1. Sector Landscape and Outlook
Cyclical and non-cyclical sector broadly represents agriculture, forestry, fishing, manufacturing of food and beverage, and retailing (including wholesale trade) in Australia. On a combined basis, the sector accounted for ~11.6% of Gross Domestic Product (GDP) in 2019-20, according to The Australian Bureau of Statistics.
The nation earns a reputation for high standards, green and clean agricultural produce that commands a price premium. Australia is the world’s largest exporter of beef, generating more than $11.26 billion in earnings in 2019-20. It also serves as a major exporter of wheat, wine, wool, lamb, fruit, sugar, among others, with the total value of agricultural exports reaching $53.0 billion in 2019-20. With high per capita GDP (of US $55,060) and being the most urbanized societies in the world, retailing in Australia is resilient and provides strong support to the economic development.
Figure 1: Retailing Provides Strong Contribution to the GDP:
Data Source: The Australian Bureau of Statistics, Chart Created by Kalkine Group
According to the Department of Foreign Affairs and Trade, Australia exports about two-thirds of agricultural products. Exports of beef increased by 18.8% in 2019-20 to reach $11.26 billion, representing 2.4% of total exports. As per 2019 data by Meat and Livestock Australia, Queensland is the largest producer of meat and veal with 47% share, followed by New South Wales (22% share) and Victoria (20%). Exports of wheat accounted for 0.8% of total exports reaching $3.85 billion in 2019-20. Australia enjoys a significant premium for the export of high-grade wheat. Demand from Japan and South Korea remains strong. The Indonesia-Australia Comprehensive Economic Partnership has pushed exports of several key agricultural commodities during the year. Tasmania agricultural exports exceeded $1 billion for the first time in 2019-20, after three consecutive periods of growth driven the seafood exports and dairy products.
Figure 2: Beef Dominates the Agricultural Exports in 2019-20:
Data Source: The Department of Foreign Affairs and Trade, Chart Created by Kalkine Group
The pandemic altered the food consumption trend across the globe. Wetter conditions affected the livestock sector, with cattle and sheep producers focussed on restocking. The outbreak of African Swine Fever resulted in a supply deficit for beef across the globe, and strong demand from China pushed the beef prices during the initial period of the pandemic. However, meat production and exports declined subsequently owing to the closure of foodservice chains following the pandemic. Consumption of food increased in some countries during the lockdown, and the shift to home-based cooking helps to protect the retail spending on food. Wheat exports surged owing to a rise in demand from China. Drought season, limited supply, and increased domestic demand drove Australian wheat prices. Store shutdowns and low retail demand lead to reduced spending for wool, and shift to low-cost clothing were preferred, such as faux fur and polyester.
Figure 3: Demand for Cereal Grains Spiked During the Lockdown:
Data Source: The Australian Bureau of Statistics, Chart Created by Kalkine Group
The government’s various support programs, such as early superannuation release, the JobsKeeper program, etc., helped Australians spend more. The disposable income surged 2.1% in December 2020 quarter over last year due to a shift in spending with continued limitation on certain expenditure such as international travel. Household spending rose 4.3% in December 2020 (on a QoQ basis). According to The Australian Bureau of Statistics, the share of spending on food and alcohol consumed at home increased during the pandemic owing to store closures and stay-at-home protocol.
Retail sales in Australia recovered beyond pre-COVID levels driven by strong online penetration and rising millennials and zillennials demographics. In a separate release by The Australian Bureau of Statistics, Australians were increasingly spending on non-perishables such as flour, sugar, canned fruit, canned vegetables, confectionery, among others during the initial period of the pandemic. Clothing, footwear, and accessories retailing recovered in subsequent period. The lifting of restrictions helped cafes, restaurants, and takeaway foodservices to show strong recovery. In the recent release, retail sales surged 9.1% in February 2021 over the previous year, supported by household goods retailing and clothing, footwear, and accessories.
Figure 4: Retail Trade in Australia Showed Strong Recovery:
Data Source: ACT Government, Chart Created by Kalkine Group
According to The Australian Bureau of Statistics, the pace of online sales saw moderation with -2.2% in February 2021 on a sequential basis. But it remains elevated on a year-on-year comparison. Both food and non-food categories showed a declining trend. Restrictions in Victoria and Western Australia may cause supply-chain disruptions. By state, New South Wales registered the highest increase in monthly turnover with +1.2%, followed by Queensland (+1.1%), Tasmania (+0.7%), while South Australia and ACT showed marginal gains.
Index Performance:
The ASX 200 Consumer Staples (GIC) (AXSJ) and the ASX 200 Consumer Discretionary (GIC) (ASDJ) generated five-year returns of ~+48.45% and +65.98%, respectively as compared to ~+35.74% by the ASX 200 Index. Strong growth in household disposable income, favourable agricultural yield, premium prices, export performance, and supportive government policies are key factors that helped post the sector gains.
Figure 5: The ASX 200 Consumer Staples (GIC) (AXSJ) and the ASX 200 Consumer Discretionary (GIC) (ASDJ) outperformed the ASX 200 Index by ~12.71% and ~30.24%, respectively, over the last five years.
Source: Refinitiv (Thomson Reuters) as on the close of 15 April 2021
Key Risks and Challenges:
The household savings ratio, although declined but remains elevated at 12.0% in the December 2020 quarter. A higher ratio represents a lower propensity to spend, and it may derail the consumer cycle sector. Tariff hikes on Australia’s barley and anti-dumping regulation on wine exports by the Chinese government may significantly erode the export earnings of Australia as China is the top export destination for agricultural produce. Bushfire incidents and drought seasonal conditions in Australia are some of the uncontrollable risk factors. The JobsKeeper program expired on March 28, 2021, which may slowdown the labour market recovery. The Treasury government warns up to 150,000 jobs could be lost, and it could see some firms collapse without the support program.
Figure 6. Key Risks in Cyclical and Non-Cyclical Sector:
Sources: Analysis by Kalkine Group
Outlook:
Australian households expressed confidence in the economic recovery with The Westpac-Melbourne Institute Index of Consumer Sentiment surged to an 11-year high. The index stood at 118.8 in April 2021, driven by improvement in job vacancies which had increased by 27% over the pre-COVID levels. A strong housing market and healthy auction clearances rates provided relief. As per the data by Australian Post, online sales is projected to hit US$3.64 trillion globally by 2024. Australia is well-positioned to benefit from the robust online sales given the rapid urbanization and change in demographics. The government’s $1.5 billion investment in six priority sector includes food and beverage for modern manufacturing initiatives. In the 2020-21 budget, the government agreed to provide $2 billion towards concessional drought loans in the next five years, is expected to support agricultural production.
II. Investment theme and stocks under discussion (ABY, NZK, LOV, GUD)
After understanding the sector, let us now look at four companies listed on the ASX. The price potential of the companies under discussion has been analysed based on the ‘EV/Sales’ method.
1. ASX: ABY (Adore Beauty Group Limited)
(Recommendation: Buy, Potential Upside: Low Double Digit, Mcap: A$465.91 Million)
ABY is an e-commerce retailer providing cosmetic, skincare, make-up, hair, and fragrance products. It caters to customers in Australia and New Zealand.
Valuation
Our illustrative valuation model suggests that stock has a potential upside of 28.11% on 15 April 2021. We believe that the stock might trade at a premium compared to its peer average EV/Sales (NTM Trading multiple) as the company’s e-commerce channel saw a significant jump in new customer addition during the pandemic. Its growth strategies to foray into adjacent products, private label brands, and upscaling NZ market to drive revenue growth going forward. For the said purposes, we have taken peers such as Redbubble Ltd. (ASX: RBL), Temple & Webster Group Ltd. (ASX: TPW), Universal Store Holdings Ltd. (ASX: UNI), to name a few.
2. ASX: NZK (New Zealand King Salmon Investments Limited)
(Recommendation: Speculative Buy, Potential Upside: Low Double Digit, Mcap: A$193.19 Million)
NZK operates as a fish farming services that produces, grows, and sells salmons products to worldwide customers.
Valuation
Our illustrative valuation model suggests that stock has a potential upside of 26.04% on 15 April 2021. We believe that the stock might trade at a discount compared to its peer median EV/Sales (NTM Trading multiple) as the company expects to operate at pre-COVID levels only by FY22. Its price realization is expected to show improvement in the late CY21. Salmon price is global dependent and influenced by mortality rates and harvest seasons. For the said purposes, we have taken peers such as Tassal Group Ltd. (ASX: TGR), Huon Aquaculture Group Ltd. (ASX: HUO), Costa Group Holdings Ltd. (ASX: CGC), to name a few.
3. ASX: LOV (Lovisa Holdings Limited)
(Recommendation: Hold, Potential Upside: Low Double Digit, Mcap: A$1.63 Billion)
LOV operates as a fashion retailer providing jewellery and accessories for women with customers in Australasia, some parts of Middle East and Southeast Asia.
Valuation
Our illustrative valuation model suggests that stock has a potential upside of 17.37% on 15 April 2021. We believe that the stock might trade at a slight discount compared to its peer average EV/Sales (NTM Trading multiple) as the ongoing virus outbreak may affect store rollout plans in the international markets. A high household savings ratio in Australia may lag spending in the absence of the JobsKeeper program. For the said purposes, we have taken peers such as Wesfarmers Ltd. (ASX: WES), Premier Investments Ltd. (ASX: PMV), City Chic Collective Ltd. (ASX: CCX), to name a few. The stock delivered an annualized yield of 2.29%.
4. ASX: GUD (GUD Holdings Limited)
(Recommendation: Hold, Potential Upside: Low Double-Digit, Mcap: A$1.24 Billion)
GUD distributes automotive components in Australia, New Zealand, France, and Spain. It had operated through Automotive and Davey segments.
Valuation
Our illustrative valuation model suggests that stock has a potential upside of 18.42% on 15 April 2021. We believe that the stock might trade at a slight discount compared to its peer average EV/Sales (NTM Trading multiple) as the company’s revenue is influenced by disposable income, unemployment rate and wage growth. Delay in vaccine rollout and closure of stores may lead to inventory destocking by resellers which may distort sales growth in FY21. For the said purposes, we have taken peers such as Apollo Tourism & Leisure Ltd. (ASX: ATL), Carbon Revolution Ltd. (ASX: CBR), ARB Corp Ltd. (ASX: ARB), to name a few. The stock delivered an annualized yield of 2.80%.
Note: All the recommendations and the calculations are based on the closing price of 15 April 2021. The financial information has been retrieved from the respective company’s website and Refinitiv (Thomson Reuters).
Investment decision should be made depending on the investors’ appetite on upside potential, risks, holding duration, and any previous holdings. Investors can consider exiting from the stock if the Target Price mentioned as per the Valuation has been achieved and subject to the factors discussed above.
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