half year result to this year's half year result. So firstly, we've got additional volumes, and that's related to the extra tonnes that have been produced this year. The second box reflects the higher almond price compared to the $6 per kilo recognized in the first half of 2021. Note that this number has been impacted by higher freight costs. Select has absorbed some of the freight uplift in previously agreed contracts. All contracts going forward has freight passed on to the customer. The third box relates to the current reported impact of the value-add business. This has been negatively impacted by continued production at Thomastown, which is now ceased, commissioning of new equipment and delivery of a high-cost production solution for existing contracts. Additionally, there has been higher cost prior year raw material committed in a low-cost sales environment. The next box shows the higher growing cost. This is the gross cost that were detailed earlier and relate to cost increases and the increased maturity profile. This has been offset by the lower water costs. The delayed harvest costs are due to 2 factors: firstly, an increased cost relating to labor as the harvest has been longer than expected; and secondly, we've got increased processing costs related to additional drawing requirements that will be required due to the higher moisture levels of the product that has been out there in the wet conditions. This assumed cost increase needs to be firmed up in the next few weeks. Other crop costs relate to increased processing depreciation costs, increased harvest costs due to the orchard maturity profile and increased processing costs due to the lower percentage of inshell produced this year. External processing income has decreased as contracts have not been renewed to allow processing capability to focus on Select's crop. Paul has covered the corporate cost increases, a lot of which is reflective of the change in the structure of the company. On our balance sheet, our balance sheet remains in a strong position. Inventory levels are higher, reflecting the delay in the sales program over the past 12 months. Property, plant and equipment has increased from our investment in additional horticultural equipment due to the increased maturity profile and Piangil requirements. Additionally, we have invested in our value-add capacity and capability and sorting and packing technology. The market value of the company's orchards and water assets are not reflected on the balance sheet. These assets are recorded at the historical purchase price. Market values for both almond orchards and permanent water rights have remained high. Management's internal estimates value the company's owned orchard assets at $520 million and its own water at $135 million. The company's processing center estimated value is over $100 million. We are currently in the process of getting official valuations completed of our owned orchards and processing center, and these will be reported in our full year results in November. As previously indicated, cash flows have been impacted by both lower prices and delays in shipments. A negative movement in working capital relates to the increase in inventories due to delays in these shipments. Cash flows can be managed if this pricing environment continues and costs increase. Select has no major capital commitments going forward other than operational CapEx. Other planned CapEx such as new warehousing can be delayed until such time that pricing returns to average levels or better. Thanks, Paul.

Thank you, Brad. I'd like now to outline our performance related to people, community, the planet and environmental sustainability. Clearly, the most important asset we have is people, and it's critical that they work in a safe physical and psychological environment. In the last 6 months, our performance around health, safety and well-being has improved. The most important strategies have been to, one, identify incidents before they happen; two, ensure all stakeholders are involved in the wellness, health and safety; and finally, individual employee -- finally, the challenge in this period has been managing individual employees as they manage the post-COVID way of working. We recognize in many of our regional communities, we have a significant influence. Every year, a representative group of team members recommend local communities to support -- community charities to support. There's a broad spectrum including schools, sporting clubs and community clubs. We've partnered with SuniTAFE to develop and custom -- and have a customized leadership program as our organization grows. We are committed to the 40:40 Vision where we are pledging that 40% of our executive leadership will be females by 2030. We have commenced to implement an HR information services system. This will enable us to impactfully manage our talent and more efficiently report and manage compliance. There is no doubt our stakeholders are significantly expecting significantly more focus and transparency around environmental sustainability. As an organization, Select Harvests is acknowledged as being one of the most progressive companies in our industry in this area. This year, we confirmed our commitment to 0 carbon by 2050 or earlier. Our focus is -- to do this is from our own footprint, not by buying credits. Many people talk about circularity or the closed loop. The almond industry is very much a circular closed-loop industry. Many people failed to recognize that everything we grow is consumed or commercialized. From a commercial and performance perspective, our metrics are tied to our almond kernel production, not our total biomass. Our almonds provide significant nutritional and economic benefits to the community. As an industry, we are turning our commercial and resource focus to the 75% of the crop that has been largely ignored. I'm proud to say Select Harvests is at the leading edge of this commercialization and unlocking the environmental benefits of the significant biomass asset. As I said, we released our environmental policy in the last 6 months. It touches on every part of our business: water, carbon, land, air and people. Simplistically put, it's about using our resources as efficiently as possible by reducing, reusing, recycling and repurposing. The commitment is there. And in the next 12 months, it's about increasing transparency and having -- and making sure we have the correct measures to assess our performance. I'm not going to talk in detail about this slide. It's just a tangible example of how we try to create a positive, protective environment when the bees are on our facility. And we do this sort of thing in every part of our business. Again, the co-work projects, I'm not going to go into the detail of this slide. It just shows you how big the opportunity we have from this -- our biomass. We've been composting our Lake Powell orchard since 2018, recognizing our stores are generally low in carbon, and most recent evaluation has shown 2 things. The carbon content has improved by 100%, and the water efficiency has improved dramatically, measured by the key measure of water consumption per metric ton of product produced. Now I'd like to provide you some insights into the global almond market. As I suggested, demand appears to be back on track. At a recent global industry event, the INC Congress, nobody could see any reason why we will not be -- we will not see 10% growth this year in consumption. Supply chain congestion, especially out of California, seems to be less of a problem. The industry is currently sitting on 200 million pounds of too much stock. The recent subjective estimate was 2.8 billion pounds. The other industry forecasts have varied between 2.7 billion and 2.9 billion pounds. All these forecasts are highly conditional on the fact that it's been very difficult to forecast this year. The Northern region of the Californian industry has had significant frost. In fact, with just 3 months to go, orchard is still being removed because of lack of water. The water access has been tightened due to the government allocations and just recently, the banning of additional wells. 20% of the Californian almond crop is assessed to be living -- to be in critically low water districts. Last night, 40% of the growing area was declared to be in the exceptional drought region, which is the highest drought region that they measure in the California water monitor. You're seeing a dramatic increase in cash costs, and you're seeing a lack of cash in the industry from the previous crop. If you apply the 2015 yields in the Land IQ acreage, the crop could be as low as 2.6 billion pounds. So there is a long way to go, and the 200 million pound overstock doesn't seem that much. In summary, growers need the pricing to increase because the significant proportion of growers are running at a cash loss. The market needs to convince the -- needs to be convinced that supply balance has been restored, which I've just talked about, and it's not that far off. It is unlikely buyers will let price run as rapidly as they did last September, but it is widely acknowledged the current pricing is not sustainable. Obviously, the recent prices have been extremely challenging, but it just reinforces the fact that you need to manage your cost and volume to get the best cost per kilo position, which we believe we're doing at Select Harvests. If I move to our strategy, it remains unchanged. We want to be a leader in the plant-based food segment. We can do this by optimizing our almond base, growing our brands by adding value, expanding strategically in the almond vertical or related verticals. Our goal is clear, sustainable shareholder value creation, that's financial, social and environmental. These are our priorities, which I won't read through. I'd just like to remind you, we have a unique high-value asset base. The value is not reflected in our balance sheet. Despite the challenging crop and pricing, we continue to have headroom in our debt. We have an amazingly passionate and talented organization.

I'd now like to open the floor for questions. And you can ask those questions by using the chat function on the right-hand side there. The question is -- it's around the supply chain. Are the ports cleared from -- in California at this stage? My last reading was there's over 200 boats sitting outside the Californian ports waiting to get product shipped out. That's down to 55. It's not to say there aren't still some challenges around getting product to port in California because of the lack of labor around trucking, and also there's a general lack of container availability. But definitely, I'm anticipating that next month's position report will be slightly larger than last month's, which is eating into that excess 200 million pounds. If there's any other questions, please use the chat function.

Got a question here just in relation to the cost per kilo number. So that doesn't incorporate any non-sort of direct almond related costs. So that doesn't include corporate costs or any other activities outside of the almond-related or crop-related activity. And the reason why there was a tax refund is because we paid as we -- on a monthly basis last year. And then when we reconcile back to our result, we've got a refund back from our tax paid.

So some of the -- one of the other questions is around Slide 11, which is the EBIT movement, around how many of these headwinds listed there do we -- what's our view on each of those moving forward. Back to Slide 11. So if we go from left to right, yes, we will have additional volume, which you can see in the appendix. So that will move up to around 31,000 metric tons, assuming the crop is not affected by adverse weather. Second, increased almond price, hope like hell it does go up from where we're sitting at the moment. Around the -- yes, we definitely won't have as many issues. We won't have the transition costs and the commissioning issues that we've -- commissioning -- related to commissioning new lines at Carina West. That's all basically up and running as it sits today. Certainly, there are headwinds around fertilizer and energy moving forward into next season. And if you refer to the appendix, there is a cost wheel there that tells you what the various breakup of all of those costs are sitting there. Hopefully, with better weather conditions, the harvest delays won't be there. And then yes, again, hopefully, we have more inshell, which gives lower operating costs. That external processing will disappear as we fill the facility with more of our own volume. And we won't have a repeat of some of the transition costs around head office.

So there's one question. There's a question here re the cost increases flagged for next year. So just to give you an indication, the major ones will be around fertilizer and agchem. So fertilizer at this stage looks like it will more than double in cost for the 2023 crop. And agchem is, at this stage, looking like at least a 50% increase. And then obviously, there are other cost impacts as well around labor. These -- and they're expected to go up around an inflationary rate of circa 5%. But the major cost increases are around those crop inputs of fertilizer and agricultural chemicals.

And we're expecting -- the expectation in our -- going forward is that we'll start coming off for the 2024 crop and further in the 2025 crop in relation to the fertilizer.

So just in terms of -- there's a question here, should we be expecting 0 EBIT for the value-add segment this year? The answer to that is, yes, it won't be any higher than 0. The start of the year is, at the moment, is below 0, and we're working towards the second half paying that back with a view that in 2023, it will start being in positive territory.

The next question is, is there a talk of the U.S. moving trade? There's no -- in talking from the U.S. growers, they're not holding much hope that the tariffs will be removed from the China crop at the moment -- shipped from China at the moment. It's important to note that there is the Indian tariff advantage that we're getting in Australia at the moment, which will commence later in the year. It's 34,000 tonnes of gross weight, and at the moment, Australia is shipping 23,000 tonnes of gross weight into the Indian marketplace. So there is some headroom in that perspective. But at the current pricing levels, China still remains a priority market over India at the current pricing levels.

There's a question here in relation to -- if we'll be taking favorable movements in valuation into the P&L and retain earnings. There's no plans to do that going forward. It's really just to advise the market in terms of what the value of our assets is.

The question is about tree removals in California. Look, there have been tree renewals. There continues to be tree removals in California. Look, it really is dependent on what water district people sit in, the age of their trees, their own personal business balance sheets. But as I said earlier, we are hearing of trees coming out between now and harvest, which is particularly unusual and really if you have a look at that sort of 80% through the growing -- the annual growing year.

Just a question on Piangil's performance. So that's still to be fully assessed, and we'll assess that once we process the crop and understand the yields. But to date, it appears as though everything is going as per our business case assumptions. There's another one here in relation to cost per kilo. Will that grow at double-digit rates versus FY '22 of $5.60? At this stage, it looks -- I'm anticipating it will grow at double-digit rates. So I'm anticipating at least another $0.50 to $0.60 per kilo on top of our costs going into 2023.

Another question about do we leverage -- how do we leverage our scale. Clearly, in a fixed cost business, probably the priority is to make sure that we grow the biggest gross crop possible out there. We keep a focus on both. Clearly, a strong focus on absolute costs but not at the expense of volume. And there's a point where we are prepared to expand volume, but we're not near that at the moment.

There's a query in relation to Slide 11 and what relates to the $5.60 number. So if you look down the bottom there, the higher growing costs do. The low water costs do. The delayed harvest cost do. The other crop cost maturity profile, reduced inshell does. So they are the 4 items that relate to the $5.60. You can't compare -- there's a question here in relation to value-add versus FY '21. That's -- I can't compare -- do a comparison back to that because the FY '21 has a number of factors that -- what we used to call the food business, whereas value-add is a mixture of components that were in that and what's in the almond -- what used to be in the Almond division going forward. So it's difficult to compare other than to say the components of the food business that were -- that we have now sold and the closure of Thomastown were actually -- you can see from the discontinued operations are actually loss-making areas of the business.

There's a question about forecasting EBIT. We just don't -- we don't give guidance on the future profitability.

Second half CapEx guidance will be pretty much -- will be down on last year. And the CapEx in the second half is generally low in the first half as we do acquire a lot of our -- or pay for a lot of horticultural equipment early in the first half.

We'll have to start to draw a close to questions as we've got analyst calls to make now. So if you do have any outstanding questions, please you've got our e-mail addresses and you've got Andrew Angus' e-mail address. If you could e-mail them to them, and we'll give you a response back to those.

Thank you very much.