Pressure on Rayner builds to exit US

A week after managing to get voted back in as chairman of Treasury Wine Estates, Paul Rayner will faced renewed pressure to sell its value-destroying US wine business after a multimillion-dollar class action casts a pall over the company.

The action, which alleges Treasury Wines misled the market and breached continuous disclosure obligations in relation to a shock $160 million write-down in the US in July, puts the spotlight on how much value has been lost from the wine company in the past few months.

Since the company hit a high of $6.43 in May it has fallen more than 30 per cent to close on Monday at $4.49 a share. This is against a backdrop of the overall market rising 4 per cent over a similar period.

What makes it worse is the board dumped the chief executive David Dearie without an adequate explanation and plucked someone from the board to fill the void until a replacement was found. It also replaced the CFO, Mark Fleming, in July with former CFO Tony Reeves. There has also been a revolving door at Penfolds with the head of it leaving earlier this year.

This is unsatisfactory as a key role of the board is to have a succession plan in place. The interim CEO Warwick Every-Burns most recently worked at the Clorox Company in the United States but has no experience in the alcohol business or more specifically the US wine business, which comprises almost 40 per cent of the Treasury Wines business, chews up the bulk of management's time and contributes less than 5 per cent of its earnings.

Not to put too fine a point on it the US wine business has been an albatross around the company's neck for more than a decade. When Treasury Wines was part of the Foster's Group empire the wine business was seen as a poison pill. Once it decided to hive off its wine business into a separate entity, Treasury Wines, it was tantamount to putting up a "for sale" sign for its beer business.

As a separately listed entity, Treasury Wines needs to take a leaf out of the Foster's book and sell the US business, a move that will likely put a "for sale" sign for its Australian business. Merrill Lynch analyst David Errington has been leading the chorus of investors who want the US asset sold. Errington estimates the US business could fetch up to $1 billion and remove a big headache.

The class action compiled by Maurice Blackburn and litigation funder IMF alleges: "Treasury Wines failed to disclose material information concerning the ongoing performance of its US operations; and made misleading statements in relation to its expected financial performance for the financial years ending 30 June 2013 and 30 June 2014, predominantly arising from issues encountered by its US operations."

To put it into perspective, Treasury Wines, and before it Foster's Group, booked a total of $414 million in provisions to address excess US inventory built up by its distributors in June 2004, August 2008 and February 2009. It didn't go down well with shareholders but they were told the problems had been addressed with a new improved system to report inventory in the US.

Then on July 15, 2013, investors were told that the problem had not gone away but was back with a vengeance, requiring a $160 million provision, including up to $35 million to buy back and pour down the sink "aged and obsolete inventory" held by its US distributor partners.

At the annual meeting last week Rayner stated the provisions "emanated from a poor understanding of stock levels in US distributors". He said the company was now getting better information on inventory levels.

If Maurice Blackburn and IMF get enough shareholders to join the class action and lodge a statement of claim they will undoubtedly allege that Treasury Wines didn't properly monitor the US inventory levels and because of this it shouldn't have made representations to the market from August 2012 that there was no risk of a write-down in the value of Treasury Wine's inventory.

If the class action encourages the board to extricate itself from the value-destroying US business and focus on the Australian business, it will add value to shareholders. As Errington says in a note, 90 per cent of Treasury Wine's current earnings are sourced from its Australian wine assets.