New Zeeland: Lion Nathan H1 net operating profit up 3.6%

Lion Nathan announced a 3.6% increase in operating net profit after tax (NPAT) to $156.8 million for the six months to 31 March 2007 following a 5.3% increase in net sales revenue to $1.04 billion, according to company’s press release, May 17.

After the impact of one-time items (OTI) and individually significant items (ISI), reported NPAT increased 8.8% to $162.0 million2. Group operating earnings before interest and tax (EBIT) increased 4.2% to $269.2 million while Group reported EBIT increased 3.4% to $264.1 million. Revenue and EBIT growth for the first half of the 2007 financial year reflect the benefits of brand investment and new product development. The result was also achieved after incurring higher commodity costs, primarily in aluminium and sugar as well as the planned investments associated with the company’s ready to drink spirits (RTD) strategy, which contributed to a $41 million increase in costs for the period. The Company has continued to produce consistent earnings and cash flow while increasing investment in brand marketing and production upgrades in order to achieve higher sustainable long term NPAT growth. For the current financial year, the operating NPAT guidance range has now been revised from $245-$260 million to $250-$260 million. However, the stronger operating outlook following the conclusion of Project Invest at the end of the 2007 financial year is clouded by rising barley costs associated with drought conditions in rural Australia. The impact is estimated at $6 million pre-tax for 2007 (included in the revised guidance) and a further $9 million pre-tax in FY08.

Australia again drives operating results but New Zealand performing in difficult circumstances

The Australian business continued to drive Group performance with operating EBIT up 4.7% to $231.4 million despite the impact of higher commodity costs and an 8% higher marketing spend, particularly in spirits and RTDs. Net sales revenue was up 8.0%, driven by a combination of factors such as national and premium brand growth as well as new product development, led by the successful launch of Hahn Super Dry. Lion Nathan New Zealand achieved an operating EBIT of NZ$52.6 million, in line with plan and with the first half of 2006 in a very competitive pricing environment. In Australian dollar terms, operating EBIT fell 4.3% due to a weaker average New Zealand dollar exchange rate for the period. Wine volumes in New Zealand grew strongly, but spirits and RTD volumes declined principally due to the loss of the Allied Domecq portfolio.

Lion Nathan Australia again delivered a robust result with operating EBIT up 4.7% to $231.4 million.
After adjusting for OTI, reported EBIT increased 4.5% to $230.8 million.

Net sales revenue grew 8.0% on a volume increase of 1.6% for the half. New product innovation developed during the last 18 months contributed $25 million of the revenue growth with Hahn Super Dry, launched in September 2006 being the major catalyst. After a strong first quarter, the second quarter was impacted by softer market conditions predominantly in NSW where there was a market decline in both tap and pack consumption. Overall, the total beer market continued to show healthy growth with total market volume increasing an estimated 0.9% for the six months (YTD) and 0.3% on a 12-month MAT basis8. The favourable volume and revenue growth for the half was achieved predominantly as a result of Power brand growth comprising national and premium brands. Total Power brand volume grew 4.7% for the 6 months to March 2007 compared to the corresponding period in 2006.

Tooheys Extra Dry (TED), XXXX Gold, Heineken, Beck’s and the recently released Hahn Super Dry all achieved significant growth. In the mainstream beer category, Tooheys New declined slightly due to a softer NSW market and cannibalisation by new brands launched in the category, although in revenue terms it declined only marginally more than the category. In general, traditional mainstream beer is under pressure due to the success of brands such as TED and Hahn Super Dry as well as the general shift to premium and midstrength beer. TED volume grew 31% while Hahn Super Dry was a substantial new entrant to the mainstream category. International premium brands Heineken and Beck’s grew a combined 34%. Smoking bans in enclosed areas of licensed premises in Queensland negatively impacted on-premise consumption with tap market volumes falling by more than 6% YTD9.

In the mid-strength category, XXXX Gold was up 7% YTD, ahead of category growth of 5% as the brand continued to expand Australia-wide assisted by national marketing campaigns including the XXXX Gold International Beach Cricket series played in January and February. In the light beer category, Hahn Premium Light grew its share of the category with an 8% decline against the category decline of 14%. The successful launch of McKenna Straight Kentucky Bourbon Whiskey in August 2006 into South East Queensland was followed by further rollout to the remainder of Queensland as well as Western Australia in February 2007.

Full national presence will be achieved by the end of the financial year. After the end of the first half, Lion Nathan Australia announced the acquisition of the Inner Circle Rum brand and distillery, which adds a top quality authentic rum to its spirits portfolio. The Australian business is achieving good earnings growth as it reaps the benefits of increased brand investment and new product development and despite the external cost impact from commodities including aluminium, sugar and more recently, barley. Similar to the 2006 year, Project Invest expenditure and associated OTI will be skewed to the second half of the 2007 financial year. Lion Nathan Australia continues to build momentum, particularly driven by innovation and the rollout of the spirits/RTD strategy, which provide a solid foundation for future revenue growth.

In NZ dollar terms, operating EBIT was in line with the prior period at NZ$52.6 million for the first half. This was consistent with expectations and was achieved despite the extremely competitive operating environment in New Zealand, especially in beer where current pricing levels are inconsistent with maintaining industry economic returns in the medium term. Reported EBIT was 1.0% higher at NZ$51.3 million when the impact of OTI is included. Like Australia, the New Zealand result was also impacted by higher commodity costs.

First half earnings were assisted partly by the timing of marketing expenditure, which is more heavily skewed to the second half this year. Overall, slightly lower beer earnings were offset by improved earnings from wines and spirits and other businesses. Power beer brand volume was up 3.6% YTD driven primarily by premium. Total beer volume growth of more than 900,000 litres was achieved through continuing brand momentum from FY06 and focused support on core brands through key selling periods. International premium brands Corona and Stella Artois achieved double-digit YTD volume growth, while Steinlager grew 8%.

In the mainstream category, key national brand Speights grew by 1% while Lion Red declined 9% with its more limited geographic sales and marketing focus. Wither Hills distribution transferred into the Lion Nathan New Zealand business during the past year, which contributed strongly to the 32% increase in wine volumes13. Growth in Delegat’s Varietals, Imprint and Riccadonna also contributed to the increase. The Moet Hennessey brands will be progressively transitioning to an owned distribution model during 2007 and 2008 but these brands will be replaced by new entrants to the portfolio.

Project Invest initiatives for the first half of 2007 were relatively minor, totalling $5.1 million pre-tax and $4.3 million after tax and mainly related to restructuring, with a small component of asset writedowns (see Table 7 below) The expected cost range of Project Invest initiatives for the 2007 financial year remains at $30-$40 million pre-tax.

The strategic review of the current Auckland Brewery site is progressing and significant interest has been shown in the site from a number of parties. Concurrently, the Company is evaluating several strategic options and this phase is targeted for completion in June/July. In Australia, major plant upgrades are underway at the Tooheys and Castlemaine XXXX breweries, with significant investment programs in place within brewing, packaging, process services and related infrastructure. This is consistent with the company’s strategy of maintaining flexible and low cost production units which are well positioned to service the evolving needs of our consumers and customers.

The results include a net significant item of $9.5 million (benefit) following the conclusion of a tax audit of Lion Nathan Finance (Australia) Pty Limited (a wholly owned subsidiary of Lion Nathan Limited) in relation to the deductibility of bad debts incurred in funding Australian subsidiaries of Lion Nathan Limited. Amended tax assessments were issued for $19.7 million of primary tax and a tax deductible general interest charge of $11.3 million (paid in February 2007) in relation to the 2000 and 2002 tax years. The net cost of $27.6 million was fully provided for in prior years and a provision surplus of $9.5 million was released to profit as a significant item. The impact of this significant item occurred at the

Net Interest Expense line which was $11.3 million higher and the Income Tax Expense line which was
$20.8 million lower.

Lion Nathan remains in sound financial position

Earnings per share (pre significant items) increased 2.5% over the prior year to 28.6 cents per share. Operating cash flow was down $34.2 million on the prior period to $122.7 million primarily due to the issue of amended tax assessments for Lion Nathan Finance (Australia) Pty Limited (LNFA). Otherwise, underlying operating cash flow excluding the amended tax assessments would have been $153.7 million and broadly in line with the 2006 half year. The cash realisation ratio weakened 4 percentage points to 79.5% predominantly due to the change in timing for the purchase of shares for the Achievement Rights Plan from in arrears to in advance. Excluding this one-time effect, the cash realisation ratio would have been broadly in line with the prior period.

Since 30 September 2006, net debt has increased by $16.3 million20. Net interest payments increased $5.2 million due to the LNFA amended assessment interest charge of $11.3 million and higher average debt levels, partially offset by the close-out of ineffective hedges in the prior year. Key debt coverage ratios continue to remain well within investment grade parameters. EBITDA interest cover (pre significant items) declined from 6.7 times in the prior period to 6.5 times and the ratio of debt to EBITDA was increased from 2.0 times as at March 2006 to 2.3 times at March 2007, both largely due to the 30 cents per share special dividend paid in June 2006.

Tax payments increased by $25.3 million, again primarily due to the amended assessment for LNFA. The effective tax rate (before significant items) for the Group was 30.5%. The income tax rate continues to exceed the Australian statutory rate because of the higher New Zealand tax rate and the impact of non-deductible expenses. Total tax paid to governments for the half year, including excise, GST and company tax (including LNFA audit) was $752 million.

Exchange rate translation

Lion Nathan converts its New Zealand earnings into Australian dollars at the monthly weighted average exchange rate for the period which was NZ$1.137 (NZ$1.088 for 1st half 2006). New Zealand investments are converted into Australian dollars at the period end exchange rate which was NZ$1.133 (NZ$1.164 at 31 March 2006).

Capital Management
Capital management remains on the agenda but is on hold until the outcome of corporate development activities is known.

Interim dividend

The Board has declared an unchanged interim dividend of 19 cents per share. It will be payable on 26
June 2007 based on a record date of 8 June 2007 and will be fully franked. Based on projected tax payments, it is expected that dividends will continue to be fully franked for the foreseeable future.

OUTLOOK

The Company has revised its Operating NPAT guidance range from $245-$260 million to $250-$260 million for the 2007 financial year. This guidance excludes the impact of one-time and significant items, most of which will be incurred in the second half of the financial year. Guidance for Project Invest OTI and ISI remains in the order of $30-$40 million pre-tax for the year. This excludes the significant interest and tax items associated with the tax audit detailed above. It also excludes any significant items arising from the potential sale of the Auckland Brewery site. With respect to costs, overall cost of goods sold per litre (including raw materials, packaging, etc) is expected to increase approximately 4.7% in the 2008 financial year primarily due to barley and aluminium, which continue to trade above long-term averages. In addition, smoking bans in enclosed licensed areas will be introduced into New South Wales and Victoria in July 2007, followed by South Australia and the Northern Territory in October 2007 which may impact adversely on on-premise consumption levels.

Nevertheless, despite external impacts on the business, the Company continues to produce quality earnings from its core businesses and its operating outlook remains robust for the remainder of the 2007 financial year and into 2008.

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