Suntory Beverage & Food Ltd

TSE:2587

Earnings Call Transcript 2018-Q2

[Saburo Kogo, executive]

This is Saburo Kogo.

First, I would like to review the first half of 2018. Here is our 2018 first half performance highlights: revenue was JPY 613.9 billion, up 3.9%; operating income was JPY 56.4 billion, up 3.5%; and profit for the period was JPY 41.3 billion, up 20.1%. The dividends for the second quarter is JPY 39, up JPY 2 from last year.

Each region and country were impacted by external environment and other changes that occurred and face unique short-term issues and challenges as well as medium-term structure challenges, which take longer time to address. By addressing these issues through trial and error and continuous efforts, we were able to finish the first half with increase in revenue.

As for profit, the gain on sale of food and instant coffee business in Asia was higher than expected, resulting in an increase in profit for both operating income and profit attributable to owner of the company. However, on an organic basis, which exclude the sale of food and instant coffee business and figures from the new joint venture in Asia, operating income underperformed the previous year at a level greater than we had expected.

We believe that this result means that we are facing a business challenge resulted from aggressive growth. For further future growth, moving forward on the structure reform for the medium term, in order to speed up the execution of the corporate strategy for 2030 set at the beginning of the year is necessary. Examples that show we are experiencing aggressive growth include the following: first, in Japan business, while sales and share increased through the activation of our core brands such as Boss and Suntory Tennensui, adverse product mix and higher supply chain cost had a negative impact on profit.

In Europe and in other regions, we are addressing market changes such as the trend towards natural and healthy and less sugar products by trying to reform and expand our portfolio through proactive investment, but it will take more time and funding until these efforts reach a level that will drive the overall business. In addition, until the new portfolio is able to contribute to the overall business, we need to continue to achieve sustainable growth with core brands and products. Therefore, we must execute 2 initiatives concurrently.

For the transition from aggressive growth to a new growth model, we will actively make investments where necessary without fearing risks and work on structure reform head on. Here are the 5 main points for structure reform. Some overlap with the pillars of the long-term strategy for 2030, but I would like to go over them again.

First, achieve sustainable growth of major brands that are the core of each region. Even for core brands that have already matured, it is possible to achieve sustainable growth by making continuous efforts on brand activation such as the case of Craft BOSS.

Next is acceleration of portfolio expansion. We need to accelerate portfolio expansion in order to address the global health trend towards natural and healthy and less sugar as well as the market expansion of noncarbonated categories, including products such as RTD tea and RTD coffee.

In addition, we need to further accelerate the supply chain enhancement and cost optimization that will allow us to quickly work with the new portfolio.

We will also need to quickly react to shift in drinking scenes and route to market, which are changing even more rapidly through digital technology. At the same time, it is important to proactively develop new drinking and purchasing scenes that are different from traditional channels.

Lastly, in addition to the M&A in Thailand, we will aggressively challenge ourselves to enter new markets where we can leverage our strength by utilizing our cash.

As different regions reach a turning point at the same time, we will set 3 years as a period for structure reform. We will not take a conservative approach based on a short-term perspective, but view the global change such as preference towards healthy, less sugar and RTD products as a great opportunity and further accelerate the structure reform.

That is all for me.

[Yuji Yamazaki, executive]

This is Yuji Yamazaki. I will explain further details for this quarter's results.

First, here are the results by segment. For revenue, the beverage business in Japan, France and Asia had significant growth, resulting in an increase in consolidated revenue for the first half. Profit increased on consolidated basis. But on organic basis that exclude the sale of the food and instant coffee business in Asia and the impact from the new joint venture in Thailand, profit decreased approximately 20% with Japan and Europe struggling the most.

Next is the general overview by segment. In Japan, profit increased as a result of positive performances of core brands such as Suntory Tennensui and Boss. On the other hand, adverse product mix and higher supply chain cost led to decrease in profit.

In Europe, market deceleration due to bad weather continued from the first quarter into the second quarter. Revenue increased in France, but U.K. and Spain struggled. As a result, revenue increased overall but decreased on a currency-neutral basis. Profit decreased as well due to impact from the revenue decrease.

In Asia, in addition to the positive performance in Vietnam, the new beverage joint venture in Thailand contributed, resulting in revenue increase. Profit increased significantly as well with the effect of gain on sale of food and instant coffee business.

Results of Oceania and the Americas are as shown.

Next I would like to explain each region in detail. First, Japan. The major achievement of the first half in Japan is business growth through increase in sales, mainly of core brands. Although the growth of the market sales volume was estimated to be 2%, our core category of water, coffee and sugar-free tea performed well, resulting our sales volume grew significantly by 4% compared to the previous year, and share went up as well. However, profit decreased more than we had initially forecasted. This is due to adverse product mix as a result of sales decrease of Tokucha and the 185 gram canned coffee. Inventory build up to prepare for increased demand from the heatwave, and the launch of new products led to higher supply chain cost, which impacted the result as well.

Based on this situation, here are the important points that should be implemented during the second half. There are 3 main initiatives for the second half. Not only the core brands performed well, this summer's heatwave is expected to last for a while. This is an opportunity to significantly grow our sales volume. We will further reinforce our activities, mainly in water, coffee and sugar-free tea in order to capture as much demand as possible through this opportunity. Also, we will put the brakes on the adverse product mix by reinforcing activities of Tokucha and 185 gram canned coffee in order to leverage them. We will implement innovative campaigns for Tokucha. In addition, we will enhance communication and in-store activities to aim for recovery.

For 185 gram canned coffee, a major new product will be launched in September called BOSS Canned Coffee. Also, the new factory dedicated to roasting coffee beans called Suntory roastery will be positioned as the primary hub to the quality of our canned coffee, and we will work to develop new products that use high-quality roasted beans. We will also work to reduce supply chain cost.

In the first half, although there was capacity shortage in the aseptic line, we actively built up inventory to prepare for the peak season. In the second half, we are foreseeing cost reductions. In addition, we will work on further cost reduction in each process to aim for recovery. Also, with record-breaking heat and heavy rains that impacted the regions of Western Japan last month, the industry, overall, is facing transportation capacity shortages. The delivery of our products has been affected as well, but we are doing our best to amend the situation, and we'll continue those efforts to minimize the impact.

In the Japan business, we have been able to achieve business growth by acquiring support from customers through proposing new values. However, as the business environment and structure change, in order to continuously create profit, we will need to work on structure reform that match the business environment. We will accelerate our efforts in the 3 main points below.

First is to innovate production and SCM. In the recent years, while sales volume have been increasing as a result of our efforts in strengthening core brands, the ratio of products that are manufactured in aseptic lines are also increasing rapidly. In addition to the new production line in Ujigawa factory, which will start operations in 2019, we have decided to invest in a new production line in Haruna factory, which will start operations in 2020. We will further accelerate innovation of production and SCM in order to address to the category shift.

Next is establishing a new high added value and profitability model. Since our listing, we have been implementing initiatives based on different circumstances to increase profit, including industry-leading initiatives such as strengthening core brands, developing products with high added value and shifting to small format products. We will aim for further growth by taking on new challenges in the healthy category and to set up new business models in new areas with fresh perspectives.

Lastly, we will innovate the vending machine business. The vending machine channel has continued to shrink in the overall market, but we implemented proactive initiatives such as launching products exclusively for vending machines, and we're able to keep the sales decrease to the minimum within the industry. We are seeing changes in cost structure due to societal factors, such as increase in oil price and labor shortages. However, we believe that vending machines will continue to be an important channel since it plays a large role in terms of consumer engagement. We will make efforts to innovate and evolve the business model with new ideas.

Next, Europe. Europe experienced extremely cold weather through February and March, and bad weather continued during the second quarter. This caused market deceleration, leading to decrease in revenue and profit on a currency-neutral basis. By country, in France, May Tea, which was launched in 2016, as well as core brands, performed well, leading to revenue increase. On the other hand, marketing cost for May Tea increased. Also, distribution cost increased as a result of labor shortages in the society. Although we did not experience any major trouble as we did in the previous year, we still believe that we need to promote reform in the supply chain.

In the U.K., in addition to bad weather, we are still seeing uncertainties caused by the introduction of the sugar tax. The recovery of the main product, Lucozade Energy, fell behind but is now on a recovering trend according to the latest results.

Spain was especially impacted by the weather, and it is estimated that the beverage market decreased by 4% from January to June. Sales decreased as a result. Based on this situation, I will explain the initiatives that we will take in the second half.

In France, core brands such as Orangina are performing well, and market share is increasing. Also, May Tea, which we proactively invested in, is performing very well, resulting in 60% increase compared to the previous year in January to June. We will continue to expand our portfolio by reinforcing our core brands and May Tea in second half. Also, we will further promote reform in the supply chain based on a medium-term perspective.

In the U.K., the recovery of Lucozade Energy took longer than expected, but promotional activities proved effective, and we are starting to see positive responses since June. We will continue to make efforts to recover sales by being proactive.

In Spain, bad weather continued even after February to March, and market deceleration continued. However, temperatures have started to rise from July, and we will work to recover sales by reinforcing our activities for the peak season.

Next, Asia. I will explain by business type. The beverage business, overall, is performing well. In Vietnam, we achieved significant double-digit growth on a currency-neutral basis. In Thailand where we started a new joint venture, the integration process went well. Also in Indonesia, we achieved stable growth, continuing the trend from last year.

Health supplement business continued to expand smoothly in the emerging countries where we are reinforcing our activities. However, core brands, mainly Essence of Chicken, struggled in Thailand, resulting in revenue decrease on a currency-neutral basis. On organic basis, excluding gain on sale of food and instant coffee business and new joint venture in Thailand, profit increased for the second quarter, but profit decrease in the first quarter still has effect, and profit for the first half decreased by approximately 10%.

In the second half, along with further growth in Vietnam, Thailand and Indonesia for beverage business, in the health supplement business, we will reinforce Essence of Chicken in Thailand as well as emerging countries such as Myanmar and expand direct sales business to aim for recovery.

In Oceania, revenue of Frucor Suntory decreased, but the revenue of the fresh coffee business increased, resulting in the revenue of the overall segment to be almost flat. Profit was almost flat as well.

In the Americas, the slight downtrend continued, mainly due to the carbonated drink category, resulting in revenue decrease. Along with it, profit decreased as well.

Next is the 2018 full year forecast. There are no changes from the forecast, which we announced on February 15. The environment in the first half was tougher than expected, causing downside risks of a few billion yen in operating income. However, the second half, which includes the peak season, usually composes higher part of the revenue and profit. Towards the peak season, we will reinforce our activities to reverse the negative effect from bad weather and temporary supply chain cost increase in preparation for the summer in the first half and aim to achieve the forecast that we announced in the beginning of the year.

That is all for me.