Earnings Call: Q2 2015

Jul 16, 2015

Hello and welcome to SCA Second Quarter Report for 2015. My name is Josephine Edwell. I'm Head of Communications for SCA. And today, we have our CEO and President, Magnus Grot, who together with the CFO, Frederic Rystedt, will go through the highlights of the report. And afterward, we will, as usual, have a Q and A session. So with that, I hand over to you, Magnus. Thank you very much, Josefin. This presentation, we will make in 3 parts. I will start with an overview of the quarter. Fredrik will dig more into the financials. And then I will come back to talk about the markets and the categories more specifically. But starting then with the overall development. We continue to see good organic growth and operating profit, especially strong growth in the emerging markets just as in the Q1, resulting in a strong cash flow. We continue to innovate. And the Q2, we launched 10 new products. I'll get back to that in a while. And during the quarter, we were also able to increase prices in Central Europe in tissue. This is a price increase that will then have effect gradually in the Q3 with full effect in the Q4, so a gradual effect of this. But I know that is something that we discussed in the Q1 review. During the quarter, we also decided to invest a production facility in Brazil. And our inclusion in the FTSE good index has been reconfirmed. And this means that we get very, very high rankings when it comes to environmental, social and but overall a positive development as he already mentioned in sales profit and margin as well as cash flow. And this reconfirms our focus on 3 strategic priorities: profitable growth, innovation and efficiency. And then talking specifically about profitable growth, we have taken the decision to invest in Brazil approximately SEK 650,000,000. The production is planned to start second half of next year. And the reason for this is that we are taking the next step after an acquisition in 2011 when we acquired a campaign that had a 10% market share in incontinence care products and approximately 4% market share in baby products. Since then, we have grown the incontinence market share to 23%. So a very, very positive development. And a large part of this growth, we have outgrown the current facility and we are importing a large part of these volumes now to Brazil with very high duty costs and import costs. So now is the right time to invest in a local facility. And Brazil is very, very attractive. It's almost 200,000,000 employees. It's the world's 3rd largest incontinence retail market for incontinence products and it's still growing at a high pace. So this is a strategic investment that we feel very good about. And then through 2017, we will see the benefits also on our profits when we have a much, much lower cost for our incontinence care business in Brazil. But during the last quarter, we did not only speak about growing in the emerging markets, we also spoke about fewer but bigger bets. So the markets that we're really focused in, we will invest in for the long term. Brazil is one of them. China, India and Russia are 3 other focused markets. At the same time, we are reviewing some smaller positions with a criteria that's very straightforward. Do we believe that we can have a number 1 or number 2 position? And do we believe that we can have the best profitability and development in those markets? And based on those criteria, we have decided at the same time as this investment to step out of the Baby Diapers business in Brazil because that market position was based on a value proposition and a very, very small market share. And based on the same logic, we've also changed our go to market model in Thailand from having our own sales force in the country to now changing that to an export model from Malaysia. And going forward, we are looking at similar simplifications of our emerging market positions that we have today. With that, I'd like to hand over to Felix for the financials. Thank you, Magnus. I will just give you a brief overview. And as you have seen, we grew our sales by 13%. And of course, included in that number is a big contribution with 8% from currency translation. This is of course a weaker Swedish krona in more general terms, but also particularly a stronger British pound and U. S. Dollar. So that, of course, increased sales quite a But we have also achieved price increases. And predominantly as we have talked about before, we've done that in Latin America. We've done that in Russia and Eastern Europe. And we've also had impacts from price increases in our away from home tissue business in Europe. And as you can also see, volume continue to be in existing in all of our different business areas, so a good continuation. And if you look at a little bit of a longer term perspective, you can clearly see that the first half now has first half of twenty fifteen has picked up a little bit in terms of growth. And one of the things here is that volume has been there this quarter. It was also there last quarter, so in all business areas. But we and most of that comes from new innovations like Baby in Europe, for instance. And we also have good contribution from Vinda. So in this quarter alone, the contribution from Vinda is approximately 1%. We have a strong contribution from price. So we have raised prices and that has an impact on the growth level of the group this year. And of course, as Magnus talked about, we have achieved also other price increases that will gradually be there in the rest of this year or towards the latter part of this year. If we take a look at the operating profit, it has grown by, as you can see, 10%, so a good growth. And that includes 2 items here, of course, currency translation, once again Swedish krona and British pound primarily. But we also have an adverse impact from forest swaps. You may recall that as of 1st January of 2015, we no longer take profit or gains from profit swaps into our income statement. So of course for Q2 of 2015, there is no profit contribution from forest swaps, Whilst in Q2 of 2014, we had €175,000,000 and that's part of the other bar that you see on this line. If you take away the currency and the forest gain from foreign swaps, those 2, the organic or underlying comparable growth was 9% in the quarter. And of course, most notably here, €435,000,000 negative impact from raw material, most of this coming from the tissue operation. So if you recall from Q1, we had a negative a very significant negative impact both in Personal Care and Tissue. We still have that in Personal Care. So roughly 8 percent of the profit is gone due to raw material. But in tissue, it's much more significant, so approximately 22% of last year's profit. So most of this raw material is in tissue. We're quite pleased to note that the component price and mix is bigger, as you can see here, close to SEK 500,000,000. So that is again coming from Latin America and Russia and away from home, etcetera. And as I said, volume contribution has been there from all the different business areas. Just a few comments on the other. I already mentioned that part of this SEK 175,000,000 of these SEK 240,000,000 that you see relates to the gains from forest swaps. But there is also another part, which comes from a wide number of different things. Actually, we have a positive part, which is savings, efficiency gains. And we have, in the quarter, had levels of savings approximately equal to that of last year. So we continue to actually become more and more efficient. But we also have higher A and P. We also have higher SG and A costs as for the group as a whole and of course normal parts such as inflation, Worth noting, however, is that A and P and SG and A as a percentage of sales are not increasing. So it's just a normal continuation of the business, so to speak. Finally, a couple of words on the cash flow. If you look at the operating cash flow, including all investments, so strategic and continuous ordinary capital expenditure, our cash flow increased by 55%. And looking at the different components, working capital is performing better than it did last year. So we have good performance in many parts of the group, whilst CapEx for the first half of this year is roughly on the same level. So the big swing between last year and this year is largely due to the operating cash surplus. And if you look at the number, it's actually a much bigger swing than what you would see for EBIT. And the reason is very simply that once again the Forrester gains from Forrester is not a cash flow item. So the underlying cash flow impact is much bigger. And the other part is pretty much about the same size is increased depreciation this year. So that's why the cash operating cash surplus improvement is much bigger than what you would see for EBIT. And with those words, Magnus? Thank you, Fredrik. Then we'll dig into the 3 business areas in some more detail. And I'm very happy to once again be able to state that better pricemix, better volumes and cost savings actually apply to all our three business areas. So it's a recurring theme. And when it comes to Personal Care, actually those three improvements have made it possible for us to keep the operating margin at 11 point 3% in spite of the significant raw material headwinds that we had also in this quarter. In Personal Care, we have a negative effect on the fluff pulp from currency mostly and a positive effect from the oil based materials. But the positive effect doesn't outweigh the negative effect in fluff pulp. And that negative impact on the margin was approximately 80 basis points. So it's a significant negative impact and that we covered then through pricemix volumes and cost savings. Looking specifically into the markets and the subcategories, again, we have a very good organic sales growth in the emerging markets. And looking at the categories, especially Feminine Care, shows a very, very positive development. In the mature markets, we continue to see a very strong growth in babies. This is in Europe, where we are now finally delivering the entire large retail brand contract that we won almost a year ago. And we also have the market share gains for Libro, both in the Nordic market and in Russia. In Feminine Care, we put in place a boost plan 2 years ago, which is paying off in higher market shares in most European countries. In North America, we had lower sales for incontinence products compared to a year ago because of the strong competition in the retail arena and also slow development in Healthcare. However, if you look at this sequentially, quarter 2 compared to quarter 1 this year, we're actually seeing leveling off here and some light in the tunnel. So that the incontinence products market or performance for us is I think gradually improving now also in North America. Emerging markets, Latin America, we have record high market shares in almost all Latin American countries where we are present in Feminine Care and in Continence Care. And we also have higher sales for baby diapers, even though that entirely comes from price mix, so no volume improvement. But because of the continuing depreciation of most Latin American currencies, we have increased prices across the line, not only in Baby, but in all our categories. And in Russia, a very, very strong growth, which to a high extent again is price increases, but also an underlying volume growth actually. And the innovations during the quarter in Personal Care are all in incontinence care. This is not a coincidence. We have been working very, very hard to upgrade our entire incontinence care portfolio over the years and also preparing for the increased competition from Procter and Gamble in the retail category. So all our innovations that we're launching now are focused on incontinence care and many of them also on lighting incontinence, so specifically for the retail market. So I'm very happy to see that the decisions that we made 2 years ago are actually coming hitting the market now with hopefully then a good success going forward over the next number of years. Moving over to tissue. Again, we had a good organic sales growth of 4%. But in this case, the improvements in price mix, volumes and cost savings couldn't offset the raw material price impact, which is much, much bigger in Tissue than in Personal Care. So here we see a decrease in the operating margin from 13% or 11.8% to 11 0.3%. But behind this is actually 320 basis points of negative impact from raw materials. So most of that we compensated for, but not entirely. So again, I think a good performance. And behind this is comes now also going forward and gradually the price increases that we put in place in Central Europe here during the quarter. Having a look at the markets. Very strong growth in emerging markets, primarily Vinda, but also Latin America and more specifically Mexico and a higher growth in consumer tissue than in away from home tissue during the market. And looking then at Western Europe, we had flat sales and this is partly driven by the fact that we've been in tough negotiations with the retailers during the quarter. And what this means is typically that the retail immediately stops all promotions of your products during those negotiations. Tissue in Europe, we have some one it comes to away from home tissue in Europe, we have some one time effects because during the first and second quarter last year, we still had some supply agreements remaining from the remedies that we were forced to do when we acquired GP's European business. If you remember in 2012, we had to divest certain assets and contracts that we were still delivering under some of those contracts the Q2 last year. But this has now been discontinued according to the agreement with the competition authorities in Europe. So it's a little bit of a onetime effect. We are not losing any market shares in Europe in Away From Home. In North America, we continue to see a recovery in Away From Home Tissue. We had very strong sales in the Q2 and a good momentum going forward. And in the emerging markets, as I already mentioned, behind this, we see very much Vinda in China and Latin America. The innovations, it's a mix of things and I actually have some of them here behind me. And looking specifically at the Torque cleaning cloths, you could argue that what can you do with a piece of cloth. But I think what differentiates us from our competitors here is that we have the size, the scale to really come with innovation that has a noticeable and tangible payoff for and benefit for the user. So as you can see here, we can prove that this new product is this one over here, our new industrial cleaning cloth, requires 32% less time for cleaning a certain surface than other products. It uses 40% less solvents, so it also has a positive environmental impact. And it uses 20% less effort, which is very important for the people who are using these products in Buy more torque. It's a great example of the type of innovation that I'll put it this way. My more torque, it's a great brand. And the new Plenty Easy Clean Wipes, I think, is another good example. We tend to think about the kitchen roll as something we use for cleaning in the kitchen, but we're extending this category first to kind of household towels and now to what we define as household tools, so a tool that you can use for many cleaning applications throughout your household. And we also have an example behind here that you can look at later. Finally, Forest Products continued to have a very strong performance both in terms of sales and operating profit. The operating profit is very much driven by the strong dollar, which is benefiting our Forest Products division since we are producing these products in Sweden, especially kraftliner and pulp see increasing demand and a good price picture, while sawn timber during the quarter experienced slightly declining prices. And overall, again, a good performance in Forest Products. I just want to briefly say something about our 3 year marketing platform, Volvo Ocean Race, which finished in Gothenburg a few weeks ago. We see it as a global marketing platform with a focus on women and with a strong connection to sustainability and CSR issues. We are still summing up the output or result from this project, but we can already see that we are exceeding all the targets that we set at the beginning of this product project. So that the FCA brand is now much stronger connected to our product brands. We have met 100 of thousands of consumers talking to them, teaching them about our products, but also the company SGA and vice versa, SGA learning from these consumers and customers and with an impressive media value that we are still looking at. But of course, having the Crown Princess of Sweden visiting us and sailing with the boat twice, both in Portugal and Gothenburg, she's the godmother of the boat. It has a very positive impact on this project and also on FCA. And to sum up then, a very similar summary to what we showed at the Q1. Good growth in sales and profit, strong growth in emerging markets, strong cash flow. When it comes to the global environment, this is the same as we showed at the Q1. We continue to see low growth in mature markets and good growth in emerging markets. We will have currency headwinds due to the stronger U. S. Dollar also going forward. And the market remains very, very competitive going forward, but no change. Thank you very much for listening. Time for some questions. So with this, we open up for question and answers. Yes, first question here. Hi, it's Stadon Helfstrom with Nordea. Yes, first I was wanted to ask about tissue and the price increases that you carried out in Consumer Tissue. If you could give any help in understanding how much you've been able to raise prices? And also maybe if you can comment what you see competitors are doing to offset raw material prices? First of all, it's not possible to completely in one go offset the huge currency headwinds that we have especially in Europe during this year. So we can offset part of it to give you some indication. We also know that the retail environment in Europe is highly competitive, so that it's tough negotiation compensates to the extent that we had expected. But I can't give any specific percentage numbers on that. And overall on competitor pricing maybe also categories what you see and how they are acting? When it comes to consumer tissue specifically, we are seeing increasing prices across the board. In emerging markets, markets with highly fluctuating currencies like Russia, Ukraine, Latin America. There is I think all competitors are adjusting prices according to the currency development. So everybody is doing the same. Europe is a bit special because of the market leader in tissue. So it's our role really to set the price levels. Very good. Then I also a question on incontinence care and what you see there in terms of competitive developments, particularly with regards to Procter and Gamble. Have you seen different patterns of their approach recently, particularly maybe also referring to the new marks that they've entered? No, not really. I think the message is the same as after the Q1. They have achieved close to 10% in some markets, but not above 10%, which is very important from our perspective because if you're not around 20% or the number 2 1 or 2 active, then it's tougher to be on the shelf in a retail environment. No big changes in pricing or product strategy actually that I can see from Procter's side. And Germany, do you see anything? No specific changes, no. All right. Just a final one also, if you can give any comment on what you expect or what we can expect in terms of any acquisitions to add to your product portfolio if you're actively looking? Yes. As we stated many times, we don't speculate in that. We are as active as we have been over the last number of years in looking at different prospects. But in the difficulty with acquisitions. You never know if or when acquisitions happen. All right. Thanks. So any more questions from the room? No? Okay. Then let's open up for the from the telephone. So operator, please start with the first question. Certainly. The first question comes from the line of Celine Panotti from JPMorgan. Please go ahead. Yes. Good morning. I have in fact a series of few questions. I hope you'll allow me. But first of all, just to rebound on that question on pricing, You said that you cannot offset all of this year, all of the pricing in tissue. But over time, like I say, over the next 12 to 18 months, would it be fair to us to think that the level of pricing will be able to affect all of the pressure you've seen? We will have to pull all levers that we have. We have to continue to increase prices. We have to continue to cut costs, improve our product mix. So we will work in all those areas. I can't be more specific than that. Okay. Then my second question is on raw material cost. If you could give us a bit of an outlook for what we should be expecting incrementally in the second in the Q3, whether we should be expecting Personal Care maybe to see some tailwind already and in tissue as well, if you could give us an update? Frederic? Yes, I can hi, Celine. I can start with that. If you look at Personal Care this quarter, as we have elaborated on, we have a positive impact from oil related products. So plastics has come down and therefore, SSA or sappent, nonwoven, etcetera. What has actually taken place in the last couple of months is that the plastics indices has once again started to increase. This is not due to oil. This has to do with the demands or supply demand balance. So there are not many producers of these materials. And we are therefore expecting higher prices than we have seen now. So from that perspective, the oil based products is actually at its lowest here in Q2 and will rise in Q3 and Q4. So now you've seen €435,000,000 We're not giving any specific guidance, but of course that benefit we've seen from oil is not going to be there. If you look at the general picture, these $435,000,000 all of that adverse impact comes from currency, in fact more than 100%. And if you look at the currency movement or the dollar rate as you saw it in Q3 of last year, it was still a high level or the euro was still euro dollar was still at a high level. So the dollar strengthening appeared predominantly in the Q4. So the Q3 in total, Q3 raw material will be pretty much, of course, high as you have seen throughout this year and perhaps more adverse or likely to be more adverse for Personal Care than what you've seen in the Q2. Okay. And for tissue? Yes. As I said, Celine, all of the tissue increase of raw material has to do with the dollar rate. And of course, we don't know the average dollar rate for Q3. But if it looks like it does right now, then it will be roughly similar to what you've seen during this quarter Q2, about the same. Okay. If you allow me, I have a few follow-up. The in fact, Frederic, in your allocation, you mentioned that the savings you've done in the quarter were the same level as quarter last year. Can you so last year, I think absolute incremental savings were up SEK 500,000,000. Is that a number we should be relating to? Is that what you're saying? No. That's we're not providing as of this year, we're not specifically providing numbers relating to efficiency savings Celine. And the reason we're not doing that is that the important thing is not what we achieve on specific activities or programs. The importance is the total cost development of the group. That's why we're not doing that. But the €500,000,000 number that you have, I think it's more the sequential or maybe annualized impact. But in reality, the actual savings was significantly lower than that. So we have set the ambition for this year that we will continue to become increasingly productive to the about the same level as we saw last year. And it's not it was not €500,000,000 last year. It was much less than that. But it's keeping up a good pace. The diapers. Incontinence but exiting diapers. Incontinence seems to be quite a strong category in Brazil, but what is your view on the diapers category as a whole? Was it just that the portfolio you had was challenged because of its position, but are you still looking at the diaper category in Brazil as an interesting one? One of the reasons why we're leaving Brazil in diapers is what I already mentioned, we only have a 4% market share and we have a value proposition. Also the machines we have are quite outdated. And when we move to the new facility, we will not invest in new baby machines. So I don't see that we will come back in baby in Brazil. However, there will be room in the new facility to expand into other categories, and we will review that over the next year to what extent we will expand in 1 or 2 other categories, but not baby. So the baby category in Brazil is not of interest to you? No. Okay. Thank you. Okay. Operator, second question. Yeah. Second question comes from the line of Oskar Lindstrom from Danske Bank. Please go ahead. Yes. Good afternoon. Two questions. First one regarding organic growth. This was a strong 5% in Q2 and on the back of the 6% you had in Q1. This is at the higher end of your growth targets and certainly higher than you had for many of the previous quarters. So my questions are really 2. First of all, do you see any need to raise your organic growth targets, And the second question would be to what And the second question would be to what extent is the organic growth impacted by devaluation of local currencies? Because I suppose a lot of this organic growth is coming from price increases in local currencies to compensate for devaluation of those currencies? Or am I misunderstanding the logic here? I will take the first simple question and leave the second difficult question to Fredrik. The first question is that no, it's too early to change our targets. I think we're very happy to hit our targets for a few quarters. And we have a very good momentum also going forward. If I remember the indications we gave last quarter was that we expect to see a higher growth than last year, but not at the same pace as we had in the Q1. And I guess that gives you a little bit of a range exactly where we end up, I think, is yet to be seen. Then over to the tricky question, Fredrik. Yes. It you're absolutely right. And you have seen now, of course, both in Q1 and Q2 that we've had a positive pricemix and of course, more price than mix in these quarters perhaps. And of course that has to do with exactly what you said. And I also showed the long term trends before that we have had price increases contributing to a higher net sales growth. So of course, that's clearly helping. And we've done those price increases throughout the last, you can say, 3 quarters or something like that. Russia, we started predominantly in Q4 and Latin America the same. So a part of the growth component that you see or part of the growth is, of course, related to exactly what you're talking about. But there is If I may Yes, please. If I may come with 2 follow-up questions. First of all, to the easy question, you had 6% in Q1, 5 percent now in Q2. Should we expect this to sort of slowly come down somewhat during the second half of the year? I think I already gave an indication in the range, so I can't be more specific in that. Okay. Sorry. It was worth trying. And the second more difficult question, I mean, if we had if we exclude if we had done sort of organic growth in constant FX rates, can you give an indication of sort of what level would the 5% that we saw now in Q2 have been? Is that possible? Yes. Of course, you can always do that. But what I think if I just may before I answer that question just come back to the first and the second and now before it was 6, now it's 5. Does that mean a falling trend? I just want to highlight a thing you may remember in that Q1 was of course in that sense impacted by 2 favorable comparables. One was the winter, very cold winter in 2014 on the U. S. Away from home market. And the second was related to a distributor change that we undertook in Italy and that contributed to approximately about 1% or something like that. So from that sense, Q1 and Q2 are very similar as Magnus alluded to before. Then to your second question, can you take away? Yes, of course, you can always and we are aware of the price and the mix and all the other components. But it's not really a very I don't think it's a very good analysis to do at its full because sometimes we have much more mix depending on the innovation pace and sometimes we have price increases. And so I think, of course, what counts overall in the end is the margin. But there is a price component. And of course, that means that if you take away price, then clearly you can see here that most of that price factor that you saw on net sales, of course, most of that relates to price this time. And therefore, you could see the underlying in some sort of way, not all of it, but most of it. And my final question, more on strategy. You mentioned, I mean, in this report and you mentioned before that you want to sort of focus more on fewer emerging markets and certainly you acted in that direction. And something else that you've said is that you are, I don't know, interested in or considering entering into new adjacent, I assume, product categories on retail side. Can you maybe give an update on your thinking on that? Has that sort of become more interesting or less interesting compared to 6 months ago say? There's nothing new really. In markets where we have a very, very strong market position either business to business or business to consumer. So a strong go to market setup and already number 1 and number 2 positions. Yes, we could consider adding new categories because that would be then a synergy, of course. It's part of our longer term outlook. And there's nothing specific and nothing really new. What we are pushing more and more quarter over quarter is, for instance, wet wipes and soap, which I think we mentioned many times because these are 2 fast growing adjacent categories where we are already present, but we are under trading. So if every bathroom, for instance, that used Torque products, hand towels also had Torque soap in the bathroom, That would be a huge potential for us. And the same thing with wipes. And I think the tent easy pull that I showed here and we have here also behind us is another example where we can grow in adjacencies to existing categories and also organically. All right. Thank you. Those were my questions. So the final question from the telephone. I understand it's one more final. Ladies and gentlemen, yes, next question comes from the line of Sophie Qiu from Credit Suisse. Please go ahead. Hi, management. This is Sophie. I have one question. So just wondering your subsidiary Vinda, I wonder would you consider to maybe perhaps give them the production because right now as far as I understand that most of the products, the SA brands in China still produced overseas, I mean outside China. So would you consider that? Also in terms of procurement, would you share the procurement with Vinda? That's my question. Thank you. First question, actually well over 95% of the products sold by Vinda are made by Vinda. There are a few products, Personal Care products and also the Tempo Hankys that are still imported. But gradually, they are building their own production capacity also for those today smaller parts of Vinda. And the reason why they're building this production capacity is that we are expecting these categories to grow, of course, going forward and become a bigger part of Vinda sales. But it's a very, very small part of Vinda sales that they don't produce today. So that was the first question. And the second question? Procurement. Procurement. We are looking at cooperating more closely with Vinda in many different areas and procurement is definitely one of them. But we're also working more and more closely together when it comes to financing, innovation, product development, many different areas, go to market and so on. Got it. Thank you. Okay. So I understand that was the last question. So any final remarks Magnus before we end this press conference? Well, the final remarks is that we continue to have a good momentum both top line and profit and cash wise. So we are satisfied with the development, and we are looking very much into the details of the business. We are continuing to talking about improving every day, and we see many, many areas where we can do even better than we're doing today. So keeping up the pace, keeping up the momentum going forward, that's our main focus. Thank you. Okay. Thank you for today and goodbye.