Chairman's report

 

On behalf of the Board I am proud to present the twenty-second Annual Report of Mr Chips Holdings Ltd for the year ended 31 March 2007. Because it is unusual these days to remain involved with a company through two business cycles, a brief backward glance is justified. The period up to 1991 was characterised by stabilising the company from the excesses of the late eighties when the company came to the brink of failure. The following three years saw a consistent rise in sales and profitability as a consequence of major plant upgrading and refocusing the business. Following this was a steady state period of six years with modest growth and profitability. Sales momentum was regained around 2001 which together with changes in the marketplace and the need for better quality product saw the directors faced with a make or break decision to build a new factory alongside the old one in 2002.

This report covers the first full year in which the faith shown by all key stakeholders in making that investment and subsequently in the coldstore, has been rewarded, notwithstanding that the journey has had its ups and downs. Furthermore a platform has been built for ongoing growth.

REVIEW

The consolidated net profit after tax is $2,740,141, which is up 823% on last year. It is however consistent with the first half profit of $1,330,615 and the guidance given at that time, that a similar result was anticipated for the second half of the year. This turnaround was a direct consequence of resolving all our structural issues, plus an improvement, for significant periods, in the AUD/NZD cross rate. More specifically production and sales were delicately balanced and inventory costs massively reduced through good utilisation of the new East Tamaki coldstore. Sales at $47,509,314 are up 11% on last year, but after adjusting for the timing of contract sales this is consistent with the compound organic growth achieved over the last five years of 17.4%. Commissioning of a robotic palletiser in the packaging area has exceeded expectations. Consequently gross margins rose to a record level as shown in the bar graph of EBIT below.

In conjunction with our neighbours, the Highbrook Industrial Estate, we have cleaned up the gully area between us. Road access to the whole site has been significantly improved with the opening of the Highbrook on/off ramp from the Southern Motorway, which will cut transit times for both our suppliers and our own local deliveries. A long term supply contract with Restaurant Brands was renewed during the year. Generally domestic operations performed well although some housebrand business was lost when we were unable to achieve adequate margins. 

Now that we have achieved a stable critical mass we are not prepared to gain sales at unrealistic prices. Exports to Australia continued to grow, reflecting our value for good quality proposition, and now represent a very significant part of the business. It is also clear that the drought and other unusual weather events in the Australian growing areas together with long term water allocations have demonstrated, to both end users and processors, that partial supply from NZ is a prudent strategy. 

Year End March

The AUD/NZD cross rate moved in our favour early in the year. All Australian currency was repatriated and a hedging program put in place. Unfortunately the spot rates retraced their upward path, contrary to generalexpectations and we commence the new year with  less than 20% of expected AUD receipts covered for the next two years. It is a sad commentary on the present business environment that the most critical decision a Board must make is deciding on a foreign exchange strategy. It is clear to us that the NZD is over valued and that the highest interest rates in the OECD are a material factor in this. 

No matter how competent the central bankers, politicians and government advisors may be at a macro economic level the impact of their decisions at the coalface is now very destructive. This will inevitably lead to suboptimal performance in the productive and export sectors of the economy. There is much talk of rebalancing the economy in favour  of exporting, including tax incentives recently announced in the 2007 budget, when the opposite is occurring. As evidenced by recent movements in the PPI inflationary pressures on our inputs are generally low. The glaring exceptions are costs imposed by local government and government owned energy suppliers whose dominance has prevented a proper market from functioning.

None of the recently announced budget initiatives will assist us and the macro environment is set to remain unnecessarily hostile. This is unfortunate given our success in sustainably growing a business based on adding value to a primary product, offering long term employment in South Auckland without any significant adverse environmental impacts. Of particular concern is the concerted attempt by local councils, acting in concert with Manukau Water and Watercare to extort unreasonable and unjustified fees for water supply and waste treatment. 

In doing so they persist in hiding behind by-laws which have their origins in the 1957 Auckland Drainage Board Act. The arbitrary charging methodologies adopted, result in monopolistic charges that bear no relation to the value or  true cost of the service provided. This is entirely inconsistent with the concept of a level playing field. To add insult to injury the only assets Manukau Water claim we use were entirely paid for by Mr Chips when the original factory was built in a paddock in 1986. It is in our view unjustified taxation without representation.

BALANCE SHEET

The Board is now comfortable with the balance date equity ratios of 46.4% and debt to debt plus equity ratios of 53.6%, despite further sales growth necessitating an increase in working capital, given our forward prospects. At balance date finished goods inventory was at an optimum given current sales and supply contracts. The Board considers the current level of profitability representing a 15% tax paid return on shareholder funds to be only satisfactory given the nature of the business. Given last years property revaluations and the substantial capital expenditure of recent years book value is a realistic measure of capital employed.

DIVIDEND

A final dividend of 4 cents per share fully imputed has been declared. Payment will be made on 3 August 2007 with the ex date being 30 July 2007.

CORPORATE GOVERNANCE

The Board of Directors of Mr Chips Holdings Limited is elected by shareholders to supervise and direct corporate governance, the development of a strategic plan, the management of the business and all the affairs of the company. The Board sets the companies objectives and the overall policy and control framework, it meets regularly throughout the year and monitors management performance. 

The Board has established an Audit Committee  comprising the independent Directors, who overview internal controls and the companies financial procedures in conjunction with the auditors. The constitution specifies that at each annual meeting one third of the Directors must retire by rotation. This year Mr Ian Halsted retires and being eligible offers himself for re-election. The shareholdings of Directors are detailed on page 30 of this report.

STAKEHOLDERS

I would like to thank all stakeholders for their contribution in a year that has finally seen the business start to realise its potential. Mr Chips is known for its strong relationships. Your staff, directors, suppliers, our bankers the BNZ and most importantly our customers have all played their part in a solid result. I would particularly like to pay tribute to David Lough who resigned this year after nearly 12 years loyal service as our Christchurch manager. David did us proud in holding the fort in the South island while we grappled with major capital expenditure and export markets. We wish him all the very best and thank him for a job well done. There has been some consolidation of shareholding during the year with the top 20 holders now owning 88% of the company.

OUTLOOK

We will be operating the East Tamaki plant at capacity for the season, which is consistent with sales forecasts and potato supply arrangements. To date potato quality has been excellent. We anticipate that even at the current AUD/NZD exchange rate we should comfortably exceed this year’s result. However we remain highly leveraged to this exchange rate and to a lesser extent to interest rates. A return to ten year averages in both interest and exchange rates would significantly increase profitability Contingent on resolving our issues with Watercare and Manukau Water we are considering further enhancements to our main line. 

On behalf of the Board

GRAEME R EDWARDS

Chairman of Directors