Important: I've received many questions asking me to explain how an investor could go about researching a share or company listed on the ASX, and this is what I've come up with. I've used a company I'm following closely (Yowie) as an example. By the end of it, I hope you'll see that it's really not that hard to do your own share research!
However, before you read any further please note that I own shares of this company (I bought in at higher prices than today's!). Secondly, this is my research — it is not an investment recommendation. Finally, I have made attempts to ensure the information in this article is accurate but there may be some gaps in my knowledge. If you think you know something I don't, please comment below or send me an email.)
Who is Yowie?
Yowie Group Ltd (ASX: YOW) ("Yowie") is the global rights owner of the once-popular Australian confectionery. Its primary product is a milk chocolate egg with a toy, usually an endangered animal, and a description of the animal contained within a plastic capsule.
The six Yowie characters are protectors or 'guardians' of the world's endangered wildlife. Hence, the Yowie tagline of 'Save the Natural World.' There are six characters in total:
- Rumble: Cousin of the red kangaroo
- Boof: Cousin of a bandicoot
- Ditty: A wombat
- Crag: The crocodile looking one
- Nap: A koala
- Squish: Cousin of the platypus
Brand strength in numbers
Yowie was conceived by authors Geoff Pike and Bryce Courtney. It is believed that 2 million copies of the popular children's books were sold, making it one of Australia's best-selling children's books.
The brand was developed under the company name, Kidcorp Pty Ltd. In 1993, Kidcorp partnered with Cadbury. In a (milk chocolate) nutshell, Kidcorp retained the rights to China, India, and the USA while Cadbury distributed to other markets.
Yowie launched in Australia and New Zealand in 1995, selling more than 65 million units in their first year of production — equivalent to three units for every man, women, and child. The positive 'confectionery with a conscience' saw Yowie become the number-one single unit confectionery in the Australian and Kiwi markets. Anecdotal evidence suggests it took as much as 30% share of the $80 million children's confectionery market (source). Within two years, it secured 36.2% share.
According to an ABC Online article from 2014, Chairman Wayne Loxton believed it was, "one of Cadbury's most successful brands ever launched in the history of the company."
Interestingly, over 50% of sales in Australia and New Zealand were to consumers over 18 years of age.
Yowie rolled out into the Singaporean, Japanese and UK markets, and licensing of Yowie extended to clothes, games, books, CDs and soft toys. Yowie 'swap groups' sprung up across the globe.
In 1997, just three years after the Cadbury agreement, Yowie won a series of awards in Paris for 'Best New Global Supermarket Product' and 'Best New Global Confectionery Product'.
Unfortunately, a disagreement between Cadbury, which is believed to have wanted to take the Yowie brand into larger markets, and the intellectual property owners, saw Yowie removed from shelves in the mid-2000s and sales curtailed in 2005. Being a child at the time, I felt shattered.
In 2012, however, signs of hope re-emerged when the Yowie brand was repurchased by the now ASX-listed entity, Yowie Group, which was reverse listed through GSF Corporation Limited.
Led by Wayne Loxton, almost 10 years after the brand's discontinuation, Yowie Group announced it'd take the Yowie concept into the world's largest consumer market, the USA.
In July 2014, the first new Yowie products popped up on shelves thanks to a manufacturing and patent agreement with Whetstone Manufacturing in Florida, USA.
Manufacturing and Patent
Yowie contracts manufacturing. But that's not the only promising characteristic of this small company.
In fact, not only is Yowie nurturing its award-winning brand for potential competitive advantages, it also has access to a unique patent that precludes competition from the likes of Ferraro's Kinder Surprise and Nestle (note: please see my "manufacturing" note change below).
The patent protects children from the choking hazards presented by concealing a toy inside chocolate. Exclusively granted for use by the patent owner to Yowie Group, the exclusive rights expire in April 2018. That'll likely give Yowie a foothold in the market while it irons out its supply chain.
Henry Whetstone granted exclusive use of the patent to Yowie in exchange for a fee per unit of products sold in the USA, Canada, and Mexico until 2027.
However, there are also minimum fees payable to Mr Whetstone to maintain the rights, as follows:
Manufacturing change
On 31 December 2015, Yowie made an announcement to the ASX detailing a change to its manufacturing. In the announcement, Yowie said it had reached a new manufacturing agreement with New York-based, Madeleine Chocolate Company. Yowie said it affords them the opportunity to expand its US rollout and plan for its other expansion opportunities.
Interestingly, Yowie said it had developed a newly-designed US-patent pending and FDA-approved capsule in its production facility with Madeleine, which will reduce processing and input costs. "Yowie will no longer use the Whetstone capsule design in its products and has elected not to pay any license fees for rights to use the Whetstone capsule design after 31 December 2015". This announcement left me a little concerned and is one reason why I haven't bought more Yowie shares in recent weeks.
My research into this 'interesting' development is ongoing.
Obviously, the patent could be crucial to Yowie's North American rollout. However, the company added: "The Yowie Board is confident that the decision to put in place new manufacturing arrangements will not impact the Company's North American market opportunity."
The deal will give Yowie fully automated access and production capability of up to 100 million units per year, well above my current run-rate estimate at December 2015. The company said this manufacturing arrangement would begin in early 2016 and it believes it has enough inventory to cover its commitments to existing customers, plus contingency supplies.
The USA market size and expansion
Obviously, the USA rollout is a key priority for the company. Yowie estimates the market for its chocolate is between 700 – 800 million units per year, equating to a value of more than $US2 billion. The US confectionery market is worth some $US31 billion in total, according to Yowie, equivalent to around 20% of the global marketplace. The US chocolate market alone is worth $US21 billion and $US13 billion of that is most relevant for Yowie.
According to a recent Yowie presentation, in 2014, Ferraro sold 2 billion Kinder Surprise units globally. Of that, 1.2 billion unit sales were recorded in Europe, where the target population is estimated at 495 million.
Yowie is currently being rolled out in the USA via distribution partnerships with household names like Walmart and Cost Plus. I think the Walmart deal is particularly important and the ongoing relationship is a testament to the product. In 2015, Yowie, having successfully completed its first trial with Walmart, was rolled out to 1,505 stores. Then, in late 2015, it had commenced a 4,300-store rollout across the entire country.
According to the company's most recent Annual General Meeting, the average recommended retail price for Yowie is USD3.00 or USD2.99 for grocery and USD3.99 for other channels.
Online, Youtube and Walmart are an invaluable source of customer feedback — more on that below.
"Yowie is ranged on 10 checkout stands per store," Yowie recently said.
The novelty (online consumers were calling them 'stocking stuffers' during the Christmas period) and price point (around $US2.50 each) mean Yowie sales likely occur at 'impulse' purchasing areas in stores (i.e. the end of aisles, next to checkouts, etc.).
The Walmart agreement is important to Yowie's rollout and, therefore, creates a demand risk for the company. Nonetheless, it is reassuring that the world's largest retailer was willing to undertake a nation-wide rollout after an extensive trial.
Moreover, Yowie's North American ambition is not entirely dependent on Walmart – indeed, far from it. As noted above, the fact that the chocolates provide a novelty and impulse purchase decision, in my opinion, mean they will just as quickly sell on a 7-Eleven shelf as a Walmart shelf. Yowie was sold through 45 retailers during the September quarter.
Angry Birds
This could be a sign of things to come…
In November 2015, Yowie announced it would manufacture and distribute chocolates with an Angry Bird inclusion, through an agreement with Rovio Entertainment. The three-year agreement (due to expire in September 2018) was designed to coincide with the Angry Birds movie release in May 2016. Sony Pictures are producing the highly anticipated children's feature.
In my opinion, the movie launch and marketing will be a significant boost in establishing Yowie in the global chocolate manufacturing marketplace. However, I am also concerned that the deal may hurt Yowie's expansion across the country since it may detract from the Yowie brand. Nonetheless, I suspect demand for the Angry Birds chocolate will be significant.
International Expansion
Yowie Group has control of the Yowie name in global markets, and following a successful trial in Dubai beginning in April 2015, the company recently said it'll expand operations in the Middle East and is now in discussions with major distributors. Demand for chocolate from the Middle East, China and India is believed to be growing at double-digit rates, annually. China consumes around one-tenth the amount of chocolate as Switzerland (the world's largest consumer of chocolate per person). Yowie chocolate is made from 100% all natural milk chocolate, is nut and gluten free, environmentally friendly (even the casings are recyclable!) and compliant with international bodies; thus, playing into the trend of 'green' and socially responsible consumer purchasing decisions.
In addition to the Middle East decision, Yowie said it recently commenced a trial in Puerto Rico.
It says more expansions are likely and will be revealed in coming months. Back in 2014, KMPG estimated that the Middle East chocolate market grew 8% year-over-year (source). In the Middle East, sharing confectionery is a local custom.
Previously, Yowie said it is expecting to make a return to Australian and Kiwi shelves by 2019 (hooray!).
Forecasting/guesstimating sales and production growth in various regions is outside the scope of this report, but – obviously – other regions present another potentially lucrative opportunity set for investors.
What do consumers think?
In the 13 weeks to 5 September 2015, Yowie outsold KitKat King Size and Hershey King Size (among many others) in the grocery channel, on a dollar per store per week basis. Refer to slide 30, from the company's recent AGM presentation. Yowie was also the sixth best performer in the convenience channel – valued equally with Mars king size and M&Ms (in the Peanut variety).
I've tried ordering Yowies from US distributors into Australia, but it's restricted. However, I've found the feedback on suppliers' e-commerce sites (such as Walmart's, pictured above) to be an invaluable source of consumer feedback on the chocolate.
Another fantastic source of feedback is YouTube. The videos themselves may be a little cheesy and scripted, but the comments sections provide objective feedback on the product (see the video below).
It's also worth noting these types of chocolates (i.e. surprise eggs) are seriously loved right across the world.
This video from Kinder Surprise, for example, featuring – simply – someone opening 20 surprise eggs, has over 656 million views on YouTube. This video, with 80 eggs, has 577 million views! Both videos left YouTube subscribers asking how such a basic video can have such a massive amount of views and subscribers. The answer seems to be, overwhelmingly, that kids love chocolate, toys, and surprises. And when they are all put together, it's one helluva combination.
Management team
Executive Chairman (since 2013) Wayne Loxton owns 3.43% of the company, according to Capital IQ. He is a mining executive. He is the former CEO of Allied Gold Mining and has held many other positions in the sector. He has been Chairman of Gleneagle Gold Limited (ASX: GLN) since 2010.
Mt Loxton recently sold some Yowie shares, which is something I usually don't like to see. However, some of the proceeds from the sale (the company said) would be used to fund the purchase of options which were due to expire.
Salvador Alvarez is the CEO of Yowie North America (since 2014). He has 32 years' consumer sales and marketing experience in pharmacy, consumer products, and the spirits industries. Mr Alvarez held positions at Cadbury, Warner-Lambert, Playtex and other major companies. He has significant relevant experience from his time at Cadbury in Europe, but also experience across the USA, Mexico, and Latin America.
Patricia Fields is a Yowie Executive Director (since March 2013). She holds the equivalent of $1.32 million of Yowie shares, again according to Capital IQ. She is an Ex Global Director at Cadbury Schweppes plc. She has 20+ years experience in FMCG (fast moving consumer goods) industries and lead the development of the commercialisation of the Yowie brand for Cadbury.
Funding
Before 31 December 2015, Yowie was eating up cash. Over the years, the company has been funded by issuing new shares. Indeed, share count grew from roughly 70 million in FY13 to 139 million at 30 June 2015 (FY15). Bear in mind, of course, the reverse listing. The company had no debt and around $US8.3 million in cash at 30 September 2015, and the cash burn appears to have slowed dramatically. A capital raising isn't out of the question, however, especially if the company wants to ramp up production of units very quickly sometime in the near future. However, the next cash flow report and half-year financial report will be very telling in this regard. The potential interruption caused by the aforementioned changeover in manufacturing, from Whetstone to Madeleine, could result in a fall in cash receipts, in my opinion.
Economics
Yowie charges around $US2.49 on the shelves. I estimate (roughly) the company takes around $US1.50 per unit, based on its most recent AGM presentation. I did have detailed production forecasts in place for FY15 and FY16, but they went out the window with a) the Angry Birds deal; and b) the new manufacturing agreement. Nevertheless, a forecast of more than 8 million units appears feasible for the coming year. However, I expect a significant increase in production in the coming year, with the release of Angry Birds and Yowie's ongoing rollout. For what it's worth, I'm looking to get some responses from Yowie's management team in coming weeks on the areas of the business which I'm still a little hazy (particularly the two most recent ASX announcements).
Valuation
There are many variables that could materially impact the valuation of Yowie shares at this early stage, and while I've done my own valuations, I'm refraining from publishing any of that data until I have a few questions answered. If you're prepared to it should be relatively straightforward for you to run your own valuation by doing some basic forecasts (e.g. taking the sum of future annual production rates multiplied by profit margin and discounted back to today's dollars).
Personally, I want a clearer picture of the new manufacturing and sales pipeline before doing that publicly. Though, off the cuff, if Yowie can sell 10m units in FY16 (which by the way ends in June), that places the stock on a price-to-sales ratio of less than 10x. That may sound a little on the high side but over time I suspect it'll prove to be a fair price to pay. Indeed, it does not appear overly optimistic if Yowie can bed down the Angry Birds launch with its new manufacturing agreement transitioning smoothly.
Commodity risk?
As demand for Chocolate from the world's middle-class population grows, Cocoa bean markets continue to be a beneficiary. Although they appear as minor issues now, it'll be prudent to keep an eye on the commodity prices of Cocoa, aluminum and plastic in coming years.
Finally, to summarise the investment case let's ask ourselves…
What am I trying to achieve?
Yowie has a track record of becoming a must-have for children. The new 'Yowie group' is a small company, but if it can achieve success anywhere near what Cadbury did in Australia and New Zealand over the last decade then its shares could (remember to do your own valuation!) appear cheap in 3-5 years.
Why is it appropriate to buy?
Yowie is offering a high-risk high-reward investment opportunity. Some risks are partially mitigated through potential geographical diversification but many are unavoidable. Nonetheless, in a well-diversified portfolio, at below $1 Yowie has upside potential for the long-term enterprising investor, in my opinion.
