Cloetta AB

STO:CLA B

Earnings Call Transcript 2019-Q1

[Jacob Broberg]

So welcome to Cloetta Q1 Conference Call. My name is Jacob Broberg, Head of Investor Relations. And as last quarter, I have Henri de Sauvage-Nolting, CEO; and Frans Rydén, CFO, with me here today. And Henri, you can start. Please go ahead.

[Henri de Sauvage-Nolting]

Yes, thank you, Jacob. Q1 highlights, of course, very happy to see the fifth quarter of organic growth in the branded business, 71%, and that we have a stable operating profit. Net sales declined organic wise with 3%, more to do with pick & mix. We'll talk about that later. Operating profit adjusted, SEK 166 million, and the cash flow doing well at SEK 154 million and the net debt to EBITDA is still at the target level.If we then look a little bit more at the markets. We can see that the packaged confectionery markets, again this is the Nielsen numbers in our main markets, so excluding pick & mix, declined in most of the markets. We can clearly see that March month was much lower than last year, which is all to do with Easter, so the market bit down, but no -- yes, no big change. Our estimate of the pick & mix market is that it grew somewhat in all markets except from Sweden. But these are estimates, of course, because there are no market data really available on a pick & mix.Our organic growth of minus 3% all coming from pick & mix and then mainly from Easter timing and also the last quarter of the last contract in Sweden. Those were the 2 main contributors to the minus 11% on pick & mix. And as I already said, the branded products grew with point 0.6%. Last year we had a strong start in Q1 with branded, Frans will allude to that. So I'm pleased to see another quarter with growth. Even more pleased to see that we're growing market shares on an overall level and also in our main categories, so that's really important competitive wise.If I look at an quick update on the Q1 progress on our core strategy. As said, market shares are growing, a signal that brands are becoming stronger, which is important. Further, progress on the working media, so the money we spent on getting our messages across to consumers, so another 10% up, which is really good because that means that the money we have is being used more efficiently. And also a continued strong traction on some of the recent big launches like the Plopp tablets and also low/no sugar candy, so the Venco or Godt & Blandet et cetera. So that is good.If we look at the facilitate growth, we can see that the, One Cloetta program is getting traction both in corporation, across the markets, commercially, but also some more tech thing. So we now live within an HR system, across Cloetta where all the people, FTE, salaries, et cetera are in a cloud-based system which will facilitate also virtual teams and where more and more managers will have people in different locations.Candyking U.K. is ready to go live on the Cloetta ERP system as from the 1st of May. We gave a go decision on that. The capacity investments we announced last time have been approved and initiated into 2 big molding sites and on the international markets. We now also have the Dubai Hub for the Middle East open to get more traction on the brands we have in that region.Then if I look at the funding growth, we have the Value Improvement Program initiated together with Accenture. We're getting the first results, the first cost buckets, first ideas of potential over there. Very good, positive feedback from the Perfect Factory in 2 of our biggest plants where we did this assessment on what we can do to improve things like efficiency, waste, et cetera. It is really inspiring to hear also operators and technicians talk about that. The insourcing is continuing and last but not least, the price increases, we are announced -- we have announced in March in Sweden on a pick & mix to get out of the loss making situation over there are progressing.Frans, over to you.

[Frans Rydén, Chief Financial Officer]

Okay. Thank you. So thank you. So first let me say that this is a quarter where I think it's appropriate to use the word despite. And as you started to familiarize yourself with the results, the gross profit and operating profit, I think you would join me in saying that this is a very stable business and that's despite a fairly tough competitor that we have with Easter shifting by one quarter.Nonetheless, to dig a little bit closer into the net sales. So obviously, we're down 0.2%, primarily due to this Easter effect. But recall also that, we lost Coop contract in Q1 last year and it was only by end of March we had exited the stores. And of course, March was still a pretty strong month with Easter that year. Pick & mix, as such, was down 11.4%, but then the branded packaged provides continued to grow, as Henri said, for the fifth quarter by 0.6%.Now on the next slide, we're going to look at that in a bit more detail. But before we go there, I just want to call up, of course, to ForEx upside here. So we did have a 2.8% gain on ForEx this quarter, fairly similar to what we had in quarter 4. And although, all for last year, which of course then brings us back to pretty flat net sales. The flipside of this and that we will see when we look at the P&L is, of course, where we get the benefits of ForEx on our sales. We also have a negative effect on our sales G&A.So moving then to -- bit of a zoom in on branded and pick & mix. So the packaged products accounted for 73% of our sales in the quarter. And what is worth calling out here on the very right-hand side, the 0.6%, which then on top of the 2.4% that we grew in quarter 1 last year, which in turn, was on top of the 1.3% that we grew in the first quarter of 2017, which was the only quarter in 2017 where we had organic growth in the branded business.Now on the pick & mix side, given the Candyking acquisition and sort of the reliance on gaining or losing big contracts rather than winning everyday with the consumer, we can't quite make the same competitor. Of course, it's not nice to see an 11.4% drop. But if I am looking for a silver lining here, at least these bars are approaching towards 0 here. So the reduction is getting smaller and smaller.So moving down to our profits, if I start with the gross profit, it improved by SEK 6 million versus last year. Obviously, the shortfall in organic growth was by the currency translation effect on the sales that then flew through. Where we have a stronger ability to influence, though, I think is on the gross margin, and it's great to see it's up by 0.4%, largely driven by the favorable mix in the portfolio. Of course, we -- given that the ForEx impact both sales and the profit, you don't really get an upside on that in gross margins. So this is really driven by the mix in the portfolio.On sales and general and admin, you have an increase of SEK 8 million, which is probably similar to what many of you expected with increased spending on advertisement. We have increased the spending, but not as much as we originally envisaged because we were able to utilize the available money better than what we've done before. So our working media that -- which is seen by the consumer, is up by 10%, whereas we could then reduce what we're spending on agencies and on production and so forth.Now the other piece which is very important here, as I mentioned, we get the upside on ForEx on net sales. And here we see the downside, so it's about SEK 11 million, is the hits on this line on accounted ForEx alone. So our cost saving program is working well and is delivering. But it gets obscured here by the ForEx impact. Operating profit, favorable by SEK 2 million, obviously the net of the 2 previous lines and very much in line with last year.So moving over to cash flow. So we have slightly better cash flow from operating activities before changes in working capital. And here I want to call out that we do have an effect, as a result of implementing IFRS 16, it's only about SEK 1 million on the operating profit line, but here we see a shift from this line down towards cash flow from financing activities by SEK 19 million.Towards the back of this deck, in the appendix, there is a summary that highlights all the changes, which I think describes it's actually better than the official interim reports does, and I invite you had to have a look at that. However, it doesn't really influence our leverage or any other big changes.Now the working capital in the quarter increased by SEK 50 million, this is driven by increased inventories heading into Easter, while we also have increased receivables, largely on account of Norway and as some of the retailers were holding back purchases towards the end of December. Now this is offset by favorable debt payables, which have increased given that we exited with very low payables last year.We then have the big movement, as you can see the SEK 146 million as part of cash flow from investing activities. This is the payment for Candyking, so the earnout. It's the only payment we're doing now. There is no more payment after this, so that is settled.And then cash flow from financing activities, as I mentioned, there is a reallocation on account of IFRS 16, but these are also commercial papers that we entered into given the fact that at the end of the month, we need to manage the cash also for the payment of the dividends early April. Now we used commercial papers because it's actually less costly than using our credit facilities which we still have about SEK 1.2 billion unutilized.So in conclusion, before I hand back to Henri here, I would say it's a stable financial performance despite a difficult comparator.

[Henri de Sauvage-Nolting]

So summarizing for those of you who were at the Capital Markets Day on the 4 -- sorry, the 3 main areas. So again, the branded growth really important because it has the over 14% EBIT contribution to the business, it's 71% of Cloetta. We have 0.6% growth fifth quarter. It starts to become a trend for sure. It has all the focus in the company to deliver quarter-after-quarter growth in our branded business and making our brands stronger.And then the second bucket is, of course, how do we get pick and mix to sustainable value creation. Yes, very important is that we get out of the minus SEK 60 million loss we made lost year in Sweden on pick & mix. We've announced price increases, we're making cost cutting exercises, assortment rationalizations, that's all in progress.Also in Norway, we have a new model for pick & mix implemented as from Q1, which is able to operate at lower cost, which is important again for profitability. Candyking U.K. is going on to the ERP platform of Cloetta, which will also enable us then to create one company in the U.K., not only doing the -- Canyking pick & mix business, but also the Cloetta brands in the U.K., mainly Chewits and The Jelly Bean Factory will be managed now from the U.K. with English people knowing their customers better than our export international organization. And of course, the insourcing synergy is really important and that is growing in line with our plans.And then the third bucket is the reducing of the cost and to drive the efficiency up in the factory. The Value Improvement Program has started. Actually this afternoon we'll see the first results from all the transparency we're getting through Accenture and looking at different cost buckets to look at the kind of savings we are going to make in each of those cost buckets.The cost savings, which are coming up the program we announced at the end of last -- sorry, at the end of 2017, are coming through. Of course, exchange rate is not showing that in the external results, but it's good to see the Q1 progress we are making. And then the Perfect Factory, really important to drive the efficiency and the wayside of it, particularly the efficiency side to create more capacity in our factories to also be able to grow more and to insource more. So a lot of progress over there as well.And with that, we open up for questions.

[Operator]

[Operator Instructions] And the first question we have is from the line of Nicklas Skogman from Handelsbanken.

[Nicklas Skogman, Research Analyst]

Could you say something on the timing of your expected -- the SEK 60 million in losses in pick & mix in Sweden, the improvements there over the coming quarters. I think at the CMD you said it'll take 18 to 24 months to remove this, but when do you think we should start seeing the improvements and roughly what rate do you expect?

[Henri de Sauvage-Nolting]

Yes, I mean the improvements we should start to see as from H2 this year -- right, with the pricing we are doing, but also the efficiency in the merchandises and some assortment rationalization. So of course, that is going to come. It's normal in this situation that you have to -- I don't want to say educate, but you have to take your customers and your consumers with you on this journey, so it cannot be a big shock. We might lose too much of the business, so there will be several steps we have to take. So I still stand by the timing that it will take this year and next year to bring it into black figures. And yes, that is the plan we're executing right now.

[Nicklas Skogman, Research Analyst]

But do you think it's going to be gradual improvements or will it be heavy -- 2020 heavier?

[Henri de Sauvage-Nolting]

No, it will be steps. So particularly on the matter of pricing, you also have to take consumers with you to the new price point, yes, and that is something you better do gradually, not to completely lose them.

[Nicklas Skogman, Research Analyst]

And do you think you have lost any business in this quarter because of the announced price increases or tougher terms for your customers, or is that...

[Henri de Sauvage-Nolting]

Yes, not yet in a big way, but there are some contracts which we have ended which were low or negative -- negative margin and no possibility to increase prices, also for other reasons they were not able to insource these products. So there has been a small effect. But it's not the -- doesn't play a major part of the minus 11% pick & mix development in Q1. And then how customers are going to take this going forward, is speculation, we don't know yet.

[Nicklas Skogman, Research Analyst]

And was there a negative impact from the -- from extra shift that we saw in Q4 in Q1

[Henri de Sauvage-Nolting]

Yes.

[Nicklas Skogman, Research Analyst]

But it was less than in Q4?

[Henri de Sauvage-Nolting]

That's difficult -- that's very difficult to say. But of course it's pleasant to see that -- particularly on the branded side that we are keep -- that we keep on growing. The growth, also if you look at the market share, it is very much in candy and on chocolates. And that means also that there's a volume shift towards the molded products and to a certain extent also towards some chocolate products. And yes, we have the lines. I mean I rather run them more shifts then coming with an investment proposal to build a new line. But of course, these extra shifts, and particularly if there are -- have no plans months and months from advance, then that you pay overtime and that is normally a bit more expensive than the regular, let's say, 7 days a week, 24 hours a day shift pattern. But that's something which we are developing and taking decisions on how we're going to go forward also hand-in-hand with the extra drying capacity we have been talking about last time.

[Operator]

The next question we have is from the line of Nick Fhärm from SEB.

[Nicklas Fhärm, Country Head of Sweden Research & Analyst]

I would just like to ask you, obviously now you're running a positive like-for-like in the packaged branded goods business, which by the end of the day, is most of your revenue. Now going into this quarter, there should be some substantial calendar effects, of course, impacting in a positive way. But without you -- because you probably won't guide us on organic growth this current trading. But my question is, could you elaborate a little bit on what are the risks for you not to deliver positive organic growth in a total basis in this quarter base?

[Henri de Sauvage-Nolting]

What did you mean, Q2 or Q1?

[Nicklas Fhärm, Country Head of Sweden Research & Analyst]

Q2.

[Henri de Sauvage-Nolting]

Q2. Of course, there's an Easter effect in Q2. I mean as I think everybody understands, right, that last year Easter was, to a large extent in Q1, although refilling was probably partly in Q2, and now there's a bit of preselling in Q1. But it's largely a Q2 effect. That's very broad, very overall. It doesn't satisfy the answer. Then of course, within Easter, pick & mix is very much impacted, mainly in Sweden, but also in the other markets there is some Easter effect, but not as much as in pick & mix. Then there's also within -- between the categories there is, of course, a difference where chocolates is much more Easter sensitive than, let's say, candy. And you know that we have a lot of chocolate business in Sweden, some chocolate business in Norway and Denmark, less so in the other markets. And then the third factor you need to take in is the fact that Coop is now out. So out of the minus 11%, less than half of it was the Coop effect of last year that we don't have with us now going forward. So that is an, of course, a positive in the comparator. Yes, so -- and then, of course, there are a lot of other effects, which have nothing to do with Easter. Of course, we have a good Q1 in Norway due to the abolition of the sugar tax. But then, we can see in the UK that one of our customers wanted to do less promotions because that's where they think they lose too much money, on the promotion. So there are several other things. And then of course, we're having the previous question. We're doing a serious price increases in Sweden on the pick & mix, and -- because we want to get rid of the loss making situation. Yes, we're judging, of course. There is a risk that we might lose some of these negative margin contracts, but we still think this is the right thing to do. But overall, of course, Q2 with Easter should give us a good lift.

[Nicklas Fhärm, Country Head of Sweden Research & Analyst]

Also the follow-up question that will be. So in Q1, you had basically 0 sales growth, right, from a combination of FX and organic developments. While your cost growth, adjusted for the small items of nonrecurring nature, is up 1.8% year-on-year, which I think reflects good cost management. But my question is, do you -- how should we think about operating leverage now that you're likely, I say, going into the quarter with positive organic growth? Should we expect the current cost run rate to be a good proxy for current trading and the rest of 2019, I guess? Or should we expect even positive operating leverage? Could you give us an idea of...

[Henri de Sauvage-Nolting]

There's of course a few things. I mean the first one which is really important is a branded business. Yes, the branded business has both average gross margin, yes, also both average EBIT as we showed, so more than 14%. So every quarter we get positive branded growth. Of course, the difference is between the countries, between the brands. But branded growth is helping us to get a full P&L effect, you could say, from growth to gross margin to EBIT. Yes? Then you also point out that, of course, there's an Easter effect. So Q2 will be more pick & mix. And pick & mix is having a lower gross margin but also a higher cost base because you have the merchandising costs over there. Of course, part of that is fixed, part of that is variable. And we know that apart from Sweden, we make a margin in the other countries and not in Sweden. So you have to -- when you think about it, you have to balance those 2 things. Then we're working on the underlying cost. And if I strip out -- let me say, like, if I strip out the currency effects, yes, I'm happy to see that our indirect costs, which of course are only part of the SG&As because that is excluding the advertising part, the indirect costs, are going down in Q1. And that of course, is good because we also are embarking on the on the next program with the Value Improvement+. So there is traction on that and we want to get more out of that. So that should also help. And like, we put in the report, I mean, good cost control has helped us also in Q1. And of course, that is not something we want to immediately throw out. But of course, the -- you need to dissect that because, as I already pointed out, if you sell a lot more pick & mix, you will also attract more variable merchandising costs, and they're also going into the SG&A line. So in order to get a real good picture, you need to look at those separately.

[Nicklas Fhärm, Country Head of Sweden Research & Analyst]

But would it be -- I appreciate your answer, and would it be a fair sort of conclusion, though, that -- because, pick & mix is also a small part of your business that it doesn't necessarily have to end up as negative operating leverage in Q2. I mean maybe cost doesn't have to increase as much as sales in Q2.

[Henri de Sauvage-Nolting]

No, I don't think that -- I don't think it should necessarily -- I mean, it's difficult to answer it like this if we don't have the P&L and your understanding of the Cloetta P&L. But of course, if we sell more, we get more top line, we get more gross margin out of pick & mix. But as you should also know, pick & mix is -- it's not contributing yet a lot to the EBIT level and Sweden is actually negative, in the other market it's positive. So there's also a big relation between how much is Sweden going to grow and how much are we going to grow in the other markets too before we're really -- before you're able to really judge the EBIT impact of pick & mix. Which brings me back to -- it is a damn important to keep on growing in the branded business because that's where we make the profit right now.

[Nicklas Fhärm, Country Head of Sweden Research & Analyst]

Final question. Did you say anytime how much you actually increased your pricing rates as an average, say on an annualized basis, what are we talking about?

[Henri de Sauvage-Nolting]

No. That is something which for several reasons is not smart to communicate. I mean I don't want my competitors to know what kind of price increases we are negotiating with our customers. And there's actually also a competition law issue with this because that could be seen as price signaling. If I'm telling you and it comes into the -- this is a public call, and so the competition authorities might think that by saying a figure that our competitors would then hear that and would think, Oh, well, then we will also follow because, in those markets where we're market leader, yes, that is not allowed.

[Operator]

We have a question from Nicklas from Handelsbanken.

[Nicklas Skogman, Research Analyst]

Two follow-ups. Marketing spend is lower than maybe you had planned for Q1. How do you see that going forward?

[Nicklas Fhärm, Country Head of Sweden Research & Analyst]

Yes. Well, I think we've said previously that we would increase the spend. And obviously, we will invest sign getting the branded products to continue to grow. But we're also looking for opportunities to spend what we have more wisely, so similar to what we did in Q1 to increase the working media at the expense, if you will, of the non-working media.

[Nicklas Skogman, Research Analyst]

So the Q1 level is a fair level for Q2 and Q3 as well then?

[Henri de Sauvage-Nolting]

No, that would I -- I mean, we have a few big launches. I will not tell you which ones they are. But there's a few strategic launches coming up in Q2-Q3. And it is something we're looking at all the time. I mean if we manage to get more working media, then we don't need to increase the absolute numbers. But of course, that's -- that becomes more and more difficult, let's say it like that. We will start to look at all our media contracts and renegotiate, so there's a bit of more scope here and there. And then, when these business cases are being presented -- yes, of course, we have attractive business cases, which are delivering good gross margin if we're growing more high-margin products, then we will invest also in absolute terms more in advertising. And it goes hand-in-hand with the savings program, that's also very clear for the -- for both the markets, well, for everybody, that we have to find the money ourselves through savings.

[Nicklas Skogman, Research Analyst]

And one on the inventory, are you happy with the levels and the status of the inventory?

[Frans Rydén, Chief Financial Officer]

So if you're thinking about on the cash side, obviously, we have some unfavorable working capital on account of increased inventories, but that's to be expected as we heading into Easter. Of course, I would say, I would be very happy if we could have some more candy inventories because we are constrained. So...

[Operator]

The next question we have is from Mikael Löfdahl from Carnegie.

[Mikael Löfdahl, Research Analyst]

I was just wondering on Candyking and the synergies. It's now that you have sort of summarized 2018 and also now you have the turn of further investments to achieve the last half, I guess, of the synergies that you communicated earlier. But is it possible to say something more on, first 2018? How the synergies actually came through in 2018? How much did -- was actually already in place in the first half versus the second half and how much impacted did the gross margin versus the EBIT margin. And going forward, and the second half, if you could say something more on the timing now that you have put the investment plans sort of into realization?

[Frans Rydén, Chief Financial Officer]

Well, maybe on the Candyking synergies, so we have shared that number also during the Capital Market Day. That cumulative 2018 we are at SEK 55 million out of the SEK 100 million and then we're looking to getting up towards SEK 80 million this year. And -- but obviously that also requires some of the further insourcing. It's most of what we have been able to do on the sales and G&A we have. There is still the few focus where we can do bit more. But yes, SEK 55 million end of last year and going for SEK 80 million this year.

[Mikael Löfdahl, Research Analyst]

But the SEK 55 million, how of that's the impact to the gross margin versus the EBIT margin?

[Frans Rydén, Chief Financial Officer]

Yes. I don't have that...

[Henri de Sauvage-Nolting]

Well, the majority is the insourcing, which of course, is in the gross margin. I think we have said 60-40 or 70-30-ish on that in the past?

[Jacob Broberg]

Yes. I mean our -- Jacob, here. I mean our only focus has been to communicate little bit uplift to SEK 100 million, we have never splited that into gross margin or something else.

[Henri de Sauvage-Nolting]

But the majority is from the insourcing that we...

[Jacob Broberg]

The majority is insourcing, absolutely.

[Mikael Löfdahl, Research Analyst]

But I think you communicated earlier or last year that the first synergies were more on the SG&A side. And then the insourcing takes some time obviously, for that you had to end the contracts with other sub-suppliers and then now obviously -- [ you need ] some more capacity. So my question is -- again, is -- the remaining part then, going from SEK 55 million to SEK 100 million, I guess that was show in the gross margin and what we saw in 2018, perhaps was more on the SG&A side?

[Frans Rydén, Chief Financial Officer]

Yes.

[Henri de Sauvage-Nolting]

That's right. There's little bit more to do on the U.K. and a few further SG&A indirects, but not so much. And then the majority is the insourcing, so you are right.

[Mikael Löfdahl, Research Analyst]

And in terms of timing...

[Frans Rydén, Chief Financial Officer]

Just one thing to add to that, if I may Mikael. We had part of the savings that we achieved up until the end of last year was also insourcing, now that you -- as just recall. And that's again, we've shared some numbers on this in the Capital Markets Day. Because, obviously, we went ahead and insourced pending the new capacity, using existing available capacity. So there is already insourcing upside in the P&L today.

[Mikael Löfdahl, Research Analyst]

And in terms of the investments that you will be doing now, the SEK 100 million, when will that start to show in CapEx?

[Frans Rydén, Chief Financial Officer]

Yes, 2020. I mean there will be something maybe towards the end of this year already.

[Mikael Löfdahl, Research Analyst]

And to further specify then the remaining synergies of the remaining 45, you say SEK 80 million transact and SEK 100 million in 2020. But is that a run rate so you will be up on the run rate in 2019 and by the end of 2020, we will have the run rate of SEK 100 million or will it be for the full year?

[Frans Rydén, Chief Financial Officer]

No, run rate. The 2018 number is the cumulative where we ended, but then we're talking about the run rates.

[Mikael Löfdahl, Research Analyst]

So maybe we should not expect too much from -- in the next couple of quarters then until you have built this new capacity.

[Frans Rydén, Chief Financial Officer]

Yes. And what makes it a bit tricky as well is, obviously, because when packaged products are doing very well, we also have to consider what we should insource and at what point. So obviously, we are always going to make a decision which is best overall for the company. But it could be possible that we will allow our available capacity to manufacture for the branded business, instead of insourcing something if that's more beneficial, so that could change the timing a little bit on that.

[Mikael Löfdahl, Research Analyst]

The other question from me is regarding Easter. And if you could say anything about the Easter period now occurring, obviously, in Q2. And first of all -- and I know it's mostly a Swedish thing. But in Norway with the sugar taxes coming back to the 2017 level and -- has there been any promotions and so on in Norway now, which was not the case last year? And in Sweden, has there been sort of a normal Easter impact?

[Henri de Sauvage-Nolting]

Yes. I would say so. In Norway, of course, there are number of the effects. The first one, of course, was that with the sugar tax abolition. Customers stopped buying in December and then started buying again in Jan, so of course that's an effect for -- a positive effect for Q1. And then we can also see that our new setup from pick & mix -- but 2 main elements over there is the consumer price and the way we communicate that. But also the factor we back with is secondary display units that that has a very positive impact on the pick & mix sale. The customers so far are not price promoting, so that is not back like it was in 2017. But I think we've adapted well to that situation by still communicating price in a good way and with those extra display balanced. Then in Sweden, yes, Easter is -- Easter is Easter I would say, and it's a big season for pick & mix.

[Operator]

[Operator Instructions] At this time we have no further questions in queue, I would like to hand back to speakers if there's any closing comments.

[Jacob Broberg]

Okay. Thank you very much for listening in on this call and speak to you next time. Have a good afternoon and weekend. Thank you and goodbye.

[Operator]

Thank you, ladies and gentlemen. That concludes the call for today. We thank you for joining and ask that you disconnect your lines. Have a great day ahead.