Burns Philp report reveals Hart's Midas touch

By David McEwen

Friday 29th November 2002

Burns Philp is the company that almost sank a couple of years ago, threatening to take with it the New Zealand entrepreneur Graeme Hart. But then it turned him into a billionaire when it turned around.

The Australian-based food company produces and distributes food ingredients and products worldwide.

As a dominant supplier of key ingredients, such as yeast, and worldwide sales of $A1.4 billion, it's not hard to see what attracted Mr Hart to Burns Philp.

Many thought he had bitten off more than he could chew (pun intended) because the debt level at Burns Philp seemed unsustainable. That's when Mr Hart struck a deal that saw him inject funds into the company in return for 800 million convertible preference shares, which saved the company and put it on a road to recovery.

That substantial turnaround continued in the year to June 30, with the latest annual report showing net profit excluding unusual items increasing by 50.8% to $A133.5 million.

All key aspects of the businesses are improving and gross profit margin is rising, from 44% in 2000 to 46% in 2002, as costs are forced out of the business and economies of scale improve. Finance costs are falling, from $A95.8 million in 2001 to $A72.9 million last year, and debt has been trimmed by around 40%.

Burns Philp has been very aggressive at managing debt, and it needed to be. Debt was (and still is) the Achilles' heel of this group and a huge flaw in an otherwise excellent company.

The balance sheet shows interest-bearing debt of $A205.8 million in current liabilities (payable within one year), and another $A1.4 billion non-current interest bearing liabilities.

At the same time, some $A923 million is held in cash and term deposits, the product of asset sales, recapitalisation and restructuring.

The net debt level of $A682 million remains extremely high, however, given that shareholders' funds amount to only $A479.5 million.

Nevertheless, what management has promised, it is delivering. The balance sheet is being fixed, inefficient divisions given the chop, and funds concentrated where they can do the most good.

In the annual report, managing director Thomas Degnan highlights some achievements of the past year:

* Streamlining yeast manufacturing operations in Argentina, closing a high-cost yeast plant in California while expanding its yeast production capacity in Portugal, Germany, India, Indonesia and China;

* In August 2001 the group refinanced its senior debt and raised $A240 million of new equity, resulting in a much needed strengthening of the balance sheet;

* In June 2002, the group agreed with Kraft Foods to acquire its Fleischmann's yeast and industrial bakery ingredients business in South America; and

* In August 2002, it agreed to sell its non-core terminals divisions in Australia and New Zealand for an expected $A83 million and its vinegar division for $A88 million.

The Burns Philp annual report is a formidable document, comprising 96 pages of text and numbers without a single picture, except for a couple of pages with pie charts.

Investors need to keep their wits about them when reading it, because items of major impact to your investment in this company can flit past in a passing sentence or a number.

For example, earnings per share are shown to have increased substantially, from 13.6Ac in 2001 to 17.3Ac in 2002. On these earnings, Burns Philp shares trade on a very attractive price to earnings ratio of three.

However, when earnings per share are restated as diluted earnings, the story is very different, as earnings per share then amount to only 6.3Ac, or a p/e ratio of more than eight.

The reason, of course, lies in the extraordinary deal Mr Hart struck with its shareholders. He rescued the then crippled company in exchange for 800 million convertible preference shares acquired at only 30Ac, some 50% below the current price of the ordinary shares.

When Mr Hart decides to convert, there will be a huge transfer of wealth from ordinary shareholders to him and earnings per share will be severely diluted.

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