We recently researched Breville Group (ASX:BRG) following the release of results for the six months to 31 December 2017 (1H18). The share price has retreated since that time. In this note, we examine the key reason for the recent weakness in the share price – the proposed US tariff on goods imported by the US from China – and argue that the strong Company fundamentals have not been affected. We also look at the chart to determine if this is the best time to be buying the shares.
Overview of Breville Group
Breville Group manages of a number of consumer electrical appliance bands. A core focus is in the small kitchen appliances segment. Under a recently-implemented new organisational model, the operations of Breville Group now comprises two segments:
i. The ‘Global Product’ segment – focused on the design, development and sale of Breville-branded products. They are supplied in 65 countries to the premium kitchen segment of the market. This segment accounts for 85% of group revenue. It comprises contributions from three regions: North America, Australia and NZ (ANZ) and Rest of World (ROW).
ii. The ‘Distribution’ segment, which distributes products that are designed or developed by a 3rd party pursuant to a license or distribution agreement. The distribution of these products may be sold under a brand owned by Breville Group. For example, Breville or Kambrook, or distributed under a 3rd party brand (e.g. Nespresso).
What Has Happened Since Our Last Report?
The Office of the US Trade Representative has released a list of Chinese products that it proposes will be subject to an additional tariff. The proposed list appears to focus on commercial and technology-based products. The list includes a number of products relevant to Breville Group. North America accounts for ~60% of the Global Products’ Segmental revenue.
We consider that the potential for a number of BRG’s products to be subject to trade tariffs, as well as recent market volatility to be the key reasons behind the recent sell-off. In particular, the market is concerned that the proposed list may not be definitive and could be expanded further should China take increasing retaliatory steps.
Are These Concerns Overblown?
Most likely the market’s concerns are overblown. The proposed list includes products with the “lowest consumer impact” and those not used for domestic purposes.
In North America, Breville Group distributes its range of premium internally designed and developed kitchen products under the Breville brand. This is through premium channels and its own online retailing platform. On that basis, it would appear that the majority of Breville Group’s products sold in the US are into the consumer end-market. However, there is no such disclosure from the Company.
Breville Group’s products are underpenetrated in North America and the Company has an increasingly diverse earnings base that is skewed to Europe. In particular, in the current half, Breville Group will be launching the Sage brand into Germany (Europe’s largest coffee market) and Austria directly. Over the longer term, a successful direct model in Germany (as in the UK) may provide Breville Group with a platform to expand into other Western European countries. These include France, Italy and Spain.
Further, the Company has a strong balance sheet (a very small net debt position, which is expected to revert back to net cash balance). This positions the Company to capitalise on future acquisition opportunities. To this end, Breville Group is focussed on category and geographical expansion.
Is Breville Group Attractive at Current Levels?
In our last report, we commented that “with the shares trading on a 1-year forward P/E multiple of 24.2x and thus not exactly in value territory, we would look for weakness as a more attractive entry points”. The shares are now trading on a 1-year forward P/E multiple of ~22x and the recent sell-off puts Breville Group firmly back onto the radar from a fundamental perspective. Further, the recent sell-off has not prompted any broker downgrades to either recommendation or price target, with consensus price target current indicating +20% upside from these levels.
The Breville Group Chart
When we looked at Breville Group in our client research, we warned our readers that a break of the $12 support level could see it fall towards $11. Not only have we seen it fall towards $11, but the volume has been increasing on the way down. This increasing volume suggests that they might get cheaper than our current $11 target. We can see support levels further down at $9.80. Below that is support at $8.65. The $9.80 level is the one that we would be targeting if Breville Group cannot bounce from here.
Michael Gable is managing director of Fairmont Equities.
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