Ladies and gentlemen, thank you for standing by and welcome to today's Scandinavian Tobacco Group Q3 Results 2021 conference call. At this time, all participants are in a listen only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star one on your telephone. I must advise you that this conference is being recorded today, and I would now like to hand the call over to our first speaker, Torben Sand, Head of Investor Relations. Please go ahead, sir.
Yes, thank you, and good morning and welcome to the conference call in relation to our financial results for the Q3 of 2021. Please turn to slide number two. My name is Torben Sand. I'm the Head of Investor Relations of the company, and I'm as usual joined by our CEO, Niels Frederiksen, and CFO, Marianne Rørslev Bock. The agenda for this webcasted conference call is the highlights for the Q3 of 2021, an overview of the performance in our three commercial divisions as well as for the group, including an update on key financial developments. This will be followed by a brief update on the recent regulatory developments, and also our new or our guidance for 2021.
Before we start, I ask that you pay attention to our disclaimer on forward-looking statements in the back of this slide. With this, please turn to slide number three, and I'll leave the word to Niels.
Thank you, Torben, and a warm welcome and good morning to everyone on the call. In the Q3 of the year, Scandinavian Tobacco Group delivered a financial performance in line with our expectations. The demand for handmade cigars remained strong, and the favorable market and product mix, which we have mentioned in previous quarters, continue to impact our results positively. Synergies relating to the Agio integration is on track to deliver about DKK 100 million in additional savings this year, and the integration continues to deliver meaningful contributions to our financial results. The key financial highlights for the quarters are net sales decreased organically by 2.2% to DKK 2.2 billion. EBITDA before special items was DKK 627 million, resulting in a 1% organic growth versus last year.
Adjusted earnings per share increased from DKK 4 to DKK 4.20. Free cash flow before acquisitions was DKK 564 million, leaving the nine months free cash flow at DKK 1.1 billion. The return on investment capital improved to 12.9% as of September 2021 versus 9.1% as of September 2020. The demand for our products remains positively impacted by the change in consumer behavior since the outbreak of the COVID-19 pandemic. The higher tobacco consumption across many product categories and markets have proven to be more sustainable than originally anticipated. We are increasingly optimistic that the volume levels we have seen across divisions in the past 18 months are maintainable.
During the same period, we have been able to keep factories running, to continue with a high degree of innovations in the handmade cigar category, and we've seen value from the many professionalization initiatives implemented in the U.S. online business. All elements to secure long-term growth for our business. The integration of Agio Cigars continues to progress according to plan, with cost savings on target to deliver around DKK 100 million in 2021 on top of the DKK 80 million delivered in 2020. The remaining savings up to the target of DKK 250 million is expected to impact the 2022 and the 2023 results.
Based on the Q3 results and the outlook for the Q4, we are maintaining our full year guidance, which is organic EBITDA growth in the range of 16%-20%, free cash flow before acquisitions in the range of DKK 1 billion-DKK 1.3 billion, and adjusted earnings per share growth is expected to be more than 35%. Based on this overview, I will now leave the word to Marianne, who will dive into the recent developments by division and give you a financial overview. Please go to the next slide.
Thank you, Niels. I will start with the North America Online & Retail division. While the strong consumption of handmade cigars continues to benefit our company, we are seeing a different dynamic for the North America Online & Retail division as the challenges shift from online to retail impacts the performance of the division. Reported net sales was DKK 696 million in the Q3, a decrease of 7% versus the same quarter last year. Organic net sales growth was also negative 6%. During the Q2 and Q3 of 2020, the number of active customers in our online business increased significantly with the physical retail stores being mostly closed during the summer months. Consequently, we did expect that comparisons for the Q3 of 2021 would be tough.
The amount of active customers, which is measured over a 12-month period, declined by more than 5% compared with the Q1s of this year and was also marginally lower compared with the Q3 of last year. Despite the recent decline in active customer size, our number of active customers are still between 10%-15% higher than before the outbreak of the pandemic. This we attribute not only to the increased consumption of cigars, but also to our wide range of initiatives to professionalize our online offering. For the retail business, the quarter delivered substantial double-digit organic growth. This mitigated part of the decline in the online business. Currently, retail accounts for about 7% of divisional sales, and we expect the retail share of divisional sales to increase going forward.
EBITDA before special items decreased by 25% to DKK 113 million, with an EBITDA margin before special items of 16.2% versus 20.2% in the Q3 of 2020. The margin decline was driven by a combination of a lower gross margin and a higher OpEx ratio. The increase in the OpEx ratio reflects higher sales related costs and the ongoing retail expansion. The decline in the gross margin reflects the extraordinarily strong margin level during the Q3 last year with limited promotional activity. The competitive pressure among the online distributors continues to be intense, and the increase in our promotional spending versus last year does impact the margins negatively. For this, please turn to slide five.
Looking ahead, we expect that the high consumption of handmade cigars will continue, though with growth rates reflecting that consumption reach its high, new highs more than a year ago, thus making the comparison base tough in the third as well as in the Q4. Therefore, we continue to expect the organic net sales growth will reflect this in the coming quarters. Promotional activities have continued to be behind the online business throughout the Q3, after unusually low activity throughout most of 2020. Consequently, we maintain our expectation that marketing expenses will increase compared to last year. Finally, we expect to open a new superstore in San Antonio, Texas early next year, while the long-term ambition for the retail stores is still under consideration. Please turn to slide number six. I will now turn to our North America Branded & RoW division.
In the Q3 of 2021, the division North America Branded & RoW delivered another very strong financial performance. However, the growth rates have declined in comparison to a very strong Q3 of last year. The reported growth in net sales was 5% to DKK 768 million, composed of 4% organic net sales growth and a minor positive exchange rate effect. For the Q3 of 2021, the development was driven by the strong demand in handmade cigars in the U.S. and machine-rolled cigars in Canada, whereas the other product categories combined delivered a negative organic net sales development. EBITDA before special items increased by 20% to DKK 335 million, with an EBITDA margin before special items of 43.7% versus 38% last year.
The profit increase and the margin improvement were realized with an improved gross margin driven by a favorable product and market mix, general price increases, and a positive impact from other income, which I'll come back to in a while. The net impact is driven by an exceptionally good performance in high-margin markets such as Canada, the U.S., and Norway. Please turn to slide number seven. North America Branded owns the largest brand portfolio in the U.S. and deliver cigars to both the online players as well as the physical trade. Therefore, the increased consumption of handmade cigars in the U.S. will benefit the division going forward. Having said so, the divisional results have been positive, impacted by the favorable product and market mix in the past year. As we expect a normalization of the underlying drivers for this development, it will impact growth rates in the coming quarters.
We continue to maintain a higher inventory position than normal to ensure stable supply of product, which impacts the working capital development. Please turn to slide eight. This brings us to the final of our three commercial divisions, Europe Branded. During the Q3, the total market for machine-rolled cigars has started to normalize. A volume decline in the Q3 of about 5% for our top seven European markets should be seen against a strong Q3 last year when the market recovered following a very weak Q2 of 2020. Year-to-date, the volume decline is about 1.5%, better reflecting the current trend in the market.
Our volume market share in key markets has declined in the Q3 to 31.9% from 33% last year. We gained share in Belgium and Spain, whereas we lost market shares in markets like the U.K., the Netherlands, and in France. The development in the U.K. is primarily driven by our focus on pricing and margins, where we remain a clear number one. In the other markets, the decline is primarily a result of the supply issue which surfaced by the end of the Q2. We expect the supply issue to be solved before year-end. The integration of Agio continued to perform, and with the closure of the factories coming to an end, we are well on track to deliver the expected savings for the year of about DKK 100 million.
The reported and organic net sales decreased by 5% with an increase in smoking tobacco, only partially offsetting the decrease in machine-rolled cigars. The termination of a low-margin distribution agreement impacted negatively in the Q3. Pricing remains positive. EBITDA before special items was unchanged at DKK 214 million, with an EBITDA margin before special items of 29.8% versus 28.3% last year. The improvement in the margin is a result of the savings from the Agio integration, improved pricing, as well as the above-mentioned termination of a low-margin distribution agreement. Please turn to slide nine. Our focus in machine-rolled cigars remains to improve our volume market share positions and optimizing the value share further through effective price management.
Overall, the division is, for the full year, expected to realize a slight decrease in organic net sales due to the loss of the low-margin European distribution contract. Furthermore, the final steps of the integration of Agio Cigars are about to be finalized, where the remaining savings primarily will impact results in the Q1 of 2021 and in 2022. A substantial part of the synergies we have announced for the group from the integration will impact division Europe Branded, hence the profit margins are expected to reflect that going forward. With this, please move to slide number 10, where I'll give you selected financial highlights for the group. Turning the attention from the divisions to the group level, the Q3 of 2021 net sales decreased by 2.2% to DKK 2,182 million.
Gross profit before special items decreased by 2%, and EBITDA before special items increased by 0.9% to DKK 627 million. With only marginal ex-exchange rate impact, the decrease in the reported net sales was equal to the decrease in organic net sales. The decrease in gross profit was driven by the organic growth in the net sales and a small improvement of gross margin from 50.4% to 50.5% in the quarter. The composition by division was a solid improvement in North America Branded & RoW, driven by product and market mix, whereas both North America Online & Retail and Europe Branded delivered decreasing gross margins.
The EBITDA margin before special items was 28.7% in the Q2 versus 27.5% last year, with an improvement driven by the gross margin development, Agio integration synergies, underlying cost efficiencies across our operations, as well as other income. I think I said Q2, and I mean Q3. Other income relates to a refund of certain duty and excise taxes in the U.S. of DKK 31 million. This income was partly offset by IT expenses previously being capitalized. Special items were negative by DKK 26 million, comprising four different items. DKK 4 million has been expensed in relation to the integration of Agio Cigars, DKK 7 million has been expensed in relation to changes to our manufacturing footprint, and DKK 55 million has been expensed relating to a non-cash impairment of trademarks in relation to the portfolio simplification.
Finally, partially offsetting these expenses is the DKK 42 million income relating to a reversal of previous recognized impairments of buildings. Adjusted earnings per share was 4.2 DKK per share compared with 4 DKK per share in 2020. The increase was driven by the operational performance. Finally, the cash flow before acquisitions in the Q3 was DKK 564 million versus DKK 609 million last year. Working capital had a positive impact of DKK 130 million for the quarter, although the cash impact was somewhat lower than in the Q3 of last year, as we remained observant to have sufficient supplies to meet customer demand. With this, please turn to slide 11. During the Q3, the net interest-bearing debt decreased by almost DKK 270 million to DKK 3.36 billion.
Net interest-bearing debt increased by DKK 86 million, versus the end of last year, despite the strong financial results we have delivered during the first nine months of the year. The change in net debt is attributable to our capital distributions of almost DKK 1.1 billion, which I'll come back to in a minute. The leverage ratio declined to 1.6 x by the end of the Q3, compared with 1.8 times at the end of 2020. The decline is driven by the increase in EBITDA, with the net debt, as mentioned, almost on par with the end, with the end of the last year. For this, please turn to slide 12. I will now give you an update on our capital distribution, with updated details on the share buyback program of DKK 600 million we launched in March this year.
As of the end of Q3 2021, we had under this program purchased almost 2.8 million shares at a total value of DKK 352 million. Including repurchases relating to the first program, which was finalized in February, we have repurchased shares at a total value of DKK 455 million during the first nine months of 2021. Including the ordinary dividend of DKK 627 million that was paid to our shareholders in April, we have returned almost DKK 1.1 billion so far in 2021. Compared with the current market capitalization of our company, this almost equals an 8% payout. Including share buybacks and dividend payments, we have, since the listing in 2016, returned close to DKK 4.5 billion Danish kroner to our shareholders.
Now, please turn to slide number 16, and I will now leave the word back to Niels for an update on the regulatory landscape and a word on our financial guidance.
Thank you, Marianne. Before going into detail with our guidance, I'd like to give you some comments on the ongoing developments on the regulatory side, especially so in the U.S. There's not much new news in relation to previously announced plans to ban characterizing flavors in tobacco products in the U.S. In case a restriction on flavors will be introduced, these plans and proposals will take years to implement, and it is important for me to remind you that we still only have a limited exposure to flavored tobacco products in the U.S. The share of net sales of our flavored cigars constitute about 5% of our group net sales, and should the bans be implemented, we do expect to be able to migrate part of the flavored cigar consumptions into our non-flavored cigar portfolio.
The much talked about increase in tobacco excise taxes as part of President Biden's Build Back Better plan now seems to have been excluded. In that case, this reduces the uncertainty relating to the U.S. market for now. In Europe, the two major pieces of legislation related to Scandinavian Tobacco Group remain in process. For both the Excise Tax Directive and the Tobacco Products Directive, there are no major developments to report on, but let me just summarize the content of each piece of legislation. The Excise Tax Directive relating to the potential revisions on the tax differential between fine-cut and cigarettes, or cigarettes and cigars, renewed minimum excise duty rates, and taxation on new product categories. That is what is covered by the Excise Directive.
The Tobacco Products Directive, where the issues most relevant to Scandinavian Tobacco Group are the potential ban on characterizing flavors for our product categories and certain ingredients, as well as potential EU introduction of plain packaging for some product categories. The work on both directives is ongoing, and a formal draft proposal for the Excise Directive is expected early next year, whereas the draft proposal for the Tobacco Products Directive will come later in the year or into 2023. With this, please turn to slide 14. The Q3 financial performance was in line with our expectations, and the outlook is also supporting our previous assessment of the financial performance, with organic growth in EBITDA expected to be positive in the Q4 of 2021.
However, I would like to emphasize, as I've done in the previous quarterly report webcast, that the general risk level remains higher than normal. Additionally, we do see in the supply chain increasing pressure in parts of our cost structure and with lead times potentially being longer. Given this framework, the guidance is maintained as organic EBITDA growth in the range of 16%-20%, free cash flow before acquisitions is unchanged with a range of DKK 1 billion-DKK 1.3 billion, and adjusted EPS of more than 35% increase. The synergies from the integration of Agio Cigars are maintained to be at the level of DKK 100 million, and the guidance range for free cash flow before acquisitions is maintained given the still existing supply risk, which can impact working capital by the end of the year.
As always, the guidance and assumptions are based on the current exchange rates. Please turn to the next page. Before we move to the Q&A session, I would like to draw the attention to our Capital Markets Day on the 23 November. This will be our first ever such event, and I look forward to welcome many of you either in person in London or virtually. We intend to give you an insight to our three commercial divisions, our supply chain organization, as well as unfolding the path, our ambition of delivering continued growth for Scandinavian Tobacco Group and to continue to deliver strong shareholder returns also going forward. Besides presentations from Marianne and myself, you'll get the opportunity to hear from our heads of our three commercial divisions and the head of the supply chain.
Please take a look at our website for further details and registration. This basically concludes our presentation for today's call, and I'll hand the word back to the operator, and I think we are ready to take questions. Thank you.
Thank you. Ladies and gentlemen, we will now begin the question-and-answer session. As a reminder, if you wish to ask a question, please press star one on your telephone keypad and wait for your name to be announced. You can cancel your request at any time by pressing the hash key. Once again, it's star followed by the number one to ask a question. You have a question from the line of Martin Brenøe of Nordea. Please go ahead.
Hi. Thank you very much for taking my question. Just on the supply issues, could you maybe provide some more details on what kind of supply issues are you talking about? Is it still the shortage of staff in France, or is it also materials that you are having issues with? What are giving you the confidence to say that this will be done by about the end of this year? Thank you very much.
Yes, Martin, I think that the supply issues which has been, let's say, ongoing throughout the Q3 is related to a number of different factors. There is no doubt that shortage of labor, not in France, but in Belgium, where we now have the two major factories, has been one aspect which continue to be a risk factor, although under control today. We've also seen increasing lead times from our suppliers, and the issue here is that is, of course, taken into account in terms of our planning, but we still see situations where agreed lead times are being delayed, and it just adds risk to the overall certainty of our production plan.
We do have a very, let's call it, tight production plan for the remainder of the year. It's really critical that we hit those plans to solve the problem by the end of the Q4, and that is our plan, and that is the plan we are following at the moment. Assuming that there's no disruption in the November and December production plans, we should solve the problem by the end of the year. Maybe also worthwhile reminding that even if we do not fully solve it by the end of the year, we will go into a Q1 2022, where there is the lowest demand for handmade cigars.
If not solved before, it should be fully solved in the Q1.
Thank you. Would it be fair to assume that the supply issues will still be negatively impacting Q4, or will you already in Q4 be able to sort of mitigate the supply issues?
Well, the efforts that we have in our plan at the moment should resolve the, let's say, the supply into the market. I think the uncertainty that we are monitoring is, of course, the impact to consumers. As you can see, we are reporting a declining market share in the Q3. It's important to emphasize that not all the data that goes into that calculation are, you know, consumer consumption. Some of it is shipment data. We are, of course, working very closely with retailers to mitigate the impact of the supply issues we're seeing.
Okay, thank you. I'll jump back in the queue. Thank you.
Thank you. Once again, it's star and one if you wish to ask a question. You have a follow-up from Martin Brenøe. Please go ahead.
All right. I'll just keep going then. Just one question regarding the rest of the world. It sounded like in Norway you were expecting to normalize, but you didn't say anything about Canada. So, has anything structurally changed in that market that makes you think that the solid growth could continue, or how's it looking like there?
In many ways we have been in a situation where in North America, we have benefited from, let's say, from a stronger supply situation than Europe, where we've had some issues. Canada, for example, is particularly strong in 2021 because one of our major competitors have not been able to supply the Canadian market but has prioritized other markets, especially the U.S. That competitor will eventually get in control of their production and will start shipping back into Canada. The uncertainty, as you can imagine, is to what degree will we have to give away some of the extra sales we've had in 2021. We don't know at the moment, but that is what we are monitoring.
Okay, thank you.
Thank you. Your next question comes from the line of Niklas Ekman from Carnegie. Please go ahead.
Thank you. Yes, a couple of questions. Firstly, I'm curious, and I know we've discussed this question before, but this increase in number of smokers, particularly in the U.S. market, can you elaborate a little bit more on where you're seeing these coming from? Are they coming from other types of tobacco products? How confident are you that they will stick to smoking cigars post-COVID-19?
Yeah. It's a subject we also discuss a lot internally. There's no doubt that one part of the increased consumption comes from existing consumers that are smoking more, right? We discussed before the additional flexibility that working from home has been given, and that is in principle continuing. What we also saw under COVID was that new consumers came into the category faster than normal rates. We believe this, again, is driven by the fact that people have had more free time, more control of their own time, and some previous smokers have re-engaged, and some new smokers have come into the category.
We see that because it is information we are receiving both from the online business and from the retail stores that there is an increased consumption in, for example, new small humidors. There is no doubt that there has been an incentive to be more active in the category. Now, as we've also said, this demand seem to be stronger and more sustainable than we originally anticipated because we are continuing to see healthy demand. What we also see is that the data we can follow on imports has continued to be at a very high level. We don't know anything more in detail about it, but that is what we have concluded so far.
Well, that's good enough. Thank you. Turning to Europe, where you saw a market share decline again, what are you doing to reverse that trend? How important is it to reverse that trend versus driving pricing for you going forward?
I think that what we've seen with the acquisition of Agio and the reorganization we made back in 2019 is that we've come back in much better control of our machine-rolled cigar business. That has also been the case in 2020 and the early part of 2021. Of course, it's a setback for us that these supply issues create unnecessary situations where consumers have to decide whether to smoke something else, be it one of our products or be it one of competitor products.
It is a concern for us, and we are working on multiple initiatives that when we get, let's say, supply back under full control, we will activate these to really make sure we regain distribution we've lost, that consumers are being encouraged to return to the brands that have been out of stock temporarily.
Very, very good. Thanks. Finally, your use of capital, how would you prioritize going forward, M&A versus accelerated buybacks?
Let me try to answer that, Niklas, and hi. We have said all along that we are sticking to our capital policy, so we will return excess capital to our shareholders. What we like about the share buyback is exactly that, if an M&A is coming in, we will be able to terminate the share buyback program to use it for M&A. That is how we're gonna balance it. We will be continuing paying back in share buybacks, but balancing that with potential M&As.
What is the M&A agenda do you see going forward? Is the market open? Are there a lot of relevant acquisitions? Is it more open now than before? Or any changes in the last few quarters here?
I don't think we are necessarily seeing a change in the M&A landscape due to COVID-19. What I keep reminding people is that one has to be patient on the acquisition side because you know, we keep trying to convince the target companies that they should be selling their business to us, but at the same time, you know, the timing has to be right. When you look at us as a company over the last 10-12 years, the acquisitions have come not on a regular basis, but more irregularly, but they have come. I at least continue to be confident that if you look five-seven years out, we will have completed more acquisitions and hopefully also more meaningful ones.
An additional comment from my side. Acquisitions are important for STG, and we've said that all along. We are also internally improving how we are looking at acquisitions and how we approach them. We are active in that area.
That's very clear, very helpful. Thanks for taking my question.
Thank you. Once again, if you wish to ask a question, please press star one on your telephone keypad. Your next question comes from the line of Damian McNeela of Numis. Please go ahead.
Oh, hi, Niels. Could you just give us an update on where you are with the ERP planning and implementation, and just remind us of some of the benefits that that should bring?
Yes, I think Marianne will do that. Thank you.
Thank you for the question. The ERP project that we are running, just to recap, that it is a global SAP S/4HANA solution that we are implementing. Right now we are in the planning phase. I believe that end of the year we should be much closer to the implementation plan, how we're gonna implement. What we are implementing is what we call a simple core, simply to make sure that we balance the risk of implementing such a global solution with the benefits. Coming to the benefits, we see benefits from this solution in three categories. There's a category that I would call compliance. It is simply necessary for us to move to another platform.
Those platforms that we're working on today are very old. They are out of maintenance, and it is critical for us to move to a more modern platform that have ongoing maintenance. That's the first bucket of, you can say, benefits. That is being able to keep on operating. The other bucket is in the M&A agenda. With global platform we will be much faster in implementing M&As, and thereby also being able to have synergies coming in faster. The last bucket is simply operational efficiencies. With a global platform where we are also looking at a much more automation, we will be able to operate much more efficient, not only in back offices, but it comes all across the company.
Marianne, if I can add to that for me also I think the cultural aspect of, you know, driving standardization of processes and approaches is a significant part of this. In that way, it kind of supports our underlying simplification initiatives. It is a very important project for us for the long term.
Just to be clear, so the go live will be kind of next year, the implementation, and you'll run the, kind of the existing system and the new one in parallel? I mean, I'd be interested just to understand kind of how comfortable.
Yeah.
You are in terms of, yeah, that implementation and not seeing kind of disruption, et cetera.
Yeah. It's a very good question. I think first maybe a little background on how we run today. Today, we have more than 12 ERP systems, but four of them are sort of our main platforms, and each platform runs each of our businesses. One platform is running our Online Retail business, one platform is running our North America Branded division, as an example. When we implement, what we will do is we will implement in one country or in some countries at a time related to one division, so that we can shut down one system at a time and not waiting until we have implemented the full global solution. I hope that makes sense. In relation to risk, that is something that we are very conscious of.
I think all of us have heard about implementation of ERP system that doesn't go the way that it should, and we also ourselves had an incident back in 2017 that was not that successful. One of the ways of mitigating the risk is to ensure that we are not becoming too ambitious in the first go of implementing all kinds of additional solutions. We will be focusing on a core solution simply because it will benefit the company so much getting on one global platform. Going from there, then we will optimize and implement more automation and better solution on top of it.
That's great. Thank you very much.
You're welcome.
Thank you. There are no further questions at this time.
Okay. I just want to end off by saying thank you to everyone for participating, and wish you a continued good day.
Thank you, ladies and gentlemen, that does conclude our conference for today. Thank you for participating, and you may now disconnect.