Clean Seas Seafood Ltd

ASX:CSS

Earnings Call Transcript 2022-Q4

[Robert Gratton, executive]

Good morning, everyone, and welcome to Clean Seas FY '22 results presentation. My name is Robert Gratton, CEO of Clean Seas and also on the line, we have David Brown, our CFO.

We come to you today with great pride and pleasure giving you this update this morning, and showing significant progress that we've been making against our strategic plan and delivering a solid set of financial numbers to go along with that.

In the last 12 months, we've seen continued great market awareness and acceptance for our high-quality Yellowtail Kingfish species all around the world, and our commercial messaging around delivering on a high quality, the culinary flexibility and the Spencer Gulf provenance of our fish continues to resonate in markets around the world.

On the back of that, we've been able to deliver substantial sales and volume growth but equally importantly to our story is our ability to deliver working capital efficiency improvements and substantially reduce our cost of production despite operating in an environment of increasing inflation and commodity cost increases.

As a result of this progress on the top line and also on costs, we've been able to deliver positive cash flows a year earlier than we expected and made great progress to substantiate the financial model that we're working towards.

Clean Seas has always been very proud of its sustainability credentials. Indeed, the founding values of this company were around the full life cycle breeding and farming of fish, and so we've been also very pleased to be able to show some great progress this year against our ESG agenda, particularly our asparagopsis collaboration, which I'll talk a little bit more around later. And so we see this great footprint.

It's great starting point we have to continue to grow the species and to continue to benefit from a growing appreciation around the world.

I know you're all keen to hear about the numbers. But before we go there, I'd just like to talk a little bit about one of our key, in fact, probably our most important attribute, which is our safety-first culture, keeping our people safe. We've had a heightened focus in this area in the last couple of years.

I'm very pleased to be able to show that our lost time injury frequency rate has decreased below the industry benchmark this year. We won't stop there. We'll continue to work to keep our people safe as our overarching priority, but I wanted to share that work with you because it's very important to us.

But I know you're here to hear about the numbers. So without further ado, I'll pass on to our CEO -- CFO, David Brown, who will talk you through the numbers.

[David Brown, executive]

Thanks, Rob. In FY '22, Clean Seas has made substantial progress against our strategic priorities, which translated into improved financial performance and which has seen the company deliver record sales volumes of 3,757 tonnes, up 19%; record revenue of $66.2 million, up 37%; and record underlying operating cash flows of $6.2 million.

We maintained our focus on improving the company's working capital position, which saw closing frozen inventory reduce by 84% and inventory months cover now at its lowest point in over 5 years. With this, production costs have reduced by 19%.

The improvement in underlying gross profit to $1.82 per kilo reflects the improvement in pricing and production costs, and we are well positioned to achieve further improvements in gross profit in FY '23 as we benefit from selling purely a grade premium Kingfish.

While the overall FY '22 performance was an underlying operating loss due to the historical sum costs from the year class '20 cohort, we continue to see month-on-month improvements in profitability, and we remain on track to deliver positive operating earnings in FY '23.

The statutory profit of $8.7 million reflects the improvement in operating earnings, coupled with an increase in valuation of our biological assets, which is due to the uplift in pricing, particularly seen in Q4 FY '22.

FY '22, as I said, was a record year for Clean Seas in terms of sales volume and revenue. The encouraging 19% growth in total sales volumes was driven by Australian and European markets. Our domestic Australian market grew sales volumes by 19% and now represents 57% of total global sales volumes.

The result reflects a significant achievement and it demonstrates the growing demand for Kingfish in the premium food service peaked in Australia. The demand for fresh products in Australia and globally continue to exceed supply, which improved pricing by 14% to $19.29 per kilo.

Our European market primarily focused on building awareness for frozen products, which resulted in approximately 819 tonnes sold into the European market.

The transition to frozen products in Europe reflects the company's strategic decision to grow the frozen customer base, utilizing our premium frozen technology SensoryFresh. This has allowed Clean Seas to offset the higher airfreight charges as a result of COVID-related transport disruptions and a greater utilization of a lower cost and lower carbon frozen supply chain.

In FY '21, Clean Seas sold into North America 282 tonnes of clearance inventory to [indiscernible] in North America in support of retail launches. Due to strong demand and higher-margin markets and channels globally, these programs did not continue in FY '22 and instead our North American market focused on high-margin premium customers.

FY '22 sales mix remain consistent with FY '21 at approximately 68% fresh and 32% frozen. The higher frozen split over the past 2 years reflects the need to clear excess inventory. Having completed this now in Q1 FY '22, average frozen pricing increased to $14.06 per kilo and in Q4 reached a record $18.45.

Looking ahead to FY '23, we expect sales mix to return to historical levels of approximately 75% fresh and 25% frozen. These favorable trading conditions have continued throughout the first 2 months of FY '23, with sales volumes reaching approximately 406 tonnes to date. While this is down on prior year, the Q1 FY '22 had a higher level of frozen activity.

Average sale price for Q1 FY '23 year-to-date has continued to increase with total revenue per kilo now at $21.68, up from $19.68 in Q4. In terms of revenue, we are tracking in line with prior year, with the increase in price offsetting the decline in volumes.

The increase in sales price has largely been passed through to the farm gate, gross profit and EBITDA and provides a very positive start to FY '23.

Having reached peak inventory in FY '22, the declining trend in inventory months cover continued in FY '22 declining to 12. The improvement in working capital reflects the completion of the year Class '18, '19 and '20, which were significantly impacted by the COVID-19 pandemic.

For context and to truly understand our high cost of production, it is important to understand how months in water correlates to a high production cost base. For Clean Seas to achieve the lowest possible cost of production, the full harvest of a year class must be completed with around -- within around 29 months.

This provides sufficient time for Kingfish to complete the 2 year grow-out to have a size, which is generally completed in March or April. This -- and this would ensure we are not holding any class through another winter, which adds significant costs.

As you can see in the bottom left-hand graph, there has been an increasing number of [ months in water ] for the year class '18 to the '20 cohort. The extended grow-out in water were directly responsible for the peak inventory months cover, which was attributable to the initial but significant impact from the COVID-19 pandemic.

The extended grow-out of these year classes increased our production cost to $15.29 in FY '21. In August 2022, we commenced the harvest of the year Class '21, and we are on track to complete the harvest of this cohort in April 2023, which will be the shortest grow-out in the past 6 years or 31 months, which will put downward pressure on production costs.

With inventory months cover at its lowest point in 5 years, the company delivered production cost savings of 19% in FY '22 despite the impact from higher costs. Similar to most companies, Clean Seas was not immune from cost pressures in FY '22.

However, the impact of an increasing feed price had the most material impact given the feed represents approximately 60% of our production cost base. The increase was largely driven by higher commodity prices and freight costs. Shortages of skilled labor also impacted operation. And with a tight labor market, we continue to have numerous open positions.

Clean Seas also experienced seeing increase in fuel costs, while electricity prices were largely protected from large fluctuations as the company sources the majority of its energy from a certified green power renewable energy supplier.

The challenges with the labor market and increased commodity prices are expected to continue in FY '23 and will likely slow the company's ability to return to that very low $9 cost of production. However, we still expect further gains to be realized in FY '23.

Despite an increasing cost base, we do not expect a gross profit to be adversely impacted due to the improvement in pricing. The downward pressure on indirect costs was delivered in FY '22, reducing to $3.10 per kilo.

The improvement in indirect cost represents improved operational leverage, reduction in spending across the sales and marketing and lower frozen storage costs due to lower inventory holdings.

Cash receipts reached a record $67.4 million in FY '22 and represented a 50% increase on FY '21. The growth in receipts was driven by optimizing working capital and selling down frozen inventory, coupled with a 19% increase in sale price.

And selling the majority of the FY '22 harvest as fresh products, which generated a higher return and eliminated holding costs. Despite growing receipts by 50%, Clean Seas managed to keep costs relatively under control, which translated into an operating cash flow of $6.2 million.

In addition to our frozen -- to our focus on working capital and cash flow management, the company undertook the necessary steps to ensure the company maintain its level of external funding, which included renewing our $32 million debt facility with CBA. During FY '22, Clean Seas utilized the working capital facility to fund $1.8 million in fee payments and the [indiscernible] debt facility to purchase three heavy vessels. And at the end of June, the company had $12.9 million in cash and undrawn facilities of $26.6 million. Clean Seas further strengthened its balance sheet in FY '22, which resulted in an improved working capital position, while the reduction in cash holdings for FY '21 reflects the repayment of convertible notes and short-term debt.

The increase in biological assets largely reflects an increase in valuation driven by the increasing trend in sales price, while the investment in property, plant and equipment reflects the purchase of 2 vessels and maintenance assets such as grids, cages, mats and processing plant improvements.

Clean Seas commences FY '23 with a net cash position of $5.4 million, and we believe we have sufficient funding to continue to invest in working capital and major projects. We intend on maintaining our prudent investment decisions to ensure we have the right balance between growth, maximizing shareholder return and minimizing operational risk.

[Robert Gratton, executive]

Thanks, David. A very strong set of numbers there indeed. As David spoke about, we started last year with a very large amount of frozen inventory, and our sales team did a fantastic job to leverage that frozen inventory to build awareness and to develop new markets and channels.

They're able to use that stock to give us expanded market and channel penetration, which really helped to grow the awareness and acceptance of our premium quality fish. They delivered on the strong commercial messaging around highlighting quality, culinary flexibility and Spencer Gulf provenance. And with an launch of the future, they launched a range of programs into retail channels, highlighting the benefits of our frozen, our fresh and hot smoked products.

In addition to our premium Spencer Gulf Kingfish branding, we launched new branding around South Australian Yellowtail, which gives us a mid-tier brand to offer into food service and volume food service and specialty retail and opens up a range of new channels and markets as a result.

With some supply constraints out of Japan, we're able to use our product to go up against the Japanese product in North America, and we've seen a very successful launch into some of Europe's largest sushi chains with our frozen product as well.

But importantly, as the food service -- as the high-end food service business returned, we're able to recapture that market, which remains a near-term priority in order to maximize our higher returns.

As I said before, part of our commercial positioning is our sustainable production values and ethos. Clean Seas was founded with sustainability in mind. The full life cycle, breeding and production of Kingfish, and that ethos and those values stay with us today.

They're key to our commercial positioning. They're key to our investment thesis, and they're also one of the big reasons why people come and work for us. Farming this native fish in its natural environment in the perfect environment of Spencer Gulf gives us great advantage in terms of quality and sustainability, low levels of intervention and relatively low stocking densities. It's a vast area of water in which we farm and that allows us to farm in the best way possible.

Similarly, in processing, we use our best practice liquid nitrogen SensoryFresh technology, which allows us to send the highest quality sashimi-grade Kingfish anywhere in the world using a low-cost, low-carbon supply chain. And so that technology is also key to quality and provenance offering.

We continue to invest in R&D. We're looking into Kingfish diet developments, the replacement of fish meal and fish oil with more sustainable products and also into the carbon and nitrogen capture technology in seaweed which I'll talk about in a minute. We're very proud of our Aquaculture Stewardship Council and Friends of the Sea certification.

Coming back to R&D. We're very proud of our Asparagopsis collaboration, which we launched and notified the market of 3 or 4 weeks ago. Like Yellowtail Kingfish which is native to the waters of Spencer Gulf, there are 2 species of algae that grow in the Rockwall just outside our hatchery here in Arno Bay.

Those algaes are summer and winter species have been proven to reduce the methane output of cows by up to 90% and are a very exciting development in the field of agriculture. But importantly, for aquaculture, the harvesting of algae holds out nitrogen and carbon from the water. And so we're able to use that to balance the nitrogen and carbon load of our farming activities while providing a benefit to agriculture as well.

And so these blue economy circular solutions are really key to the next generation because we absolutely believe that the commercial positioning of this fish is not just about the quality and culinary flexibility, but it's also about the impact that people's purchasing decisions and consumption decisions have on the environment, and we think that will be increasingly important as we go forward.

So looking ahead, obviously, we've seen great growth in the awareness and appreciation and production of Yellowtail Kingfish over the last few years. Indeed, we've seen a 20% -- 28% per annum increase in production from 2013 to 2021, powered in part by our success in multiple markets all around the world.

But despite that, we still see the species as very niche compared to farmed salmon. And we think that it offers a high quality, a very flexible and very sustainable alternative to farm salmon as we continue to grow the business.

If we think about this fish in a culinary sense, it is similar to salmon in that it can be served raw or cooked as a steak. It can be baked in the oven or stirred into a curry or [indiscernible]. So great culinary flexibility means that we believe with that sustainability story, we'll be able to continue to take market share from other aquaculture species as we go.

And crucially, that leaves us very well positioned to leverage megatrends around health, sustainable protein, and as I said before, consumers growing appreciation and awareness for the environmental impacts of their purchasing decisions.

So we absolutely believe we have the scale and market reach and the balance sheet to deliver on our optimal capacity and to deliver on the increase in our farming production up until the 10,000 tonnes that we have.

In terms of where that growth is coming from, you'll see in this slide that with sales predominantly to Australia and to Europe, almost all of Clean Seas current business is in less than 20% of the addressable market worldwide. The great untapped markets of North America and Asia represent 80% of the global Kingfish market, where we're still very much underrepresented in those markets.

And crucially, and excitingly about those markets, they're predominantly frozen markets as well. So our high-quality SensoryFresh product, we expect to do very well in North America and Asia in the coming years as we look to tap those untapped markets and delivering growth for this business.

So in terms of outlook, in some ways, it will be more of the same. We'll continue to build on awareness and channel diversification, highlighting the quality of our fish, how it can be used and as well as the sustainability and provenance credentials of farming in Spencer Gulf. We expect to be able to increase our harvest by circa 30% to replace that 900 tonnes of frozen inventory that was sold last year.

And crucially, we expect those sales to be at the higher price that we've seen in the second half of FY '22. By continuing to work on optimizing working capital and reduce production costs as David mentioned before, we expect to be able to deliver positive underlying EBITDA and operating cash flows in FY '23.

In terms of newness and what we're bringing for this year, we will be continuing to work on how we unlock our future farming capacity. So an appropriate level of investment in infrastructure to unlock the benefits of increased scale and improved operational leverage balancing that always with financial risk.

And so we would like to see FY '23 be a year of sustainable and sustained growth, but responsible growth and giving the market some awareness of how we're building capability by investing in that level of infrastructure. And obviously, we'll continue to enhance our ESG credentials.

The feed ingredients projects that we've got going on, the carbon and nitrogen capture projects that we've got going on will be crucial to our success and to our positioning in the coming years, and we'll continue to work on those projects throughout FY '23.

So in summary, we've got very strong sales momentum for this incredible premium seafood species driven by our unique provenance story. We've got a clear pathway now to sustainable profitability and cash flows and ongoing decreasing production costs despite inflationary pressures.

Very attractive demand and supply drivers with strong pricing in the market, and as David mentioned, continued strong pricing in these early months of FY '23 with high barriers to entry.

Our 20 years of doing the species and the IP that, that involves the working capital that, that involves, the infrastructure that, that involves is a very high barrier to someone else coming in.

But we expect there to be competition because there's huge global potential for this Kingfish as demonstrated by the growth that we've seen and the untapped markets in North America and in Asia. We still have that scope to increase cost of production and increase yields through automation and selective breeding. We're continuing on that process.

And our work over the next 12 months will be to work on how we unlock that capacity and work to take advantage of those extra licenses that we've already got in place.

Our positive social license is crucial to us. And so we believe we've got a very sustainable and environmentally friendly growth opportunity, which obviously is accredited by ASC and Friends of the Sea around the world. So that concludes our presentation. Very pleased to be able to share that with you, and we'll be happy to take any questions if there are any.

[Unknown Analyst]

Rob, [indiscernible], do you think how Japan and missing their quotas on their wild [ catch ], do you think that will continue to put an upward pressure on the Kingfish price?

[Robert Gratton, executive]

Maxine, good question. Look, we have seen the wild catch of juveniles decrease in Japan over the last few years. The Japanese industry is a little bit different to us, whereas we're full life cycle breeders. They go out and catch their juveniles to a large degree and ranch those out.

There is some full life cycle breeding in Japan. I would expect that to increase. But certainly, in the short term, some of the conditions that we're seeing in the U.S. market, in particular, suggests there will be some supply constraints.

And that's not material in terms of the overall volumes that we're seeing, but certainly, some of that growth that we're seeing in North America, we think it's because some of those previously closed doors are now opening. Any other questions? Okay. Well, look, if there's nothing else, really thank you all very much for joining. We really appreciate the chance to tell our story and give an update on our progress and how excited we are, and we look forward to continuing that conversation with you over the coming months. So thank you very much.