Earnings Call: Q2 2019

Aug 21, 2019

Good morning, everybody, and welcome to our second quarter interim report. It's a quarter where we delivered strong growth, strong growth in both sales, earnings and in cash flow. We came out with a revenue growth of 10%, driven by price and also increased sales of value added items. We increased the EBIT with 24%. The biggest contributor there were product mix improvements. 57% increase in earnings per share. We delivered a strong operating cash flow and 16% return on equity. If you are flipping page, we have a breakdown of the 10% top line growth, 6% being underlying revenue growth, driven by a strong performance both within the chilled ready to cook and also the ready to eat categories. There's two percentage points coming from the consolidation of the Rockdale Foods, this premium chicken company that we acquired in the second half of last year. And then there's a currency effect of 2%. Going on to Page five, the quarter where we came through with strong product mix. There was some volume growth in the quarter, but the main contributor came from improved mix, driven by increased branded sales. And all in all, the recent cost inflation has been compensated. We do also want to make you aware that there is reduced raw material prices anticipated by the end of the year. We had some OpEx increases, driven by additional marketing spend and also on some central projects and some general We had an impact from reduced depreciation, both coming from the alignment of the economic life of assets that we carried through towards the end of last year, and that is partly offset by investments that are over and above depreciation. Going on to Page six, we had a good development in our most profitable product categories, mainly being 10% growth in the chilled ready to cook area, mainly contributors there being improved product mix, more debone products. We have a good and solid barbecue season. You've seen some price impact from the raw material compensation impacting the growth in this category. Going to the ready to eat category, we delivered a 26% growth in this quarter. There's some volume increases both within the upgraded category, but also in the unrated categories of ready to eat products. We have seen a number of very successful introduction of new products, particularly in Scandinavia in this period. And all in all, we see very strong demand from this power plant that we expanded during the second half of last year. And we see a continuing decline in the relative share for less profitable segments like frozen and export. Going on to Page seven, we provide here a breakdown of the ready to eat category, which is increasingly positioning itself as a very important category for us. This chart to the left shows that we in 2015, this category represented 9% of the company. And now in the first half of the year, it represents 20%. It's all organic growth. A rapid growing market for convenient products, particularly convenient products with high quality. It's got a very good fit with the more modern lifestyles. And this is an area where we develop platforms for the future. As we see these categories will grow and become relatively more important over time. Part of that will be at the expense of some short term margins. Going on to Page eight, The sales channel breakdown shows a strong growth in retail and also in foodservice. The retail client category grew with 9% in the quarter, basically contribution from all geographical segments. And there's a solid mix between growth both in the high end, but also in discount retailers. Foodservice delivered a strong growth of 20% in the quarter, mainly coming from growth within the quick service restaurants category, but also through the strong innovation and the strengthened sales organization across the group. The less profitable segments, we see them diminishing in relative importance, primarily export sales. Going on to Page nine, we see earnings improvement in all countries. Just to give you an overview Sweden, significant improvements across the board. Denmark, earnings driven by strong top line. In Norway, we saw a quarter with best in class margins, again. Ireland being a combination of mix and operating improvement as the reasons behind the improvement in earnings there. And Finland, another quarter with improvements. And now we have the EBITDA margin at 4.4%. Going into the countries, the first one on Page 10, Sweden. It's another quarter of significant improvements, an 8% increase in net sales coming from favorable sales mix development and also some price increases that are compensating for the raw material increases. Adjusted EBIT increased with 50%, representing SEK14 million, particularly coming from a favorable development in our sales mix. And we do see incremental improvements during the second half of this year. Going on to Denmark, another quarter with exceptional growth, but also a growth that are coming with some growth pain. 20% revenue growth and an adjusted EBIT improvement of $3,000,000 As mentioned, we are undergoing some growth pain in terms of costs, and we saw a depreciation increase of $4,000,000 The continued positive development for the new brand, Danish Family Farms, are now growing with 57% versus the same quarter last year. We anticipate a lower quarter on quarter growth in the coming quarters. Going on to Norway. Another quarter of strong very strong performance, 7% revenue increase, particularly driven by increased sales within retail, very strong margins improved coming from improved product mix, but also with higher efficiency delivered primarily within operations. It's our most profitable geographical segment and really coming through some very successful investments that we made in Norway over a number of years, and we see some of the effects from that coming through and also a significant component of best practice transfer. And we have really strengthened our product offering also. Going on to Ireland. A quarter with some margin improvements, relatively stable revenues, and the margin improvement mainly coming from improved sales mix and also some efficiencies within operations. The relatively significant investments that we are conducting in 2019 is well underway to deliver better cost efficiency, so manual welfare and food safety improvements and also some debottlenecking. Going on to Page 14 on Finland. Another quarter with further improvements, 13% revenue growth and an EBITDA margin coming in, as mentioned, at 4.4%. That was delivered primarily through an improved product mix, both within branded products, but also other kind of value added products have been main contributors to that development. We have seen strong focus on further improvements in Finland, primarily within product mix, but also through the effect of quite a strong innovation pipeline, some further opportunities within improving manufacturing yields and also increasing our relative cost efficiency. With that, I would like to hand over to Julia, Julia Lagerfeldt, our new CFO. This is her first full quarter. Thank you, Lee. Very happy to be here. So coming back to the group income statement. As I said, we do report some strong revenue growth of 10% and set to 7% growth in EBITDA, giving us a margin of 7.8%. We have seen reduced depreciation related to the alignment across segment that we did for the economic life of our assets. This led us to a growth in adjusted EBIT of 24% and margin of 4.6%. We've had some nonrecurring items, as Luis mentioned, and then the layoffs in Denmark related to reorganization, 6,000,000 strict, and also closure of our history in Finland. This we have outsourced, and we have been taking the future rent cost and the sales of the nonrecurring items amounting to 7,000,000. The effective tax rate has been 22%, so in line with our guidance. And as mentioned, the EPS has increased to 57%. Moving on to Page 16 regarding our financial position. We have seen improved returns in this quarter. So the return on capital employed is now 10.4% and return on equity is 15.6%. This also gives us an equity ratio of 26.7%, which is an increase from last time of 25.4%. Just as I mentioned, our net interest income by net debt has increased by $455,000,000 due to the adjustment from leasing related to IFRS 16, as is in the numbers from 2018 and onwards. Going on to the next page, we have the working capital. We have seen, again, this quarter, a very low level of working capital. This is mainly driven by payables being increased with our sales, while we kept the receivables at the same level. This is also related to a favorable timing of the ending of the quarter two, ending on a Sunday for us. This giving us a working capital to sales ratio of 5.3%, which is the lowest one we've had in the last two years. Moving on to the cash flow, now on Page 18. As mentioned before, we had a strong operational cash flow this quarter, mainly driven by the improvement in EBITDA, but also a reduced capital expenditure versus last year. And the net cash flow per share is now 1.39, coming from a much lower level last year, only 0.236. And as I mentioned, the dividend payment we did in quarter two was SEK2 per share and amounting to total payment of SEK131 million. As a last slide for me, just a reminder of our cash flow guidance, there are no changes. The dividend policy is to be 60% of net income over time. As we have mentioned, it was SEK 2,000,000,000 this year. And last year, we paid SEK 1,800,000,000.0. The paid interest estimate is to be 3% to 3.5% of the average dividend and the blended effective tax rate should be around 20% to 21%. As I mentioned, the capital expenditure in this year is estimated to $380,000,000, mainly focusing on projects in Ireland. We also do have some contingent liabilities related to the acquisition of Mann Reform. As previously mentioned, this is to be paid in three earn out branches tranches in 2019 and 2021. This has been successful so far. We actually paid out in quarter three now the first tranche of 133,000,000. You can see the appendix for more detail. And that's it for me. So I hand back to Leif. All right. Thank you. Just to give you a little heads up on a very important component in the way we operate the business, our sustainability work under the heading The Scandi Way. And one of the things I want to draw your attention to this quarter is what we do within plastic packaging, where we have a target of that all plastic packaging we use by 2023 should be based on renewables from recycled materials. And already now from Q3, we are starting a transformation that all our plastic trays will be based on 100% recycled materials, and that will be implemented over the coming quarters. Going to the summary page of Q2. We saw a quarter with strong growth in revenues, strong growth in earnings and with a good cash flow. We saw another quarter where it's clear that our markets are driven by secular trends, really supporting poultry products. Safety convenient products is one of the main drivers, very attractive nutritional and health profile compared to alternatives. Sustainability becomes increasingly important for consumers choice, where chicken products comes out very high on that score. We see an attractive price to consumers compared to peers as another important component for the consumers increasingly choosing chicken. We have in this quarter continued to strengthen our market positions, thanks to a number of things, not least a very solid innovation portfolio and also further strengthening on our brands in different markets. So we do continue to have a positive market outlook and also want to remind you that we do follow structural opportunities very closely. So with that, heads up on Q2. We are happy to take any kind of questions. Thank you. We have our first question from Daniel Schmidt from Danske Bank. Daniel, your line is now open. Yes. Good morning, Leith and Julia. I just wanted to start asking about price realization and raw material. You said in the presentation that you anticipated reduced raw material prices by year end and you also talked about price hikes. I think you mentioned Sweden as a function of sort of neutralizing higher raw material prices. How should we view sort of how should we model this going forward? Are you going to be able to sustain your prices while at the same time we see raw material coming down that should be sort of beneficial for you in the second half of this year? And have you seen any benefits coming through in terms of price in Ireland? I think I'll start there. Yes. First of all, cost inflation that we have seen coming through in the second half of last year, as you referred to, we see that we have managed to all in all compensate for that, which is really thanks to this model about that raw material based cost inflation. We have a model and a relationship with our clients that means that we will pass those components through, which is a good contributor in terms of keeping a stable margin development in spite of raw material fluctuations that we will see from time to time. That's also why we don't anticipate that this effect on feed prices will have an impact on our earnings going forward, but more we want to draw your attention to the fact that there are changes anticipated within this deal. But is there any sort of lagging effects where you could see benefits over a short time period or vice versa? Could be. Yes. Okay. And on Ireland, where you've said that you were sort of lagging in terms of realizing prices, then you guided for price realization for the 2018 in connection with the Q1 report. Is that not maybe not necessary now to push through prices given what you're seeing in raw materials for the second half? No, we have been all in all cheap compensation for this well justified raw material inflation that we have experienced. So and that as you're saying, that's correct. That's for us longer in Ireland as this way of working is relatively new in an Irish context. But we we have landed this in a constructive manner and we are, let's say, focusing on a lot of other opportunities that we have. Okay. And then just looking at profitability overall, four out of five markets are improving their profitability and Denmark is only the it's basically the odd one out. And you're referring to growing pains. What should and you also said that growth will decelerate in the coming quarters in the presentation. Will that sort of help you improve your profitability going forward and also the layoffs that you're conducting? Or how should we view Denmark in the coming quarters profitability wise? No, you're right that in Denmark, we are we have seen a very exceptional growth. We have been very successful in signing up new contracts. Q1, we grew more than 30% in this quarter 2020, which is really exceptional. But it also does come with some pain in terms of getting so much more production through our operation. And that has come with some pain in terms of bottom line profitability. We are confident that that will be beneficial to us over time, but we also see that that growth pain will impact us during this year. So we anticipate a relative state development from this level in the remainder part of this year. All right. And then a last question from me. You and your wording state that you continue to gain market share and I can understand that given the growth that you have. One of your competitors were out a month ago saying that they are also gaining market shares, and I think they referred especially to the Swedish market. Is it true that you're gaining in all markets? Or are you losing in if you look at the Nordics? No. All in all, you're right in referring to the 7%, 8% annual growth that we have now achieved five years. That is clearly ahead of the market growth in our geography. And that is thanks to a very solid innovation platform, quite a successful category project, but also entering into new categories that are today a bit more niche within the ready to eat area. But what we see with the way people want to eat going forward, we see those categories becoming increasingly important over time. So all in all, we are taking share in our geographies. But frankly, it is more important to us to grow the the market in attractive areas, Whether we achieve a bit of market share or not is kind of less important for us. But overall, we do anticipate a strong growth also to continue going forward. Yes. All right. Very good. That was all for me. Thank you. You're welcome. Our next question comes from Michael Lofdahl from Carnegie. Michael, your line is now open. Okay. Thank you. I have a few questions. Firstly, a follow-up on Denmark. Maybe I missed something. But did you say anything about the first of all, the impact from the staff reductions that you have carried out in the quarter, if they will come through already in Q3 and the magnitude of those savings? No. In Denmark, we do anticipate a relatively flat or stable development from where we are now. As I said, we taken in really a lot of new business, new clients, new products over the last five, six months. And that has come to some additional costs and some lack of efficiency. And that we are working hard of getting the impact of this exceptional top line development development to get that to channel all the way through to the bottom line. Top And the staff reduction is just one of those elements. So the way we see the remainder of the year is gradually a slower top line development than the 20 to 30% that we have seen in Q1 and Q2. But we also anticipate that it will take the rest of the year to ease these growth pains in a way where it will show up in improved margins. So it is one component of staff reductions, but there are more to be achieved to get the full impact. Okay. And also just to clarify, when you speak about lower quarter on quarter growth, typically, if you go back a few years and look at the seasonal patterns, you tend to have higher sales in Denmark in Q3 over Q2. But is this statement that you will have lower sales quarter on quarter in Q3 and Q4? Or is it that you expect the growth rate to decelerate year on year on a quarter on quarter basis? Does really overall for the group, are very little seasonality and that goes also for Denmark. So everything equal, the quarterly growth is very similar across the business. That includes Denmark as well. So these, let's say, spikes that we have seen with, what's it, 35% growth in Q1, 20% in this quarter is really down to exceptionally strong income of new business. That is not down to seasonality, but more due to successful commercial initiatives And that's where we have got some work to be done to ensure we get the margins out of it. So what we are saying what does this what this mean is that we do anticipate less than 20% growth in the second half of the year. Yes, I understand that because you organically, you haven't grown that much. Obviously, you have been supportive from acquisitions in the first half, which will diminish during the second half. But okay, never mind. Another thing on the group common costs, they increased by CHF12 million year on year. Is this something that you expect to be sustainable? Or is there any exceptionals in that number, CHF27 million cost in this quarter that's higher than you've ever had, I think. Group cost in this quarter were there was some of these new categories that we are entering into. We do sort of skew those the development of those categories with some marketing investments. And that is part of the reason for increased group costs in this quarter. Some of these projects we take for the group as there's something that will benefit the entire group. Then in addition to that, there are some central projects, a number of those within IT and some general cost increases. Okay. But how should we look at that going forward? I mean, it's a quite big piece of cost here, 27,000,000 out of the total for the group. So is this the new normal around these levels growing by some normal growth rates going forward? Or was it any exceptionals in this quarter? I mean, was far less than €27,000,000 in Q1, for instance. Yes. So there were some exceptional costs in this quarter, so we are expecting to be more in the level of quarter one, I would say, a whole. Does that answer your question? Yes, that's perfect. Another thing that stood out sorry for focusing on the negative, but I just want put them aside. The net financials in the quarter, obviously, spiked quite a lot. Is it possible to strip out what we have here? Know the IFRS 16 impact, obviously, but anything else? You're guiding on your paid interest, but there's other stuff in here, I assume, in the quarter. There are some currency effects as well. That's the one thing that might be interesting to look at. Is it possible to quantify that? I would have to come back to you on this one maybe later when we talk today. Is that okay? Yes, sure. Okay. Thank you. And let me see. A final I don't know if you have anything to say about that. But when you look at the during this summer, you we all saw this deal between the EU and Latin America South America regarding quotas and so on, the imports of meat and poultry products and other agricultural products from South America to the EU. Obviously, this is not a done deal, yes, it has to go through the relevant countries and the EU Parliament. But is this something that you think could impact your current geographies? Or are they sort of closed and consolidated and not that impacted even if the import should increase to the EU? Are you thinking about whether it will impact our market positions in EU? Or are you thinking about whether it will mean that there could be acquisition candidates that might be affected by this development? I'm thinking more in terms of prices and obviously, mainly perhaps some frozen products and so on, not perhaps that much on more high margin products. But I guess the supply demand situation could change with increased import to the EU from South America. That's one thing. And if so, I guess maybe you are quite protected in your current geographies, but you are looking at acquisitions elsewhere and particularly in Europe. Is this something that impacts your view on or have you become more cautious on perhaps acquiring something in other EU countries, which may be more affected by this if this deal comes through, I would say? I mean, first of all, export is a relatively small part of the business. It's now only 8% of the business, and we see the relative share of our export business to go down. And it's really coming back to the fact that the chicken market is very local. Swedes want Irish people want Irish and so forth. There are some imports from outside the EU. It's mainly in the more commodity, low price segment. And if there is this deal with you referred to, we don't anticipate that really to have any impact. There has been the imports from South America into the EU have gone down for a few years for a number of quality issues that has been down there. Whether it will increase a bit going forward, we don't see that will impact our development, either growth wise or margin wise. We don't really anticipate it will have any impact on relevant acquisition candidates either. It is relatively small impact and it is in very not very attractive segments, let us put it that way. Okay. Good. Thanks. Final question for me. Sorry for taking so much time. Just on Norway, I mean, it's impressive that your margin development in Norway and the margin has been growing now for well, many quarters now in a row. And you have always my interpretation anyway, quite cautious on you shouldn't extrapolate to these kind of margins maybe and so on. And you said so also after the very strong Q1 where the margin grew a lot. Now it grew even more in Q2. So how should we look at the margin development in Norway? Are the current levels sustainable? Or should one be a bit cautious on extrapolating these levels going forward? No, I think that we see many opportunities to improve our performance across the group. Norway is one area. You're right in saying that we've been relatively cautious in, let's say, guaranteeing these kind of margins levels going on forever. But it is we have seen really the effect of a lot of best practice being implemented in Norway, a lot of best practice coming from other markets that are much more exposed to international competition. And we do see the leverage of those initiatives coming through in Norway. What is particularly positive, I would say, Norway over the last number of quarters is that we see quite a nice revenue growth. If you remember, you go back a year or two then top line were a bit more flat. So it is positive that we both see solid margins and also now top line coming through. So we are happy with the developments in Norway. We believe there is sort of more things we can do. No revolutions, but smaller initiatives. But the main we also try to guide here, we are we see we're already doing very well in Norway. We are we still believe that there are areas we can improve. But we're more seeing opportunities in Sweden where we see where we anticipate some incremental improvements in profitability in the sort of shorter term. So that's a bit of catch up to take place. Okay. Thanks. Welcome. Our next question comes from Alexandra Bartonowski from Nordea. Alexandra, please go ahead. Yes. Hello. I had a question regarding your Irish segment, and then you've had a quite significant improvement in your margin in this region. I'm just wondering if there's a level that we can expect also going forward. Yes. So that's my first question basically. Sorry, what was the segment you referred to? The Irish segment. The Irish segment. Okay. Sorry. We this was a relatively good quarter margin wise in Ireland. There are a number of investment projects that we are carrying through in Ireland to improve our position. It's both capacity wise, but it's also within Animal Welfare. There's some debottlenecking to take place. So we do anticipate that there are some more to be achieved over there. But we kind of see in the sort of mid term relatively stable development in the performance in Ireland. And my second question relates to your CapEx levels, which you have now reduced. Again, this is also a level that we can expect going forward for for the the next half of the year. Or do you expect to get back to your more historical level in the next two quarters? Sorry, could you maybe repeat the question? Sorry, there's a bit of echo on the line. Sorry about that. I didn't really get the question, so make sure I give you the right answer. No. I'm just I had a question about your CapEx guidance and whether you expect it to stay on the level that you have indicated as of now or if you expect it to increase to more historical levels in the remaining part of the year? This guidance that we have given for CapEx for this year, we anticipate that we will stick to. And yes, so we that is still relevant. Good. That's it for me. Okay. We have no further questions. Lai, I will hand back to you. Alright. Thank you, everybody. Thank you for good questions and for your time this morning, and have a great day. Bye