THE Australian Agricultural Co plans to undertake strategic reviews of its Livingstone Beef processing operations near Darwin, and parts of its ‘branded beef versus cattle’ business strategy, amid an alarming slide in financial performance announced this morning.

The company’s preliminary market update on its full 2017-18 fiscal year results for the year ended March 30, released this morning revealed:

• Statutory pre-tax earnings losses in the range of $30-40 million, compared with the previous financial year’s profit of $133.2 million
• Operating pre-tax profit in the range of $12-$16m, compared with the previous year’s $45m
• Significant losses related to the Livingstone Beef processing business near Darwin in the range of $60-$65 million. The company said these items reflected an impairment charge against the carrying value of Livingstone Beef and an ‘onerous contract provision’ taken in relation to the provision of gas supply to the plant.
• Negative operating cash flow losses in the range of $38-$42m, compared with positive operating cash flow the previous year of $29.3m; and
• A positive asset revaluation reserve adjustment of $32-$36m, relating to the revaluation of AA Co’s property portfolio.

Two strategic reviews planned

Chief executive Hugh Killen told this morning’s financial briefing that the company was undertaking a comprehensive operational review focused on diagnosing the current business model, and identifying the changes that needed to be made to improve shareholder returns, increase profitability and drive cash flow generation across AA Co’s supply chains.

Included in this is a strategic review of the Livingstone Beef operations to “assess all available options and determine the optimal path to deliver shareholder value from the facility.”

“While this review is underway, management will continue to focus on the controllable aspects of the production process, including further improving the operational efficiency of the plant,” Mr Killen said.

Consultant, Deloitte has been engaged to assist with the Livingstone review. AA Co indicated that a thorough update on the review would be provided at its full FY18 results announcement next month.

A second company review will focus on process & efficiency within AA Co’s supply chains, with a primary focus on identifying opportunities to improve processes, realise cost savings and improve profit margin.

Return to ‘cattle sales’, versus ‘branded beef sales’

Mr Killen said the company’s premium (non-Wagyu shortfed) supply chain had underperformed against expectations, due to its “reliance on external service providers in the later stages of the value chain and its level of exposure to commodity beef price fluctuations.”

The first key outcome of the review has been a decision to simplify this supply chain by transitioning to a ‘cattle sale’ model, rather than selling beef, which the company anticipates will increase the profitability and cash flow from the ‘premium’ supply chain.

This significant change will occur after a short transition period, and will be adopted going forward subject to a material change in market conditions, Mr Killen said.

The announcement casts a cloud over the future of AA Co’s long-standing and well-established 1824 brand program, launched back in 2006.

“The impact of this decision on AA Co’s financial profile will be a reduction in the volume of beef sales in the premium supply chain and an increase in the volume of cattle sales,” Mr Killen said.

Based on current market conditions and other assumptions, AA Co management expected the sustainable impact of the decision to be worth more than $5 million each year on profit and operating cash flow.

Wagyu supply chain remains well-performed

While AA Co’s Luxury/Prestige (Wagyu) supply chain continues to deliver strong margin performance, the company believes there is an opportunity to unlock further margin through cost efficiencies, in addition to a greater focus on driving revenue growth through branding and marketing.

Wylarah and Westholme brand launch preparation plans continue to progress in multiple markets, the market was told this morning. AA Co expects to undertake its next formal brand launch before the end of calendar 2018.

Mr Killen said AA Co was currently in the process of scoping its process and efficiency review, and would provide the market with a further update next month during the FY18 results announcement.

Competition heavily impacts earnings performance

This morning’s briefing was told that the company’s performance in the second half of last financial year, ended March 31, had been affected by external challenges including increased competitive dynamics in certain markets, a higher Australian dollar, higher input prices and an elevated cattle price environment for the Livingstone Beef plant, resulting in higher cattle procurement costs.

In a significant departure from previous briefings where individual performance of the Livingstone Beef business was lost within broader company results, AA Co has now chosen to directly report on the asset’s performance. It said Livingstone was expected to contribute an FY18 operating EBITDA loss of $18-22 million for the full year. That compares with an FY17 operating loss of $12.5 million – the first time that figure has been publicly disclosed, in Beef Central’s understanding.

In order to provide greater transparency to the market, AA Co said it intends to include segment disclosure for Livingstone Beef in its FY18 audited results.

“AA Co’s primary operational focus remains on improving the efficiency of the Livingstone plant and dynamically managing throughput volumes,” the market was told.

More broadly across the company, cost of production had increased in FY18, impacted by the one-off attrition cost (announced at the H1 FY18 results), unfavourable seasonal conditions in some areas and higher input costs continuing through the second half of the trading year.

Both AA Co’s Luxury/Prestige and Premium brand segments delivered year-on-year price growth for FY18, and the performance of the Singapore and Taiwan markets continued to deliver pleasing results following last year’s launch of the Wylarah and Westholme Wagyu brands.

However, the company experienced price softness in parts of the beef product portfolio in the second half of last financial year driven by increased competitive dynamics (primarily larger exports out of the US) and strength of the Australian dollar.

The value of live cattle sales undertaken in the half-year to the end of March was less than half the amount undertaken in the same six-month period a year earlier, the market was told.

This decline reflected management’s decision to focus on sustainable financial performance rather than current-period profitability and cash flow generation, the company said.

The FY18 statutory pre-tax profit expectation also reflected a decline in cattle prices relative to the end of FY17, resulting in an expected decrease in AA Co’s livestock inventory market valuation in the range of $70-$80 million.

Net debt at year’s end was $348 million, with a gearing ratio (net debt divided by total equity plus net debt) of 26pc, at the lower end of AA Co’s stated target range of 20-35pc.

• We’ll add more details from this morning’s briefing and analysts’ questions to this story later today.
• AA Co will release its full FY18 results to the market on 23 May. A full market update will be provided at that time.