Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to today's full year results for 2018 conference call. At this time, all participants are in a listen-only mode. There will be a presentation followed by a question and answer session. At which time, if you wish to ask a question, you will need to press star and one on your telephone and wait for your name to be announced. I must advise you that this conference is being recorded today, Thursday, 31st of January, 2019. I would now like to hand the conference over to your speaker today, Mr. Karl-Johan Persson. Please go ahead, sir.
Hello, everyone. Thank you all for joining us today. I'm very pleased to welcome you all to this conference call about H&M Group's fourth quarter and full year results for 2018. With me today is our CFO, Jyrki Tervonen, and our Head of Investor Relations, Nils Vinge. I will start with an overview of the fourth quarter. Nils will take us through the financial details. I will give an update on our strategic focus areas before we answer your questions. You will find the slides to this presentation on hm.com Investor Relations. The fashion industry is going through rapid changes, as we all know, and we are accelerating our transformation in 2018 to secure a positive long-term development for the H&M Group. 2018 was a challenging year for us and for the whole sector, but we ended the year with strong signals that we are on track.
We built momentum through the year with the sales growth in local currencies of 3% overall and 6% in the fourth quarter. In the second half of the year, we took market shares in most markets. Importantly, performance in the fourth quarter was driven by more full price sales and lower markdowns, and this is one of many signals confirming that customers appreciate our assortment with the improvements that we have made in terms of design, quality, price, and sustainability. If we look at the inventory, levels were still up year-on-year. However, the sequential improvements in level and composition from the third to the fourth quarter show that we're moving in the right direction, and we expect this trend to continue as a result of a stronger customer offering and our ongoing improvements in our buying processes and logistics.
Therefore, we also expect markdowns to be around one percentage point lower in the first quarter 2019 compared to the same quarter last year. We did not reach the sales and profit targets we set up for the past year, and obviously we're not happy with that. This should also be seen in the light of a very tough retail market and tougher than many anticipated. I think important also, when you look at the performance, it's good to see that the core business of the company is at a better level at the end of the year compared to the same period last year. We have seen a gradual improvement throughout the year. Also in the fourth quarter, the profits were negatively affected by large extraordinary costs related to our transformation program.
These were costs generated in connection with the replacement of the logistics systems in the U.S. and Belgium last year, but also activities in preparation for the upcoming transitions, particularly the change of our online platform in Germany. In Germany, we successfully migrated to our new platform last week. While these actions inevitably have a short-term impact on the margin, they will lead to a range of improvements for our customers over time. That was a short introduction, and with that, I hand over to you, Nils.
Thank you, Karl-Johan. Starting with top line. Net sales increased 5% in the full year to SEK 210 billion. In the fourth quarter, net sales increased 12% to SEK 56.4 billion. In local currencies, the increase was 3% in the full year and 6% in the fourth quarter. Looking at some individual markets in the fourth quarter. In the U.K., online sales grew by 38%, which compensated for a 1% decline in stores, leading to total growth of 8% in local currencies. In several markets, both digital and physical channels are driving growth. In China, sales increased by 24%. In India, sales grew by 43%, while Russia had sales increase of 27%. In some markets, development was more challenging, such as the markets that experienced logistics difficulties, like the U.S. Sequentially, sales improved in the fourth quarter compared to the third quarter.
Gross profit in the quarter was SEK 30.6 billion, which corresponds to a gross margin of 54.2%. Markdown costs as a share of sales decreased by approximately 60 basis points. This was due to better full price sales driven by stronger collections. For the fourth quarter, the company decided to invest the positive US dollar effect into a stronger customer offering. Apart from this, the gross margin was affected by a number of factors. Continued costs of around SEK 250 million to resolve the issues that arose in connection with the implementation of new logistic systems in the U.S., France, Italy, and Belgium, of which SEK 125 million were booked as SG&A. In addition, we had costs of approximately SEK 200 million to secure future transitions of platforms and logistic systems. We also had a negative year-end effect of approximately SEK 110 million.
Gross profit for the full year was SEK 111 billion, corresponding to a margin of 52.7%. Looking at the first quarter of 2019, for the purchases made for the current quarter, the market situation regarding external factors is expected to be slightly negative. The main reason for this is the strengthening of the US dollar. SG&A increased by 14% to SEK 26.3 billion in the fourth quarter. In local currencies, the increase was 8%. The increase is mainly related to the expansion in stores and online, along with investments in H&M Club, our digital loyalty program. In addition, SG&A were affected by the cost to resolve the logistic issues we had in some markets earlier in 2018. For the full year, SG&A was up by 9% in SEK and 6% in local currencies. Profit after financial items was SEK 4.35 billion in the fourth quarter.
For the full year, profit after financial items amounted to SEK 15.6 billion, compared to SEK 20.8 billion last year. Like Karl-Johan said, it's been a challenging year for the whole industry and thus also for the H&M Group. We've made improvements gradually during the year and strengthened by these positive signals, we decided to accelerate the transformation further, with a particular focus on the replacement of logistic systems. Along with negative year-end effects, this resulted in costs of around SEK 560 million. Net profit was SEK 3.54 billion in the fourth quarter, equaling earnings per share of SEK 2.14 compared to SEK 2.41 in the corresponding year earlier period. With a tax rate of 24% for 2018, net profit for the year was SEK 12.7 billion, compared to SEK 16.2 billion in 2017. Earnings per share, thus amounting to SEK 7.64. Looking at some key data.
The inventory by the 30th of November amounted to SEK 37.7 billion, an increase of 12% in SEK and 10% in local currency. Although the inventory level is still too high, levels and composition improved sequentially from the third to the fourth quarter, showing that we are moving in the right direction. With a stronger customer offering and the ongoing improvements in buying and logistics, we expect a gradual improvement in inventory levels going forward. Therefore, in the first quarter of 2019, we expect markdown costs in relation to sales to decrease by around 100 basis points compared to the same quarter last year. Cash flow from current operations was SEK 21.3 billion, and investments in terms of CapEx totaled SEK 12.8 billion, up from SEK 12.5 billion last year. In constant currency, CapEx was SEK 12.12 billion, slightly down from last year.
For the full year of 2019, CapEx is expected to decrease to approximately SEK 10.5 billion-SEK 11 billion in constant currency, with a continued shift of the balance towards digital. Liquid funds at the end of the year were SEK 11.6 billion. The board of directors will propose to the AGM an unchanged dividend of SEK 9.75 per share to be paid out in two separate portions. Return on equity was 21.4%, and the number of employees was around 123,000 translated into full-time positions. Now, back to you, Karl-Johan.
Thank you. Our transformation work continues, and we are driving change, as we have communicated before, through four strategic focus areas, which are to strengthen the customer offering for each of our brands. Two, to ensure a fast and flexible and efficient supply chain. To set a stable, scalable, and innovative tech and IT foundation, and finally, to add growth by expanding with physical stores and our online stores. The most important part when it comes to securing the best customer offering, obviously, is to continuously improve our assortment for all our brands. We're now seeing clear signals that customers appreciate the improvements that we have made. We see this in more full price sales, higher conversion rates, more recurring customers, and increased customer satisfaction. This clearly shows that we are moving in the right direction when it comes to the assortment.
Part of this improvement comes from us investing in better prices and higher quality for our customers. We're also working hard to further improve the shopping experience for H&M in the physical stores as well as online. When it comes to the physical stores, we continue to do many tests around the world to develop a better shopping experience. Here, too, we have received positive feedback, in terms of increased customer satisfaction, but also when it comes to good results in sales and better results. We are evaluating these tests and at the same time, we are planning for a gradual rollout. If we look at the shopping experience online, we're making improvements to the .com sites and our mobile app, where we have made improvements in terms of stability and speed.
We're also improving in terms of navigation, product presentation, improved delivery times, and new payment options, just to mention a few examples. We're also working hard when it comes to further integrating the online and the physical stores. We are improving and rolling out features like returns in store, click and collect, online purchases in store, our in-store mode app, just to mention a few examples. Finally, when it comes to the customer offering, we would also like to mention that we're continuing to develop and to roll out our loyalty club, roll out to new markets. Today, it's only present in 16 markets, and we're quite new with the club in many of those markets. By the end of 2018, we have reached 30 million club members, which is a good growth from 15.
Doubling from 15 million in the beginning of the year. We're looking for a big increase in that number for 2019 as well. We will also roll out the club to a further seven markets this year. When it comes to improving the supply chain, we continue to invest a lot in the supply chain. One example of that is our investment in new fulfillment centers. We have opened three new fulfillment centers in the fourth quarter. These are located in Kamen in Germany, and Stryków and Bolesławiec in Poland. Together, they add a total of 230,000 square meters of logistics area. We have also automated our logistics center in Poznań in Poland. Good improvements, and this will release the capacity constraints that we have had before, especially during the second half of the year and also in the first quarter.
Also enable a range of other improvements for our customers. For example, faster deliveries in a number of European markets, including Germany. Further ahead towards the end of the year, we will also open two more fulfillment centers, one in Madrid and one in London. When it comes to the product flow as well, AI is becoming an increasingly important tool for us. Thanks to our vertically integrated business model, we can build AI models with algorithms designed to address various parts of the product flow, from trend detection to quantification, allocation, pricing, to mention a few examples. We're also working hard to further improve our internal processes, in our buying process, to further differentiate our buying depending on what product type it is.
To become even more precise in our buying and to shorten the lead times, these improved buying processes will lead to all other things equal to higher sales, lower markdowns, and reduced working capital. When it comes to our tech and IT infrastructure, here we also invest a lot. This has made it possible for us to complete the transition of online globally to our new online platform. Last week, we successfully transferred online in Germany, which is our largest market, and this means that now all H&M's 47 online markets are now on the new platform, which will enable further improvements of the shopping experience for our customers. Furthermore, we have ramped up initiatives ahead of upcoming transitions of logistics systems.
Applying the lessons learned from the difficulties we had with the transitions in some markets earlier in 2018, we have increased investments in the fourth quarter to secure transitions that are due this year. In parallel, we are investing to become even faster in developing customer-facing technologies and be innovative with tech wherever the customers are. When it comes to adding new growth, our expansion will continue with stores and online for all our brands. For 2019, we will add a net of 175 stores. In total, we plan to open 335 stores. In total, around 240 of these will be H&M stores that will open mainly in markets outside of Europe and the U.S. Meanwhile, we are intensifying the optimization of the store portfolio, and this includes renegotiations, relocations, closures, rebuilds, and adjustments of store space. During the year, we plan to close approximately 160 stores.
The shift in the market is also opening up for further improved lease terms, and we have the opportunity to renegotiate nearly 1,000 store leases in 2019. We also continue the global rollout of online. In 2019, we will open the H&M online store in Mexico and via franchise in Egypt. When it comes to our other brands, COS, Weekday, Monki, & Other Stories, H&M HOME, ARKET, and Afound, I think we have a great portfolio in those brands, and these brands are only at the beginning of their journey. We will develop them further and see great growth potential for all of these brands. As always, it's always important to make priorities for our investments. Like we have communicated already, we will close down Cheap Monday in 2019.
The business model of Cheap Monday is based on wholesale, a model which has faced major challenges due to the shift in the industry, and the closure of Cheap Monday is part of our transformation where we prioritize and focus on our core business. This was a short update on our strategic focus areas and growth initiatives. As we said, the market is going through a big transformation. We are going through a transformation of our business as well. We set up some goals before the year. We haven't reached those goals, and obviously we're not happy with that. We also have done a lot of good work during the year, which will benefit our business going forward. We have a long-term approach. We are investing a lot in the strategic focus areas I mentioned. We have a clear plan.
We have great colleagues that are motivated and working hard, and we see results from that work, and the positive signals that we are on the right track. We are still optimistic that we have a bright future. Thank you very much, and now it's time for questions.
Thank you. Ladies and gentlemen, we'll now begin the question and answer session. As a reminder, if you wish to ask a question, please press star and one on your telephone and wait for your name to be announced. Your first question is coming from the line of Chiara Battistini, JPMorgan . Please go ahead.
Good morning. Thank you for taking my questions. I have a couple, please. The first one would be on the price and product investments you'll be making in Q4. I was wondering if you could quantify the impact on the gross margin from those, and also if you're happy about the current offer now after these investments, or you see further need to reinvest there. Tying in with the gross margin, maybe if you could give us some color on how you foresee the gross margin evolution in 2019. Then the second question, just a clarification. Can you just please clarify what exactly the negative effects impacting the gross margin were at the end of the year, please? Thank you.
Yeah. It's correct. As I mentioned, we have made investments in the customer offering in terms of better prices, better quality. Also when it comes to sustainable materials, something we see that the customers are appreciating. That's one of the reasons for better full price sales and increased customer satisfaction. We choose not to comment on the exact investment that we are making. We believe we are at a good level now, very competitive, and in terms of that. We will always stick to the business idea. In that, of course, it covers also to follow what the competition is doing. We will constantly monitor what happens with the competition in all markets. If we look at the gross margin, we normally comment on these large external factors, the currency, the raw material prices, transport, capacity, salaries, and they were slightly positive for the fourth quarter.
They will turn to slightly negative in the first quarter. We will continue to do investments also, first quarter this year compared to first quarter last year. Price reductions we have commented on, which we expect to be one percentage unit lower first quarter this year. We have some extra cost that we have mentioned, the SEK 450 million approximately, where part of that is affecting the gross margin in the fourth quarter. It will also affect the gross margin in the first quarter, but not as much as in the fourth quarter this year. The year-end effects. The request, no year-end effects, that's of course something that always happens, it's a mixture of shrinkage, inventory translation effects, and so on. This year, the negative effect amounted to just about SEK 110 million.
Compared to last year.
Great. Thank you very much.
Thank you.
Thank you. The next question is coming from Charlie Muir-Sands from Exane BNP Paribas. Please go ahead.
Yes. Good afternoon. Thank you. The first question relates to your capital expenditure. You've indicated that in the current year you'll be spending a little bit less. You also mentioned some promising signs of your pilots of new store format. I wonder whether this would therefore be a transition year and perhaps from FY 2020, you might be thinking of spending some more on capital expenditure again to refurbish a lot more stores or not. Secondly, on the opportunity to renegotiate rents, could you give us an indication of approximately how much you typically are saving on your rental when you are renegotiating at the moment? Is it 10% or more than that? Thank you.
When it comes to the first question, the CapEx, yes, we are doing a lot of tests with positive signs, and we are rolling out. That means the small improvements we see and bigger improvements as well. That is covered in the CapEx guidance that we have given. We open less stores compared to before. That, in terms of the CapEx levels, that is part of the reason why it's coming down. Also when it comes to the digital CapEx, the big part of the infrastructure, setting the foundation, some of it is taken. One of the examples that we have communicated today is that all the countries are now on the new online platform, so we can leave the old one, so to say.
Everything is taken into account there, including the rebuild program for the stores and the gradual improvements of the optimization of the portfolio when we guide for SEK 10.5 billion-SEK 11 billion in CapEx. The second question was the renegotiations. We prefer not to quantify exactly what we think it will give. It's 1,000 contracts that we have the possibility to renegotiate. The market is going through a huge transformation. I think there is a good chance that we will see a good improvement coming from that. Sorry, we can't quantify.
No, thank you. With the CapEx, I just meant whether you think that this sort of SEK 10 billion would be approximate level you would think about spending for the next few years, or whether 2020, as you start to really push with the store refits, it might tick up again.
Yeah. The guidance, as Karl-Johan just mentioned for 2019 is SEK 10.5 billion and SEK 11 billion, it's shifting towards in a more digital investment. When the guidance for 2020 or 2021, it's hard to say at the moment, we feel that we have, in a way, peaked in our CapEx as we see it at the moment. To say exactly what it will be in 2020, it's too early. As I said, we see it as we have had a peak here in 2018.
That's very clear. Thank you.
Thank you.
Thank you. Your next question is coming from the line of Richard Chamberlain from RBC. Please go ahead.
Thanks very much. I ask a few more on margins, please. How should we think about the timing of the additional warehouse investments that you've mentioned in Spain, the U.K., and the U.S.? Should we expect those more in the second half of this year? That's my first one.
Part of the costs are taken, or we have now, and then it will come gradually throughout the year. These are planned costs that we have in the prognosis for the year to come, in the profit and loss prognosis that we do. Yeah, we feel confident in that we have a good, it's in the plan.
That's the addition of the new logistics centers. As Karl-Johan said, we also have a lot of transitions in front of us, similar transitions as we did in the U.S. and Belgium. Hopefully, more successful going forward.
Got it. Okay, thank you. Speaking of OpEx, can you say how much OpEx was increased last year by free shipping for H&M Club? I see you're extending that to more markets this year. I think you mentioned seven. Has that materially increased OpEx?
No, it's affecting, but we choose not to quantify on that. When we decided to roll it out for the club members, obviously, it's something that we have tested. It will create value long term for the company, and it's good value for the customers as well. That's why we decided to do it. Short term, it's affecting the margins negatively. Here, it's also something where we have to see what happens in the market. Now we see more and more competitors actually introducing a cap and so on. It's part of the total customer offering where we want to have the best customer offering. We put it in relation to what the competitors offer as well.
Okay, great. Just finally, I guess it's interesting you're choosing to hold the dividend but cut CapEx for this year. I wondered if you can say how much you'll be spending on digital CapEx this year, and why you've chosen to hold the dividend instead of maybe accelerating CapEx on digital to catch up with some of the other players in the industry. Thanks.
We're spending a lot and we feel confident. We're investing a lot. We are well satisfied with that. We're really forward-leaning and doing a lot of good things there. Our focus is to develop the business in as good as way as possible, short term and long term, and that we are doing. It's more for the board to comment on, but they obviously look at the plans for the business, the financial statements, cash flow prognosis, and a lot of different things, and also the financial strength of the company and so on. Also the underlying trend of the business, where we are showing positive signals. It's their recommendation to the AGM, and we think it's good. We're happy with that. The CapEx-
Okay. On the CapEx split, I would have thought you're still spending the majority on new stores. Is that correct?
No
you're increasing your digital spend.
Yeah. It's likely about 50% of our net investments in CapEx is already in digital.
Slightly above 50%? Okay.
Yes.
Okay.
It's increasing.
Thanks very much.
Thank you.
Got it. Okay. Thank you.
Thank you. Your next question is coming from the line of Adam Cochrane from Citi. Please go ahead.
Good afternoon, guys. Couple of questions, if I may. In terms of, there's a few bits on the balance sheet regarding a significant increase in accrued expenses and capitalized expenses. Would you be able to confirm what they relate to, and how that may impact the profit and loss going forward, whether it's depreciation or coming through as cash payments later? Secondly, in terms of the net financial income, could you just explain the moving parts within that as you're going into a net debt position, you still got the financial income coming through. Is that something that you'd expect to carry on? Finally, the one-off costs that you had in 3Q and 4Q, should we assume that they completely reverse out next year?
They were a cost this year. Let's assume that they don't occur at all next year, albeit you might get some others coming in from other areas. Those particular ones are done and dusted. Thanks.
To start with the capitalized expenditures, that's all our investments in IT systems and digital investments that is capitalized in the balance sheet. During the years, we have invested, I think, accumulated somewhere slightly above SEK 10 billion. Also depreciated, accumulated slightly above SEK 1 billion. The depreciations during 2018 was slightly over SEK 500 million, connected to the capitalized expenditures. Its net depreciate in the balance sheet is now more or less SEK 9 billion. Of course, when we are taking these in use in more and more countries, the depreciations will increase. Probably the depreciations just for the capitalized expenditures will increase during 2019 from SEK 500 million to maybe SEK 800 million.
Could you just give us a guidance on what the overall depreciation charge would be? Because I presume with lower store count, there's a few benefits in there as well.
I think the increase will be in line with the increase from 2018 to 2017.
Okay, thanks.
When it comes to, what's the final question there? What the extra cost that we had now in the third and fourth quarter, in the fourth quarter, we said it was SEK 450, also adding the year-end effects, if that will happen in the third and fourth quarter in 2019. Did I get your?
That's right, yeah.
Yeah, exactly. No, the things, it's extra one-off costs. Connected to one part in the fourth quarter, it's connected to the ramp up and securing good transitions of the logistics system. One part is securing a good transition of the online transition in Germany. It has affected quarter one as well, but those two will not affect the third and fourth quarter next year.
How have you spent the money in advance to the sort of secure, there's going to be less issues with logistics and IT in the following quarter before you implement it? What exactly, or just generically, what do you mean by you spent this money to secure the transition?
Well, it's securing the one, when it comes to logistics systems, one is the spillover effect and the backlog from the transitions that we had in U.S. and Belgium. It's setting that right in the fourth quarter. That we have done. The second part is making sure that we improve the system. That the following transitions in the year to come, in 2019, is at a much better level. We had a lot of problems, that's what happened in the U.S. and Belgium. A lot of investments have been made to secure that we improve the logistics system so we can roll it out. In the fourth and first quarter, we have prepared for Germany, that transition from the old platform to the new platform in the first quarter. Those were costs that we took in the fourth quarter and now in the first quarter.
That will not happen, obviously, in the second quarter, third quarter, and fourth quarter during 2019.
Also to your question, Adam, it's about change management, to invest in training the staff, et cetera, better than we did in the U.S. and Belgium. We are prepared for the coming transition.
Okay. Finally, on the accrued expenses increased by about SEK 4 billion, can you just tell us what's in that balance, and then why it increased by so much, please?
Yeah. I don't have the balance specification next to me, normally, one big part of the SEK 23 billion is the landlord contributions. There are also always vacation pay accruals, social charges accruals, salary accruals, and duty and freight accruals. It's a mixed pot. The biggest part is connected to landlord contributions.
Okay. That's great. Thank you.
Thank you.
Thank you. Your next question is coming from the line of Magnus Råman from Handelsbanken. Please go ahead.
Thank you. I have a question on the click and collect rollout that you talked about. When you consider a country rollout, to how many customers typically do you offer click and collect services? Could a country with only, say, 5% or 10% of total stores having click and collect be called a click and collect rollout country?
Yes, it varies from country to country. Obviously, we look at introducing something that we believe is good for customers, and we also have to take what makes financial sense for us into account. We set a target for a country, how many stores in each country we want to roll out, when we have completed that or nearly completed, we see it as a rollout.
If you look out in time a bit and a more mature phase of that rollout, how many stores typically in a country would you say, roughly, would be included?
How many stores in a country?
What share of stores would be having the click and collect service?
It depends from market to market and city to city. Some cities we have a lot of stores in, then it makes sense to maybe don't have a huge share. If we only have one store in the city, then it will be 100%. It varies a lot. We are present in more than 70 markets. There's a big difference, depending on market and city and how many stores we have.
Yeah. I was alluding to country by country, perhaps you can't provide a number. Anyhow, I have a second question on logistics centers, the three ones that you've mentioned that you just opened then the two coming logistics centers. Are they for online deliveries only, or is it also store fulfillment here, or can you elaborate a little bit about that?
Online one is a combination. London is an omni-warehouse, so to say.
Okay. Thank you.
Thank you.
Thank you. Your next question is coming from the line of Anne Critchlow from Societe Generale. Please go ahead.
Thank you. I've got two questions. The first one is about the percentage of sales from the newer brands, if you can give an update on that, because you gave us a figure last year of 10% of total sales. The second question is more about customer behavior. In the countries where you have H&M Club with free shipping and returns, and you also have collection and return to store, what's your feeling about what customers actually prefer and what's driving the sales in those types of countries? Thank you.
Sorry, can you repeat the last question there?
Yeah, sure. I'm sort of interested in whether it's H&M Club free shipping and returns, or the ability to collect in store an online order and return to store that is driving sales in countries where you have both on offer for customers. What do you think customers prefer in terms of free shipping to home or collection in store?
Yeah, okay. If we look at the new business part, we had a target of more than 25% for the year. We didn't reach that. We still had good growth. We increased by 21% in SEK and 20% in local currencies. It's been a tough market. It affects all the brands. We pulled down a little bit of expansion for some of the brands. Good growth, but not really satisfied as we had higher ambitions. When it comes to the question about what customers appreciate most or what's driving most sales, I think that was your question in terms of the free returns and, yeah.
Click and collect.
Click and collect. It's a combination of different things. It's part of the total customer offering. Customers are appreciating it, and the whole integration of online and physical stores, we believe, is a great strength. It's hard to say exactly what each feature, what each service is driving in itself. It's the total package.
This is the message we've had for a long time. There isn't one specific feature that would drive everything. It's a combination of having everything aggregated that the shopping experience becomes more seamless and more convenient.
Okay. Thank you.
Thank you.
Thank you. Your next question's coming from the line of Rebecca McClellan from Santander. Please go ahead.
Yes. Good afternoon. Just a couple of questions, please. Firstly, in terms of your inventory across online and the stores, how integrated is it? Because my impression is that it's not particularly integrated and therefore, as the business upgrades, et cetera, progress, what respite can there be on the overall inventory through inventory integration?
Parts of it is integrated, it's getting more and more integrated. We have several initiatives on how to improve the selling, how to reduce markdowns, and how to improve the inventory levels. That is one thing. Setting a better logistic infrastructure connected to the more complex world that we are in today. We're in more markets. We have several channels. We have several brands. We map up a good logistic infrastructure in terms of number of logistic centers, the size of them, how many for online, how many for stores, how many should be omni. That we have done, and we are building towards that. Examples of that are the three new centers that we opened up in the fourth quarter and two more to come during the year in London and Madrid.
Part of the AI initiatives that I mentioned earlier, will help us as well, when it comes to being more precise in how we buy, how we quantify and allocate the products. Also, again, to segment the products we buy, depending on what product type we are buying, in a better way than we have done in the past, will shorten lead times and we will tie up less capital in that as well. Obviously the most important part is to continuously improve the assortment, so we sell more, sell better. All of those are initiatives that we believe will lead to better sales, lower inventory levels in relation to sales.
Is there an element of there being a bit of a dual inventory position? You need to have a certain amount of inventory for online and a certain amount of inventory for the stores, because there's not much cross-channel inventory integration, you perhaps over-inventoried because of that.
We come from two different channels, we're getting more and more integrated in everything we do. Obviously when we plan the assortment, we look at the total, and we plan what we believe is good for the stores. We plan what we believe is good for online. We have some infrastructure constraints, and we have some technical constraints. That's one of the reasons why we are investing in a better logistic infrastructure and IT and tech infrastructure, so we don't have those constraints, and we can become even more integrated, between markets, between channels.
Okay. My second question is just in terms of the German warehousing upgrade, sort of the equivalent to what you did in the U.S. and Belgium. That's still due for spring, is it?
We haven't set any time yet, it's in front of us, yes.
Okay. Thank you.
More market, yes.
Thank you.
Thank you.
Thank you. Your next question's coming from the line of Michael Benedict from Berenberg. Please go ahead.
Good afternoon, all. You mentioned that Germany was replatformed in January. Could you give us a sense of the impact that had on your sales and costs?
Yeah. We mentioned the extra ramp-up cost, not the full cost, but the extra ramp-up cost that we decided to take in order to ensure a good transition of Germany. That's roughly SEK 200 million. We have had some capacity constraints for quite some time, actually, in Germany. That's one of the reasons why we're building the new logistic centers to be able to sell more. That has been going on for quite some time, affecting sales negatively in quarter three and quarter four, and mostly actually in quarter one, because there we have the capacity constraints and at the same time we're doing the transition. We obviously believe with more capacity, and also improved delivery times, we have a good chance of selling more.
Affecting sales negatively quarter three, quarter four, quarter one, and there's been quite a lot of costs connected to that transition as well.
Okay. That's really helpful. Thank you. Secondly-
Thanks
You've mentioned you've doubled your H&M Club members. Do you have a target in mind for your Club membership, and what do you suspect the impact of that will be on profit?
We have targets. We choose not to give the exact target for the year. What we have said is that we have, as I mentioned earlier, gone from 15 to 30 million Club members by the end of 2018, and we plan for a very good increase as well for 2019. We're improving the Club, and it's being rolled out to seven new markets during the year. Hopefully we will have many more Club members by the end of 2019.
Great. Just last one from me. You've said your inventory position is expected to improve in Q1. Could you quantify the impact of that on your gross margin in Q1 specifically?
Sorry, I'm not sure what you mean. Can you say that again?
You mentioned your inventory position will improve in Q1.
Yes.
Would you be able to quantify the impact of that on your gross margin?
What we have said is that our best guess now is that reductions will be one percentage unit lower in quarter one. By the end of quarter one, we will see further improvements in the inventory levels and composition. Going out of quarter one, the inventory level will be better in terms of level and composition, and we will also see one percentage unit lower reductions in quarter one.
Thank you very much.
Thank you.
Thank you. The next question's coming from the line of Geoff Ruddell, Morgan Stanley. Please go ahead.
Good afternoon. I just wanted to take you back to the guidance you gave us at the Capital Markets Day. You've been very open that you've missed and fallen short of the 2018 guidance. I'm wondering if you're still happy with the guidance you gave for the 2019, 2020, 2021 years. In particular, are you expecting profits to grow this year and next year and the year after?
Exactly. We missed the goals we gave. Obviously not happy with that. I think it's very difficult given the transformation that we're going through and the whole market is going through and with all that uncertainty to be very precise on figures and timing. What we're saying now is that we believe we will see improvements during 2019 compared to 2018. Improvements in selling, profits, inventory levels, satisfied customers. That's what we are saying.
Just because, you are saying you expect EBIT to be higher this year than it is in the year that just reporting today?
Yes.
Great, thank you. Do you expect the stock in trade to be back into the 12%-14% range by the end of the new financial year?
Same there, actually. We believe we'll see improvements, but we prefer not to give exact timing and an exact figure.
Okay, thanks very much.
Thank you.
Thank you. Your next question is coming from the line of Jörg Nowicki from TextilWirtschaft. Please go ahead.
Good afternoon. Thank you. My first question actually partly was already answered. It was about the new brands, but there's one point left, which I would like to point again, which is Afound. Since this is such a huge market, the off-price market and so on, I was wondering how Afound actually started and when or if you would go international with it.
It started well, but as always, when we launch a brand, it's been the same for H&M that was long ago in 1947, but COS and & Other Stories and so on, you learn a lot, tweak it, and then improve, and then when we feel ready, we will expand. The same with Afound. We have a lot of good receipts. We are, fine-tuning maybe is not the right word, but improving it and preparing for expansion. So we will definitely expand with Afound. Germany is one of the markets that we're looking at.
Can you give a year on that? Is that going to be the case this year?
Sorry, we don't want to communicate on exact timing yet on when we will go abroad with Afound.
Okay. All right. The second one would be a big part of the business in fashion retail today takes place in marketplaces, on marketplaces and platforms. I think your business in China, your growth in China shows the impact of Tmall. When can we expect H&M going on a marketplace such as Amazon and Zalando and other big marketplaces?
We have evaluated all the marketplaces that are out there in all markets, just to see if there is a good fit between the brands we have and the marketplaces, and if it makes sense for us long-term to be on any of those marketplaces. Financial short-term, it makes a good sense to go on a lot of the marketplaces because it will boost the selling and profits, but we always do what's best for the company in the long term. We have certain criteria that we look at for the different brands if we are to go on the marketplace. Right now for the H&M brand, the only one that we are on is Tmall because it fits those criteria. We are evaluating, we are looking.
Okay. All right. Thank you.
They can, sir, but it's all I can give now.
All right. Thank you.
Sorry. Thank you.
For the smaller brands, we already own some other platforms, as you know.
I know. I was just wondering whether you have plans with.
Yeah
main brand. Okay. All right. Thank you.
Thank you.
Thank you. Your next question's coming from the line of Karl Reschreiter from UniCredit Bank. Please go ahead. Karl Reschreiter , your line is now open. Please go ahead.
Good afternoon. Can you hear me?
Yeah. Can hear you.
Yes. I have two questions regarding the segment reporting of your group. The first one is, what about the profitability of the online segment? The second one is, how will the like-for-like development of sales will be in the store segment?
When it comes to the online segment profitability, we choose not to go down in detail on that. As we mentioned earlier, the channels are getting more and more integrated. It's very difficult to say exactly what's online and what's in stores. What we can say is that profitability as for the whole group, has gone down in both channels. We see in the fourth quarter, the underlying business is improving, but we have a lot of costs connected to the ramp-up of the logistic systems and the online transition, which is affecting profitability in both channels. We have the free shipping, free returns on the online as well, affecting the online a little bit more, in the short term as well.
When it comes to like-for-like development, as we said earlier, it's not something we comment on, but we have seen a gradual improvement throughout the year.
One question more, please. What's the amount of the off-balance liabilities at the end of the last year at the balance sheet date?
We don't have that yet here, but that will be disclosed in the annual report. We haven't finished the annual report at the moment, so I don't have the figure for the off-balance sheet.
There would be no material differences from last year.
Okay. Thank you very much.
Thank you.
Thank you. Your next question's coming from the line of Pirkko Tammilehto from Kauppalehti . Please go ahead.
Good afternoon. Thank you for taking my question. I was just wondering how are you prepared for Brexit?
We are prepared for Brexit. Almost at breakfast, but Brexit, we're looking at different scenarios. Obviously, there's a lot of uncertainty. We'll see how it goes, but we have contingency plans in place. We believe if it happens, the main things will be how it affects the product flows, import duties, and also maybe some delays in the product flows as well. We're looking at all the different things that will be affected, and we have plans in place.
Thank you.
Thank you.
Thank you. Your next question's coming from the line of Andrew Hughes from UBS. Please go ahead.
Yes, good afternoon, everybody.
Hello.
Yeah, can you hear me?
Yes.
Yeah. Can we just go back to the fourth quarter gross margin? If we take out the markdown movement and the special factors you mentioned, your underlying gross margin was down about 100 basis points, and that was with a benefit from external factors. Should we expect that underlying gross margin, should it actually deteriorate as we go into next year as the external factors move against you? That's the first question.
As always, Andy, there are a lot of different moving parts in the gross margin. You're right, we go from environment or time when we had some help from especially currency and now it's turning against us. All things equal, of course, it puts more pressure. For us, the most important is always the customer experience, that's number 1. Then, of course, we need to mitigate what we can and to improve. Then we have the reductions, as we mentioned, that hopefully will offset some of the other negative parts.
Right. Okay.
Yeah.
In terms of your comments on the composition of inventory being better, it looks like you've got about four and a half months of inventory. How can you say the composition is better because you're having to make a guess about what will be selling well in four or five months time? Is that quite difficult to do there?
We're not at levels where we want to see further improvements, but the sequential development from the third quarter to the fourth quarter to what we believe will be the case and by the end of the first quarter this year, we are improving, and the composition is improving. There are different parts in the composition, of course. It's new, current seasonal garments. We have garments seasonless, so to say, then we have older garments. It's mainly the older garments with lower value that has come down, and we are improving. It's a better composition in terms of stock freshness.
Okay.
Reductions are coming down as well in the fourth quarter and first quarter.
Yeah.
Which is a sign in itself.
Just finally, to clarify on depreciation, I think you said it would be up at the same rate in FY 2019, so it was up 14% last year. We assume another 14% increase.
That's our best estimate for now. As I mentioned, the capital expenditure depreciations will increase in 2019. As I said, they were around SEK 500 million during 2018, and our best estimation is that they will end up being SEK 800 something million on a yearly basis. There shouldn't be any major other increases. We also looked into any write-downs of inventories. At the moment, we don't see any major impact compared to 2018 in those items as well.
Okay. I suppose one last thing while I'm on, in terms of last year, you certainly thought about a scrip dividend, and it didn't happen. Did you think about it again? Or sort of comfortable with your level of debt and you don't think you need to go down that route?
We can't comment on that. This is the recommendation from the board. We are happy with that. We think it's good. We are in a good situation. We can do the necessary investments. Underlying core of the business, it's going in the right direction. We're confident.
Yeah. Okay. All right. Thanks very much.
Thank you.
Thank you. Your next question is coming from the line of Szilvia Bor, Credit Suisse. Please go ahead.
Good afternoon, gentlemen. Thank you for taking my questions. Two questions from me, please. Firstly, on credit sales, how much of sales is now driven by credit sales, and how do you expect this to change in the medium term? If you could comment on that would be useful. Secondly, online delivery terms. You mentioned that your overall online customer fulfillment is improving with shorter delivery times, and you also mentioned that some of your competitors are now introducing tighter delivery terms, i.e., more expensive online services to protect margins. My question is relating to how far do you think you will have to go competing on online service levels, and when do you think that you might need to start reversing some of the rather generous delivery terms to protect margins? Thank you very much.
Regarding the credit sales, I don't know. I don't have the figure.
No, it's not something we comment on, but it is something that customers appreciate. We have invested in Klarna, and we are developing an app so customers will be able to use credit in stores and online in a simple way. This is something we are developing.
Yeah. When it comes to delivery terms, obviously something very important. It's something that we want to continue to improve. We are improving quicker standard deliveries, and that will be further helped by the new centers we're building. We are introducing more countries with next-day deliveries. We're trying out same-day deliveries in some markets. Time slot deliveries we have in a number of markets, rolling out in more as well. That will be a very important part of the total customer offering. The free shipping, free return is part of that as well. As we've said before, when it comes to the products, and this is part of the customer offering, we want to make sure that we have the best customer offering of all competitors, and we will also monitor what the competitors are doing. It depends a lot on that as well.
Right. Understood. Thank you very much.
Thank you.
Thank you. Your next question is coming from the line of Chiara Battistini, JPMorgan . Please go ahead.
Hello. Thank you. Sorry, just one follow-up question on your supply chain. Could you please expand on the initiatives you're putting in place there? You mentioned that the lead times are going down. Could you please remind us of what the length of the lead times now are today versus a year ago, please? Thank you.
The improvements to the supply chain, we have quite a lot of initiatives connected to that. Again, we're building new logistics centers around the world for the online, for stores, omni warehouses. Optimization of warehouses is improving the supply chain as well. The AI initiatives to be even more precise in allocation and quantification is part of that as well. Using 3D in technique is helping the lead times. Differentiating the buying processes depending on what product it is will make us even more precise in lead times as well. All in all, lead times are coming down. I don't think the most important part is not the average lead time. The most important part is that we can be super quick when we want to be quick, and when we want to buy more in advance for better in prices, for example, we can do that.
It's constantly a balance.
Thank you. Maybe when you say, when we want to be quick, we can be quick, how quick can that be? Are we talking a couple of weeks, a few weeks, a month?
A couple of weeks. It depends on what market, what type of product we're talking about, and what quantities we're talking about as well. If we want to test something in small quantities and scale up when we see it's selling, that's one type of way that we want to buy. We are constantly improving in this as well, in that we are differentiating different parts of the assortment.
Thanks a lot.
Thank you.
Thank you. Your next question's coming from the line of Dana Telsey, Telsey Advisory Group. Please go ahead.
Hello, everyone.
Hi.
As you think about the performance in the fourth quarter so far in your real estate portfolio, how are you thinking about the U.S. real estate, whether by the potential for store closures, lease adjustments, or even taking a look at the other ancillary concepts and keeping them, not keeping them? How do you think about it? Thank you.
Sorry, I'm not sure I follow. What was the last part of that question? If we think about the other concepts?
Yes. Do you close those stores? Do you keep them open? What would be the appropriate number of stores in the U.S.?
U.S., it's a huge market. We still see growth opportunities in the U.S. for all brands. We're still opening stores in the U.S., it's also a market, probably the market that is going through the biggest change at the moment with too many shopping centers around. Maybe too many physical stores. A lot of things are happening in the U.S. market, where I think we will see a lot of closures. We really need, as well as opening stores, we really need to be active with optimizing the portfolio that we have. It's one of the markets where we will be most active when it comes to optimizing the portfolio, in that we will rebuild a lot of stores. We will also renegotiate a lot of leases. We will close some stores in the U.S. and move some stores.
It's a market that's going through a big transformation. When it comes to the new brands, we will continue to see U.S. as an important market for those brands as well. It's a big step going into the U.S. market, if you take ARKET Afound, Monki Weekday, they are not present there. We really need to be well prepared when we enter the U.S. market.
Thank you.
Thank you.
Thank you. Your next question's coming from the line of Adam Cochrane from Citi. Please go ahead.
Hey, so a quick follow-up that a few people have asked me. When you look at the price investments that you made over the course of last year, I know you don't want to quantify them, but would you be able to sort of identify when they started, and will they annualize in Q1, Q2, Q3? As we've got the pressure from FX instead of being a sort of tailwind moving into a headwind, when do you think that the current price investments that you've made would annualize, please?
We've made a gradual investment throughout the year, so more towards the second half of the year. When we make investments, if we make investments, we of course, look at the gross margin forecast, looking at external factors, looking at estimates for reductions, looking at other factors influencing the gross margin as well. We don't want to quantify what the exact effect is on the gross margin from those particular investments for 2019. Looking at the year behind us, more investments towards the second half.
You have to look at market by market, Adam.
That's great. One other bit is, in terms of your total logistical changes that you've done in the business, how far through that process do you think you are as it stands today?
For the logistical changes?
For your new distribution centers. The global distribution platform as you see it, how far along the journey do you think you are?
Okay. When it comes to online, the new platform we've done now with Germany, so that's great. When it comes to the rest, and then mainly hitting the stores, we're more or less halfway through from a turnover base.
As we continue to grow, and integrate the channels, enter new markets and so on, expand with new brands, we will continue to build new logistics centers. We haven't really an end goal in mind. The business will continue to evolve.
That's great. Thank you.
Thank you.
Thank you. Your next question's coming from the line of Andreas Inderst from Macquarie. Please go ahead.
Hello, everyone. I have a few questions.
Hi.
The first one on the slowdown in December and January versus Q4 2018, what were the reasons behind that? You mentioned one reason, Germany, but maybe you can elaborate a bit more. Maybe related to that, you have an ambition to reach 10%-15% growth again in the longer term. What is the timeline for that? That's maybe my first question. The second one, related to your comment that you expect 2019 profit growth, EBIT growth. Is it on an adjusted EBIT basis, given you had over SEK 500 million one-off costs, or is that on a reported basis? My final question is just a clarification on your comment on one percentage unit reduction in markdowns. Are you guiding a 100 basis points improvement in the gross margin from markdowns? Or what exactly do you mean with 1% unit reduction in markdowns? Thank you.
Okay. If we look at the start of the year, December and January, 4% in local currencies. We have to look at, on the positive side, we have the Chinese New Year affecting sales positively in several markets in January. On the negative side, we have the transition of Germany, their own online store, which has affected the sales negatively by quite a bit for the online part in Germany. We also have more full price sales, less markdowns. We have bought more cautiously, so we have a higher stock turn on the new products, new seasons that we are buying. The 10%-15% growth target is a long-term ambition. What we have said for the year is that we want to see improvements, and we believe we will see improvements compared to 2018. That goes for EBIT as well.
On a reported basis, we believe we will see improvements compared to 2019. When it comes to the one percentage unit, how that will affect the gross margin, we don't want to go into those details, but it's that reductions as an isolated part we estimate will be 100 basis points below last year.
As a share of sales?
As a share of sales, yeah.
Okay. Thank you.
Thank you. There are no further questions at this time. As a reminder, it is star and one if you wish to ask a question.
Okay. Thank you all very much for participating in this conference call. We wish you all a good day. Thank you.
That does conclude our conference for today. Thank you for participating. You may all disconnect.