CSL: Australia's best resource stock

Our tour of CSL’s (ASX: CSL) US facilities in March offered plenty of surprises. From the Deep South, CSL looks a lot like Saudi Arabia.

This is the USA where it’s easy to Dial-A-Psychic, but hard to buy a book. I’d arrived for a tour of CSL Plasma’s testing lab in Knoxville, Tennessee, and was greeted by southern smiles and country music in the foyer. The walls are red, the chairs are red, the pens are red; but once I left CSL’s version of Tiananmen Square, it was like stepping into a scene from The Jetsons.

Self-directed robots buzz past carrying bottles and test tubes, while the two main labs are like something out of a Rube Goldberg cartoon with bells, whistles, and automated stainless steel everywhere you look.

For patients and regulators, CSL’s (ASX: CSL) Knoxville lab is arguably the most essential cog in its system. It performs 80 million tests a year, checking CSL’s plasma supply for diseases such as HIV and Hepatitis. One small slip here could result in untold harm and leave the company’s reputation in tatters.

It’s clear that the company takes its obligations seriously. There’s to be no tomfoolery: no cameras, no phones, lab coats are to be worn at all times and I’m explicitly told ‘don’t touch anything’.

Excepting any calamities, though, with a staff of just 100, the Knoxville lab is less economically significant than the network of collection centres that form the backbone of CSL Plasma, which employs over 6,000. Its mission is singular: to ensure the company’s true economic powerhouse, CSL Behring, has an uninterrupted supply of raw plasma that it can split into saleable constituents (fractionation).

‘The rig’

CSL Plasma operates 112 collection centres across the US and one of them – in a dusty strip mall about an hour south of Chicago – was the next stop on our tour.

The centre was warm and inviting, especially compared to the freezing cold and sketchy neighbourhood that surrounds it. Donors (most of them below the age of 30) get to sit back, sip some water and watch TV for an hour from recliners that line each side of the main room. A needle in the arm collects whole blood, extracts about a litre of plasma, and then returns the red blood cells.

Its resource might be more delicate, but in many ways CSL resembles an energy stock. Instead of oil wells, CSL has syringes. Instead of pipelines, it has refrigerated trucks. And, just as crude oil is split into fuels, lubricants and the raw material for plastics, CSL fractionates its resource into a bounty of antibodies, albumin, and proteins for blood diseases.

Cost of collection

Like any miner, you need things to run as efficiently as possible to minimise your cost of production. CSL’s biggest expense is the plasma itself. As you’re reading this, there may be up to 2,000 people donating plasma in CSL collection centres and each one will be paid around $30.

This situation is foreign to most Australians, with paid donations being illegal here. But the Americans take donor compensation to a new level. Not only are donors paid, but CSL markets to them directly with special offers, a ‘frequent flyer’ program where you earn points to redeem gifts, and even CSL ‘scratchies’ to win prizes after your donation. All up, CSL’s 191,000 active donors can make $300 a month.

CSL sticks to regional locations where rent is low and donors are more forthcoming due to lower incomes. Collection centres are built McDonalds-style, with standard processes, layouts, operating systems and branding.

Standardisation keeps roll-out costs low and allows for centralised training. What’s more, familiarity, comfort and safety keep donors coming back. There’s a heavy emphasis on automation, so staff are kept to a minimum. Donors self-assess at reception and scan in with a fingerprint. The centres are completely paperless.

All this means donors can be in and out within an hour, whereas it can take up to twice as long at competitors. While the big three plasma collectors – CSL, Baxter and Grifols – all offer similar levels of donor compensation, CSL is usually a better deal due to its faster turnaround time. The company also collects at least 30% more plasma per centre than either of its competitors.

Economies of Scale

Whether you’re extracting plasma or crude oil, you face significant fixed costs. Therefore, the average cost per ‘unit’ decreases as the fixed expenses are shared across higher volumes of output. These economies of scale are strongest at our next stop – CSL’s largest fractionating plant, located in Kankakee, Illinois.

Among the flat pastures of Illinois, CSL’s sprawling campus appears out of nowhere, with 32 buildings spread over 64 acres, covering production, inspection and packaging. There’s more floor space than the Palace of Versailles, and it requires 90,000 man-hours a year of cleaning.

As with the Knoxville testing lab, automation is everywhere you look. The Kankakee plant has doubled its workforce in 10 years – yet workers now process five times as much plasma. Just a few years ago, for example, people used to cut open the bottles of plasma before they moved to the next stage. Now it’s all about robots, but, with 50% of the antibodies and albumin still lost in the process, there’s a continuous drive to increase efficiency.

Saudi Arabia

Fractionation plants cost billions of dollars to build, and the large regulatory burden of operating one – CSL has six regulators demanding some 200 inspections and audits a year – ensures it’s almost impossible for new industry entrants to get a foothold.

Furthermore, small players without their own network of collection centres rely on buying raw plasma on the open market, which doesn’t come cheap. A barrel of crude oil costs about $50, whereas a barrel of raw plasma will set you back around $21,000, or $130 a litre. After manufacturing expenses, the industry’s average total cost per litre is around $155.

This is where the economies of scale really pay off for CSL: its average total cost per litre of $100 is nearly a third less than the industry average.

What’s more, CSL collects 9 million litres of plasma a year, compared to 7 million and 4 million litres for Grifols and Baxter, respectively. CSL’s deep, reliable source of plasma is a significant competitive advantage as manufacturing is rarely interrupted. But, as it’s also the lowest-cost producer, CSL is no ordinary resource company – it’s the plasma industry’s Saudi Arabia.

And here’s the zinger. While CSL resembles a low-cost oil producer, it isn’t selling an undifferentiated commodity – its products are life-saving medicines protected by patents. And that leads to some powerful economics, as we’ll explain tomorrow in Part 2.

Disclosure: Staff own shares in CSL but they do not include the author, Graham Witcomb.

This article was originally published on Intelligent Investor's Share Advisor on 23 Mar 15. To get more insights, stock research and BUY recommendations, take a 15 day free trial of Intelligent Investor’s Share Advisor now.

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