- COVID-19 weighs significantly on volumes and margins.
- Cost savings measures will provide some buffer but there is a risk for dividend cut in 2020.
- CCL’s exposure to South East Asia provides additional uncertainties for company’s earnings outlook.
On 26th of May 2020, Coca-Cola Amatil (CCL:ASX) held its AGM and provided a trading update for COVID-19 restrictions. The company guided that the COVID resulted in significant weakness in volumes and revenue in April and the first 3 weeks of May with volumes down in all markets with the On-The-Go channel, higher gross margins, more negatively impacted, although grocery was also impacted by lower store visitation and skew to in-home consumption.
Australian Beverages has a mix of volumes across two main channels, On-The Go and Grocery and Petroleum & Convenience, ~40% and ~60%, respectively. The weakness in On-The-Go is a significant negative for CCL given the higher gross margins of that channel.
Previously announced cost savings of A$140m were amplified with ~A$60m to continue from FY21 onwards. While CCL is leveraged to a recovery in Australia and New Zealand post a COVID-19, the COVID-19 economic risk in Fiji, Indonesia and PNG remains which could stifle upside.
During its AGM, CCL noted the following regarding the 4Q20.
“The fourth quarter trading conditions will be imperative to our FY2020
With FY20 earnings guidance continuing to remain withdrawn:
“We are preparing business plans to capture opportunities in the critical fourth quarter trading period, and we are considering the overall direction we take to pursue the best long-term opportunities in the changing environment.”
There may be some potential for improvement in 4Q20, especially as restrictions on activity continue to unwind after what has been a difficult year. Yet I believe 4Q20 commences as existing fiscal stimulus unwinds which could add risk to the consumer in Australia.
Across the Group, CCL volumes declined 33% in April and 26% in the first 3 weeks of May compare to the same period last year, with 1Q20 volume and revenue growth of low single digits.
Australian Beverages volumes fell 30% in April with margin erosion from volume transition to lower margin channels. Volumes improved modestly in 3 weeks of May, down 20%.
New Zealand volumes fell 35% in April but recovered to 10% decline in 3 weeks of May.
Fiji volumes fell 45% in April, impacted by Cyclone Harold and lower tourism.
Indonesian volumes fell 40% in April and also fell 40% in May during the crucial Ramadan period. PNG reported 26% volume decline in April due to significant COVID-19 related restrictions.
CCL focuses on cost savings initiatives
CCL identified A$140m of cost savings in April, including a breakdown across marketing (A$20m) and overhead (A$120m), and within overhead CCL split this across incentives, leave balances, recruitment freezes and discretionary spend.
During the AGM in May, CCL indicated that incentive cost savings were broadly evenly split between 1H/2H, while the remaining costs were slightly 2H20 weighted as these commenced in 2Q20 but are assumed to continue in 3Q20 and into 4Q20. Pleasingly, CCL has indicated that around half of the A$120m savings in overhead, A$60m, is expected to continue in FY21 and will be ongoing.
This addresses somewhat of an initial impression that these were temporary and CCL was not seeking to address its cost base on a permanent basis due to COVID-19.
The COVID-19 induced economic risk in Fiji, Indonesia & PNG remains heightened.
Despite Australia gradually lift restriction on social gathering, CCL has an exposure to other countries, notably Fiji, Indonesia and Papua New Guinea which are not recovering at the same pace as Australia and New Zealand from COVID-19.
Fiji remains reliant on tourism which is expected to remain subdued.
Indonesia is seeing some movement restrictions eased but CCL’s products are premium priced per unit versus peers, the cost base is already lean, channel mix shift is negative, and any weakness in volumes is likely to have am amplified impact on EBIT.
Papua New Guinea is a very successful market for CCL with multi-year high single digit / double digit volume, revenue and EBIT growth, with revenue per case higher than Indonesia. Yet recent weakness in volumes due to the State of Emergency being declared is a negative and could see a strong profit generator for CCL pause.
While a small share of EBIT, with ~80% of EBIT from Australia and New
Zealand, the path of EBIT in these countries can reverse quickly and while small they can easily detract from Group EBIT.
The broader turnaround of the Australian Beverages division drove the achievement of the shareholder value proposition in 2H19 for the first time since its introduction in 2014. Yet due to COVID-19 and the associated negative impact, this is not expected to occur in 2020. The COVID-19 impact drives significant declines in earnings due to lower volumes resulted from social distancing, reduced tourism and a weaker consumer, with negative mix shift amplifying the negative impact on EBIT significantly, especially in Australian Beverages. CCL has announced significant cost savings (A$140m), capex reductions (A$20m down from A$300m) and the withdrawal of dividend payout ratio guidance to boost its cash position. CCL is exposed to any recovery as the negative impact of COVID-19 moderates, yet this is skewed to Australia and New Zealand, with Fiji, Indonesia and PNG likely to endure COVID-19 headwinds for a longer period. Therefore, despite the recent share price decline (down 32.5% post-FY19 result), reduced earnings estimates with higher uncertainties make this stock a hold.
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