The giant Australian wine group, Southcorp, announced a year-end profit last week, marking a significant stage in its turnaround under John Ballard. The response from analysts and investors was positive but, as Chris Brook-Carter found, Ballard is keen to stress that the job is far from done.

The reaction that greeted last week's return to profit by the Australian wine giant Southcorp was of the kind that even the company's most optimistic shareholders must have doubted they'd ever see again during its darkest hours in the last two years.

But as Southcorp's share price crept up in the hours and days after the release of the results and analysts reassessed their ratings on the company upwards, CEO John Ballard had good reason to feel that last Thursday was one of the better days in his short tenure so far.

Southcorp, whose brands include some of Australia's most successful wine products, such as Penfolds and Rosemount Estate, reported a net profit of A$46.24m for 2003/04, compared to a net loss of A$922.9m in 2002/03 after massive write-downs of goodwill and the value of some brand names.

The company's earnings before interest, tax, amortisation and significant items of A$176.3m, up nearly 50% from 2003, was in line with the top end of market expectations.

But Ballard himself has been the first to caution about over-estimating the progress these results represent in Southcorp's journey to re-establish itself as a well-run business and investment of choice. "It will take a number of years to get to where we aspire in terms of quality of the business such as return on capital employed," Ballard said last week, before adding that Southcorp was "some years off" becoming a strong investment opportunity.

It was a message he reiterated on Sunday on Nine Network's Business Sunday programme. "There is still a way to go before I am satisfied that we've certainly made significant improvement," he said. Given Southcorp's recent troubles, the difficulties in the market and its past reputation for a lack of transparency with its investors, this cautious line may be well advised.

The US in particular continues to cause concern - not just for Southcorp but for foreign producers in general - characterised as it is by competitive market conditions and an oversupply of Californian wine. While Southcorp said that its volumes for the year were up by 9%, it added that its case rates were down by around 7%, reflecting higher levels of competition and a mix shift primarily to 1.5-litre products.

Southcorp added that it anticipates tough market conditions to prevail in the Americas throughout 2005. Ballard said: "The supply of wine in the USA is slowly coming in to balance but we nevertheless expect the coming year to remain as competitive as 2004."

Furthermore, Southcorp, like all of Australia's wine exporters, continues to be affected by the strong Australian currency. In 2004, it rose 20% against the US dollar and 10% against sterling. Southcorp's sales revenue for 2004 declined by 5.8% to A$1062.2m, primarily due to this strength, which reduced sales revenue by A$94.6m.

The affects of the strong dollar will continue to hit the group into 2005, with the business delivering only "modest" growth into next year. "Southcorp's 2005 earnings will include the impact of currency and the lower availability of super-premium wines from the drought -affected 2002 vintage. The combined effect of these factors is approximately A$30m," a statement from the company said.

That all said, the news from Southcorp was overwhelmingly positive. Looking forward to 2006, the company said it should enjoy the first significant impact of the savings from the asset review and lower grape costs as the remaining legacy contracts run off. "Based on current expectations of exchange rates, we would anticipate the impact of currency on earnings to be reduced," it added.

In the UK and Europe, there was a commendable turnaround that saw the company return to profit in the first half of the year, ahead of expectations. Moving away from the deep discounting policy that cost it so dear in recent years, Southcorp improved its case rates by 12.9% for the year.

On top of this, Southcorp said it also grew its European business. "Markets such as Sweden, Ireland and even the Middle East are delivering profitable growth and are serving to widen our trading base in this region," the company said. In 2005, Southcorp plans to continue campaigns in the UK such as its Lindemans "L" advertising and promotional programme. It will also be extending the Lindemans campaign to Europe as well as launching a TV advertising campaign for Rosemount Estate in Ireland, while taking advantage of advertising de-regulation within the Nordic countries to run print campaigns on the key brands.

Domestically, Southcorp saw volumes fall by around 5.1%. However, this reflected its decision not to participate in unprofitable promotions. Case rates were up by 8.5% and margins grew from 9.7% to 14.0%.

It is a strategy reflected across the globe, and, although the results have been positive, the next test will be whether the company can now grow volumes once again while maintaining margins. It hopes to achieve this through investment in marketing.

"We will significantly increase marketing investment in 2005 to support our key brands in this region (the US); Penfolds, Rosemount Estate and Lindemans," Ballard said last week. "Our first ever US TV advertising campaign is planned for the second half of the year to coincide with the release of the new Rosemount Estate packaging and products and we'll remain very focused on gaining distribution and driving consumer sales of the Little Penguin wines."

In Australia, the company said its objective now is to accelerate its marketing activity to support its key brands. "We now have promotional plans in place backed by sound financial disciplines and are aiming to grow our market share," a statement to the market said.

Finally, in the UK and Europe, after a year of consumer focus to build long-term brand equity and a more disciplined approach to promotional investment, Southcorp said advertising and promotional expenditure is being directed to value-added promotions and consumer focused activity.

Investors and the market have responded well to Ballard's plans. Brokers UBS said Southcorp had built on a solid first half result, and added that the group's guidance for modest earnings growth was based on conservative volume growth assumptions and left room for further improvement through fiscal 2005 if increased advertising and promotional expenditure resulted in some volume growth. "Based on our assessment of management's `moderate growth' guidance as being conservative," UBS said in a research note, "we believe the upgrade cycle for Southcorp could continue through the remainder of this financial year and underpins our Buy 2 rating (which was unchanged)."

Credit agency, Standard and Poor, revised its BB++ rating from negative to stable, while ABN Amro's David Cooke said: "[The US market] is still pretty tough and should remain pretty tough for the rest of year. The whole business is still a work in progress [but] operationally they are moving along quite well."

This positive response to Southcorp' results though is as much a reflection of the attitude and business structure put in place by Ballard as it is of the actual numbers themselves. The investment community seems to believe in Ballard and his management, and one cannot underestimate the achievement of restoring credibility in only a year to a company where there was none.