Grupo Comercial Chedraui SAB de CV

BMV:CHDRAUIB

Earnings Call Transcript 2023-Q2

[Operator]

Greetings. Welcome to Grupo Comercial Chedraui Second Quarter 2023 Conference Call. [Operator Instructions] Please note, this conference is being recorded. I would now like to turn the conference over to Mr. Antonio Chedraui, CEO. Thank you. You may begin.

[Jose Antonio Chedraui Eguia, executive]

Good morning. It is a pleasure to be with you today to discuss Grupo Chedraui's results for the second quarter of 2023. I am pleased to report that our positive trends continued in the past quarter. Our commitment to delivering exceptional customer experience and executing our pricing strategy has allowed us to successfully achieve our objectives.

During the second quarter, we witnessed remarkable growth in Mexico, surpassing the overall market performance and simultaneously enhancing profitability through effective operating leverage. In the U.S., our customer-centric approach has played a pivotal role in driving sustained revenue growth while improving profitability through synergies derived from the integration of our three banners. As we navigate through the remainder of 2023, we remain confident that our people and processes will continue to facilitate sustainable growth and create lasting value for our stakeholders.

Now if you allow me, we will review the results for the second quarter 2023, starting with the relevant events of the period, continuing with the performance of each region and ending with a review of the financial figures. Please go to Slide #4.

In Mexico, we're pleased to report strong performance in the first quarter of 2023, with same-store sales growing by an impressive 10.5%, which is well above ANTAD's growth of 8.1% for the period. From a geographic standpoint, we saw solid growth across all regions and particularly strong results in the South and Southeast of Mexico. Our strategy has enabled us to meet the diverse needs of our customers in different regions and capture opportunities in different segments of the market.

Additionally, we expanded EBITDA margin by 44 basis points resulting in an overall EBITDA increase of 24.3% year-over-year. This result reflects our commitment to operational efficiency which allows us to leverage our existing cost structure while delivering value to our customers. Please go to the next slide.

Turning to our performance in the U.S., we're pleased to report growth and expanding profitability in Q2 of 2023. Same-store sales growth of 3.2% was fueled by the performance of our Hispanic division, which continues to be a key growth driver. Our value proposition and shopping experience continue to resonate with our customers.

On the profitability side, we made significant improvements, expanding EBITDA margin by 76 basis points increasing from 8.2% to 9% in this period. The integration of Smart & Final with our Hispanic division is driving operational efficiencies and further enhancing our ability to execute in this market. Please turn to Slide 6.

Despite a 12.4% negative exchange rate impact, our consolidated sales grew by 1.2% in pesos. Excluding this exchange rate impact, consolidated sales grew 8.9%. On the profitability side, we are pleased to report that our focus on operational excellence and cost management continue to yield results. Due to the EBITDA margin expansion in both operations, our consolidated EBITDA margin expanded by 63 basis points in the quarter, above the target we set for the year. Overall, EBITDA increased by 8.8%, reflecting the continued strength of our business model.

Turning to our consolidated net income on Slide 7. We are pleased to report strong results in this area. Our net income grew 23.3% in the second quarter of the year behind the solid organic results in Mexico and the U.S. Now we will continue with the results by region. Please turn to Slide 8.

Our operation in Mexico delivered a strong performance in the second quarter of the year. As highlighted, we achieved same-store sales growth of 10.5%, well above the market pace for the same period. Total sales grew by 17.8% and to MXN 29,434 million, driven by the integration of the Arteli operation and the stores we opened in the last 12 months. In the beginning of the year, we continued to see resilient consumption from our customers, which reflects the ongoing appeal of our commercial offering and our ability to adopt to changing consumer needs. While we continue to see faster growth in the South and Southeast, we are proud to report that in almost all regions in which we operate, we outperform our competitors.

We are also proud to announce the successful launch of our [indiscernible] promotional campaign, which has garnered significant attention and positive response from our valued customers. This campaign emphasizes our commitment to offering the best value and savings for their everyday needs. We're also delighted to share that our efforts have been recognized by the current administration, acknowledging Chedraui as the most affordable option for the main basket of essential products.

This recognition not only validates our ongoing commitment to providing accessible pricing, but also inspires us to continuously strive from excellence in delivering affordable and high-quality products to our customers. We remain dedicated to upholding our reputation as the preferred choice for cost-conscious shoppers while maintaining our unwavering focus on customer experience.

In this quarter, we opened seven new Supercito stores, and were in line with our objective of opening 60 new stores in 2023 and achieving a 3.6% sales floor growth by the year-end. These investments reflect our commitment to driving growth and capturing market share in key regions of the country. Please go to the next slide.

We're pleased with the strong financial performance in our Mexican operation, which has delivered a 24.3% increase in EBITDA to MXN 2,485 billion for the quarter. This result was driven by a combination of factors but primarily due to the integration of our Arteli and operating leverage. We also continue to focus in improving operational efficiency and cost management as evidenced by the 44 basis points EBITDA margin expansion, which exceeded our annual target. Our real estate division also showed a solid performance in the quarter, with revenue increasing 16.4% year-on-year to MXN 327 million. This growth reflects the continued recovery of the post-pandemic market. Additionally, we saw a 13.9% increase in EBITDA, demonstrating our ability to capture opportunities and create value in the real estate sector. Next, Carlos will comment on the performance of Chedraui USA. Please, Carlos go ahead.

[Carlos Matas, executive]

Thank you, Antonio. If you may, please turn to Slide 10. The Chedraui USA operation continued to perform well in the second quarter, with same-store sales growth of 3.2% in dollar terms, with strong performance at the Hispanic division.

This quarter, Smart & Final sales were impacted by weakness with our business customers due to poor weather in California. In addition, the impact of a 12.4% currency fluctuation on the exchange rate weighed heavily on the second quarter, resulting in a 9.7% decrease in sales when converted to pesos.

Despite the negative foreign exchange impact, Chedraui USA delivered solid performance in the quarter with EBITDA reaching MXN 3,116 million, 1.3% lower than previous year, representing 9% of sales and a margin expansion of 76 basis points. EBITDA at the Hispanic division represented 8.7% of sales, 72 basis points higher than previous year due to improvements in Fiesta's gross margin and operating leverage at El Super.

Smart & Final continue to capture synergies from the integration of our three banners and contributed to the overall profitability of Chedraui USA, which achieved a 79 basis point margin expansion, resulting in a 9.2% EBITDA margin. We remain committed to driving profitable growth and delivering value to our customers in the U.S. and to further expand our presence in this important market.

Just as in Mexico, the U.S. operation remains confident in the team's ability to execute on our strategy to achieve our financial and strategic objectives. That concludes our report on the U.S. operation.

[Jose Antonio Chedraui Eguia, executive]

Thank you, Carlos. We turn to the consolidated financial results on Slide 12. In the second quarter of the year, we recorded consolidated sales of MXN 64,577 million, equivalent to growth of 1.2% year-over-year. Excluding the exchange rate impact, we achieved 8.9% sales growth.

Gross profit increased 2.8% with a 35 basis point expansion in gross margin, while operating expenses decreased 0.7%. Due to this, consolidated EBITDA grew 8.8% to MXN 5,817 million and represented 9% of sales. During this quarter, financial expenses decreased 5.9% and to MXN 1,183 million behind lower debt in the period and the interest earned from a favorable cash position in Mexico.

Moving on the consolidated net income for the quarter. The result increased 23.3% versus the prior comparative period, reaching an amount of MXN 1,862 million and representing 2.9% of sales. Please move to Slide 13.

The financial leverage decreased from 0.54x in the same period of 2022 to 0.12x in this quarter. This highlights the company's ability to generate free cash flow and is particularly remarkable considering the acquisition of Arteli in Mexico, which closed in December. Finally, the year-to-date CapEx invested amounted to MXN 3,091 million, which is equivalent to 2.4% of sales.

On Slide 14, you can see the breakdown of the debt at the end of the period. The company recorded net debt of MXN 2,606 million. All that is in U.S. dollars and is primarily associated with the acquisition of Smart & Final in 2021.

Finally, on Slide 15, there is a short summary of our ESG transparency efforts in the first half of the year. Recently, we released our 2022 sustainability report in both English and Spanish, which is now available in our corporate website. At the same time, we actively participated in three relevant ESG assessments, S&P Global's CSI, CDP's questionnaires and the new [indiscernible] questionnaire. We maintain our commitment to improve our ESG efforts and transparency with our stakeholders. Now if you allow me, we will move to the question-and-answer section.

[Operator]

[Operator Instructions] Our first question is from Bob Ford with Bank of America.

[Robert Ford, analyst]

Congratulations on the quarter. Carlos, is business traffic at Smart & Final bouncing back in July? And can you discuss the procurement synergies, mix, private label or other factors that are behind the gross margin improvement in the U.S.? And how are you thinking about gross margins over the balance of the year? And then when it comes to food inflation, the difference between the U.S. and Mexico is massive. And Antonio, I was wondering what you attribute that to and how you're thinking about food inflation playing out in Mexico over the coming months and how that might be impacting your same-store expectations and cost structure efforts as food inflation converges with the broader CPI?

[Carlos Matas, executive]

Bob, this is Carlos. Yes, certainly, as you well know, we had a very, very wet first 6 months, particularly in California that tended to impact Smart & Final a little bit more than the El Super banner. January and February are typically the lowest volume months for Smart & Final historically, and that has to do with poor weather. As you know, Smart & Final is very event-driven, so those categories tend to slow down with bad weather, and when that bad weather extended into June, we certainly saw an impact there.

Happy to say that we bounced back nicely. The other component was that, as you know, the calendar shift had a little bit of a shift of fourth of July sales into July. So that brought down comps in June a little bit, but we're trending back up in July. I think we're going to have a nice steady results at both of the California banners in July.

In terms of gross margin and expansion, I think across all banners, the team has done a terrific job with lowering cost of goods. We're living in a slow -- the inflationary environment is slowing down a bit. General store remains a little stubborn, and it's harder to pass on cost increases in those areas given the economic backdrop. But I think our team has done a great, great job of shifting gears a little bit and getting more value merchandising in place at our stores that seem to be resonating with our customers, and obviously, as part of our strategy, right? And at Smart & Final, it's certainly leaning in heavily on our very, very strong private label program.

So I think we're well positioned here moving forward. So I really don't expect having to invest much in gross margin. I think we're in good shape with our price gaps with competition, but we certainly have the firepower and ability to do so if necessary.

[Jose Antonio Chedraui Eguia, executive]

Thank you, Carlos. And Bob, about the inflation in Mexico, well, we have been experiencing still a reasonably high food inflation in Mexico. But we have been able to grow and it's reducing, it came from double digits to our internal food inflation is around 7%, and we have been able to grow over that inflation rate. And we expect that to keep going. We believe that our commercial proposition is very attractive to our customers, and we are able to capture more customers.

Actually, in the quarter, we grew transactions around 7% same stores, and I think we can continue doing so. Our value proposition is very attractive, we have been recognized for the best cost of essential basket in Mexico and we'll keep doing so. That's our basic strategy, and we'll keep doing it. We believe that even if inflation starts to come down as we see already in certain categories, our sales are still going because of the value proposition. Our pricing strategy, I think, is very effective, and it has proven so even in low inflationary environment.

[Operator]

Our next question is from Luis Willard with GBM.

[Luis Willard Alonso, analyst]

Antonio so -- I mean EBITDA margin expansion has been very consistent over the last, I don't know, more than a year or maybe a couple of years. And it appears that you continue to find savings or tricks in the operation that still result in better margins over in Mexico and the U.S. So my question is, when you think of long term, first, how dependent those margins are to the current pricing level that you see like excess pricing? So another way of asking this is, if pricing or promotions get a bit more aggressive in the future, do you see any downside risk to the current margins?

[Jose Antonio Chedraui Eguia, executive]

Well, I think there's always a risk if the market starts going crazy about the pricing strategies. At the moment, even with aggressive pricing from our competition because we see that some of our competitors are becoming more aggressive, we are very well set to maintain and to sustain those price gaps, sustaining our margins and even being able to increase them.

We projected, for example, in Mexico, an expansion between 10 to 15 basis points of EBITDA margin expansion I mean. And we see that we're going to be above that probably around mid-20 basis points 23, 25 as we are doing so in the U.S. Remember that in the U.S. as well, we still have opportunities of increasing our participation in our sales mix of produce and perishables, where there is a lot more gross margin for us. And while we maintain an increase those sales mixes within our strategy, we will always be able to potentially increase our EBITDA margin as we have done so. So we think we're going to be able not only to sustain but to increase the EBITDA margins, both in Mexico and the U.S. And even a little bit higher than what our guidance projected at the beginning of the year.

[Operator]

Our next question is from Antonio Hernandez with Barclays.

[Antonio Hernández Vélez Leija, analyst]

Just a quick one on the Real Estate division, if you could, provided there is reasonable point [indiscernible] in terms of expectations in both at the first line and margin levels.

[Jose Antonio Chedraui Eguia, executive]

Thank you, Antonio. Well, real estate, we're happy to announce that we are growing over pre-pandemic numbers. it has recovered completely, and we are in the high 90s of occupation of all the square meters that we have in our operations. So we see that this recovery will be sustained in the future. And our numbers just becoming better and better. We thought that it would take more time to reach the pre-pandemic numbers but we already surpassed them, so we're happy with our real estate division, and it shows a positive trend in the coming months.

[Antonio Hernández Vélez Leija, analyst]

And in terms of profitability?

[Jose Antonio Chedraui Eguia, executive]

It has been very profitable. We're maintaining our margins. I think it all depends on the occupation because we have been able to efficiently operate with a very cost-conscious structure. And as long as we sustain the occupancy that we have at the moment, we'll be able to sustain our profitability on the real estate division.

[Operator]

Our next question is from Alvaro Garcia with BTG Pactual.

[Alvaro Garcia, analyst]

My first question is on capital allocation. Just you've obviously generated a bulk load of cash and delevered quicker than expected. How should we think about maybe cash distribution to shareholders? Would you consider a buyback? How should we think about sort of target leverage levels? How are you thinking about that going forward?

[Jose Antonio Chedraui Eguia, executive]

Well, we are generating a lot of cash. This year, our CapEx is going to be around 3% of our sales. We believe it's going to be a little under the MXN 9,000 million for the year. And we expect that by the end of the year, we'll end up on a consolidated basis with a positive capital ratio of probably over MXN 2,000 million. If we don't find growth opportunities, I mean, consolidation opportunities that will allow us to grow faster, that these opportunities come at the right price and to be operated by our formats, we would probably consider in expanding the dividends that we have done in the past.

At the moment, we are sharing dividends around 15% of the net income generated in the prior year, but that could be increased because, yes, we are ending with more cash than what we projected. We are operating with a very efficient management in inventories, both in Mexico and the U.S. and that is producing the cash I'm talking about. So the idea would be increasing dividends if we're not able to use that cash to grow. But the minimum, that would be the 15% that we projected of the net income.

[Alvaro Garcia, analyst]

Okay. And then just one more on Mexico. In the release, you mentioned better gross margin in Mexico as well, and I know you had remarks on sort of U.S. gross margin. But in Mexico, especially relative to other competitors, seen some sort of investment in gross margin. Why is it that you're seeing that expansion given how sort of competitive the market is at the moment?

[Jose Antonio Chedraui Eguia, executive]

I think it's a virtuous cycle because we're managing our inventory better. So the markdowns we're seeing that they are coming down throughout the whole first semester. And that's one of the main reasons that is producing savings in our gross margin. And that helps a lot to sustain and to be able to pay for our aggressive pricing strategy.

[Alvaro Garcia, analyst]

Would it be fair to assume maybe a little mix benefit as well from maybe more Selectos relative to last year? Or is it more your previous answer?

[Jose Antonio Chedraui Eguia, executive]

It does help the gross margin in Selecto is higher, yes. But we're seeing margin benefits in all of our formats including the low-income stores as well as the Supercito that we operate with a higher gross margin than the bigger stores as well.

[Operator]

Our next question is from Rodrigo Alcantara with UBS.

[Rodrigo Alcantara, analyst]

Antonio, just perhaps on the M&A front, we know you're very, very cautious and conservative on M&A in the past with the transaction of Comercial Mexicana stores, right. So congrats on that.

So my question would be thinking about M&A, let's assume that you won't be exploring, like any other verticals, meaning perhaps you won't be interesting to buy hard discounters, for instance. I mean what sort of M&A do you -- and the such for the case of Mexico would be like formats. Complementary to the ones that you have, what kind of M&A can we expect from you guys in Mexico?

And the other one would be kind of like a follow-up on your previous comment on managing inventory better. Just to understand, I mean, what are you doing different? Is this technology driven that is allowing to manage inventory better, practices, even perhaps some changes on management. Just to understand what it's allowing you to precisely manage better the inventory now as opposed to the past.

[Jose Antonio Chedraui Eguia, executive]

No, I will start with the M&A. Well, as you already mentioned, we are very cautious on the M&As that we have done in the past. And we have shown that we are more cautious with the ones that we didn't do because they did not come at the right price.

Before doing an M&A, first, we always like to be sure that they are pretty much in line with the abilities and the capabilities that we have to operate with, that we don't have to invent any new systems technology or processes to operate successfully the companies or stores that we buy. And that is very important for us, and we are very disciplined on that matter. So any M&A would have to come adding value to the formats that we already operate, and it would have to come at the right price.

On the inventory side, I think it's basically two main issues that allow us to manage inventory better every time. First is technology. We are very technified on buying, not only replenishment, but also the items that become what we call seasonal that every year we learn, the system learns of what we bought right and the mistakes we did in the type of products that we bought for every store and the price range that we offer to our customers. And the system every year learns and we become more efficient on the buying.

And maintaining on the technology side, we take an automated markdowns starting from the first 30 days of the products that are already in the sales floor. And that has enabled us to reduce inventories that become complicated to sell and where you have to take bigger markdowns.

And the second part, which is important, and that is not technology is our pricing strategy. Our pricing strategy allows us to sell our products faster and we are very cautious on the pricing. As I already mentioned, we have been recognized for that, not only by our customers, but even by the Mexican administration, for example, and we are very cautious on this. So if you add the technology that we use to buy better and to take the appropriate markdowns faster, on one side. And on the other one, the pricing strategy that allows us to keep -- to maintain very efficient inventories within the company.

[Rodrigo Alcantara, analyst]

That was very clear. Thank you very much, Antonio.

[Operator]

[Operator Instructions] Our next question is from Fernando Herrera with Compass.

[Fernando Herrera, analyst]

Can you hear me?

[Jose Antonio Chedraui Eguia, executive]

Yes, very well. Fernando.

[Fernando Herrera, analyst]

Okay. Perfect. Well, I have some fault on my line, so I don't know if this has been already answered, but I just want to know what trends are you seeing in the U.S. in terms of consumption? And my second question is related to the margin expansion. I mean it has been great. I just want to understand if you're still seeing some room to keep improving EBITDA margin.

[Jose Antonio Chedraui Eguia, executive]

Carlos, maybe you can answer the U.S., and The EBITDA margin in the U.S. as well.

[Carlos Matas, executive]

Absolutely. Fernando, good day. Yes, I think the backdrop of the economic environment in the U.S. is well known. We're coming -- inflation is slowing down -- slowed down in Q2 versus Q1. There is less government assistance out there post pandemic, so we're seeing a lot of careful spending from our customers. They're looking for value, they're looking for affordable options. And it's an environment that we've experienced before.

So we believe that our three formats are very, very well positioned to capture increased customer count due to folks trading down and looking for those value items. So when inflation in the general store, I mentioned earlier is still a little bit stubborn but we continue to maintain our price gaps, as Antonio has mentioned, and that bodes well for our three formats moving forward.

And also, as reinforcing what Antonio said earlier, we still are not satisfied with the progress that we've made in expanding our perishable sales mix in a couple of our banners. So that helps with margin expansion. And we're also not yet satisfied with materializing on all the synergies related to cost of goods. So we are laser-focused on both of those initiatives across all three banners and expect those results to help us continue to work on expanding on our margin.

[Operator]

[Operator Instructions] Our next question is a follow-up from Luis Willard with GBM.

[Luis Willard Alonso, analyst]

I wanted to clarify something. I think in a previous question, I think it was Alvaro's, you were discussing about CapEx for the year and you mentioned MXN 9 billion, but I think I missed if you refer to CapEx or the free cash flow that you were expecting for the year? Or what was that MXN 9 billion? And I'm sorry, I didn't get that. Do you want to clarify?

[Jose Antonio Chedraui Eguia, executive]

Under MXN 9 billion in CapEx, that's what we project and 3% of sales.

[Operator]

We have reached the end of our question-and-answer session. I would like to turn the conference back over to Antonio for closing comments.

[Jose Antonio Chedraui Eguia, executive]

Well, I just want to thank everyone for joining. We hope to be talking to you in the next quarter. We still see a very interesting sales growth in July, and we hope that we can keep showing these good numbers for the rest of the year. Thank you very much. Keep safe, and hope to be talking to you at the closing of the next quarter. Thank you.

[Operator]

Thank you. This does conclude today's conference. You may disconnect your lines at this time, and thank you for your participation.