New Zealand Professional Investment Services Firm, Forsyth Barr

Forsyth Barr

New Zealand Professional Investment Services Firm

We are proud to be a New Zealand owned firm, with 21 offices throughout the country and over 300 employees. We assist personal, institutional and corporate clients providing a full range of investment services.

Forsyth Barr is a foundation New Zealand Exchange firm (NZX) and accredited market participant. We have been confirmed by the Financial Markets Authority as a Qualifying Financial Entity (QFE).

Research is the cornerstone of our advice. We have one of New Zealand's leading teams of analysts. Our global affiliations ensure comprehensive research coverage of all major investment markets.

Equity Bottom-Up

<h2>Scales</h2>
FY19 Preview&nbsp;— Checking the Scales
Guy Hooper guy.hooper@forsythbarr.co.nz +64 4 495 5255
NEUTRAL&nbsp;
Scales (SCL) reports its&nbsp;FY19 result on Wednesday, 26 February 2020 — we expect robust earnings from the key Horticulture business,&nbsp;weighed down by challenges in Food Ingredients. Our key focus at the result will be 1) apple harvest guidance for the coming season, 2) an update on, and progression of, the evolving pet food strategy, and 3) additional clarity around possible transformational acquisitions.&nbsp;SCL's&nbsp;FY19E guidance is for underlying&nbsp;NPAT&nbsp;of NZ$32m to NZ$37m (FB NZ$34m).&nbsp;
<table class="table table-striped"><colgroup><col span="12"></colgroup>
<tbody>
<tr>
<td style="width: 48pt;">NZX Code</td>
<td style="width: 48pt;">SCL</td>
<td style="width: 48pt;">Financials:Dec/</td>
<td style="width: 48pt;">18A</td>
<td style="width: 48pt;">19E</td>
<td style="width: 48pt;">20E</td>
<td style="width: 48pt;">21E</td>
<td style="width: 48pt;">Valuation (x)</td>
<td style="width: 48pt;">18A</td>
<td style="width: 48pt;">19E</td>
<td style="width: 48pt;">20E</td>
<td style="width: 48pt;">21E</td>
</tr>
<tr>
<td style="width: 48pt;">Share price</td>
<td style="width: 48pt;">NZ$4.37</td>
<td style="width: 48pt;">NPAT* (NZ$m)</td>
<td style="text-align: left; width: 48pt;">28.6&nbsp;</td>
<td style="text-align: left; width: 48pt;">34.1</td>
<td style="text-align: left; width: 48pt;">35.1</td>
<td style="text-align: left; width: 48pt;">37.8&nbsp;</td>
<td style="width: 48pt;">EV/EBITDA</td>
<td style="text-align: left; width: 48pt;">12.9&nbsp;</td>
<td style="text-align: left; width: 48pt;">11.8</td>
<td style="text-align: left; width: 48pt;">10.0&nbsp;</td>
<td style="text-align: left; width: 48pt;">9.6&nbsp;</td>
</tr>
<tr>
<td style="width: 48pt;">Target Price</td>
<td style="width: 48pt;">NZ$4.60</td>
<td style="width: 48pt;">EPS* (NZc)</td>
<td style="text-align: left; width: 48pt;">20.4</td>
<td style="text-align: left; width: 48pt;">24.3</td>
<td style="text-align: left; width: 48pt;">25.0&nbsp;</td>
<td style="text-align: left; width: 48pt;">27.0&nbsp;</td>
<td style="width: 48pt;">EV/EBIT</td>
<td style="text-align: left; width: 48pt;">15.7&nbsp;</td>
<td style="text-align: left; width: 48pt;">13.6</td>
<td style="text-align: left; width: 48pt;">11.7</td>
<td style="text-align: left; width: 48pt;">10.8&nbsp;</td>
</tr>
<tr>
<td style="width: 48pt;">Risk rating</td>
<td style="width: 48pt;">Medium</td>
<td style="width: 48pt;">EPS growth* (%)</td>
<td style="text-align: left; width: 48pt;">17.9</td>
<td style="text-align: left; width: 48pt;">19.2</td>
<td style="text-align: left; width: 48pt;">3.0&nbsp;</td>
<td style="text-align: left; width: 48pt;">7.8</td>
<td style="width: 48pt;">PE</td>
<td style="text-align: left; width: 48pt;">21.4</td>
<td style="text-align: left; width: 48pt;">18.0&nbsp;</td>
<td style="text-align: left; width: 48pt;">17.5&nbsp;</td>
<td style="text-align: left; width: 48pt;">16.2&nbsp;</td>
</tr>
<tr>
<td style="width: 48pt;">Issued shares</td>
<td style="width: 48pt;">140.3m</td>
<td style="width: 48pt;">DPS (NZc)</td>
<td style="text-align: left; width: 48pt;">19.0&nbsp;</td>
<td style="text-align: left; width: 48pt;">20.0&nbsp;</td>
<td style="text-align: left; width: 48pt;">20.0&nbsp;</td>
<td style="text-align: left; width: 48pt;">21.0&nbsp;</td>
<td style="width: 48pt;">Price/NTA</td>
<td style="text-align: left; width: 48pt;">3.0&nbsp;</td>
<td style="text-align: left; width: 48pt;">2.3</td>
<td style="text-align: left; width: 48pt;">2.2&nbsp;</td>
<td style="text-align: left; width: 48pt;">2.1</td>
</tr>
<tr>
<td style="width: 48pt;">Market cap</td>
<td style="width: 48pt;">NZ$613m</td>
<td style="width: 48pt;">Imputation (%)</td>
<td style="text-align: left; width: 48pt;">100</td>
<td style="text-align: left; width: 48pt;">100</td>
<td style="text-align: left; width: 48pt;">100</td>
<td style="text-align: left; width: 48pt;">100</td>
<td style="width: 48pt;">Cash div yld (%)</td>
<td style="text-align: left; width: 48pt;">4.3&nbsp;</td>
<td style="text-align: left; width: 48pt;">4.6&nbsp;</td>
<td style="text-align: left; width: 48pt;">4.6&nbsp;</td>
<td style="text-align: left; width: 48pt;">4.8</td>
</tr>
<tr>
<td style="width: 48pt;">Avg daily turnover</td>
<td style="width: 48pt;">113.3k (NZ$550k)</td>
<td colspan="3" style="width: 144pt;">*Based on normalised profits</td>
<td style="width: 48pt;"></td>
<td style="width: 48pt;"></td>
<td style="width: 48pt;">Gross div yld (%)</td>
<td style="text-align: left; width: 48pt;">6.0&nbsp;</td>
<td style="text-align: left; width: 48pt;">6.4&nbsp;</td>
<td style="text-align: left; width: 48pt;">6.4</td>
<td style="text-align: left; width: 48pt;">6.7&nbsp;</td>
</tr>
</tbody>
</table>
Key issues to consider at&nbsp;SCL's&nbsp;FY19 result
<ul type="disc">
<li>Apple harvest guidance&nbsp;—&nbsp;Apple yield and&nbsp;packout&nbsp;rate are key earnings drivers for&nbsp;SCL. The harvest period peaks through March and April. In light of recent dry conditions, commentary on harvest expectations for FY20 will be of interest.&nbsp;</li>
<li>​​​​​​​​​​​​​​Pet food progression&nbsp;—&nbsp;We suspect Food Ingredients&nbsp;may be a key source of downside risk in FY19E, given the decline in venison prices and challenging supply dynamics.&nbsp;SCL&nbsp;has an&nbsp;EBITDA&nbsp;target for its Food Ingredients business of NZ$25m by FY22 (FY18&nbsp;NZ$9.3m). With the business having undergone significant change we look for an update on its evolving pet food strategy. The path to achieving its growth&nbsp;target remains under-developed in our opinion.</li>
<li>Acquisition strategy&nbsp;—&nbsp;SCL&nbsp;has a large net cash position of&nbsp;~NZ$84m, with significant additional balance sheet headroom.&nbsp;SCL&nbsp;has previously indicated it is pursuing a potentially transformational acquisition, targeting vertically integrated agriculture companies with a China export focus. The broad spectrum of acquisition possibilities creates investment uncertainty, in our opinion.&nbsp;</li>
<li>Apple pricing and&nbsp;coronavirus&nbsp;impacts —&nbsp;A lower than average European harvest should be favourable for 2H19E and 1H20E apple prices. Prolonged effects from&nbsp;coronavirus&nbsp;on customer perceptions may be beneficial for&nbsp;SCL&nbsp;should consumer demand in China lift&nbsp;for imported produce.</li>
</ul>
Conference call details
SCL&nbsp;will host a FY19 result conference call at 10am on 26 February 2020. Dial in details: New&nbsp;Zealand&nbsp;0800 122 136, Conference ID:&nbsp;10003763.

Scales
FY19 Preview&nbsp;— Checking the Scales
Guy Hooper guy.hooper@forsythbarr.co.nz +64 4 495 5255
NEUTRAL&nbsp;
Scales (SCL) reports its&nbsp;FY19 result on Wednesday, 26 February 2020 — we expect robust earnings from the key Horticulture business,&nbsp;weighed down by challenges in Food Ingredients. Our key focus at the result will be 1) apple harvest guidance for the coming season, 2) an update on, and progression of, the evolving pet food strategy, and 3) additional clarity around possible transformational acquisitions.&nbsp;SCL's&nbsp;FY19E guidance is for underlying&nbsp;NPAT&nbsp;of NZ$32m to NZ$37m (FB NZ$34m).&nbsp;



NZX Code
SCL
Financials:Dec/
18A
19E
20E
21E
Valuation (x)
18A
19E
20E
21E


Share price
NZ$4.37
NPAT* (NZ$m)
28.6&nbsp;
34.1
35.1
37.8&nbsp;
EV/EBITDA
12.9&nbsp;
11.8
10.0&nbsp;
9.6&nbsp;


Target Price
NZ$4.60
EPS* (NZc)
20.4
24.3
25.0&nbsp;
27.0&nbsp;
EV/EBIT
15.7&nbsp;
13.6
11.7
10.8&nbsp;


Risk rating
Medium
EPS growth* (%)
17.9
19.2
3.0&nbsp;
7.8
PE
21.4
18.0&nbsp;
17.5&nbsp;
16.2&nbsp;


Issued shares
140.3m
DPS (NZc)
19.0&nbsp;
20.0&nbsp;
20.0&nbsp;
21.0&nbsp;
Price/NTA
3.0&nbsp;
2.3
2.2&nbsp;
2.1


Market cap
NZ$613m
Imputation (%)
100
100
100
100
Cash div yld (%)
4.3&nbsp;
4.6&nbsp;
4.6&nbsp;
4.8


Avg daily turnover
113.3k (NZ$550k)
*Based on normalised profits


Gross div yld (%)
6.0&nbsp;
6.4&nbsp;
6.4
6.7&nbsp;



Key issues to consider at&nbsp;SCL's&nbsp;FY19 result

Apple harvest guidance&nbsp;—&nbsp;Apple yield and&nbsp;packout&nbsp;rate are key earnings drivers for&nbsp;SCL. The harvest period peaks through March and April. In light of recent dry conditions, commentary on harvest expectations for FY20 will be of interest.&nbsp;
​​​​​​​​​​​​​​Pet food progression&nbsp;—&nbsp;We suspect Food Ingredients&nbsp;may be a key source of downside risk in FY19E, given the decline in venison prices and challenging supply dynamics.&nbsp;SCL&nbsp;has an&nbsp;EBITDA&nbsp;target for its Food Ingredients business of NZ$25m by FY22 (FY18&nbsp;NZ$9.3m). With the business having undergone significant change we look for an update on its evolving pet food strategy. The path to achieving its growth&nbsp;target remains under-developed in our opinion.
Acquisition strategy&nbsp;—&nbsp;SCL&nbsp;has a large net cash position of&nbsp;~NZ$84m, with significant additional balance sheet headroom.&nbsp;SCL&nbsp;has previously indicated it is pursuing a potentially transformational acquisition, targeting vertically integrated agriculture companies with a China export focus. The broad spectrum of acquisition possibilities creates investment uncertainty, in our opinion.&nbsp;
Apple pricing and&nbsp;coronavirus&nbsp;impacts —&nbsp;A lower than average European harvest should be favourable for 2H19E and 1H20E apple prices. Prolonged effects from&nbsp;coronavirus&nbsp;on customer perceptions may be beneficial for&nbsp;SCL&nbsp;should consumer demand in China lift&nbsp;for imported produce.

Conference call details
SCL&nbsp;will host a FY19 result conference call at 10am on 26 February 2020. Dial in details: New&nbsp;Zealand&nbsp;0800 122 136, Conference ID:&nbsp;10003763.

Scales: FY19 Preview — Checking the Scales

<h2><a target="_blank">Equity Strategy</a></h2>
Coronavirus — Impacts and Consequences
The coronavirus outbreak continues to gain momentum with the number of new cases growing daily. It is nigh impossible to predict (1) the length of time it will take to contain the spread of the virus, and (2) future containment measures. Therefore, it also very difficult to forecast the ultimate financial impact on companies with direct or secondary exposure to it. Near term earnings risk exist for a wide variety of companies across the travel, tourism, freight, export and manufacturing industries. However, the coronavirus is unlikely to have a lasting impact on trade and consumer mobility, and therefore we see limited impact on long term intrinsic value of the companies exposed.
Coronavirus in numbers
There are now almost 25,000 confirmed cases of coronavirus globally according to available data, the majority of which are in China. At this stage, the outbreak appears to be contained beyond China’s borders, albeit the number of cases has been growing but remains at very low levels. The death rate is 2%–3%, which is low compared to SARS (~9.6%), but high enough to warrant the dramatic containment initiatives now in place. The path from here is uncertain, given the evolving situation.
Cities in lockdown; disruption will have an impact on supply chains
There are currently 13 Chinese cities in lockdown with a combined population of &gt;50m people. A further 10 cities (combined population of &gt;90m) have closed council controlled services. These containment measures could be widened geographically and prolonged while the virus growth rate increases. A large number of factories across the country remain closed after an extended Chinese New Year holiday.
Global markets react, but modest at this stage
Since the coronavirus started making global headlines on 20 January 2020, the S&amp;P 500 has fallen just -2% and the MSCI All Index has fallen -1%. Locally, the S&amp;P/NZX 50 is down -2% over the same period. However, companies in the travel, tourism and freight industries have fallen more markedly. The SARS episode in 2003 suggests that stocks and markets will recover lost ground once the daily number of new cases peak.
Stock implications
Tourism Holdings (THL) is the only company thus far to downgrade near term earnings as a result of the coronavirus (as well as several other issues). However, other companies are exposed and may see some impact on their near term outlooks. These include Auckland Airport (AIA), Air New Zealand (AIR), Comvita (CVT), Fonterra (FSF), Mainfreight (MFT), Napier Port (NPH), Port of Tauranga (POT), Sanford (SAN), Scales (SCL), Skellerup (SKL), Skycity (SKC), Synlait (SML), and The a2 Milk Company (ATM).<a target="_blank">&nbsp;</a>
Andy Bowley andy.bowley@forsythbarr.co.nz +64 4 495 8246&nbsp;
Andrew Harvey-Green andrew.harvey-green@forsythbarr.co.nz +64 4 495 8185&nbsp;
Chelsea Leadbetter, CFA chelsea.leadbetter@forsythbarr.co.nz +64 4 495 5262

Equity Strategy
Coronavirus — Impacts and Consequences
The coronavirus outbreak continues to gain momentum with the number of new cases growing daily. It is nigh impossible to predict (1) the length of time it will take to contain the spread of the virus, and (2) future containment measures. Therefore, it also very difficult to forecast the ultimate financial impact on companies with direct or secondary exposure to it. Near term earnings risk exist for a wide variety of companies across the travel, tourism, freight, export and manufacturing industries. However, the coronavirus is unlikely to have a lasting impact on trade and consumer mobility, and therefore we see limited impact on long term intrinsic value of the companies exposed.
Coronavirus in numbers
There are now almost 25,000 confirmed cases of coronavirus globally according to available data, the majority of which are in China. At this stage, the outbreak appears to be contained beyond China’s borders, albeit the number of cases has been growing but remains at very low levels. The death rate is 2%–3%, which is low compared to SARS (~9.6%), but high enough to warrant the dramatic containment initiatives now in place. The path from here is uncertain, given the evolving situation.
Cities in lockdown; disruption will have an impact on supply chains
There are currently 13 Chinese cities in lockdown with a combined population of &gt;50m people. A further 10 cities (combined population of &gt;90m) have closed council controlled services. These containment measures could be widened geographically and prolonged while the virus growth rate increases. A large number of factories across the country remain closed after an extended Chinese New Year holiday.
Global markets react, but modest at this stage
Since the coronavirus started making global headlines on 20 January 2020, the S&amp;P 500 has fallen just -2% and the MSCI All Index has fallen -1%. Locally, the S&amp;P/NZX 50 is down -2% over the same period. However, companies in the travel, tourism and freight industries have fallen more markedly. The SARS episode in 2003 suggests that stocks and markets will recover lost ground once the daily number of new cases peak.
Stock implications
Tourism Holdings (THL) is the only company thus far to downgrade near term earnings as a result of the coronavirus (as well as several other issues). However, other companies are exposed and may see some impact on their near term outlooks. These include Auckland Airport (AIA), Air New Zealand (AIR), Comvita (CVT), Fonterra (FSF), Mainfreight (MFT), Napier Port (NPH), Port of Tauranga (POT), Sanford (SAN), Scales (SCL), Skellerup (SKL), Skycity (SKC), Synlait (SML), and The a2 Milk Company (ATM).&nbsp;
Andy Bowley andy.bowley@forsythbarr.co.nz +64 4 495 8246&nbsp;
Andrew Harvey-Green andrew.harvey-green@forsythbarr.co.nz +64 4 495 8185&nbsp;
Chelsea Leadbetter, CFA chelsea.leadbetter@forsythbarr.co.nz +64 4 495 5262

Equity Strategy: Coronavirus — Impacts and Consequences

<h2><a target="_blank">Food for Thought</a></h2>
What’s in Store for the Primary Industry this Summer?
Weather variability in recent years has led to some adverse outcomes for the New Zealand listed Food, Beverage and Agriculture sector — while we are not out of the woods, recent outlook has normalised for key areas and indicators, hence, risks have reduced. Forecasts are now for ‘average’ conditions over the key Summer harvest period, with movements over recent weeks lowering weather risk. Industry anecdotes we have gathered are also predominantly positive, although it is still early days. We have a positive bias to the sector, with stock preferences (in order): The a2 Milk Company (ATM), New Zealand King Salmon (NZK), and Sanford (SAN).
<figure class="editor-figure mceNonEditable"><img src="https://mail.google.com/mail/u/0?ui=2&amp;ik=f57c39853c&amp;attid=0.0.1&amp;permmsgid=msg-f:1655842314579063897&amp;th=16fabbcfe48bb459&amp;view=fimg&amp;sz=s0-l75-ft&amp;attbid=ANGjdJ_Fybp0ihSzH5NWnF7RzNgQBa7vUjTSCtIeGrFMpvUvpAPzAgkR5E_eHn_g14YheeUNNRPhcBKmniyMTKIMKOWLs0sjDqt3KTUdSZWmyEPyg33JZgsggLdn1mg&amp;disp=emb" width="401" height="186" class="editor-image img-responsive" data-image-whitelisted=""></figure>
Climate outlook snapshot — average conditions with pockets of dry
NIWA’s seasonal outlook for the key Summer period (January to March 2020) is for average temperatures and rainfall, with indicators pointing to neutral weather patterns. History suggests this is favourable for the sector. The current weather outlook for key horticulture/viticulture periods should see Scales (SCL), Delegat (DGL) and Seeka (SEK) navigate summer unscathed.
Key areas of risk are: (1) localised dry spells in the upper North Island — with Fonterra (FSF) and Skellerup (SKL) most exposed, and (2) warmer waters — although temperatures are below last year and forecasts have improved in recent weeks, lowering the risk to NZK and SAN.
Other key data of interest in this edition
<ul>
<li>Recent Kantar data trends positive for growing consumption of ATM’s key Infant Formula products in China. December was particularly strong, with market share in the survey of 7.5%.</li>
<li>Dairy sector health indicators mixed. Positives: demand, milk price and confidence; key risks: negative farm prices, dry weather in some areas of NZ and elevated gearing.</li>
</ul>
<div class="content-highlight">
Investment View
We summarise our sector stock ratings as follows:
<ul>
<li>OUTPERFORM: The a2 Milk Company (ATM), Sanford (SAN), NZ King Salmon (NZK)</li>
<li>NEUTRAL: Scales (SCL), Synlait Milk (SML), Delegat Group (DGL),&nbsp; PGG Wrightson (PGW)</li>
<li>UNDERPERFORM: n/a</li>
<li>Not rated: Comvita (CVT), Fonterra (FSF), Skellerup (SKL)</li>
</ul>
</div>
Chelsea Leadbetter, CFA chelsea.leadbetter@forsythbarr.co.nz +64 4 495 5262
Guy Hooper guy.hooper@forsythbarr.co.nz +64 4 495 5255

Food for Thought
What’s in Store for the Primary Industry this Summer?
Weather variability in recent years has led to some adverse outcomes for the New Zealand listed Food, Beverage and Agriculture sector — while we are not out of the woods, recent outlook has normalised for key areas and indicators, hence, risks have reduced. Forecasts are now for ‘average’ conditions over the key Summer harvest period, with movements over recent weeks lowering weather risk. Industry anecdotes we have gathered are also predominantly positive, although it is still early days. We have a positive bias to the sector, with stock preferences (in order): The a2 Milk Company (ATM), New Zealand King Salmon (NZK), and Sanford (SAN).

Climate outlook snapshot — average conditions with pockets of dry
NIWA’s seasonal outlook for the key Summer period (January to March 2020) is for average temperatures and rainfall, with indicators pointing to neutral weather patterns. History suggests this is favourable for the sector. The current weather outlook for key horticulture/viticulture periods should see Scales (SCL), Delegat (DGL) and Seeka (SEK) navigate summer unscathed.
Key areas of risk are: (1) localised dry spells in the upper North Island — with Fonterra (FSF) and Skellerup (SKL) most exposed, and (2) warmer waters — although temperatures are below last year and forecasts have improved in recent weeks, lowering the risk to NZK and SAN.
Other key data of interest in this edition

Recent Kantar data trends positive for growing consumption of ATM’s key Infant Formula products in China. December was particularly strong, with market share in the survey of 7.5%.
Dairy sector health indicators mixed. Positives: demand, milk price and confidence; key risks: negative farm prices, dry weather in some areas of NZ and elevated gearing.


Investment View
We summarise our sector stock ratings as follows:

OUTPERFORM: The a2 Milk Company (ATM), Sanford (SAN), NZ King Salmon (NZK)
NEUTRAL: Scales (SCL), Synlait Milk (SML), Delegat Group (DGL),&nbsp; PGG Wrightson (PGW)
UNDERPERFORM: n/a
Not rated: Comvita (CVT), Fonterra (FSF), Skellerup (SKL)


Chelsea Leadbetter, CFA chelsea.leadbetter@forsythbarr.co.nz +64 4 495 5262
Guy Hooper guy.hooper@forsythbarr.co.nz +64 4 495 5255

Food for Thought: What’s in Store for the Primary Industry This Summer?

<h2>Scales</h2>
Pruning Expectations
Scales (SCL) has provided first time earnings guidance for FY20E, implying a modest downgrade to market expectations. Consequently, we have trimmed our earnings forecasts, with the downgrades captured entirely within the Food Ingredients business on the back of challenging market supply dynamics. We now forecast largely flat earnings growth year on year across SCL’s businesses, with orchard replanting also limiting near term growth in its Horticulture business. Trading on a ~20x forward PE, with limited near term earnings growth and a significant net cash position creating investment uncertainty, we expect the share price to be range bound. NEUTRAL.
What’s changed?
<ul>
<li>Earnings: We revise our underlying NPAT forecasts -5.5%/-4.5% in FY20E/FY21E</li>
<li>Target Price: Lowered -NZ$0.05 to NZ$4.60</li>
<li>Rating: NEUTRAL</li>
</ul>
Guidance update mixed
SCL has reiterated its FY19E underlying NPAT guidance range of NZ$32m to NZ$37m. We have left our FY19E forecast (NZ$34m) unchanged, although note the wide guidance range given the proximity to the end of the financial year may imply some downside risk.
In addition, SCL released a first time FY20E underlying NPAT guidance range of NZ$30m to NZ$36m, implying a downgrade to previous market consensus forecasts. We have lowered our FY20E NPAT to NZ$35m from NZ$37m. We suspect a key driver of the downgrade has been the more challenging market conditions in SCL’s pet food ingredients business, Meateor, driven by a combination of (1) changes in the raw ingredients supply dynamics, such as the increasing demand for use in human consumption, and (2) weaker venison prices. In addition to lower Food Ingredients earnings, we have lowered our interest income assumption with the low interest rate environment impacting SCL’s significant net cash balance (FY19E NZ$84m).
The wide FY20E guidance range appears conservative although prudent given the natural uncertainty associated with annual harvest outcomes. Heading into FY20, we remain comfortable with our Horticulture forecasts given (1) NIWA’s seasonal outlook suggests favourable weather during the key growing period and (2) European apple stocks as of November 2019 are well below average, supportive of FY20 apple pricing in that market.
Signalling higher capex in FY20
SCL highlighted a ‘material increase’ in FY20E capex within its Horticulture division, targeted at creating cost efficiencies. We have lifted our Horticulture growth capex forecast +NZ$6m to NZ$14m. We understand capital projects include further investment into its Croptracker system as well as additional RSE (Recognised Seasonal Employers) worker accommodation. Seasonal labour supply has been tight in recent years, a lift in available RSE workers would be positive for SCL.
<div class="content-highlight">
Investment View
SCL is an export focussed company offering investors broad exposure to New Zealand agriculture, with operations in horticulture and meat processing. Although pet food is a growing part of the business, annual apple harvest outcomes and global apple prices will remain key drivers of business performance in the near-term. NEUTRAL.&nbsp;
</div>
Guy Hooper guy.hooper@forsythbarr.co.nz +64 4 495 5255

Scales
Pruning Expectations
Scales (SCL) has provided first time earnings guidance for FY20E, implying a modest downgrade to market expectations. Consequently, we have trimmed our earnings forecasts, with the downgrades captured entirely within the Food Ingredients business on the back of challenging market supply dynamics. We now forecast largely flat earnings growth year on year across SCL’s businesses, with orchard replanting also limiting near term growth in its Horticulture business. Trading on a ~20x forward PE, with limited near term earnings growth and a significant net cash position creating investment uncertainty, we expect the share price to be range bound. NEUTRAL.
What’s changed?

Earnings: We revise our underlying NPAT forecasts -5.5%/-4.5% in FY20E/FY21E
Target Price: Lowered -NZ$0.05 to NZ$4.60
Rating: NEUTRAL

Guidance update mixed
SCL has reiterated its FY19E underlying NPAT guidance range of NZ$32m to NZ$37m. We have left our FY19E forecast (NZ$34m) unchanged, although note the wide guidance range given the proximity to the end of the financial year may imply some downside risk.
In addition, SCL released a first time FY20E underlying NPAT guidance range of NZ$30m to NZ$36m, implying a downgrade to previous market consensus forecasts. We have lowered our FY20E NPAT to NZ$35m from NZ$37m. We suspect a key driver of the downgrade has been the more challenging market conditions in SCL’s pet food ingredients business, Meateor, driven by a combination of (1) changes in the raw ingredients supply dynamics, such as the increasing demand for use in human consumption, and (2) weaker venison prices. In addition to lower Food Ingredients earnings, we have lowered our interest income assumption with the low interest rate environment impacting SCL’s significant net cash balance (FY19E NZ$84m).
The wide FY20E guidance range appears conservative although prudent given the natural uncertainty associated with annual harvest outcomes. Heading into FY20, we remain comfortable with our Horticulture forecasts given (1) NIWA’s seasonal outlook suggests favourable weather during the key growing period and (2) European apple stocks as of November 2019 are well below average, supportive of FY20 apple pricing in that market.
Signalling higher capex in FY20
SCL highlighted a ‘material increase’ in FY20E capex within its Horticulture division, targeted at creating cost efficiencies. We have lifted our Horticulture growth capex forecast +NZ$6m to NZ$14m. We understand capital projects include further investment into its Croptracker system as well as additional RSE (Recognised Seasonal Employers) worker accommodation. Seasonal labour supply has been tight in recent years, a lift in available RSE workers would be positive for SCL.

Investment View
SCL is an export focussed company offering investors broad exposure to New Zealand agriculture, with operations in horticulture and meat processing. Although pet food is a growing part of the business, annual apple harvest outcomes and global apple prices will remain key drivers of business performance in the near-term. NEUTRAL.&nbsp;

Guy Hooper guy.hooper@forsythbarr.co.nz +64 4 495 5255

<h2>Scales (SCL)</h2>
Market update
FY20E guidance – slightly behind expectations
SCL reiterated its FY19E underlying NPAT guidance range of NZ$32m to NZ$37m (Forsyth Barr NZ$36.5m).
In addition, SCL released&nbsp;first time&nbsp;FY20E underlying NPAT guidance range of NZ$30m to NZ$36m, with the top of the range slightly behind our current forecast of NZ$37m. One element driving the lower range versus our forecasts is the lower interest rate environment, impacting interest income from SCL’s significant net cash balance (FY19E NZ$84m).
We expect to make some minor revisions to our numbers, however at first glance guidance appears conservative although prudent given the&nbsp;natural uncertainty&nbsp;associated with annual harvest outcomes.
Signalling higher FY20E capex
The company highlighted a ‘material increase’ in FY20E capex within its Horticulture division. Commentary suggests our current FY20E forecast of NZ$8m growth capex within Horticulture, in line with FY19E may be too light. Capex is targeted at reducing the cost base and addressing labour issues, possibly through increased mechanisation of tasks.
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Investment view
SCL is part way through a repositioning of its orchards, out of traditional apple varieties and into club varieties targeted at Asian markets. Whilst a positive strategic direction, earnings growth from the key Horticulture business will remain subdued in the near-term as trees mature and harvest volumes begin to increase. Following asset sales SCL has a significant net cash balance and is pursuing potentially transformational acquisitions. We expect acquisition uncertainty will have an overhang on the share price.
We have a NEUTRAL rating.
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Guy Hooper&nbsp; Analyst, Equities Forsyth Barr Limited
P: +64 4 495 5255 | TF: 0800 367 227&nbsp; Level 22 , 157 Lambton Quay, Wellington

Scales (SCL)
Market update
FY20E guidance – slightly behind expectations
SCL reiterated its FY19E underlying NPAT guidance range of NZ$32m to NZ$37m (Forsyth Barr NZ$36.5m).
In addition, SCL released&nbsp;first time&nbsp;FY20E underlying NPAT guidance range of NZ$30m to NZ$36m, with the top of the range slightly behind our current forecast of NZ$37m. One element driving the lower range versus our forecasts is the lower interest rate environment, impacting interest income from SCL’s significant net cash balance (FY19E NZ$84m).
We expect to make some minor revisions to our numbers, however at first glance guidance appears conservative although prudent given the&nbsp;natural uncertainty&nbsp;associated with annual harvest outcomes.
Signalling higher FY20E capex
The company highlighted a ‘material increase’ in FY20E capex within its Horticulture division. Commentary suggests our current FY20E forecast of NZ$8m growth capex within Horticulture, in line with FY19E may be too light. Capex is targeted at reducing the cost base and addressing labour issues, possibly through increased mechanisation of tasks.

Investment view
SCL is part way through a repositioning of its orchards, out of traditional apple varieties and into club varieties targeted at Asian markets. Whilst a positive strategic direction, earnings growth from the key Horticulture business will remain subdued in the near-term as trees mature and harvest volumes begin to increase. Following asset sales SCL has a significant net cash balance and is pursuing potentially transformational acquisitions. We expect acquisition uncertainty will have an overhang on the share price.
We have a NEUTRAL rating.

Guy Hooper&nbsp; Analyst, Equities Forsyth Barr Limited
P: +64 4 495 5255 | TF: 0800 367 227&nbsp; Level 22 , 157 Lambton Quay, Wellington

New Zealand

Scales Corporation Limited is a New Zealand provider of essential supply chain services for primary exporters, importers and FMCG businesses. The Company's horticulture division involves the global exporting of apples while its storage and logistics division includes nationwide cold storage coverage and a logistics business specialising in sea and air freight of primary produce.

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Scales Corp Ltd (SCL NZ)

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