Treasury Wines update on its Penfolds division highlights the confidence the company has in the long-term global demand for its luxury wines. The company has lifted key product prices by 6% and will have more luxury wines to sell by FY26e under Penfolds Bin & Icon labels. The biggest swing factor for long-term earnings growth in this business will be the momentum in the global luxury wine market.

Lovisa has extended its CEO contract for Victor Herrero to May 2025. John Cheston will be appointed as successor to take Lovisa at the start of FY26e. Mr Cheston comes from Premier Investments as Managing Director of Smiggle, overseeing its expansion into foreign markets over the last decade. With the change to CEO, we lower our Lovisa store rollout forecast in FY25 by 50 stores largely effecting the probability of an accelerated China rollout.

We have written a detailed report on Lovisa, a global, affordable, fast fashion jewellery retailer with a strong growth opportunity. We forecast the store network to grow at a compound annual growth rate of 15% over the next four years with stores in existing and new markets. EBIT is forecast to grow at 23% annually over four years in our base case. 

Treasury Wines reported earnings down 6% in 1H24. While a weak result, conditions are likely to be much stronger next half. We expect organic EBITS growth of 9% in FY24e and 5% in FY25e. The upside from China tariff removal and contribution from DAOU are the key catalysts for the business. If wine tariffs in China are removed in late March, there could be a 4%-10% EBITS uplift as the company as the company sells more mid-tier Penfolds volumes and there is a global re-pricing of the Bin range to 2H24.

Treasury Wines has announced the acquisition of DAOU Vineyards. This deal highlights a dramatic shift over the past four years by Treasury from a commercial to luxury wine player in the US market. The deal is returns dilutive initially and slightly EPS accretive. The cost synergies look very plausible and additional distribution reach highly likely, making the deal slightly value accretive over three years.

The decision by China to remove tariffs on barley is good news for Treasury Wine Estates. We place a 51% probability of wine tariffs being removed within the next six months. The upside to earnings could be 16% within 12 months and 32% over four years.

As global trade tensions build and geopolitical risks rise, we think Australian retailers are going to need to diversify their supply chains. Australia imports ~86% of its non-food consumer goods and we estimate 57% of these imports come from China. The productivity of China has led to a concentration of sourcing that represents a real risk on a 5-10 year horizon as Chinese wage rates rise further, supply chains face further disruptions and trade tensions rise. Electronics is the most at-risk category entirely imported, with 56% of imports from China, followed by clothing and accessories at 94% imported, with 55% from China.

Australia is an open economy and over the past twenty years, its retailers have increasingly imported consumer goods. In Issue 4 of The Retail Mosaic, we explore the extent of imports by retail category, the significance of China in supplying goods and exposure various companies have to direct imports from China. China provides the most efficient source of production and for many companies represents more than 70% of their offshore sourcing. The risk is that any increase in costs, supply disruptions or trade tensions could impact sales and margins. The companies sourcing most of their goods from China are Wesfarmers, City Chic, Woolworths, Premier Investments and Super Retail Group.

Treasury hosted a meeting with Treasury Premium Brands MD, Peter Nielson. The message was very clear about driving a higher EBITS margin. However, the path there is dependent on many factors. A better channel mix towards on-premise, more sales to Asia and leveraging 19 Crimes, Wynns, Pepperjack, St Huberts The Stag and Squealing Pig were all called out as drivers. We also see lower COGS as a factor in supporting margins over the next three years. Treasury Premium Brands accounts for 9% of our enterprise value. We expect the key business drivers to remain as Penfolds and the Americas.

Treasury hosted a meeting with Penfolds MD, Tom King. The discussion clarified Penfolds emphasis on luxury wines and efforts to lift its distribution reach across key markets. The next 12 months will be about the globalisation of the brand with French and Californian product released. The company is holding firm to its target of 40%-45% EBITS margins. We see 40% as more plausible as marketing investment is required to build the brand in key markets.