It’s wine o’clock for the Treasury Wine Estates Ltd (ASX: TWE) share price – up 17% over the month of May. Will the party continue, or is a nasty hangover imminent?
Despite this recent recovery, Treasury’s shares are still trading at a 33% discount to their pre-COVID levels.
TWE share price
Treasury background
Treasury Wine Estates is a global winemaking and distribution business, selling wine to more than 100 countries.
You’d likely be familiar with some of its brands including Penfolds, Wolf Blass, 19 Crimes, Matua and Lindeman’s.
Last year, Treasury’s exports to China got slapped with a 175.6% tariff for all smaller containers less than two litres, which is set to last for five years. This was due to Treasury being accused of selling its products into the market at lower, anti-competitive prices – a process known as dumping.
Treasury was previously supplying around $500 million worth of wine to China, which luckily, is able to be redirected into other lucrative markets such as South Korea, Thailand, Japan and India.
Unfortunately, this could prove to be quite a lengthy process. Management noted it may take between two to three years to get back up to speed.
What now?
It might not all be bad news though. You see, Treasury gets only around 24% of its grapes from its own vineyards or leases, and must purchase the remaining amount from various suppliers.
Due to the recent tariffs imposed, there’s now been a surplus of red wine grapes in Australia, which has significantly reduced their spot price and therefore Treasury’s input costs.
While this, unfortunately, disadvantages grape growers, some analysts are expecting this to result in cost savings for Treasury in the order of $70 million to $80 million.
Summary
Another aspect to consider would be Treasury’s valuation.
As my colleague, Lachlan Buur-Jensen pointed out in his article, Treasury’s shares trade on a fairly undemanding multiple, which is likely reflective of the situation around China.
Even after the recent rally last month, Treasury’s shares trade at 23.8x Penfolds EBITS. So, one could argue much of the bad news has been priced in accordingly. If expansion into new geographies goes well, I could easily see Treasury’s shares re-rate from here.
Of course, it’s always worth considering Treasury’s downside risks, which you can read about here: The bear case for Treasury Wine (ASX: TWE) shares.
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