When wine gluts emerge - and recent statistics out of the US on the size of last year's grape crush in California suggest this market will produce an excess of what will be consumed - discounting starts to emerge and the margins for companies like Foster's get eroded.
Such behaviour puts enormous strains on Foster's, which relies on strong brands to hold price and therefore margins. The response is clearly to invest money in marketing brands, but that comes at a price. And while consumers demonstrate some degree of loyalty, they are also happy to switch to the new brands that mushroom all too regularly.
In this respect, Foster's cannot regulate supply and has no option but to respond with price.
Adding insult to injury (from an economic perspective), the demand side of the wine equation has changed thanks to the global fall in economic growth. The Americans are buying cheaper, lower-quality wines in response to their economic circumstances. Again, this is outside the control of Foster's.
On the supply side, the situation is mirrored to some extent in the beer business. The big beer brands are seeing their volume being contested by small players with specialist beers - and market share has continued to decline as a consequence. This was evident in yesterday's result.
Faced with the challenge of limited ability to control the price of its products or the exchange rate (which also went against it), the board threw out the last management team and installed a new lot.
The new management announced its intention to employ yet another strategy to improve the company's earnings. This revolves around taking out costs and splitting the beer and wine sales force in order to better service customers (be they bottle shops or restaurants).
In the six months to December, management says it has taken out about $35 million in costs, with another $70 million in the near-term pipeline. Some of this will be achieved by negotiating better contracts with its own suppliers, such as IT, but most will be about getting rid of 500 staff.
This may enhance the company's prospects to some degree, but it wasn't enough to redress the falling profit in the half.
And it certainly doesn't address the structural issues in the wine or beer business.
When I asked the Foster's chief executive, Ian Johnston, yesterday why investors should believe that his management's restructuring initiatives will be any more successful than any of the previous (failed) attempts, his first response was that the management was new and improved, as was the board.
He also said that the company's promise to cut costs had been delivered to date.
That is all true, but again this is a business with structural problems, and it is hard to see how even new and improved management can deliver a return any better than flat.
On the stockmarket, Foster's is not competing with other wine companies - it is up against all companies, and some are showing plenty of growth.
Johnston's final response to this question was that the market needs to take a ''trust me'' attitude. That is something which markets usually don't subscribe to.
What they do take into account is the prospect that Foster's may be a takeover target. But buying troubled companies in the hope that someone will offer a takeover premium is a risky strategy.
Foster's has become a chronic underperformer, supported by a perennial takeover rumour.
Last month the company appointed the very highly regarded John Pollaers to run the beer business. It is a fair bet he is being groomed for the top job, rather than being placed to mark time until a takeover emerges.
The new management team is certainly a positive. Its strategy to improve its relationship with customers is also a good move.
But it is hard to see how this is enough to arrest this company's structural issues. It will buy it some time - maybe a couple of years, at which point the US recession might be only a memory.
This would provide some reprieve. But it is really hard to see how the natural headwinds can be overcome even in the longer term.
While investors are desperate for Foster's to demerge the wine business, Johnston has made it clear that this won't happen until its performance is reversed.
So shareholders might be waiting a while.
Johnston was very careful to be vague about forecasting future profits. Who can blame him? The biggest selling point for Foster's was its strong cash position and its relatively conservatively geared balance sheet. The company clearly has the capacity to spend but there was no suggestion it has an acquisition target.
With this in mind, some analysts have suggested it could have been more generous with its dividend.
But it's understandable that a company with a cloud over future profitability should remain conservative about giving excess cash back to shareholders.
Given its financial performance, Foster's does not have the mandate to spend, but with its strong cash-generating beer business there is room to enhance its dividend yield.
It could invest in reducing the price of its product but this might ultimately further compromise the brand of both its beer and wine products.
The company is behaving like one in turnaround mode, despite the fact that a major revival is not evident.
0 comments:
Post a Comment