Treasury Wine Shares Slump as China Austerity Hits Earnings

Treasury Wine Estates Ltd., the Australian maker of A$785-a-bottle ($686) Penfolds Grange, said first-half earnings fell as China’s crackdown on official gift giving curbed demand for premium vintages. The shares slumped by a record.

Profit before interest, tax and other items dropped to between A$42 million and A$46 million in the six months ended Dec. 31, from A$73.4 million a year earlier, the Melbourne-based company said in a regulatory filing based on unaudited figures.

Treasury Wine, the world’s second-largest publicly traded wine maker, has sought to tailor products to Chinese consumers, who overtook the French to become the biggest drinkers of red wine in the world last year, according to Bordeaux-based Vinexpo. The Chinese Communist Party’s quest to restore discipline among its ranks has led to a campaign to stamp out gift giving and extravagant official spending, hitting premium liquor producers, Swiss watchmakers and expensive restaurants.

“Chinese austerity may be an ongoing issue for some time,” said Will Seddon, who helps manage about A$550 million at White Funds Management Pty. in Sydney. Given “the structural nature of at least some of their issues, I’d say there might still be further downside risk to 2014 earnings.”

China Austerity

Full-year earnings will be between A$190 million and A$210 million, compared with an earlier forecast for as much as A$250 million, the company said. Treasury Wine plunged as much as 22 percent in Sydney trading and closed 20 percent lower at A$3.64.

China’s frugality push came on the heels of a once-in-a-decade leadership change in late 2012, when officials under President Xi Jinping pledged to abandon extravagance amid a push to stamp out corruption. Measures included trimming the size of entourages, scaling back grand receptions on trips, lavish seasonal banquets and costly gifts including Rolex watches.

Treasury Wine said less than a year ago that the austerity drive hadn’t affected its business in China, where the company planned to increase its presence almost four-fold to about 60 cities within five years. David Dearie, who left the company in September, said in March that China would overtake the U.S. as the biggest wine market globally by 2023.

It spent several hundred thousand dollars researching Chinese wine-buyers and planned to boost gift sales with trophy products similar to its $168,000 bottle of 2004 Penfolds Cabernet Sauvignon released in 2012, Dearie said in March.

Asia Sales

Sales in Hong Kong and China rose 39 percent by volume in the year ended June 30, Treasury Wine said in August. Asia accounted for 26 percent of earnings before interest, taxes and other items, from 20 percent a year earlier, and demand for its Penfolds brand jumped 38 percent in volume terms, it said.

An earnings margin of more than 40 percent in Asia compared with about 18 percent in Australia and New Zealand and 9.5 percent in the Americas, it said.

Dearie left after A$160 million of writedowns on out-of-date U.S. inventory. The company said in July it would destroy stock, discount older bottles and take costs for onerous grape-buying contracts and holding an excess of low-valued bulk wine.

‘Key Markets’

“The concerning part of the story is the fact that Treasury is struggling in its two key markets, namely the U.S. and China,” said Ben Le Brun, Sydney-based market analyst at OptionsXpress, a unit of San Francisco-based financial services firm Charles Schwab Corp. “Austerity measures out of China are clearly starting to hurt the purchasing power of the consumer.”

In the U.S., managing the company’s inventory “will be high on the priority list moving forward,” he said.

Earnings were also hurt by rising competition and the company’s decision to increase prices of some brands, it said today. The company “does not expect to recover the first half shortfall and expects these challenges to continue in the second half,” Treasury Wine said.

Total brand building investment, particularly in Asia, increased in the first half, the company said today. In Australia, Treasury Wine chose to reduce promotional incentives over the Christmas period, which led to higher-than-expected volume declines, it said.

Australian wine-makers are being squeezed by a global glut of grapes, a strong local currency and competition from Chile, Argentina and South Africa, with local margins dropping from more than 10 percent in 2008 to an average of 2.2. percent over the following three years, according to the Winemakers Federation of Australia.

After peaking at A$2.99 billion in 2007, Australia’s wine exports fell 39 percent to a 12-year low in the year ended June, according to Wine Australia, a government-backed industry body.

Today’s drop extended Treasury Wine’s share price declines this year to 24 percent, compared with a 3.1 percent slip in the benchmark S&P/ASX 200 index.

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