Thank you for standing by, and welcome to the Adairs Limited update announcement. All participants are in listen-only mode. There will be a presentation followed by a question and answer session. If you wish to ask a question, you will need to press the star key followed by the number one on your telephone keypad. I would now like to hand the conference over to Mr. Mark Ronan, Managing Director and CEO. Please go ahead.
Thanks, everyone, for taking the time to join the call this morning. We have announced today an important strategic initiative that will see Adairs take back operational control of our national distribution center or NDC. In February 2020, we announced our partnership with DHL to build, fit out, and operate our NDC. This initiative saw us bring together multiple warehouses under one roof to create a more streamlined domestic supply chain. Unfortunately, due to a variety of reasons, we have not been able to realize the benefits of this strategic project, with the facility not achieving the operational outcomes we all expected as part of the original business case. Whilst the operational outcomes have not been achieved to date, we continue to believe the NDC is capable of fulfilling the role Adairs needs to deliver a seamless, integrated, omnichannel supply chain.
Over the course of the past three years, we have seen significant change in domestic supply chains. The variety of challenges and changes brought about through COVID and the continuing escalation of customer expectations, have made it increasingly apparent that having operational control of our supply chain provides us with greater flexibility to meet those customer expectations. Across this time, our pre-existing supply chain team have worked closely with DHL to implement a number of improvement initiatives across key areas of the operation. This team, who ran our facilities before we entered into the partnership with DHL, will now take more active roles within the NDC to use both their Adairs knowledge and understanding of the current processes at the site, to look to ensure business continuity and deliver a number of near-term benefits.
We expect the more significant customer and cost benefits will come from the implementation of the new warehouse management system, which will be configured to support processes designed around Adairs' specific order types and product mix. We expect this will occur in the second half of FY24, with these benefits realized from FY25 onwards. We are pleased that we've been able to take this important strategic decision that will support the continued growth of the Adairs business by providing us with complete control of the facility. Doing this gives us the opportunity to maximize customer outcomes whilst managing costs across the end-to-end supply chain. I'll now hand over to Ash Gardner, our CFO, to run through the financial implications of this decision today.
Thanks, Mark. Good morning, everyone. This strategic initiative will require Adairs to invest approximately AUD 18 million of capital to acquire the existing warehouse plant and equipment from DHL, as well as to replace the existing IT systems. As Mark said, we expect the systems to be replaced in the second half of this financial year, with the benefits to be realized thereafter. We'll also incur one-off costs of approximately AUD 2 million in this financial year of FY24, related to this change, which includes the transition of the workforce and the recruitment and training of the workforce, as well as we will take on the lease of the facility for the remaining eight years of its term.
We expect to see annual initial annual cost savings of AUD 4 million per year compared to our current, current cost base under the 3PL model, which will consist of reductions in fixed costs as well as productivity improvements from the new systems. These savings will commence from calendar year 2024. Over time, we expect these savings to increase, with payback on the investment expected within four years. We'll fund the investment from existing cash flows and our existing finance facilities. Before we open up for questions, I'd just like to remind everyone that our FY23 results will be released on the 21st of August, and we will not be taking questions in relation to those results or recent trading today. We'll now take questions in relation to today's announcement.
Thank you. If you wish to ask a question, please press star one on your telephone and wait for your name to be announced. If you wish to cancel your request, please press star two. If you're on a speakerphone, please pick up the handset to ask your question. Your first question comes from Ben Gilbert, from Jarden. Please go ahead.
Morning, guys. Thanks for taking the question. Just in terms of the AUD 4 million, Ash and Mark, is this just purely from a cost standpoint? Obviously it sounds like you've had some flow-through reliability issues that's probably impacted out of stocks and deliveries as well. Do you expect any sales benefit within that as well, or is this purely cost?
This is purely cost, cost within the operating cost base of that facility. Your observation around stockouts and other challenges we've had is potential further opportunities for us. As we get control of the facility, we will be hunting down further opportunities throughout the local supply chain for further savings.
Is there any color you can give us around what impact you think it's had to out of stocks? Is it like low single digit type %, or is it bigger? Is it just through peak periods? Is it around online? Where has been the bigger issues around the fulfillment side?
I think you know, it's pretty hard to estimate what the lost opportunity is from stock availability challenges, you know, at different times over the last 12 months, we've had varying degrees of challenges flowing stock to our stores. We think there's... You know, we've definitely missed sales, quantifying it isn't something that we can do. Likewise, you know, with delays to delivery to customers, we've seen customers cancel orders and those sorts of things. They're all things that we'll capture and, you know, key reasons why we've made this decision to get control and to, you know, maximize stock in stores and, you know, maximize customer experience online.
Could you just, final point, can you just give us some color on how you sort of de-risked and the confidence in that AUD 80 million figure and only having AUD 2 million in cost? Because I appreciate, obviously, there's a lot of opportunity around you guys managing it yourselves, but there's a, there's a long history of companies having issues around implementing and overruns and cost blowouts, et cetera, when they take over. Appreciate the shed's there, and you just got to put the equipment in, but to what extent have you de-risked it, and how much confidence you got in that CapEx number and the OpEx number?
I think in terms of the CapEx, circa two-thirds of it is just basically paying DHL for the plant and equipment that's already there. That number is fixed. The balance is the systems replacement piece. You know, we've taken a realistic and conservative view as to what it will cost for us to do it and the time that it will take for us to do it. We've got a number of partners that we're working with and an experienced team that will be implementing it. Your observation is correct. It's a challenging project, and we think we've done what we need to, to manage that risk. You know, we'll, we'll get on with it, and if anything changes, obviously we'll let you know. I think the capital isn't a concern.
The $2 million of one-off costs, likewise, I think is a realistic, but conservative view as to what it will cost, because we don't know how long it will take for us to transition and how much it will cost to transition workforce, for example. We've allowed for things like stock takes and training of workforce, again, extent of which we will evaluate, as we fill the roles and assess the, the quality of the stock system, our stock, accuracy out there. It won't exceed $2 million in those one-off costs.
Fantastic. Thanks, Ash. Appreciate it.
Thank you. Your next question comes from John Hynd, from Wilsons. Please go ahead.
Oh, good morning, Mark and Ash. Thanks for taking my questions. Just quickly, I think just going through the announcement this morning, you, you spent about AUD 6 million implementing this, the warehouse or the DC strategy to this point in time. Can you just remind us what was in that AUD 6 million, and how does that compare to the work you're doing that, that goes into the AUD 2 million that you're talking to now?
A big chunk of that, first investment or one-off costs was workforce changes. Moving from multiple warehouses into the DHL facility led to a number of former Adairs team no longer having roles within the business. We had to relocate thousands of pallets worth of stock from those facilities to the DHL warehouse. There was also investment in connecting the DHL systems to us, as well as to our partners, for local transport. Relative to where we're at now, we're recruiting a workforce. Systems-wise, the systems cost is not part of the $2 million, that's part of the capital that we talked about earlier.
Yep.
We won't be relocating stock.
Right. Thanks, that's clear. We had previously modeled, on your guidance, about AUD 3.5 million of savings, switching, to the new, the NDC. You're now saying you can achieve AUD 4 million under your own, under, under your own terms. What-- I guess, why do you think you can do a better job than the DHL, given that they're meant to be the experts?
Well, I think the AUD 3.5 million you referred to was based off our original business case and based off the expectations that ourselves and DHL had of how they would run it. I think as you look at what we've experienced over the last 18 months, it's been nowhere near that, and the cost base is now substantially higher than it was previously and substantially higher than we can accept. I think the reason why we're confident that we can get the AUD 4 million is because it is off a far higher cost base, so the pool that we're working within is greater.
You know, there's a number of things that we've learnt in relation to the operations out there, over the last 6 months, both with DHL, and some of those things they've implemented, and some things that we see as the only way that we can get at them is by doing it ourselves. We're very comfortable with those savings. I think the other relevant point, I've called it out in my speech earlier, in relation to the components of that AUD 4 million, there's a big chunk of it that's fixed costs. Our management structures will be leaner than theirs. We're no longer paying margin, once we step in, and the capital charges are replaced by depreciation on the asset.
You know, that is more than half of the AUD 4 million in savings, and obviously is far more measurable, and, you know, far more capable of getting it, than chasing down the balance.
Right. Was there any sort of... It's hard to tell on timing, but was any part of at any point in time, were you achieving that AUD 3.5 million run rate in savings? And I'm, and I'm assuming we completely... It's, so it's not AUD 7. Sorry, it's, it's not the AUD 4 plus the AUD 3.5 going forward, is it?
We're the four is off the reset.
Yeah. Okay.
Substantially higher cost base. I think we'll, you know, we expect payback within four years, as we embed our systems and take advantage of the experience that our team have, you know, we're confident that we can realize that payback period.
Yeah. Last one from me. I think in February, you said that you'd agreed to new terms with DHL to, I think it was a lower cost base or, or lower charges or whatever. What was this? Given it looked okay at that point, what, what was the straw that broke the camel's back here, that, that made you, you know, pull the trigger on doing it yourself?
I think what we agreed with them was something that gave us relief in the near term, and what we've been working through with them is what does the remaining eight years look like? Whilst we saw some improvements in service levels to our, our online customers and to our stores, it was still, you know, nowhere near the levels that we needed it to get to, and we couldn't see a path that would get us there quick enough and to a standard that met our expectations. Then lastly, the nature of an arrangement with a 3PL is that, you know, costs just escalate. You know, it's a bit like anything that's tied to inflation. The, the costs go up, the motivation for productivity sharing is, is limited.
We sort of felt it was better to take this path, get control of the site, control our own destiny, and then realize the full benefits of the productivity improvements that we'll see, and also, you know, control our customer experience, both in stores and online.
Great. Thanks very much, Ash.
Thank you. Your next question comes from Aryan Norozi, from Barrenjoey. Please go ahead.
Hi, guys. Just on the, the cost savings. In the first half of FY23, you, you came out and said that there was about a $5 million cost impact from the inefficiencies from the DC. You can see that $5 million increase in the other cost line in the business. Is this $4 million just basically reversing or removing that cost burden or the inefficiency? Is it you're getting $4 million of benefit, and you're also getting that cost unwinding? 'Cause, yeah,
The $4 million is unwinding that inefficiency. We did unwind.
Okay.
Some of that AUD 5 million through the rate negotiation that John alluded to earlier.
Yeah.
This AUD 4 million is basically a cost reduction off our anticipated cost base from H2 onwards, on an annualized basis. We'll continue to pursue further efficiencies over time.
You guys came out and said that there was about, I think it was up to $10 million, correct me if I'm wrong, about $10 million of cost out in the business, just in general, through efficiencies and just right-sizing the cost base. Is this in addition to that?
Mostly it is, yeah. That cost saving-
Okay
... of AUD 10 million is against the run rate that we were running at, at the time. Some of that has been baked into H2, as you guys have pulled apart and, you know, will carry through into FY24, and this will be in addition to that.
Okay, perfect. From a capital allocation perspective, I mean, spending AUD 18 million, your net debt... First of all, spending AUD 18 million to reverse an inefficiency as opposed to get a benefit from it, like, how did the board and yourself balance that versus just trying to work with DHL and improving the core operations? Like, yeah, 'cause it, it's, it's essentially...
We're
Yeah.
We're playing a long game. There's eight years to run on this arrangement. Spending AUD 18 million to get a payback of four years, leaves us another four years of absolute benefit. You know, we're hopeful that as we take control of the site and take control of our, of the operations and our customer experience, that we can deliver great outcomes for customers at an even lower cost. That's something that we need to fully assess as we, as we get in there.
Yeah, the gearing.
I think the other-
Oh, yeah. Sorry.
Sorry, Arian. I think the other thing is, that doesn't... To, to the question we got asked earlier, we're, we're really narrowing down on cost here, but we're not seeing the potential benefit to the business of a better service model and a better delivery experience and everything else that flows through from that. We could manage, we could work through that cost piece with DHL. The, the real benefit of taking control of the facility is the end-to-end component that we, we get. Whilst we get an access to some of these costs, we also get to think about that from how that stock's received in our stores, how that stock comes in from our suppliers.
We actually control that end-to-end supply chain, where we think there's more benefit to come out of that, which will come across multiple lines, not just costs, but also that top-line sales opportunity that we know we missed through some of the, the customer expectations not being up to standard over the last 12 or 18 months.
That's fair. Just on the, the debt balance, like last result, 1.25 times net debt to EBITDA. You're obviously spending another AUD 20 million and adding to that. Like, are you gonna think about sort of potentially sort of moving away from that, your stated, I think, 85% dividend payout ratio to conserve capital? Like, are you comfortable with the debt can still be paid down? Like, how do we think about your debt into like 2024 based on this expenditure?
... I think, well, I think from a debt perspective, our, our expectation, or this is a, a step up in our capital commitments, and it's obviously well above our normal levels. Our, you know, intention is to continue to manage our debt down and maintain an appropriate leverage level. You know, the board will work through that amongst other things, as we come to, you know, re-visiting the decision around dividends with the results.
Perfect. Just very quickly, D&A. Is there any D&A associated with the, this? I think you've bought it at written down value, and there might be a bit of tech. How do we think about just the extra D&A from this?
About it'll be... Think of amortizing it over eight years. Maybe average it out about six years when you add in the tech and the plant and equipment, it'll be six and six, between six and seven years will be the effective life or average life of everything there.
It, it says that AUD 18 million divided by 6, 'cause aren't you buying it at risk down value? That, that's already been depreciated or-.
Yeah, we'll just depreciate that new cost base for the remaining term of the, of the lease for eight years.
Okay. There's an extra AUD 3 million of D&A, basically?
Yeah, offset by a substantial reduction in the capital charge that DHL were charging us for the same assets.
Which is sorry, you, you're, you're saving AUD 4 million on your EBITDA line annual, and your D&A goes up by AUD 3 million. There's a AUD 1 million NPAT benefit, basically. Is that right?
Just, just on that particular component.
What, what's the other component? Like, is there any other cost component that you-
Yeah, we're saving, the management costs will be less under our management model relative to theirs, and we're not paying their margin. That's how we get.
Okay.
plus productivity gains. That's how you get from one to four.
Okay. Yeah. Sorry, I'm a bit confused because the $4 million, isn't that an EBITDA benefit? It's just, you said it's the cost that you save from-
The cost saving, which includes the net of net of D&A on our side.
Ah!
So when we-
Gotcha. It's an EBIT benefit.
Pay them-
Net of-
Yeah. All those assets we've been paying them under a capital charge plus margin.
Gotcha.
That capital plus charge, plus margin converts onto our books as depreciation, and it's less because the capital charge is removed and the management of the margin is removed.
That makes sense. Thanks, guys. Appreciate it.
Thank you. Your next question comes from Mark Wade, from CLSA. Please go ahead.
Hi, guys, thanks for sending the, the questions and for putting the call on. Back to that original part about the risk of the disruption and how you're going to manage that. It sounds like you're taking over control next month, but then you're not really got your handle on it for another year. What happens in the meantime, and whose staff are going to be running it, and how do you kind of progress that through?
Whilst we made the announcement today, it's not something that we're starting today. We've been working on a plan for some time, and obviously, you know, been negotiating with DHL for some time as well. We are well advanced in terms of the plan that we need to implement. The key focus over the next five weeks is around team and having the right people in the shed to run it from the 6th of September onwards. We'll be using the DHL systems, and DHL will be supporting those systems for the, for up to 12 months. Then over that period is when we're building, and at some point we'll deploy our own WMS to the existing environment with the existing equipment that's out there.
We're expecting that'll be in H2 of this financial year and obviously first half of next calendar year. Then from that point on, once our systems are in, we've essentially cut the cord from DHL, and the challenges that we may or may not experience in relation to their systems and processes, and we're on our way.
Okay. Okay, so it's a bit more gradual rather than just on and off. All right, then-
Yeah
... just back to the original business case, I think. Was there something in there that was missed, or is this generally just the operating environment has changed so much and, you know, maybe it's to do with the, the level of sales or it's just supply chain costs? I mean, just trying to hark back to-
I think-
that original business case.
There's a number of external factors that certainly haven't helped. I mean, you know, there was this pandemic that we've all forgotten about now that sort of ran through the whole project. You know, and I'm sure if we sat down with DHL and we pulled apart everything, and applied all our learnings, there's no doubt that the inability to work in the same space and to visit sites and do all the things that we do in a normal world, you know, potentially impacted on some decisions that were made. I think, I think the main, main difference in terms of where we've landed versus what we were expecting, is that, you know, DHL are, you know, global supply chain experts, but their model is very much aligned to standard operating procedures.
I don't think they fully appreciated the variability in our product range. I think those circumstances that we talked about around Covid and not being able to collaborate in the way we otherwise might have and or, as well as simply let strangers into our warehouses when we were separating workforces. Yeah, meant that the level of knowledge that was required to properly design and implement the new warehouse just wasn't, wasn't there. There was misses. I think the other thing that we've learned, which we've always known, but until you partner with a third party, you know, who operates in a different way, it's not as apparent as the cultural differences. You know, our business is extremely customer-centric, and everyone, you know, does whatever they can every day to delight our customers.
When we start working with a partner that doesn't have the same line of sight to that customer and the same B2C mindset, you know, just it, it highlighted further gaps between what a 3PL model might achieve under a cookie-cutter model versus what we need. You know, 'cause we are dealing with stores as well as customers directly. You know, the way packages are presented to customers is important for us, whereas, you know, in the traditional world, you know, they're boxing things up and sending it through to supermarkets and other, and pharmacies and so on, in a B2B type approach.
Yeah.
They're the things that we've, we've learned. You know, we're doing this because we want to get control of all those things.
I think it's a prudent way to go. Just lastly, is it, maybe want something from, from Mark? I mean, where does the accountability lay on, on all this mess we've had the last couple of years?
Well, that's a good question, Mark. Collectively, across all of us, we went into this. We did a lot of work to make the decision initially. The business case stacked up significantly ahead of where we were. With that significant, we felt like there was enough room that even if the benefits weren't to the same level as what we expected, it would still be a better outcome for our customers and ultimately our shareholders walking down this path. Collectively, across all parties, I think one of the things we've had with Adairs, DHL, and the board even, we've been talking about this to make sure that, you know, collectively, we all have to take accountability for it.
It's unfortunate that we couldn't realize the outcomes that we wanted to achieve, and I don't think that's been by lack of effort from, from people within there. To Ash's point, there's a bit of an element of a, a, a cultural piece that we, we missed along the way, that m- meant that the supply chain and trying to do that super efficiently doesn't always lead to delighting customers every day, and those, those two elements are, are a challenging piece to come together. You know, as you say, I think this is the, the prudent way to step forward and take control of the facility.
You know, the, the mistakes of the past, we need to, we need to look back on and reflect on, and, and make sure we don't make them again, which is one of the reasons why, we've spent a significant amount of time before making this decision, to make sure we've, we've tried to de-risk this as much as we can, because the worst thing we could do now would be to try and come out of this facility, and, and make the same mistakes again for our customers. You know, we've spent a lot of time and effort, and, you know, DHL have been, really good to work with in terms of understanding where we are and why we wanna take control of it.
Then trying to help us to, to de-risk it, 'cause it's in both of our interests for this to, to finish well.
Yeah, I think I think, I mean, you and your team have got a great track record of really, you know, doing what's best for shareholders and, and, you know, and customers. I'm not calling for blood, but it's good that, you know, kind of reflect on some of the mistakes and, you know, make the right decision going forward. I, I think you probably have here. Yeah, just long-term. Manage that, that next 12 months, I think that's gonna be critical, and we won't even be talking about it, hopefully in, you know, a couple years from now. All right. Thanks, guys.
That's definitely our aim, Mark.
Mm-hmm. Thank you.
Thanks.
Thank you. Your next question comes from Apoorv Sehgal from UBS. Please go ahead.
No, all good, guys. My questions got asked. All very clear. Thank you.
Thank you. Your next question comes from Chami Ratnapala from Bell Potter. Please go ahead.
Thanks. Thanks, team. Thanks for taking my question. Just on the customer centric focus with this great effort that you've taken on. You mentioned that, you know, there will be a better customer experience outcome rather in the new business case. Are there any sort of metrics, maybe the NPS, where you expect significant incremental benefits in customer experience once you take control versus the 3PL model? Thank you.
I, I think the answer to that is, in the immediate near term, I don't think we see what we see is a continued level of consistency that DHL have worked hard with us over the last 12 months to get. So we're, you know, that business risk and business continuity is the short-term focus and near-term focus, as well as some minor improvements. I think you'll see a lot of those come off the back of implementing a warehouse management system that thinks about the customer order mix, the customer product mix, all of those things that we spoke about earlier. That's where we're gonna see this customer benefit really come through. And I think where the number one piece for us in, in that will actually be speed of dispatch to begin with.
You know, we are, we are slow, in relation to dispatching, orders to customers, and that's something we, we know and, and you know, we've seen throughout COVID that expectation and, and others out there do it particularly well. You know, there's no doubt many people may have shopped at the Amazon Prime Day and see orders dispatching within four hours of actually placing that order. Now, whether we need to reach that level, but we know that we need to continue to improve and, on that customer piece.
Our first two metrics that we would expect to see significant improvement in, on the back of the project that we're doing as we hit the se- back end of the second half and into FY25, will be our dispatch times, delivery, our in-stock position in store, and finally, our, our level of refunds and returns and, and customer cancellations on the, on the back of that. They're the primary things that we- we're, we're going after, which are probably more measurable than, than even something like an NPS score. We'll be able to measure them internally to, to really make sure that we're, we're nailing those, then we expect those, They're the outcomes that lead to an improved customer experience, and that NPS score actually going.
We'll be, we'll be very closely monitoring and, and measuring that, that dispatch time, the in-stock, in-full sort of position and then, and then obviously finally, that reduction in, in customer returns will be the metrics that we're, we're heavily focused on.
That's perfect. Thanks for that. Thanks, team.
Thank you. There are no further questions at this time. I'll now hand back to Mark Ronan for closing remarks.
Thanks again, everyone, for joining us today. We're under no illusion that there's a lot of work to be done to deliver the operational benefits and are committed to achieving them over the medium term. I wanna thank DHL again for their efforts over the past few years and their ongoing commitment to ensuring a smooth transition with minimal disruption to our business. Thanks again.
That does conclude our conference for today. Thank you for participating. You may now disconnect.