Earlier today sandalwood producer TFS Corporation Limited (ASX: TFC) announced that it has signed a supply agreement with Young Living, the world's leading essential oils company. Under the five-year deal Young Living will pay TFS US$4,500 per kg of Indian sandalwood oil plus annual increases of 2.5%. The total value of the contract is $50 million.
TFS managing director Frank Wilson said, "TFS now has multiple supply contracts in place with global customers for both wood and oil products across a breadth of markets including cosmetics, aromatherapy, pharmaceuticals, and traditional wood uses, meaning the vast majority of our harvests are now forward sold through to 2021."
This is great news because the 2016 harvest is expected to yield over 300 tonnes of heartwood, 10 times as much as 2015. In 2016 the majority of cash revenue came from the establishment and management of future harvests with $29.9 million, or 17%, from sandalwood product sales. The company advises that product revenue should rise by more than $40 million in 2017 due to the increased size of the 2016 harvest.
But shouldn't product sales increase 10 fold in line with the increased size of the harvest given it is mostly "forward sold"? Perhaps sales will be staggered over a number of years with only a portion of revenue realised in 2017 and this seems to be what page 25 of the company's full year results presentation is intimating.
The trouble is that by 2025 TFS expects to be producing 9,000 tonnes of wood, 75% of the world's total supply! If they can't sell 300 tonnes in the same year, then how will they deal with 30 times that much?
To be fair there is plenty of time to set up further supply agreements and potentially even gain approval for its own range of pharmaceuticals containing Indian sandalwood by then.
The company has $1.28 of net tangible assets per share versus a share price of $1.57 and biological assets make up a large chunk of this value. These are valued on the books at $623 million based on a sandalwood oil price of US$2,800 which is much lower than the US$4,500 quoted in today's announcement.
So the true value of the company's plantations could be much higher than their book value if TFS manages to keep selling oil at US$4,500 per tonne. That is, of course, if the projected 12-fold increase in global supply of Indian Sandalwood by 2025 doesn't impact prices.
