Good morning, welcome to the Orkla Quarter Two 2018 conference call. My name is Anna, and I will be your coordinator for today's conference. For the duration of this call, you will be listening only. In the end of the presentation, you will have opportunity to ask questions. If any time you need assistance, please press star zero on your telephone keypad and you will be connected to an operator. I will now hand you over to CEO, Peter A. Ruzicka, to begin today's conference. Thank you.
Thank you, operator. Good morning, everyone, welcome to today's conference call. With me here in Oslo this morning, I have CFO Jens Staff. We will spend approximately 25 minutes presenting the Q2 and half-year results. After the presentation, we will open up for Q&A. My presentation will mainly be focused on the year-to-date performance. First, let's go through the highlights from the second quarter. We continued to see good growth outside Scandinavia and through M&A in the quarter. There was slower growth across our Scandinavian businesses, notably in Norway. After a weak start to the year of ice cream ingredients, Q2 was strong due to exceptionally warm weather, especially in the Nordics. Our foods and confectionery snacks business in Norway experienced significantly lower trade-driven campaign activity, partly caused by the drastic increase in sugar-related taxes.
Campaign activity varies between quarters. The variation in Q2 had more negative impact than we usually see. I note that the exceptional weather we have seen in Scandinavia over the last couple of months seems to have impacted consumer habits. Ice cream has without a doubt been popular. I recognize an unusual shift between other categories as well. Progress in both consumer goods and investments contributed to an adjusted operating profit improvement of 9% for the group in Q2. Branded Consumer Goods and HQ alone improved by 6%. Overall, our underlying margins improved in Q2 as our actions to compensate for higher input cost had effect. Earnings per share from continuing operations improved by 9% in Q2. I will revert to the announced changes in our executive team in a few minutes.
First, let me take you through some more details on our organic growth performance, moving on to slide three. Overall, we delivered organic growth of 0.7% adjusted for the loss of Wrigley for the first half year. The first quarter was negatively impacted by Easter and fewer sales days, we saw the opposite effect in Q2. We continue to see moderate growth across our core markets. In Norway, reduced campaign activity and the 83% increase in sugar-related taxes have had a negative impact on volume growth. Looking at each business area, we saw that our Food Ingredients businesses experienced good organic growth driven by improved sales of ice cream ingredients, vegan-based products, and bakery ingredients. Our confectionery snacks business had flat organic sales year to date, adjusted for the loss of Wrigley. We had good sales growth outside Norway.
In Norway, the sharp increase in sugar tax led to price increases in confectionery, increased cross-border trade and toll-free imports, and growth in adjacent categories not impacted by the sugar tax. This resulted in a volume decline for the category in general and for Orkla's confectionery business in Norway. For Orkla Foods, increased retail prices and a shift in campaign activity in Norway away from our categories contributed to weaker organic growth. Our businesses across Finland, the Baltics, and Central and Eastern Europe continued to show good growth. Orkla Care returned to growth in Q2, helped by additional sales days, but the overall growth of 0.4% year to date remains weak. The picture is mixed between businesses, where we have good growth in our textile business and Lilleborg business-to-business sales.
The U.K.-based house care business remains challenging, where lower sales, partly due to loss of distribution contract in Q3 last year and partly offset good progress in Orkla Care. To sum up, our organic growth in the last six months is clearly disappointing. We are evaluating the situation in Norway and remain focused on our turnaround initiatives. We continue our organic and structural efforts to shift the portfolio towards higher growing categories, channels, and geographies. Let's have a look at the balance between fixed cost and sales growth on slide 4. Black above red is a simple but important KPI for us. We need to keep a healthy gap between sales and fixed cost growth. The gap narrowed in Q1 and actually turned negative in Q2, as we saw a slight increase in fixed cost and weak organic sales growth. Adjusted for Wrigley, the gap is still positive.
Three out of our four business areas had lower fixed cost in the first six months compared to previous year. Food Ingredients had an increase as a result of higher activity around key growth initiatives, like the vegan portfolio and ice cream ingredients. We remain committed to improving supply chain efficiency, and we continue to see good results. In the quarter, we announced closure and restructuring of two additional factories. Our efforts to drive continuous improvement in procurement and production are equally important, and combined with sustainability restructuring improved our cost base. We need to keep a healthy balance between reinvesting savings for growth and maintaining a positive gap between sales and fixed cost growth. Before I give the word to Jens, let me present the changes in the executive management team, which were announced this morning.
Orkla's management team should be a dynamic group of people where we as a team address our operational and strategic priorities in the best possible way. One Orkla is our operating model, and rotating my management team across the businesses is a natural step as we continue to cooperate even more closely as a group and drive efficiency across our value chain. The announced changes are intended to increase emphasis on our strategic priority areas. Our strategic priorities remain intact, and my intention is to build a winning team. I will now go through all the changes. Johan Clarin, he has been appointed CEO Orkla Food Ingredients. Food Ingredients has ambitious goals in which the development of portfolio, structure, and organization are all important components for success. Johan has broad experience from both organizational and structural development and has a strong leadership competence.
Atle Vidar Nagel Johansen has been appointed Executive Vice President Operations. Efficient operations and extraction of synergies within supply chain are essential for Orkla's achievement of the targets in the forthcoming strategy period. Atle is the most experienced leader in the Group Executive Board. He has the necessary solid, broad-based experience to lead and run cost and structural programs within the supply chain function from his time as CEO of Orkla Foods. When it comes to Orkla Foods, the business area will have a dual leadership. Orkla Foods Nordics and Baltics and Orkla Foods International. Ann-Beth Freuchen has been appointed CEO Orkla Foods Nordics and Baltics. Ann-Beth has long, broad experience from Orkla Confectionery and Snacks and has worked with solid organic growth, innovation across markets, and structural programs. Johan Wilhelmsson has been appointed CEO Orkla Foods International.
We have a clear ambition to build and strengthen our international platform, both organically and through M&A. By bringing CEO for Foods International into the executive team, we intensify our efforts to grow our Central and Eastern Europe and international footprint. Karl Otto Tveter, Executive Vice President for Group Functions, has been appointed EVP Strategy Development and New Growth Areas. The objective is to strengthen and accelerate the development of new business initiatives and growth platforms across Orkla. The process of recruiting the new CEO for Confectionery and Snacks has begun. As a result of these changes, Terje Andersen will withdraw from Orkla's Group Executive Board. He has been responsible for Orkla's transitional phase towards becoming a branded consumer goods company and by optimizing value realization of non-core assets. I'm confident that these changes will ensure we have the best team in place to deliver on our strategic priorities.
Now, Jens will take you through our financials in more detail.
Thank you, Peter. Let's start with a look at the most important items in the P&L. Despite weak sales volumes in Scandinavia, we improved adjusted EBIT for the group by 9% in Q2. I'll comment briefly on the main drivers. Improvement in the Branded Consumer Goods and Orkla Investments, as well as lower HQ costs contributed to our EBIT growth. I'll revert to the progress in the Branded Consumer Goods area on the following slides. Improved results in Orkla Investments was driven both by hydropower and the gain from a past real estate transaction in Switzerland. Profit from hydropower was up 23% following higher power prices. HQ costs were below the average run rate in the quarter. The timing of cost recognition, share price-driven adjustments in long-term incentive programs, and an insurance settlement all contributed positively.
Other income and expenses will vary over time depending on restructuring activity and M&A integration. The amount in Q2 is primarily related to ongoing restructuring and, to a minor extent, M&A. Profit from associates was down 9%, predominantly related to Jotun, and I'll come back to Jotun later on in my presentation. The underlying tax rate ended at 23.7% for Q2. The increase is mainly driven by a higher share of resource rent tax in hydropower, which increases the blended rate for the group. As a result, earnings per share from continuing operations reached NOK 0.82 per share, and that's up 9% compared to Q2 last year. Let's now turn to the performance of Branded Consumer Goods area, starting with top-line growth. This quarter, revenues in Branded Consumer Goods were up 2.1%. As Peter mentioned, organic sales increased by 0.5%, adjusted for the lost Wrigley distribution.
The Norwegian krone has strengthened during the quarter, and this contributed to a negative translation effect of 0.5% for Branded Consumer Goods. M&A contributed almost 3% in Q2, mainly related to the acquisition of HSNG and Reemtsma in Orkla Care, as well as add-ons in Orkla Food Ingredients. Divestments, including K-Salat in Denmark, had the opposite effects. Let me now take you through the margin performance. It's positive to see that we have turned around the negative margin performance we saw in Q1, resulting in flat underlying margin year to date. The improvement in Q2 was driven by higher variable margins as our actions to compensate for higher input costs had effects. Raw material prices have stabilized, whereas we continue to experience headwinds related to FX, notably this weak Swedish kroner versus EUR. Other costs consist of fixed costs, advertising, and depreciation.
We continue to see good progress from our costs and supply chain initiatives. As Petter mentioned, higher activity around key growth initiatives in Orkla Food Ingredients like the vegan portfolio and ice cream ingredients drove fixed costs up in the quarter. Considering also lower advertising spend and costs from the employee share purchase program in the quarter, net effect on underlying margins were neutral. Let's now turn to Orkla Foods on slide 10. Orkla Foods grew organically by 0.4% in the quarter, positively impacted by good organic growth in Central Europe, India, and Finland. Increased retail prices and lower campaign activity hampered top and bottom-line growth, primarily in Norway, despite more sales pace. The exceptional weather seems to have impacted consumer habits, resulting in an unusual shift between categories in the quarter. EBIT improved by 1.2%, driven by cost improvements and reduced advertising spend.
Divestments such as K-Salat in Denmark had a negative effect on EBIT growth. Let's turn to page 11 and Confectionery and Snacks. Our Confectionery and Snacks business saw an organic sales decline of 6% in Q2 and 4.4% year to date. The entire decline year to date was caused by the loss of the distribution agreement with Wrigley. Adjusted for this, year-to-date organic growth was flat. Our markets outside Norway had good sales and profit growth. In Norway, the sharp increase in sugar tax led to price increases in confectionery, increased cross-border trade and duty-free imports, and growth in adjacent categories not impacted by sugar tax. This, in sum, resulted in a volume decline for the category in general and for Orkla's confectionery business in Norway. Cost improvements from supply chain continue to have a positive impact on EBIT but were offset by volume decline in Norway.
Moving on to page 12 for Care. Total revenues in Orkla Care were up by 12%, mainly driven by M&A. The organic growth was 1.3%, positively impacted by more sales days in Q2. Several business units had strong growth in Q2. Both Pierre Robert and Lilleborg had good growth related to both new launches and increased distribution. Also, home and personal care had growth in several markets, including Norway. We are also very pleased to see that last year's acquisition, Reemtsma, continues to perform well. In Orkla Health, we experienced a weak quarter, partly explained by slow markets and a strong comparative figure for last year. We saw strong sales figures in Orkla House Care in the Nordics. However, our U.K. operation are still experiencing declining sales because of a contract that we lost in 2017, as well as challenging markets. This resulted in negative organic growth in House Care.
Several actions have been initiated in our U.K. business, we do expect a gradual improvement from the end of 2018. In sum, EBIT growth in Q2 came in at 8%. This improvement was mainly driven by M&A. EBIT margin was down 0.5 percentage points in the quarter because of the negative dilutive effect from M&A and higher input costs. Lastly, let's turn to Orkla Food Ingredients. Food Ingredients grew its top line both organically and through M&A. After a weak start to the year for ice cream ingredients, Q2 was strong due to warm weather, especially in the Nordics. In addition, successful vegan launches and increased sales of bakery ingredients in the Benelux markets added to the growth. We lifted EBIT by 16.6%, primarily driven by ice cream ingredients and M&A. I'm also glad to see that the efficiency programs are producing positive results in Food Ingredients.
Overall, EBIT margin increased by 0.3 percentage points in Q2. To sum up, our Branded Consumer Goods operations demonstrated good growth in Central Europe and Finland, but the Norwegian market has been impacted by lower campaign activity and increased sugar tax. Let's proceed to Orkla Investments. In hydropower, higher power prices led to EBIT growth despite lower production volumes. Our real estate operations had a book value of NOK 1.6 billion, mainly related to the construction of Orkla's new headquarters. There were no transactions in the quarter. On slide 15, you will see more details about Jotun's performance. It's positive to see that momentum in Jotun improved in Q2. Jotun's largest segment, decorative paints, continued its good performance. Jotun has turned the negative trend in protective coatings around and reported stronger growth in the second quarter. Marine coatings continues to be challenging.
As a result, group sales growth increased from 4% in Q1 to 7% for the first six months. While operating profits is still lower than last year and are negatively impacted by higher raw material prices, clear signs of improvements were seen in Q2. The positive trend is driven by stronger sales and higher selling prices, combined with lower growth in costs. Raw material costs continue to increase, but at a lower rate than in previous periods, and implementation of price increases have gradually led to a leveling out of the sharp decline in gross margin seen over the past year. Unrealized currency effects in Jotun explain why Orkla's share of profit was down by 35%, while operating profit in Jotun was down by only 8%. Going forward, Jotun expects continued sales growth driven by decorative paints and protective coatings.
Marine coatings, however, will still be challenging as the market is expected to remain weak. Let's look at the changes in cash flow and debt. Here you see the main drivers behind operating cash flow, excluding financial investments. Our periodic cash flow from operations was lower than last year, mainly due to higher working capital and replacement investments. Cash from operations was impacted by a seasonal buildup of working capital at a higher level than last year. Our working capital figures for 2017 benefited from some positive one-off effects, but despite this, the level in 2018 is high. Our working capital remains a clear focus area for us. As an example, we are moving towards fewer and larger suppliers with better payment terms, which has resulted in underlying improvements related to payables. This has been one of the focus areas, and this work, of course, continues.
The increase in net replacement investments was related to our ongoing ERP project and supply chain restructuring. Lastly, let's look at the changes in net debt. Our debt position has increased by approximately 3.2 billion in Q2, mainly due to the dividend payments and share repurchases. Cash flow from operations reduced net debt by 8 billion. This leaves us with a net debt of about 3.9 billion NOK at the end of the quarter. We continue to have a very strong financial position. I'll now leave the floor or the word back to Peter for his final remarks.
Thank you, Jens. Let me now sum up the key takeaways for the first half year. Branded Consumer Goods had revenue growth of close to 5%, mainly driven by M&A. We continued to see good growth outside Scandinavia, but we experienced slower growth across our Scandinavian businesses, notably in Norway. In Norway, reduced campaign activity and dramatic increase in sugar tax had a negative impact on volume growth. After a weak start to the year for ice cream ingredients, Q2 was strong due to warm weather, especially in the Nordics. Progress in both Branded Consumer Goods and Investments contributed to an operating profit improvement of 5% for the group year to date. Overall, our underlying margins improved in Q2 as our actions to compensate for high input costs had effect.
Going forward, we see continued soft market growth, especially in Norway, due to the negative impact from the increase in sugar tax. We monitor the situation in Norway closely and will continue our organic and structural efforts to shift the portfolio towards higher growing categories, channels, and geographies. We remain committed to increasing supply chain efficiency, including continuous improvement in procurement and production. In order to strengthen our strategic priority areas, we have today announced some changes in the group executive board. These changes will utilize the strengths in the management team in an optimal way. Before we open up for Q&A, I would like to show you how we win with the local brands using home care as an example. We have over many years demonstrated our ability to win with local brands over our global competitors, with solid market leadership in all home care categories.
Following our Cederroth acquisition late 2015, we now have a Nordic portfolio of brands, and we are gaining solid ground in key categories. An example is fabric cleaning, where Grumme now has close to 20% market share for April 2018 in Sweden. Furthermore, we always aim to capture the local consumer trends faster and sharper than competitors. We add value to our categories, for example, by offering consumers sustainable products such as Klar and Grumme. At the same time, we make sure to build strong brands, inviting and connecting with our consumers. On the next page, you see an example. We have used our deep insight into modern cleaning methods of Jif and in Norway and implemented the same behind Grumme in Sweden. In true One Orkla spirit, we share production technology, packaging, and products across our markets but launch them under strong local brands.
With that, I would like to ask the operator to please open up for Q&A.
Thank you. Ladies and gentlemen, if you would like to ask a question, please press star one on your telephone keypad. You will then be introduced with your name when it's your turn to ask a question. Ladies and gentlemen, if you would like to ask a question, please press star one on your telephone keypad. Thank you. We do have a question from John Ennis from Goldman Sachs. Please go ahead. Your line is now open.
Good morning, Petter. Good morning, Jens. A couple from me. The first one's on organic revenue growth. You said in your opening remarks that you were disappointed with the first half performance. Can you give us a bit of color on why you think sales growth can accelerate? The comps get a bit tougher as you go into the second half. A bit of color on why you think that could get better would be useful. The second question is on the executive board changes. Johan was obviously heading up the supply chain program and working on reducing fixed costs. I just wondered how that program, I guess, changes given the personnel movements. A bit of an update there would be useful on the restructuring efforts. My third question is on the impact advertising had on margins.
Could you roughly quantify that and maybe provide a bit of color on whether you think that reverses in the second half or whether advertising is up for the full year? Thanks.
Okay. Thank you for your questions. It's Peter here. I will answer the two first, and Jens will answer your third question. As we said, we are disappointed about our organic growth, and as mentioned, it's especially Norway where we see a disappointing development. As we have said several times, it's partly due to a sharp increase in sugar tax, partly also due to exceptionally hot weather in the Nordics, and especially Norway, and where we experience a shift in promoted categories in the market. We don't expect the temperature to be in the area of 30 degrees for the next couple of months. We expect, of course, weather to go back to a more normal situation. We have seen these kinds of shifts in promotion with the retailers earlier, and we expect this to come back.
You're also right that we have a tough second half year to compare with, especially Q4 last year was very strong. We feel like we have good plans in place to regain momentum, especially in Nordics and more especially in Norway. We would hope that we will see better performance in the second half of the year. When it comes to the executive board changes, you asked about the Supply Chain program. Part of the reason why we did this change is that we want to have even more power behind the program. By leaving the responsibility to Atle Vidar Johansen, who has very long, broad experience from Orkla, we think that he will, with his very broad experience, be able to accelerate the program and even to get more cost out visible on the bottom line.
That's partly why we have done the changes. I leave the last question about advertising and margin to Jens.
Yes. Thanks for the question, John. AMP, of course, will vary between quarters, and it was lower in Q2 compared to last year, and that was partly driven by
Unusually high AMP in Q2 2017. The variations were largest in the foods area. Of course, this varies between quarters, so there's no particular trend to expect in AMP going forward. Just to put a little bit more flavor on this other costs in the margin bridge. As I said, it was a mixed development in other costs, where we had lower fixed costs in three out of four business areas. As both Peter and I mentioned earlier, the food ingredients had higher fixed costs related to growth initiatives. They also had a good progress on top and bottom line, of course. Also to remind you that the cost related to the share employee program had a negative impact this quarter. We had the same cost in Q3 last year, so we will not have that this year, of course.
The magnitude of the program last year was much bigger than the program that we have performed and finished now in Q2.
Okay. That's very helpful. One follow-up on the organic revenue growth answer. Could you maybe give a few examples of which categories were negatively impacted by the weather being too nice? Obviously ice cream benefited, but which categories for you suffered as a result?
I would say in general, confectionery. If you look at the confectionery snacks business, confectionery is hit by the warm weather. When it comes to foods, we have a lot of dry products like soups, casseroles, these kind of things, which is, of course, not in favor when the weather is exceptionally nice. We've seen a very strong increase in everything related to barbecue meat, these kind of things, where we are not in those categories. Of course, in ice cream and in drinkables, where we don't have a presence except for some lemonade.
Okay.
As Jens also mentioned, in the health area, Orkla Health, we had negative impact on sport nutrition, weight control products, and so on.
Okay, that's useful. Thank you, Peter.
Ladies and gentlemen, if you would like to ask a question, please press star one on your telephone keypad. We will do one quick reminder due to there's nobody in the queue. If you would like to ask a question, please press star one on your telephone keypad. Thank you. There is no questions coming through. We only had one question for today. I will hand the call back to you. Thank you.
Thank you. I would just like to thank everyone for attending today's telephone conference, and I wish all of you a nice summer. Thank you so much and bye-bye.
Thank you for joining today's conference. You may now close your handsets to end this call. Thank you.