H & M Hennes & Mauritz AB

STO:HM B

Earnings Call Transcript 2022-Q1

[Operator]

Good day, and thank you for standing by. Welcome to the 3 months report for 2022. [Operator Instructions] Please be advised today's conference is being recorded.

I'd now like to hand the call over to your speaker today, Nils Vinge, Head of Investor Relations. Please go ahead.

[Nils Vinge, executive]

Thank you. And hi, everyone. Thank you all for joining us today, and welcome to this telephone conference about the H&M Group's first quarter results 2022. With me today is our CEO, Helena Helmersson; and our CFO, Adam Karlsson. We will start with a short summary of the first quarter. And after that, we will be happy to answer your questions. You will find the 3-month report on hmgroup.com, Investor Relations.

So I'll hand it over to you, Helena.

[Helena Helmersson, executive]

Thank you, Nils. I would like to start by saying that we are deeply concerned about the war in Ukraine and sympathize with all of those affected. We closed our stores in Ukraine for the safety of our colleagues. And since the beginning of March, all sales have also been paused in Russia and Belarus.

H&M group, H&M Foundation and the Erling-Persson Foundation have so far donated around SEK 170 million as well as clothes and other necessities to organizations, including UNHCR, Save the Children, the Red Cross and UNICEF. The H&M group cares about all our colleagues and stands with all those around the world who are calling for peace.

If we then look at the first quarter, we ended last year with sales back on pre-COVID levels and with a strong financial position. We began the year with increased growth-related initiatives to create an even better foundation for long-term growth. The initiatives mainly involve continuing to develop the customer experience by further broadening the assortment and integrating the sales channels and by continuing to invest in infrastructure, such as tech and the supply chain, but also in renewable energy and sustainable materials.

In addition to the general consequences of the pandemic, such as disruptions and delays in the supply chain, some of our major markets were impacted by a new wave of the pandemic in the first quarter. Despite this, we saw a recovery of sales in physical stores compared with last year while online sales continued to perform well. This shows the value of having both physical and digital channels, which strengthen and complement each other. Well-received collections led to full-price sales continuing to increase, which led to more-than-expected decrease of markdowns.

We are taking further steps towards offering customers more sustainable products. H&M group has a long history of working with sustainability, and it has been an integral part of our business for many years. To acknowledge this even further, we are integrating our annual and sustainability report, which is launched today. Some of the sustainability-linked highlights are that we have tripled the share of recycled material used in our garments; we have strengthened our climate goals, committing to achieving net zero by 2040 and reducing our absolute emissions by 56% by 2030; and we have launched our innovative circular design tools, Circulator, underlining our ambition to have all our products designed for circularity by 2025.

Looking at current trading, we are, of course, impacted by the consequences of the war in Ukraine but also by continued effects by the pandemic. Sales from 1st to 28th of March were up 6% compared with last year. And adjusted for the closed markets, sales were up 11%.

The group's plans remain intact, apart from the consequences related to the paused sales in Russia, Belarus and Ukraine. We have proven that we can be flexible and act quickly as circumstances change. Value for money is more important than ever. And we are well positioned to meet customers' continued increasing demand for affordable and sustainable fashion.

Thank you so much for listening, and we are now ready to take your questions.

[Operator]

[Operator Instructions] Your first question comes from the line of Rebecca McClellan from Santander.

[Rebecca McClellan, analyst]

Can you hear me?

[Helena Helmersson, executive]

Yes.

[Rebecca McClellan, analyst]

Yes. A couple of questions. Firstly, can you talk about the trends that -- in the neighboring markets that are still open rather than the closed markets, what you are seeing there?

And secondly, could you give us any update on China, please?

[Helena Helmersson, executive]

Yes. First, about our neighboring market, it really, really varies. And of course, it's difficult to know also the reasons why since we still have the pandemic in some markets and some consequences from that as well as the war. So difficult to say something general since it's different from market to market. However, we see that in those markets where spring has arrived, we do see that our spring collection is very well received by our customers.

And when it comes to China, we are still in a complicated situation. As you all know, one year has passed, and we are still not on the level of sales we would have wished for. Of course, we are working really, really hard on this, and we still see China as an important market for us.

[Nils Vinge, executive]

Just to add on that, I remember that China March and -- was very strong in China last year for us.

[Operator]

Your next question comes from the line of Simon Irwin of Crédit Suisse.

[Simon Irwin, analyst]

Noting your comments about the factors on input costs, can you talk a little bit about what your response is going to be to this? Quite a lot of your peers have now openly discussed price increases in the current year. Will you be following them?

[Helena Helmersson, executive]

Of course, we will also need to adjust prices. But our overall focus, as usual, is truly to make sure that customers can feel secure, that they can come to us and get the best combination of fashion, price, quality and sustainability. And yes, we have seen that competitors have already started to increase prices. We will adjust different on different markets and also different on different product types and always to make sure that we strengthen our position also compared to competition.

[Simon Irwin, analyst]

And just in terms of the outlook for gross margins, obviously, you've mentioned that 2Q, it's negative versus slightly negative for 1Q. Can you just give us a sense about is -- will 3Q and 4Q be worse again than 2Q in terms of input costs?

[Nils Vinge, executive]

Yes, that's correct.

[Operator]

Your next question comes from the line of Adam Cochrane of Deutsche Bank.

[Adam Cochrane, analyst]

A couple of questions for me. Firstly, the trajectory of sales as you went through the second quarter last year, can you just remind us of how -- because of the impacts of COVID, sometimes, it's quite hard for us to really gauge. Can you just tell us, as we look through the comparisons from last year, how the second quarter evolved from March onwards? Does it get easier or tougher as we look forward?

And the second question is...

[Nils Vinge, executive]

Could we take one question at a time? Adam will take that one.

[Adam Karlsson, executive]

Yes. Looking into second quarter, then April was a month where the number of store closures increased quite substantially versus March of last year. So that's one part of Q2 last year, that we had a fluctuating number of stores, but April was a high level of store closures last year.

[Adam Cochrane, analyst]

So you'd expect the sales to accelerate? On -- just on a comparative basis, they get easier as you go through the rest of the second quarter.

[Adam Karlsson, executive]

Well, all other things equal, yes. We will meet a higher number of store closed in April than we did in March.

[Adam Cochrane, analyst]

Okay. Fine. And then the second question, is the -- have you been able to work out whether the sales that you've been seeing in March appear to be more cyclical factors or more structural factors in terms of the consumer spending? Maybe, are you seeing any signs that it's a bit weaker due to concerns over inflation or anything else? Or you still have the view that this is -- appears to be more of a cyclical issue.

[Adam Karlsson, executive]

What we still can see is that customers appreciate novelty and renewal more than a year back when there were more basic demand. So that is our focus, to continue to ensure that the offering is updated and meeting that overall demand.

[Nils Vinge, executive]

And we see big differences between from market to market again due to various -- I mean, various COVID -- different COVID situation this year and last year, also different weather. And as Helena said, where we have spring weather, we see strong well-received collections in those markets.

[Operator]

Your next question comes from Daniel Schmidt of Danske Bank.

[Daniel Schmidt, analyst]

Do you hear me?

[Helena Helmersson, executive]

Yes.

[Daniel Schmidt, analyst]

So a couple of questions from me. I might have missed it, but could you give us any indication of what you see in terms of markdowns for the coming quarter, if I start there?

[Nils Vinge, executive]

No, we haven't guided. We typically don't guide for markdowns. But just to remind you, the second quarter is more a full price quarter and not so much markdowns typically.

[Daniel Schmidt, analyst]

All right. Coming back to Q1 then and sort of the operating leverage. And you have, of course, talked about more growth initiatives and expenses for that and also the pandemic. Is mix an issue as well when it comes to the sales channels, off-line versus online? And given that then online is a little bit down and you see strong growth in off-line, although you -- in my head, that would mean good operating leverage as you have a lot of fixed costs in off-line. But could you shed some light on that?

[Nils Vinge, executive]

It's true. There are mix effects, both channel but also geographical. So it's complicated. But you're right. The online channel, obviously, has been very profitable during the pandemic. And now when we see that the store channel is picking up and -- from very low profitability, of course, during the pandemic. So it's improving, but it has a negative mix effect now. That's the equation.

[Daniel Schmidt, analyst]

Okay. Okay. Good. And then sort of speaking about these growth initiatives, and you mentioned tech and supply chain. Could you quantify in numbers what that was in Q1? And what should we expect for the rest of the year?

[Adam Karlsson, executive]

Well, the overarching theme is, of course, the nature of the tech agenda. Looking at Q1, we increased the pace and accelerated the innovation and test agenda. And that, of course, affects then how the IT costs are taken -- rather, expensed and capitalized. And of course, we will follow this. When we will build something, we test it and really roll it out. That will then change the balance between capitalized and expensed cost. So it's sort of a moving target. But I think one assessment that can be made is that the expense levels will be higher this year than prepandemic levels.

[Daniel Schmidt, analyst]

But you can't give us...

[Nils Vinge, executive]

You're on to something here, of course. What Adam says, mainly -- the delta between '19, if you refer to that, mainly explains -- is explained by the nature of the tech investments, which is more forward-leaning, more about test and innovation, as Adam said, thus expensed.

[Daniel Schmidt, analyst]

Okay. But you can't give any sort of range in how much more is going to be expensed compared to the base that you referred to?

[Nils Vinge, executive]

We will continue, of course, with the test innovation and tech invest because we are still -- our long-term targets and 2030 targets remain intact. However, of course, now with the -- given the circumstances, we are reassessing a lot of things. But our long term, again, is still important. Of course, we will continue to invest. Yes.

[Operator]

Your next question comes from Richard Chamberlain of RBC.

[Richard Chamberlain, analyst]

A couple of questions from me, please. So in the statement, you talk about ongoing supply chain efficiency efforts and the integration of sales channels. I mean it sounds like inventory might have been down and -- if it were not for orders brought forward. And you think you can run with a sort of lower inventory level structurally in the future. So can you sort of elaborate a bit more on the work you're doing in terms of supply chain efficiency and integration? That's the -- that's my first question.

[Helena Helmersson, executive]

Well, overall, as you know, we're investing in supply chain and technology. It is a lot about being able to react faster to customer demands and also integrating the different channels. And this will also, of course, make sure that we have a great customer experience. When looking at stock levels, of course, this type of efficiency will gradually lead us towards our goals. And what you see in the report now is a slight increase, mainly then due to also the disruptions that the industry has seen overall in the supply chain where we have also placed some of the orders earlier to avoid delays.

[Richard Chamberlain, analyst]

Okay. And another one for me is, in terms of costs, so you talked about the tech investments, so are you going to be making any specific sort of cost undertaking, any kind of cost control initiatives in response to the Russian-Ukraine crisis or recent sort of COVID outbreak? So are you going to be taking a different approach now on costs for the rest of the year?

[Adam Karlsson, executive]

I think the last 2 years has really shown us that we need to be very agile and flexible. So of course, we are reassessing based on the current situation. I think we can also conclude that a lot of the work done previous years, for example, in the store portfolio optimization initiative and so forth, will continue to benefit us during this year with higher share of turnover-based rents and so forth. So some initiatives that we've previously done will still benefit us. But of course, we will reassess the plans for the year given the circumstances around us.

[Operator]

Your next question comes from the line of James Grzinic of Jefferies.

[James Grzinic, analyst]

Yes. Just really trying to understand how you're approaching prices -- how you approach prices for the spring/summer season and the autumn/winter season, upcoming one. Are you not budgeting for unchanged [ bought-in ] margins? Are you basically saying we'll keep pricing unchanged to start with, then see how competition develops from price points and how we can recover that volume gross margin as the season goes by? And just would be really, really interesting to understand how you're going about that because it doesn't feel as if you're starting by landing prices at the start of season so to fully recover the incremental costs.

[Adam Karlsson, executive]

Yes, but of course, we are acting on the forecasts that we can do on how the cost will develop going forward. And there are 2 big levers. One is the price increases that Helena indicated. That will start now to come during the second part of the spring. The other part is, of course, how we can offset that with lower markdowns and more full-price selling. So we're working with both of these levers. In Q1, it was the markdown lever that was the significant one. But for second quarter and onwards, we will more -- work more on the out price.

[James Grzinic, analyst]

Okay. So in terms of that pricing policy, you adjust within season in specific markets, looking at how the pricing architecture has developed around you basically. Is that the way I should be thinking about it?

[Adam Karlsson, executive]

Yes, exactly. As Helena said, we will do it to ensure that we are competitive in each market and within each product category.

[Operator]

Your next question comes from the line of Georgina Johanan of JPMorgan.

[Georgina Johanan, analyst]

Two from me, please. I'll ask them separately. The first one was, just with regards to the gross margin and just to understand a little bit better the moving parts there, if possible, please, because if I look at your gross margin sort of back versus 2019, I think it was still down. So is it possible to provide some sort of bridge for us on that, please? I would have expected it to being better -- be better given that markdowns came in better. That was my first question.

[Nils Vinge, executive]

Right. We saw the increased input prices, mainly on freight, started to come through a bit early that we've planned. So that's basically the equation.

[Georgina Johanan, analyst]

And from a leverage perspective, is that now kind of back to normal? Or should we be still expecting, say, next year some further leverage to come through if you can go further on sales?

[Nils Vinge, executive]

As revenues are coming back to more or less normal levels, of course, that is -- that doesn't mean that everything is fixed. That's why we call it semi-fixed because there is always things that we do to improve things and also invest. And part of the investments that Adam was referring to that we talk about is also applying in COGS for logistics and supply chain, of course.

[Georgina Johanan, analyst]

Okay. And then my second question was -- apologies if I missed it in the annual report. But I was just wondering if you could clarify what portion of EBIT and -- is actually coming from Russia and Ukraine, please.

[Nils Vinge, executive]

We don't specify, but it's not a secret that Russia was one of the most important growth markets, and it's also -- it was also very profitable.

[Operator]

Your next question comes from the line of Anne Critchlow of Societe Generale.

[Anne Critchlow, analyst]

I've got 2, please. So the first one is about Russia. Just wondering how flexible the cost base is there. So what percentage of normal operating costs do you think you might be able to save this year?

[Adam Karlsson, executive]

It is a flexible cost base in Russia. Not 100%, obviously. But we are looking into how to manage that, of course, day by day now given the conditions in the country. So generally, it's a flexible cost base.

[Anne Critchlow, analyst]

Okay. And then my second question is about the marketplace that you've started in a few countries, I think, for H&M. Just wondering how many brands so far and how that plays into your assumptions for 2030, the doubling of sales that you're targeting. Do you think marketplace will be really quite important within that?

[Helena Helmersson, executive]

Yes. We're now testing several brands on h&m.com. We have started to test it in Sweden and also in Germany. And here, we have invited, of course, our own amazing brands, also the smaller ones. And also, we are in partnership with some external brands. And this is a trial where we simply want to widen the assortment for our customers and make sure that we can offer them and kind of inspire them to really have their own personal style.

So early days, difficult to say exactly how this will proceed. But very, very interesting testing and positive feedback from our customers. And of course, this is one out of many initiatives to take us towards our 2030 goals.

[Operator]

Your next question comes from the line of Fredrik Ivarsson of ABG Sundal Collier.

[Fredrik Ivarsson, analyst]

Yes. Two from me as well. Firstly, can you help us understand the March figure a bit better? Because if I do my math right, we're looking at a double-digit decline versus March '19, and that's obviously a steep deceleration from Q1. So is this a result of the supply chain issues? Or is there anything wrong with the spring collection? Or yes, if you could talk around that for a second.

[Adam Karlsson, executive]

No. But there is, of course, as we mentioned here, one effect of the post operations in Russia. But if we look at the like-for-like versus 2019, we are seeing 2% to 3% decreases versus 2019.

[Fredrik Ivarsson, analyst]

If you take out Russia?

[Adam Karlsson, executive]

Yes, exactly.

[Fredrik Ivarsson, analyst]

Excluding Russia, okay. And then a more general question on consumer behavior. Have you seen consumers reacting to the surging inflation rates yet, if you could give any color on what you're seeing out in the markets?

[Adam Karlsson, executive]

Of course, it's a competitive environment. And the -- with all other costs increasing, we closely monitor this. But primarily, we see that customers appreciate our collection and believe that we are well positioned with our complete offer to be successful also within this sort of inflationary trends.

[Operator]

Your next question comes from the line of Charlie Muir-Sands of BNP Paribas.

[Charlie Muir-Sands, analyst]

Yes. I've just got one question that hasn't already been asked. It relates to your annual report. Obviously, last year, you did a fantastic job with working capital and generated over SEK 12 billion in inflows from payables. And I remember at the time, you said that, that was effectively through facilitating your suppliers' access to reverse factoring or supply chain financing. I wondered if you could disclose what the figure is as some companies do.

[Adam Karlsson, executive]

For last year, you mean? For 2021?

[Charlie Muir-Sands, analyst]

Yes, correct. How much of the SEK 12 billion was driven by reverse factoring or supply chain financing that you facilitated?

[Adam Karlsson, executive]

The vast majority, 90% of it, so about SEK 11 billion was the total for 2021.

[Operator]

Your next question comes from the line of Anton Wilen of Bloomberg News.

[Anton Wilen]

I wonder if you can tell me those 42 stores that were closed as of yesterday today due to the pandemic, which market.

[Helena Helmersson, executive]

We have 42 stores closed in China right now due to the pandemic.

[Anton Wilen]

All right. And can you tell me which markets do you see now as most interesting for growth going forward?

[Helena Helmersson, executive]

That's an interesting question, and of course, we see a lot of possibilities moving forward both when it comes to mature markets, but I would say also a lot when it comes to the new markets. Right now, we're seeing great development in North and South America. So again, a mix of mature markets and more new markets. Also in U.K., also great development in India, just to give a few examples. But we have a lot of initiatives ongoing with integrating channels, which, obviously, it's a true strength that we have physical presence as well as digital. And we also have a lot of other growth initiatives. So a little bit of mix of new markets and mature markets when looking at the potentials.

[Operator]

Your next question comes from the line of Magnus Råman.

[Magnus Råman, analyst]

Yes. I would just like to ask about the inventory position in Russia. If you can comment on to what extent you had a sort of currency affected write-down of the inventory due to the ruble depreciating when you exited this quarter since the interest rates, of course, have been jumping up quite a lot and if you use the end date there.

And then if perhaps you can give us any lead into the size of the inventory position in Russia. If I would use, for example, the global inventory to trailing sales number, it will suggest roughly SEK 1.5 -- SEK 1.5 billion of inventory value in Russia. Could you comment on if that's around the lines correct?

[Adam Karlsson, executive]

If we start with second question, I think the sales proportion of Russia, I think it's a good proxy for the share of stock as well though, even though Russia has been able to trade with slightly lower stock to sales than average. So your number there is on the high side. If we look at the -- how we handled it for Q1, it is -- we haven't done any adjustments to the inventory levels from a valuation point of view. But of course, we will look into it during the quarter how to assess the situation.

[Magnus Råman, analyst]

All right. But is it correct that you translate the inventory value into Swedish krona each quarter for -- in all the markets?

[Adam Karlsson, executive]

Yes. It is in Swedish krona. It's valued in -- yes, exactly, Swedish currency.

[Magnus Råman, analyst]

So the sort of -- if it was a 25% depreciation of the ruble versus the SEK, that would be also the -- then the impact would have been like 25% of that SEK 1.4 billion or whatever. If -- so to my question on the depreciation from translation is, certainly, if you use the average currency rate or if you, at the balance sheet, post the end sort of date [ from ] the quarter, the currency effect for the translation.

[Adam Karlsson, executive]

Look, the stock is valued in SEK. And then when it's sold, it is then paid by the local market. So it's kept in Swedish crowns.

[Operator]

[Operator Instructions] Your next question comes from Olivia Townsend of UBS.

[Olivia Townsend, analyst]

Yes, sir, I just have a few sort of clarification question. So for markdown in Q2, I understand you might not want to give a number. But I just was wondering if you could give your view in terms of where you were expecting that to go directionally, i.e., up or down and year-on-year. That would be helpful.

[Nils Vinge, executive]

It's still very early days in the quarter. So -- and we -- as I said, we prefer not to guide on markdowns. And it is a small markdown quarter. So I'm sorry, we will come back to that later.

[Olivia Townsend, analyst]

Okay. Understood. And then just secondly, on the investments to be made in order to reach that 2030 target on sales, again, I understand you might not want to quantify the amount that's needed to invest in order to get that. But given you've done quite a few investments into online over the last few years, I was just wondering if you could give us some kind of sense of where you feel you are already in terms of the amount that you would need to invest. Are we very early on in that process? Or do you think it will come further along? Just would be helpful to get a sense of that, please.

[Adam Karlsson, executive]

I think we can say that a lot of the platform investments have been taken. And we've been seeing the benefits of the previous investments during the pandemic and primarily connected to our digital store and our supply chain. Now as mentioned, we are accelerating the sort of the test and innovation agenda. So it will still be a high activity to ensure that we develop and primarily within the tech side. But it will be less of the big platform investments this year than compared to prepandemic levels.

[Olivia Townsend, analyst]

Great. And just one final clarification, just on a question that was asked earlier, just around Q2 and the plans for the investments in Q2. It sounded like you were suggesting that maybe you focused a bit more on protecting profitability for Q2 given the obvious situation in Russia and Ukraine. Is that the right way to think about it that the investments might have been dialed back for Q2 but you would be looking to sort of ramp them up again for Q3? Or is that sort of a bit too granular to comment on?

[Nils Vinge, executive]

Look, no, of course, I mean, in this current situation, we have to be agile and assess and make a holistic assessment, so to speak. So of course, margin profitability is also an important part short term.

[Operator]

Your next question comes from Daniel Schmidt of Danske Bank.

[Daniel Schmidt, analyst]

Yes. Just a follow-up question for me and maybe related to what Adam just talked about a while ago. When it comes to price increases, I think you said that you will start to do price increasing -- increases entering the second part of the spring. And does that basically -- how should you sort of stack that against external factors entering this quarter? Does that mean that you would -- sort of aiming to get half compensation or some compensation or full compensation for what you're seeing in terms of input costs?

[Nils Vinge, executive]

Of course, we can't be that granular. But -- and -- but what is clear that we won't give that the -- our customers all the burdens, so we'll take part of it. But as Helena said, that's the most important. The customers always trust us to give -- you can always find the best combination of fashion quality prices. It's [ embedded ] with H&M. But of course, given the substantial input price increases, of course, we need to adjust. And then as Adam said and Helena said also, it will vary how much from market to market and from category to category and even product by product.

[Daniel Schmidt, analyst]

And entering the second sort of part of the spring, is that April and onwards or...

[Nils Vinge, executive]

It's a gradual shift, of course. It's not from one day to the other. So it's already -- I mean, it's a gradual ramp-up, of course.

[Daniel Schmidt, analyst]

Okay. But is it fair to say that you haven't done the adjustments yet?

[Nils Vinge, executive]

It's a gradual ramp-up, as I said. And if you walk to stores and online, you will see that some prices might have been adjusted already.

[Operator]

There are no further questions coming through on the line. Please continue.

[Nils Vinge, executive]

So thank you all very much for participating in this conference call, and bye for now.

[Operator]

Thank you. That does conclude our conference for today. Thank you all for participating. You may all disconnect.