Seven & i Holdings Co Ltd

TSE:3382

Earnings Call Transcript 2020-Q3

[Junro Ito, executive]

Happy New Year, everyone. My name is Junro Ito of Seven & i Holdings. Thank you for your support last year.

Last year, a number of issues involving Seven & i Holdings caused concerns to our stakeholders. We apologize for any concerns and inconvenience this may have caused. The company will be working as a cohesive unit to guarantee such issues do not repeat themselves in 2020. We request your continued support and understanding.

I would now like to give you an overview of the company's financial results covering the third quarter of fiscal year 2020. First, I would like to start with a review of the company's cumulative consolidated financial results for the third quarter of fiscal year 2020. Please turn to Page 2.

Revenues from operations stood at JPY 4.9755 trillion, due primarily to a decrease in Ito-Yokado store locations, a challenging sales environment for existing stores, a decrease in gasoline sales in convenience stores in North America derived from a decline in the price of crude oil, among other factors. This represents a Y-o-Y decrease of 1.9%. On the other hand, operating income stood at JPY 319 billion, up 4.9% Y-o-Y. We registered JPY 169.9 billion in net income attributable to owners of parent, partly due to a decrease in extraordinary losses compared to last fiscal year. This represents a significant Y-o-Y increase of 8.8%. The company, therefore, delivered the best performance ever for each income metric and was able to meet our forecasts.

Next, operating income changes by segment were as follows. Please turn to Page 3. An operating income increase in domestic and overseas convenience store operations allowed us to cover an operating income decrease in other segments, leading to a Y-o-Y increase of JPY 14.8 billion. Our cumulative results for the third quarter of the current fiscal year allowed the company to break a new operating income high for the seventh fiscal year in a row. I invite you to peruse the appendix for a more detailed overview of these results. I shall be outlining our results for the major operating companies later in this presentation. Before doing so, I would like to briefly touch upon the impact of the increase in the consumption tax rate. Please turn to Page 4.

As you can see from the graph, large-scale stores such as Ito-Yokado and Sogo & Seibu were significantly impacted by the increase in the consumption tax rate, which took place last October. On the other hand, the Japanese government has introduced a reduced tax rate for certain products in order to ease the effects of the consumption tax rate hike on consumers. Also within the scope of this initiative, the government is offering a 2% point return for cashless payments. Both of these initiatives represented a tailwind for Seven-Eleven Japan, leading to a strong performance after October. Additionally, the graph appears to show a significant decline for the restaurant chain, Denny's. However, this is more due to the impact of last year's typhoon season rather than due to an increase in the consumption tax rate, the impact of which wasn't as significant compared to large-scale stores.

Next, I would like to discuss the major operating companies. First, I would like to start with Seven-Eleven Japan. Please turn to Page 6. Cumulative operating income for Seven-Eleven Japan as of the end of the third quarter grew by JPY 13 billion Y-o-Y and stood at JPY 198.4 billion. Existing store sales had shown a 0.6% Y-o-Y decline up until the end of the first half of the year. However, as I mentioned earlier, we registered a strong performance after October of last year, allowing for a reduction in this decline to 0.1% Y-o-Y as of the end of the third quarter on a cumulative basis. We also registered an increase in the number of stores, which translated into a JPY 12 billion increase in sales. We registered an increase of JPY 2.6 billion in gross profit margin, thanks primarily to an increase in fried product sales and to an improvement in the gross profit margin for rice products.

On the other hand, regarding SG&A expenses, we saw higher expenses derived from an increase in the number of stores. However, we enacted head office cost structure reforms allowing us to optimize SG&A expenses. Through this, we succeeded in curtailing SG&A expenses, which increased only JPY 1.6 billion Y-o-Y. I shall be discussing this topic in more detail in a later part of this presentation. Overall, we registered a Y-o-Y operating income increase of JPY 13 billion, which represents the best performance ever for Seven-Eleven Japan.

Next, I would like to discuss the impact of cashless payments. Please turn to Page 7. The green line represents the cashless ratio and the red line represents existing store sales increase, both are monthly figures. As you can see, we introduced various bar code payment options to coincide with a government initiative offering point returns to customers who use cashless payments. This initiative started in October of last year. This allowed us to achieve a service usage rate for these payments comparable to other industry players. Initiatives related to nanaco had already been delivering results, leading to a high cashless ratio of approximately 35%. However, this figure grew to 42% after October. Average customer spending is higher for customers using cashless payment methods compared to customers using cash. Consequently, an increase in the cashless ratio has translated into an existing store sales increase.

Please turn to Page 8. This graph shows the Y-o-Y difference in gross profit margin on a quarterly basis. The dashed line represents gross profit margin, including cigarettes, and the solid line shows gross profit margin, excluding cigarettes. We carried out the gross profit margin improvement for all fried products in the fall of 2018 and for rice balls in February 2019. These efforts bore fruit, leading to a strong improvement of gross profit margin, excluding cigarettes. During the current fiscal year, we have registered a consecutive Y-o-Y gross profit margin improvement of 0.3% for 3 quarters in a row. Going forward, we will continue carrying out product renewals, resulting in quality and gross profit margin improvements.

Page 9 deals with head office cost structure reforms, which we announced in October of last year during the company's financial results presentation for the first half of the year. Seven-Eleven Japan made the decision of creating a plateau with a purpose and carry out cost structure reforms. The content of these efforts is as shown on Page 9. I would like to discuss the ways in which these efforts have translated into the containment and optimization of SG&A expenses.

Please turn to Page 10. The graph on the left shows Y-o-Y SG&A expense trends on a quarterly basis. As shown on the table to the right, we are carrying out efforts towards the optimization and reduction of each expense item, a shift to 7-Eleven app-based sales promotions, a review of media sales promotions and a strategy of focusing on cost-effective sales promotions has allowed us to greatly curtail advertising expenses in particular. Additionally, a review of personnel allocation and the closure of directly operated stores has allowed for a Y-o-Y decrease in salaries and wages. Stricter store opening standards, et cetera, allowed us to curb an increase in expenses associated with land and building rent as well as with depreciation and amortization. These actions translated into an overall Y-o-Y reduction in SG&A expenses for the third quarter. On a third quarter cumulative basis, we succeeded in curbing an SG&A expenses increase, which rose by only JPY 1.6 billion Y-o-Y, or 0.4%. This led to a profitability improvement.

Please turn to Page 11. We carried out a renewal of the Seven-Eleven app in November of last year, concurrent with the sales promotion strategy designed to strengthen the long-term relationship with our customers. We carried out the 5 campaigns shown on the table at the top of Page 11 for a period of over 1 month. These campaigns are designed to provide more incentives to customers who visit our stores more frequently. As a result of these campaigns, the number of app members exceeded 5 million in November. In December, we carried out a collaboration campaign with pop idol personalities, which had a positive effect. As a result of these efforts and although these are still preliminary numbers, the number of app members stood at 5.88 million. The results of our campaigns for the month of November can be found in the table in the lower right-hand corner. Over 3 million customers participated in these campaigns, resulting in a sales increase of JPY 2,150 per day per store and an increase of approximately 4 store visits per store per day. By carrying out this type of effective sales promotions, we succeeded in delivering growth in sales and in the number of customers, even while curtailing costs. We also registered a Y-o-Y increase in franchise store profits during the third quarter.

As shown on Page 12, sales promotions going forward will not be based on one-off price discounts as was the case previously, but rather on promotions using the app as an axis, providing greater rewards to customers, the more they spend on purchases at our stores. Going forward, we will be increasing promotions that foster an increase in overall purchase amounts over the long term. We intend to make effective use of app-based sales promotions, strive towards the optimization of advertising expenses, while simultaneously collecting purchase data, allowing us to attain a deeper understanding of customer purchase patterns. We intended to use this information towards new product development and the CRM strategy, leading to enhanced customer lifetime value.

Please turn to Page 13. I would like to give you a progress report on the company's action plan, which we announced back in April of last year. Regarding our closure in the midnight time trial, as of the end of the third quarter, approximately 350 stores have started this trial. A number of stores have already completed a 6-month trial and as of December 1 of last year, 35 stores had already changed contracted opening hours. Additionally, we started new employee cash register service training from the third quarter of the current fiscal year. Out of new hires, approximately 60% leave our company within the first year, which is a situation we want to improve. We believe this initiative has the potential to improve employee retention, which in turn, will allow us to alleviate personnel shortage issues. We are also hopeful this will allow franchise store owners to focus their efforts on running their stores. These employee training sessions had already been held approximately 300x by the end of the third quarter.

In terms of promoting dialogue with franchise stores, in addition to direct visits to owners, starting in October of last year, we implemented owners meetings, allowing franchise owners to voice their opinions. We have, therefore, increased the number of initiatives, allowing management to hear franchise store owners' opinions directly. Initially, these owners meeting would take place once every month for one area, but from December, we started carrying out these meetings in 2 areas every month. As of the end of November 2019, 7,900 stores had already introduced the new layout. At the 855 stores we have been monitoring, we registered an improvement of JPY 13,300 in terms of average daily sales per store. These figures exclude cigarette sales due to a Y-o-Y rebound in the month of November, following last year's tobacco price hike.

Regarding the Ethical Project, we initiated a trial in the Hokkaido and Shikoku areas starting from October of last year. We have observed some positive effects, so we want to continue this trial with the aim of expanding the Ethical Project to all stores in the spring of 2020.

Next, I would like to discuss 7-Eleven, Inc. Please turn to Page 15. 7-Eleven, Inc. registered a Y-o-Y operating income increase of USD 82 million for the third quarter, which stood at USD 835 million. This represents the best operating income performance in 7-Eleven, Inc.'s history. In terms of merchandise, a Y-o-Y increase of 2.9% in U.S. merchandising existing stores, among other factors, translated into a sales increase of USD 68 million. We also registered a significant improvement in gross profit margin of 0.7%. This translated into an operating income increase of USD 66 million.

In terms of gasoline, we registered a Y-o-Y decrease in the metric of sales volume per store. However, the impact of the acquisition of Sunoco, which we acquired on January 23, 2018, translated into a sales volume increase, leading to an operating income increase contribution of USD 11 million. Additionally, the metric of cents per gallon, which represents gross profits per gallon was up USD 0.192 Y-o-Y. This led to an operating income increase contribution of USD 101 million. An increase in rents, et cetera, associated with the sale and leaseback of assets we acquired from Sunoco, pushed down the operating income by USD 165 million.

As a result of these, operating income stood at USD 835 million as of the end of the third quarter. A larger-than-expected increase in SG&A expenses and the impact of a stronger yen led us to fall slightly short of our stated forecast. With a view towards achieving our full fiscal year forecast, we will be carrying out efforts towards sales and gross profit margin improvement and towards curtailing costs.

The orange line on the graph on Page 16 shows the existing store sales increase trend, while the vertical bar graph represents gross profit margin Y-o-Y variance. During the current fiscal year, in addition to sales growth for fresh food products and 7-Select's private brand products, we registered strong sales of nonalcoholic and alcoholic beverages and the electronic cigarettes. This led to an increase of 2.9% in existing store merchandise sales, surpassing our plan for the full fiscal year.

For the month of October, we registered a Y-o-Y sales decrease as a reaction from the Lotto's high carryover last year. However, starting in November, we have registered a strong performance. In terms of merchandise gross profit margin, in addition to strong fresh food and private brand product sales, an increase in soft drink sales, which have high margins, the impact of 7Rewards, a point loyalty rewards program and the positive effects of gross profit margin improvements at Sunoco stores, which 7-Eleven, Inc. acquired, led to a Y-o-Y improvement of 0.7% in terms of merchandise gross profit margin. This improvement exceeded our full fiscal year plan.

Next on Page 17, I would like to give you a progress report on 7-Eleven, Inc.'s initiatives with WARABEYA NICHIYO in the Dallas area. We are seeing a shift in United States consumers' dietary habits, away from the habit of eating 3 meals a day and towards taking a number of small meals throughout the day. We are seeing an increase in the number of customers who buy light meals at convenience stores, which they then eat while performing other activities like driving. We are seeing an increase in consumer demand for high-quality, affordable hot meals that are ready to eat. In order to meet consumer demand for this type of grab-and-go meals, we are carrying out the development in sales promotion in the Dallas area of products like the ones shown in the upper right-hand corner that is hot foods that can be eaten with one hand. We offer these in a dedicated grab-and-go case. As a result of this effort, fresh food sales exceeded the national U.S. average. Product categories sold in cooperation with WARABEYA occupied the top tiers in terms of sales amount. We will aim to expand this successful model we have established in Dallas to other areas during the next fiscal year.

Next, I would like to discuss our digital strategy. Please turn to Page 18. This page contains the major KPIs for 7Rewards, 7-Eleven, Inc.'s point loyalty rewards program as of October 2019. 7Rewards already boasts more than 23 million members. We also registered a significant increase in the number of active members. Additionally, the scan ratio percentage at cash counters has also increased to 30%, meaning 7Rewards has been well received by consumers. As a result, the number of daily transactions has more than doubled over the past half year and we have also registered a positive sales and number of store visits impact. Additionally, we continue promoting member-only offers, which have had a significantly positive impact. Going forward, we want to analyze the data we have collected through this app, attain a deeper understanding of our customers' buying habits and carry out personalized promotions, through which we intend to advance our CRM strategy. Furthermore, going forward, we will be further strengthening cooperation with Seven-Eleven Japan in the digital field.

Next, I would like to discuss gasoline gross profit. Please turn to Page 19. The orange line represents the average gallons sold per store on a Y-o-Y basis. The vertical bar graph represents retail cents per gallon variance Y-o-Y. The average gallons sold per store is down Y-o-Y, which we believe is a cause for concern for some of our stakeholders. However, we have registered a strong recovery in the metric of cents per gallon. In particular, the price of crude oil was more stable during the third quarter compared to last fiscal year. We saw a significant improvement in cents per gallon, an increase which more than covered a decrease in the average gallons sold per store. As you can see in the graph at the bottom, gasoline gross profit grew 16.1% (sic) [ 116.1% ] Y-o-Y during the third quarter. Cumulative third quarter performance also showed a Y-o-Y increase of 10.2% (sic) [ 110.2% ]. This allowed us to meet and exceed our plan.

Next, I would like to discuss our results for Sunoco. Please turn to Page 20. The figures for Sunoco up until the end of the first half of the year caused some concern to stakeholders. However, we registered a significant improvement during the third quarter. In terms of operating figures, Sunoco struggled in terms of average daily sales per store and gasoline sales volume due to the impact of the timing of acquisition. These metrics have shown a strong recovery.

Next, I would like to discuss the financial figures. Up until the end of the first half of the year, the sale and leaseback we carried out last fiscal year has led to an increase in rents, leading to a decrease in operating income. During the third quarter, we also registered a profitability improvement for gasoline, allowing us to deliver a very significant Y-o-Y operating income increase. In third quarter cumulative terms as well, operating income in U.S. dollars has grown 84% (sic) [ 184% ] Y-o-Y. Additionally, we registered a significant Y-o-Y increase in the contribution to consolidated operating income after the amortization of goodwill. This contribution stood at JPY 6.5 billion.

Next, I would like to discuss our results at Ito-Yokado. Please turn to Page 22. Third quarter cumulative operating income for Ito-Yokado was down JPY 690 million Y-o-Y. Unfortunately, this translated into an operating loss of JPY 890 million. For some stores, including tenants, sales were down 0.9% Y-o-Y. In addition to this, we closed down 6 stores within the scope of structural reform. This translated into a Y-o-Y sales decrease of JPY 9 billion. In terms of gross profit margin, inventory optimization efforts in the lifestyle division, and efforts to curtail price cuts as well as a price review in the food business allowed us to deliver a 0.3% improvement of gross profit margin of directly operated sales. On the other hand, on account of an increase in the tenant composition ratio due to structural reform efforts, overall gross profit margin grew by only JPY 130 million.

Regarding SG&A expenses, we registered a decrease in personnel cost and rent expenses on account of store closures. A decrease in advertising expenses due to the optimization of sales promotions led to a positive operating income contribution of JPY 8.1 billion. However, this wasn't enough to cover the decline in sales, leading to the worsening of operating losses by JPY 690 million. We also failed to meet our operating income plan. We showed this slide during Seven & i Holdings' financial results presentation for the first half of the year, last October. In October, we discussed mainly Ito-Yokado's plans for unprofitable stores and for Shokuhinkan, the food specialty store format of Ito-Yokado. We are currently steadily carrying out these initiatives.

In today's presentation, I would like to discuss the advancement of our plans for sustainable stores. Page 24 shows our progress regarding store structural reforms. From fiscal year 2017 to fiscal year 2019, we had carried out structural reform at a total of 49 stores. In 43 stores, which exclude overlaps in second phase of renovations, et cetera, we registered a profit increase of JPY 2.9 billion compared to before remodeling. Additionally, analyzing the impact of structural reforms carried out at 21 stores by October 2019, yields the following results. We registered an improvement of 7% in directly managed sale per square meter and customer traffic compared to before remodeling. Also and while this trial hasn't started that long ago, we have registered an operating income improvement of JPY 120 million. We analyzed the common points in successful cases. There are 3 common points. The first is the bold reduction of sales space in lifestyle areas; the second is strengthening customer attraction and shopping around multiple sales areas by attracting large-scale tenants to higher floors; the third is sales area zoning with the theme of food, which is one of our strengths. In concrete terms, this involves setting up a food court, attracting food products, sales tenants and creating directly managed food sales floor areas.

I would like to show you an example in the next page from the Akabane store. Please turn to Page 25. The Akabane store benefits from a prime location in front of JR Akabane Station. On the other hand, this store faced a decline in profits due to a decrease in apparel sales, a delay in remodeling food sales areas and competitors opening and remodeling stores. Like the Akabane store, a majority of Ito-Yokado stores are located in front of stations and our multistory stores. We wanted to build new shopping center models at these types of stores, so we started work on remodeling the Akabane store starting last fiscal year. After the remodeling work was completed, it opened to the public in March 2019. In concrete terms, we obtained tenants for the higher floors, introduced food product sales tenants in the first floor and carried out efforts to attract customers to the B1 foods floor. We also remodeled the B1 foods floor, strengthened our product selection and installed eat-in spaces. We carried out these remodeling efforts.

As shown in the diagram in the center of Page 25, the sections colored blue are directly managed sales areas and the sections colored orange represents tenants. We reduced directly managed sales areas down to around 75%, primarily areas associated with the lifestyle division and expanded tenant areas by approximately 100%. The results up until November 2019 show a 2-digit increase in the number of customers, in total sales and in sales per tsubo, a Japanese unit of area corresponding to 3.31 square meters as shown on the table on Page 25. We wanted to apply this success example to other stores located in front of stations in multistory stores.

Page 26 contains a number of pictures of the Akabane store. Please turn to Page 27.

We released this information today at 3:00 p.m. but we will be carrying out a reorganization with the aim of further advancing structural reform at Ito-Yokado. Scheduled for March 1, 2020, we will be carrying out a share transfer in Seven & i Create Link Corporation Limited (sic) [ Seven & i Create Link, Ltd. ], abbreviated as SCL, a company involved primarily in the development, operation and management of commercial facilities as well as tenant leasing. As shown in this slide, Ito-Yokado's 51% ownership in SCL allows for the strengthening of the partnership between the 2 companies and to accelerate decision-making. Through this, we will be accelerating the advancement of structural reforms. We will be applying SCL's know-how to Ito-Yokado's 103 sustainable stores and advance the revival of commercial facilities that once struggled through the development and introduction of new content. This, of course, applies to stores that haven't yet undergone remodeling but also to stores that have already undergone remodeling or floor space changes as we will continue our efforts towards the further evolution of these stores.

Next, I would like to discuss Sogo & Seibu. Please turn to Page 29. During the third quarter, Sogo & Seibu registered a Y-o-Y operating income decline of JPY 1.6 billion. Unfortunately, Sogo & Seibu, too, delivered an operating loss of JPY 2.6 billion. In terms of sales primarily, regional and suburban stores struggled and we registered a Y-o-Y sales decrease for the corporate outside sales division. This led to a negative operating income contribution of JPY 1.6 billion. In terms of gross profit margin, growth in the sale of low gross profit products like food products and luxury brands led to a Y-o-Y gross profit margin decline of 0.4% and to a negative operating income contribution of JPY 1.1 billion. Additionally, in terms of SG&A expenses, efficiency gains from personnel allocation management led to a decrease in personnel cost. This was accompanied by a decrease in advertising expenses, et cetera, which overall, made a positive JPY 1.1 billion contribution. However, this wasn't enough to cover the sales decrease, leading to a significant operating loss.

Page 30 shows the impact of the increase in the consumption tax rate for each product category on a monthly Y-o-Y comparison basis. The product category of food was affected by a reduced tax rate for certain products introduced by the Japanese government to ease the effects of the consumption tax rate hike on consumers. This reduced tax rate allowed this category to deliver an increase in November compared to the first half of the year. However, as expected, we continue seeing a decrease in sales of luxury goods and art, jewelry, watches, et cetera. Regarding the category of food, which is one of Sogo & Seibu's strengths, we intended to ameliorate the impact of the increase in the consumption tax rate by strengthening customer attraction through product fairs and food events. We will also be holding new events centered around luxury goods and art, jewelry, watches, et cetera, for wealthy customers.

Next, I would like to discuss our initiatives at SEIBU Tokorozawa as an example of a store design that suits locational features and as a property management example. The graph on Page 31 shows a Y-o-Y comparison of existing sales and the number of customers per day. During fiscal year 2018, we carried out remodeling efforts to offer food products according to a 2-floor structure. This had a somewhat positive impact on customer footfall. However, attracting visitors to the higher floors remained an issue. March 2018 marked the opening of a competing facility in the station building. This didn't translate into an increase in value for SEIBU Tokorozawa. This led to a Y-o-Y decrease in sales and in the number of customers.

We carried out further store reform during the current fiscal year. I will be going over the details in the next page but in November, after the remodeling, as you can see from the graph, we registered a significant recovery in terms of sales and of the number of customers.

Please turn to Page 32, which contains the concept for remodeling SEIBU Tokorozawa. We carried out the conversion of SEIBU Tokorozawa from a department store to the shopping center format and increased tenant-managed floor space significantly to 75%. We established a stable revenue base through property management. In concrete terms, we utilized our strength related to food products and cosmetics, which we have obtained by operating department stores while having attractive tenants in the higher floors. This allowed us to improve customer attraction. Additionally, SEIBU Tokorozawa has opened a new salon in cooperation with our flagship SEIBU Ikebukuro store. This salon was designed to attract wealthy customers. We are aiming towards the profitability improvement through personnel optimization and through the implementation of low-cost operations. The floor layout is as shown on this slide and on the next page. In addition to MUJI, which was already a tenant, we acquired new large-scale tenants like BIC CAMERA, GU, ABC-MART and Yuzawaya. Tenants also opened 7 new stores in the food hall on the first floor. We want to acquire property management know-how while executing a PDCA cycle and apply this method to flagship stores as well.

Lastly, I would like to discuss our initiatives going forward. During the company's financial results presentation for the first half of the year, which was held in October of last year, we discussed the direction of our structural reform efforts. We are scheduled to announce the next medium-term management plan in our financial results presentation for the fiscal year ending in February 2020, to be held in April. We will be announcing our review of the current medium-term management plan, the future direction of the Seven & i Group, an overview of structural reform and contents of the next medium-term management plan, among other things. I ask you for your continued support and understanding.

This concludes my presentation. Thank you for listening.

[Statements in English on this transcript were spoken by an interpreter present on the live call.]