The JSE’s food sector has caused numerous investors indigestion in the past 18 months thanks to tricky operating conditions, input cost spikes, load-shedding disruptions and weak consumer demand.
But IM thinks it’s time to angle for the local fishing sector.
We’ve had four years of a favourable La Niña weather oscillation that led to warm, wet agricultural summers and above-normal crop tonnages. This historic abnormality — which has aided the land-based agri sector and hindered the water-based fishing sector — is forecast to revert to El Niño this year.
That will result in hot, dry periods that will not be conducive to field crops. With falling South African Futures Exchange soft commodity prices and relatively high input cost production remaining, 2023/2024 could be more challenging for agriculture. It’s too early yet to get back wholesale into food producers given the weak economy and consumer duress.
This weather change should be a boon for fishing stocks — the change in oscillation should lead to the return of cold waters to southern oceans, which is good news for fisheries stocks. In the past few years the fisheries sector has had to contend with disappearing shoals, more troublesome periods at sea and cuts in catch tonnages by the authorities.
After a few years of choppy seas, the sector can now look forward to some tailwinds.
In much of 2022, the listed sector — Oceana, Sea Harvest, I&J (within AVI) and Premier Fishing & Brands — had a tumultuous year.
It was beset by a double whammy it could not have foreseen. The 2020 fishing rights allocation process (Frap) was delayed and promulgated only in early 2022, two years late. An appeals process is under way that should be concluded by October.
That led to some long-term quota being taken from the larger white fish companies, principally Sea Harvest and I&J, and given to the smaller players.
Oceana — which owns the powerful Lucky Star canned pilchards brand — was spared any loss.
Alongside the cut in fishing rights allocations, the annual total allowable catch (TAC) tonnage was also trimmed with a 5% cut in the key hake allocation for the 2022 fishing season. In that year Sea Harvest and I&J were each down 10% in tonnage volume. Oceana was down 5%. This was more material to the former given the scale of their hake fishing interests.
Then the Russian invasion of Ukraine in February 2022 had a double-edged effect. Oil prices soared to record levels. Marine bunker fuel is the principal cost in fishing and that led to margin compression in the financial 2022 reporting period.
However, sanctions on Russia, a major exporter of white fish, led to a global drop in supply and rising prices as alternative product was procured. With the rand also weakening, South African fish exporters benefited from rising post-Covid reopening demand, firming international prices as well as rand translation benefits. Much of this will seep into 2023 earnings.
So, 2022 was a year many in the listed fishing sector would like to forget. Aside from the factors mentioned above, China remained in hard lockdown — closing a large export market especially for abalone, a key product for many domestic fishing counters.
Aside from this, the largest listed fishing play, Oceana, had its own internal drama with a revolving door of management, dodgy accounting accusations and a messy internal inquiry. Much was just noise, but the controversy resulted in a slump in the share price by a third to R46 on market jitters.
Oceana, through the large and controversial acquisition in the US of Daybrook Fisheries for $382m in 2015, has diversified its country risk
Late 2022 and early 2023 were much better for the fishing sector.
Many of the extraneous features have now been priced into the sector. Globally, oil prices are well below their peak, Frap is out of the way and a 5% increase in the 2023 TAC for hake was announced.
With the rand at 18.25 to the dollar and 19.90 to the euro, exports earnings will rise as global prices remain firm and the Chinese market is starting to reopen. These are all tailwinds for the sector, which spent much of 2022 on the back foot realigning costs.
For the investor there are only two plays in fishing listed on the JSE — Oceana Holdings and Sea Harvest. They have a market valuation of R9.2bn and R2.9bn respectively. Both stocks are part of Brimstone Investments, which owns 25% of Oceana and 53% of Sea Harvest.
Within diversified foods, retail and personal care cluster AVI, there is I&J. The division has been a problem for CEO Simon Crutchley, given its ongoing volatility; there have been many calls for its unbundling. That may not as easy it seems, given its size and scale. AVI has tried but nothing has transpired.
Premier, a small player which gained in the Frap, has some valuable assets in squid, lobsters and abalone. But it has had a fraught period since its listing in early 2017, at 450c a share, due to its association with the Iqbal Survé group of companies. Premier is now being delisted at a lowly 160c a share, with the few remaining minorities being bought out.
On the over-the-counter market, Abagold, a leading abalone aquaculture business favoured by IM editor Marc Hasenfuss, is trading at 330c with a market valuation of R465m. This gives exposure to the recovering export market for abalone into China. There has already been a material leap in interim profits compared with financial 2022 results.
But IM will focus on Oceana and Sea Harvest with specific linkage to its majority shareholder Brimstone. Both may be listed in the same sector, but these are very different companies.
Oceana, through the large and controversial acquisition in the US of Daybrook Fisheries for $382m in 2015, has diversified its country risk. Daybrook is in the fishmeal business, with substantial revenues derived from providing raw materials into the US pet food market.
In recent financial 2022 results, group revenue from continuing operations rose 12% to R8.15bn with an 11% increase in operating profit to R1.21bn. Headline earnings rose 17% to 626c a share.
Oceana’s most profitable division is Daybrook, which accounted for 48% of operating profit in 2022, though it is better known for its Lucky Star brand, with more than 200-million cans sold per year. The business contributes R4.6bn to group revenue and 40% of operating profit. Oceana’s direct fishing business makes up 20% of revenue and 12% of operating profit.
In truth, Oceana can be deemed to be more of a consumer foods business than a fishing stock.
Sea Harvest’s revenues from direct fishing is material. Through several acquisitions in South Africa and Australia, fisheries make up 65% of revenue and 84% of operating profit. In recent 2022 results, revenue for the period rose 27% to R5.9bn, but operating profit declined 32% to R472m as a consequence of the 10% cut in domestic fishing volumes, higher oil costs and losses within aquaculture. Headline earnings for the year declined 33% to 105c a share.
Sea Harvest has been working to diversify its income stream and has built up a midsized foods business in the dairy and deli value chain. Cape Harvest Foods is a R2.1bn revenue business with an operating profit of R118m — mainly generated by the Ladismith cheese and butter brands.
In 2024 South Africa enters an election cycle and who knows how the political landscape will look
Both Oceana and Sea Harvest show opportunity and IM maintains buy recommendations on both counters as the 2023/2024 financial periods promise to be robust.
Oceana should score from continued earnings growth from rand hedge Daybrook and an expansion of its Lucky Star range into new canned food categories. The recent sale of its cold storage business for R760m will reduce group debt and bolster returns.
Sea Harvest should see a good recovery from a low earnings base given a lower overall cost base, normalisation in TAC volumes, strong export demand and reduced losses in aquaculture on China’s reopening.
Both counters also have a special situation angle. As mentioned earlier, Brimstone is the anchor shareholder with 25% of Oceana and 53% of Sea Harvest.
Brimstone’s BEE credentials were critical in the emotive issue of fishing rights. Now that the fishing rights allocations are done, does Brimstone need to own two fishing counters and have all its fish in one investment net?
IM has long believed that Brimstone wishes to unwind and unbundle its remaining assets. With R2.17bn in debt, a placement of the Oceana stake would extinguish debt and leave money in the bank given the stake’s value of R2.3bn.
Furthermore, IM does not believe any entity needs to own 53% of Sea Harvest to maintain BEE significance. Sea Harvest is illiquid and, in due course, any material acquisition could see Brimstone naturally diluted should it fail to follow any capital raise.
IM does not believe there will be any immediate change with the ownership arrangement between Oceana, Sea Harvest and Brimstone. The Frap appeal only ends in October. In 2024 South Africa enters an election cycle and who knows how the political landscape will look or who the fisheries minister will be. The new minister might not be as progressive as incumbent Barbara Creecy.
These factors weigh on Brimstone and thus also Oceana and Sea Harvest. Given its lower actual domestic proportion of revenue from South African fishing, Oceana seems the logical Brimstone exit.
Sea Harvest is trickier, given its hefty hake TAC allocation. Any change in its BEE credentials will require the minister to be consulted. Its fishing rights allocation could be amended should the overall BEE score change, despite the 15-year allocation supposedly being cast in stone. But this may not be so … in fact, it seems the minister needs to approve any control changes. This is the sardine in the can; the minister’s view allied to the upcoming election and who could be in charge politically.
Aside from Brimstone, IM believes Sea Harvest wants to undertake a reasonably sized deal in the domestic food sector to balance it fishing dominance and gain scale. Mid-cap food counters Libstar or RFG would make interesting partners.
But with debt at the centre after a slew of deals, Sea Harvest first needs a recovery in its earnings in 2023 and 2024. IM sees any corporate action at least two years away.
Until then, the fundamentals in both Oceana and Sea Harvest as standalone investments remain sound — as does the inherent local and global demand for fish and related products. IM maintains buys on Oceana, with a revised target of R85 (+20%), and Sea Harvest, with a target of R13.50 (+34%).
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