Monday, March 4, 2024

Alliance is optimistic – but I have questions

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Allan Barber sits down with Murray Taggart after the co-op’s ‘horror result’.
Alliance chair Murray Taggart says the company faced substantial labour and logistics challenges in 2022.
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New Zealand’s largest sheep meat processor and its remaining co-operative meat company, Alliance Group, is surprisingly optimistic after reporting a pre-tax loss of $97.9 million for the financial year ended September 30 – a result that, if repeated, could well result in losing the support of its bankers. 

Currently Alliance has no core debt and enjoys a seasonal funding facility that is in place until 2024, as well as a decarbonisation loan from EECA and a lower-interest facility provided by HSBC to cover outstanding receivables.

The reasons for optimism, according to Alliance chair Murray Taggart, are the dramatic differences between the first quarters of this year and last, and the performance improvements enabled by the introduction of the new enterprise resource planning (ERP) system, which had suffered several delays. 

Another positive factor is the (admittedly small) operating cashflow surplus, comparing favourably with the cash outflow of $163.5m in 2012, which Taggart cited as the co-operative’s previous horror result. 

He also looked rather wistfully at the timing effect of the September year end compared to the competitors’ financial year coinciding with the calendar year, enabling them to report the downturn in the last quarter of an otherwise very profitable financial year.

The main contributing factors to the loss were the sudden market collapse in October at the beginning of Alliance’s financial year, when the inventory value dropped by 25% in two weeks; the extra processing capacity to which Alliance was committed; and the resulting surplus of lambs processed during the period leading up to Christmas. 

Taggart maintains this unwelcome trio of setbacks is unlikely ever to be repeated, because the ERP system – which ran over its budget and scheduled completion date, in part because of covid – now provides much greater ability to control all the critical operating variables. Another factor that affected Alliance was its disproportionately sheepmeat-skewed processing configuration in a year when values dropped 29% compared with beef, which fell 19%.

Alliance’s old computer system had dated back to 1983, several technology lifetimes ago, and its replacement by the new system was long overdue, although it is never a simple matter of flicking a switch and achieving all the gains immediately without a hitch. 

The company is also pursuing the ambitious goal of becoming NZ’s most efficient meat processor through its manufacturing excellence programme. Benchmarking now shows a closing gap between Alliance’s most and least efficient plants across the country, although the more relevant benchmark should be a comparison with those of its competitors.

The main factors affecting meat processors’ efficiencies and consistently superior profitability is the amount of debt they carry and hence their ability to improve efficiency. Other important factors are a stable ownership structure, sales and marketing excellence focused on obtaining the maximum value for the total product range and careful control of overheads, essentially the wage bill and fixed costs. 

Health and safety policy, a competitive pay structure and a committed workforce are other essentials, although one would expect all these to be logical outcomes of good board oversight and management.

Above all, freedom from the financial pressures associated with poor performance and wasteful expenditure facilitates good decision making.

My first question about Alliance’s poor performance last year and its capacity to turn it around within 12 months is about the ability to restrict the amount it can afford to pay for livestock while remaining competitive, and at the same time living up to its mantra of appropriately rewarding its shareholder suppliers. 

Secondly, I question its ability to generate enough cash to carry out its plant and systems upgrade programme, essential to improving its cost structure, while reducing its debt and funding costs. This performance improvement must occur against a backdrop of sluggish global demand and inadequate returns from the market.

The 2022 result showed Alliance did not even make a profit at the gross profit level, meaning revenue failed to cover any of the expenses other than direct costs of operations and procurement. This was a $200m negative turnaround on the previous year and indicates the need to increase margin by a minimum of $10 per stock unit just to break even before tax. Any margin increase may have to be shared with suppliers.

Major contributing factors to the annual loss were finance costs ($26.9m), administrative expenses ($70.3m) and sales and marketing expenses ($7.5m), offset by other operating income and equity accounted earnings. These costs are likely to remain fairly constant unless substantial debt and head count reduction can be achieved and the ERP programme can work miracles.

Last year’s $17m loyalty payments to Platinum and Gold suppliers who sent all their stock to Alliance was equivalent to 10 cents per kilo for lambs and 8.5 cents per kilo for cattle, which in the bad old days of the 1990s was about the same as a weekly premium above the schedule price, nice to have but not necessarily enough to guarantee securing the mob of lambs. 

This will probably be the minimum necessary to retain the loyalty of a number of suppliers, although the fear of capacity shortages at the peak of the season will no doubt help as well.

Alliance’s position in relation to its competitors will become clearer after Silver Fern Farms and ANZCO have released their annual results for the calendar year 2023, but this is still several months away. 

These two companies have the advantage of 50% and 100% corporate ownership, respectively, with SFF’s balance sheet being substantially bolstered by Shanghai Maling’s capital injection at the time it acquired its shareholding. It will be interesting to see how much debt SFF is carrying after a tough year’s trading.

There is little doubt 2023 has been a very challenging year for the meat industry, processors and farmers alike, but its capital structure means Alliance faces a greater challenge than its competitors to return to an acceptable level of profit.

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