During June, McPherson’s Ltd (MCP) released a profit downgrade*, reducing guidance by ~$6m to$15.5-16.6m range for underlying profit before tax (UPBT)
*See our note on the profit downgrade for more information on this.
FY15 results were released on 24 August 2015 and are in line with the most recent guidance, at $16.4m UBPT. Underlying EBITDA fell from $29.1m in FY14 to $27.0m for FY15 and statutory profit increased from a $66.6m loss in FY14 to $8.8m profit for FY15.
Source: FIIG Securities, McPherson's
While profit has increased this year after significant writedowns during FY14, the company’s performance and credit metrics are weaker than expected compared to guidance of financial performance when MCP’s bonds were brought to market in March 2015. The above table details FY14 and FY15 as well as expectations/guidance of performance when issued.
As illustrated, key credit metrics have weakened as opposed to strengthening as per original company guidance. While not positive, EBITDA interest cover of 3.2x and net debt to EBITDA of 2.9x are manageable and considered comparatively moderate.
In addition to the $60m in unsecured bonds, the group also has a $63m revolving secured bank working capital facility which increases to $73m seasonally. At YE15 this facility was drawn to about $30m. Drawings under this facility are secured by eligible trade debtor and inventory assets (Inventories +receivables-payables=$55.6m YE15).
McPherson’s declared dividends of $10.6m in FY15 ($11.9m FY14) of which $8.4m was paid out in cash ($8.7m FY14). While these amounts are within the bond covenants limiting distributions to 100% of NPAT, the continued high payout seems excessive for a company which posted a $67m loss FY14 and profit downgrades FY15.
Outlook FY16
While management has not providing guidance for FY16 (this is expected to be released to the market at the Annual General Meeting on 18 November 2015), on the information at hand we are reasonably comfortable that all issues within management’s control that impacted results in the second half have been addressed. Most notably implementing price rises, and ending its contract to supply private label products which became unprofitable.
Having said that, there are clearly headwinds in certain sections of their business, with the ability to pass on price increases continuing to be a key variable as the Australian dollar weakens and the domestic retail economy continues to exhibit sluggish growth and high levels of competition.
Managing Director Paul Maguire said “The depreciating AUD/USD exchange rate caused a significant fall in profitability in FY2015 but appropriate steps have been taken to counter this and we are recovering well. All the issues within our control that affected our performance in FY2015 have been addressed and, coupled with recent selling price increases, will result in improved profitability in FY2016”
Of importance is MCP returning to previous forecasts for FY16 (~EBITDA $30m+) which would provide additional comfort that this downgrade relates to non-recurring items as opposed to a more significant deterioration in areas of the business.
Divisional performance
Source: McPherson's
Health & Beauty sales increased by 32% and the division contributed 45% of group revenue, excluding housewares, compared with 39% in FY14. The pharmacy channel contributed 23% of group revenue, up from 16% in FY14, further reducing the company’s reliance on the grocery channel.
The division’s brands will be consolidated over the coming months, reducing the total number of product lines and providing scope to reduce distribution, marketing and sales expenses.
The Home Appliances division contributed 21% of group revenue, excluding housewares, and sales were 12% higher than the previous year. The appointment of a new chief executive, significant restructuring and confirmed new ranging in two major retailers has “materially improved Home Appliances’ outlook for FY16” according to the company.
The Household Consumables division contributed 29% of group revenue, excluding housewares, and sales increased by 7%. Margins were lower due to delays in agreeing selling price increases with major customers, however these have now been agreed and margins have increased. Additional ranging of Impulse Merchandising products in supermarkets resulted in a 3% increase in sales and further growth is expected in FY16.
Housewares (equity accounted 49% ownership). The company states the division is performing well and its contribution on an annualised basis to MCP’s earnings is expected to increase in FY16.
Conclusion
Whilst the profit downgrade so quickly after issuing the bond was disappointing, the group’s subsequent credit profile is not dire and certainly is manageable. While the pricing of the bonds seems in line with the group’s current credit metrics (EBITDA/Interest 3.2x, Net debt/EBITDA 2.9x) the company has not yet demonstrated a sustainable resilient turnaround which needs to be factored in. Further MCP will continue to face headwinds such as the decline in the AUD and slow growth in the domestic retail economy. Given these risk factors MCP’s bonds would appear to represent value as the credit margin approaches the 600bps over region (at least until a turnaround in the underlying business can be demonstrated).