Ladies and gentlemen, good day and welcome to the FY 2019 Q1 interim management statement conference call. Today's conference is being recorded. At this time, we would like to turn the conference over to Mr. Mike Powell, CFO. Please go ahead, sir.
Thanks, Holly. Morning, everyone, welcome to Ferguson's conference call covering our Q1 results 2019. You've got myself, Mike Powell. I'm joined by Mark Fearon and Pete Kennedy from our investor relations team. First, let me give you some highlights for the quarter, then clearly I'll open up for questions as usual. You'll see from the announcement we had revenue growth for the group was good. Organic growth up 6.7% in the quarter, acquisitions adding a further 2.3%, giving a total growth at constant currency of nine. Pleased with gross margin performance. That was up 50 basis points, principally as a result of our acquisitions, also the exit of the low-margin wholesale business in the U.K. last year, therefore underlying margins up a touch. Total gross profit at constant currency up 10.7%. Trading profit of $432 million, up just over 10% on last year at constant exchange.
A little more in terms of the businesses now. In the U.S., we generated good organic growth in the quarter, up nearly 10%, about 9.6. That includes price inflation of around 3%, acquisitions contributing a further 2.4% growth. Growth was widespread across all the regions, both geographically and across the major business units, in supportive markets. Sales grew well across all the end markets at pretty similar levels to last year, we continued to take share. In terms of the markets themselves, residential markets were pretty similar. In fact, all the markets were pretty similar to when we last came around the city, which was, of course, only four to six weeks ago. Residential markets we approximate to be up 7% in Q1. Commercial markets, very similar at 6%. Civil and infrastructure markets up just over seven, industrial grew about 12%.
As expected, our organic growth rate in B2C has moderated a little as we pursue our strategy of consolidating our marketing spend on pay-per-click advertising into fewer trading websites. Whilst that slows the revenue growth quite deliberately in terms of the growth rate overall, going forward, the business continues to generate profitable growth. U.S. gross margins improved. Operating costs were in line, though did include labor inflation of around 4%, in Q1, we experienced a little bit more cost pressure in distribution in areas in fleet and courier costs. Our mindset now is that even though the markets are generally good, we are staying very close to the cost base. We continue to make sure that cost base the growth doesn't exceed growth in gross profits, whilst ensuring we don't choke off any of the growth, of course, that we're generating in the business.
Overall, U.S., good results, $400 million, some $37 million ahead of last year. Turning to the U.K. U.K. RMI markets, where we generate the majority of our sales, been pretty weak. We continue to report like-for-like sales, just so we give a better understanding of the ongoing business and how it's performing, given the closure of the branches that we made last year and the exit of that wholesale business towards the end of the first half. Like-for-like sales therefore up 1.5%. That includes inflation, price inflation of about 2.5% and overall organic revenue, total organic revenue declined at nearly 10% in the U.K. business. However, given the better mix of business, gross margins were slightly ahead. Trading profit came in at $19 million.
That's $2 million lower than last year at constant exchange rates, though that's mainly due to our investment in the B2C platform in the U.K. Canada. That grew organic revenue 3.3% against tougher comps, with acquisitions contributing another 5.6% to growth. Here we see Ontario, Atlantic, and Quebec regions all growing well in our business. Although Alberta was slightly lower. Gross margins were ahead, operating costs well controlled, trading profit at $27 million, $4 million ahead of last year. Moving on to cash flow and net debt. Net debt at the end of the quarter was in line with our expectations at around 0.9x net debt to EBITDA, and that's as I guided at the full year. That included a cash flow of $266 million relating to acquisitions in quarter one, capital expenditure of $163 million, and the normal working capital outflows due to seasonality.
Just to remind you, with our full year guidance, CapEx will be about $400 million. That's slightly higher this year due to the new investment in the Perris distribution center going into Southern California. After that and going forward in future years, I'd expect CapEx to return to more normal levels of around 1.5% of sales. Since the end of the quarter, we've done a further small bolt-on acquisition. That's Robertson Supply. That's a business with eight locations covering Idaho and Oregon, and is a leading residential and commercial plumbing wholesaler in that territory. Forward M&A pipeline. Pretty sensible actually. It's worth mentioning there is still one larger bolt-on acquisition in that pipeline of circa $200 million, which I'd expect to close shortly. The rest of the pipeline consists of normal small bolt-on deals, predominantly in the U.S.
Overall guidance would be for about another $400 million of deals on top of what we've done this year, but a very normal pipeline thereafter. No change to the group's capital allocation policy. That remains unchanged, and we'll continue to maintain a strong balance sheet with net debt to EBITDA within the range of one to two times. Couple of other quickies just before I open the line for questions. Firstly, we're making good progress on the disposal of the Wasco business in Holland, and I'd expect to conclude that transaction in the next few months. In addition, since the quarter end, we've made good progress on the sale of the residual properties that we had, resulting from the exit of the Nordics business. Again, I'd expect to close those out before the end of the year into Catch. Turning to the outlook.
Since the end of the quarter, the U.S. has continued to grow well. Current indications are that growth will continue in the months ahead, which is, of course, our visibility that we have on the business. As a result, we expect trading profits for the full year to be in line with analyst expectations. In summary, we're pleased with the growth rate at the moment, the decent start we've made to the new financial year, particularly in the U.S. We've banked a very good first quarter. There's still quite a long way to go, of course, and remember that revenue comps get much tougher as we move through the year, particularly in the U.S. Holly, many thanks. I'll hand over back to you to take the first question, if I can. Thank you.
Thank you. If you would like to ask a question, please signal by pressing star 1 on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, that's star one to ask a question. We will now take our first question from Rajesh Kumar from HSBC. Please go ahead.
Hi, good morning, gents. Just on the U.S. growth rate, some of the recent RMI data have been slightly weaker. Have you seen any indication in terms of the volume growth tapering off in any segments of the market? Also, could you remind us how the pricing comps look in the quarters ahead?
Yeah, sure. Thanks, Rajesh, for your question. We haven't. I would remind you, we have fairly short-term visibility. Clearly we're aware of the nervousness around a number of pieces of sentiment. I think, as you know, we tend not to look at monthly data just as monthly data. We tend to look at trends. I think for all of our markets those trends remain. I think importantly also order books and our customer sentiment remain unchanged since we spoke to you third or fourth of October, whenever we did the full year release. We haven't seen a change in anything fundamental. Clearly, externally, there's been quite a big change, and clearly people are concerned. We remain vigilant on that, but we continue to manage what's in our control within the business. Certainly, we haven't seen changes in our order book patterns or our customers' behavior.
Understood. Just on the margins, the U.S. drop-through margin was slightly lower than what many would have expected. You indicated that was due to cost increases. Do you think the volume growth is strong enough that you can recover that in the coming quarters?
Yeah, no, it's fair, Rajesh. The drop-through is a touch weaker than we would have expected. That's mainly due to cost inflationary pressures. Labor was around 4%, so the top end of my three to four expectation. That's clearly coming in closer to the four. I'm pretty comfortable with that number now for the year. The distribution costs, fleet and courier costs, have been certainly higher than we expected. I think you know we've said in the past, our own drivers are generally our fleet is ours, but of course you've got fuel, you've got temporary labor, and particularly courier costs where we do a reasonable amount of distribution through have gone up due to the tightness in the U.S. labor markets. I think that's likely to persist into Q2. There's always a fine balance of how much we pass on.
As you know, we juggle top line growth, gross margins, which you've seen have gone up, and also cost base. Those three things, of course, don't act in isolation to each other. Clearly it is our job to absolutely pass on cost increases by working with our customers to help them win business going forward. We'll continue to do that. I think sat here today, I think the Q2 flow through isn't going to see much recovery from those costs. I think we'll take those costs through Q2. I think you would expect us to continue to look as to how we can work with our customers to pass those on as we get into the second half of the year.
Thank you.
What does that all mean, Rajesh? It probably means, in these markets with the cost pressures. I've always said with good supported markets, we'd be high single digit through to low double digit. It's probably nearer the high single digit, exactly right now. I was wrong last year, Rajesh. I'll probably be wrong this year. You asked me for a guidance, that's my best guess today. Listen, it's eight, nine months to go, so that's my best guess today, if that helps you.
That's very helpful. Thank you.
We will now take our next question from Paul Checketts from Barclays. Please go ahead.
Morning, gents. I just wanted to ask about the acquisition spending, Mike. Obviously, seeing it increase of late, and you're saying there's going to be some more. Could you just, at the minute, given that people are worried about where we are in the cycle, could you just elaborate on how you're approaching acquisitions to make sure you're not spending too much when we are late in the cycle, and how you decide which businesses should become part of the group at this stage and multiples, things like that? Thanks.
Sure. Yeah. No. Are we spending shareholder money wisely? Yes, is the answer. I think, Paul, it's a fair question. The approach doesn't change, frankly. You've seen that generally as a business, we've done average about $250 million spend a year, other than about a year ago, we said there was a good pipeline coming, and there was a number of both targeted strategic acquisitions. Leading to that, the SafeStep and Jones Stephens, those are both private label, home brand acquisitions. Strategic, by the way, doesn't mean you pay lots of multiples and you don't get a shareholder return. That is not what that means. They were absolute strategic fits for us to go and acquire. That's part of the reason the gross margin's increased with private label and own brand. Of course, the cost base increases because you have to do your own QA, QC.
I think, Paul, as we thought about those were absolutely core and strategic. I think we're very much back down to a normal M&A pipeline, absent the one that I talked about, which I would hope to conclude soon. That's a typical infill, if you like, in the traditional space, but it is into a territory that we would like to be number one in, and we're not today. I don't think the thinking has changed. That acquisition that is in the pipeline, the larger one, has frankly been around for about 10 years. It certainly went to the board four years ago, because we've had to refresh the paper fairly recently. The multiple on that has not changed over that period.
I think we're very much down to normal M&A levels post that into the second half, and they're all in line with strategic intent. I would say, Paul, That's our approach. There is a ton of stuff coming to the market. I grant you that. We're clearly not planning to execute on that because the prices are too high, they're not attractive, or they don't fit our strategy. The amount that, let's say, the banks are generating that's crossing our desks is definitely increasing. That doesn't mean that we're doing more work on them at all. We remain pretty focused, pretty disciplined on what fits and what works for Ferguson. Is that okay, Paul?
That's very clear. I just wanted to ask a second question, which is around the B2C side and some of the comments in terms of how you're addressing the challenges with Google. Could you elaborate slightly on what's happening?
Sure. I think we call it pay-per-click costs, Paul. You're absolutely right. The marketing costs of attracting customers continues to escalate. That clearly, economically, is not a position we like, and therefore we need to continue to control that. I think with any B2C business, you need to control the cost of capturing the customer as best you can, and you need to get the customer to come back for repeat business as often as you can. We are trying to address both of those. The first you've heard me talk about, we are willing to increase our profits for less revenues. You've seen us do that. I've just touched on that. We did that through sort of the back end of last year, first quarter, and we'll continue to do it through Q2.
We have a number of sites, particularly for our U.S. B2C business, internet sites. They all cost you money. We are now consolidating onto much fewer sites where people can enter our domain, and indeed, getting repeat customers to not come through search engines to indeed type in our name direct. Those are higher repeat customers, and therefore we pay less cost of attracting those customers. That's basically the strategy is a bit grand, but those are certainly the tactics to reduce our spend and increase our profit. That does have an impact on revenue. We will lose certain customers. That's affected. If you think of how it affects the business, Paul, B2C business is about-
9%
9% of the group. It's not going to affect the growth rate dramatically. It isn't 0%, but it's not 1% either. It's somewhere between those two in terms of affecting the growth rate. Importantly, we increase the profitability of the business, and we've done that in Q1. Does that help?
Okay. Thanks very much. Yeah, it does. Bye.
We will now take our next question from John Messenger from Redburn. Please go ahead.
Hi, Mike. I think it's just one from me, actually. Just when we come back to the whole drop through gearing issue in the U.S. and flow through. Can I just understand, obviously, the revenue growth was I think around $395 organic, and obviously there's about $100 coming in from the acquisitions. Was there much profit on those acquisitions in the period in that, I guess, certainly when I think about flow through, I'm more interested in the organic to the organic, if you know what I mean, because clearly the acquisitions may have been dilutive or there may have been obviously those front-end costs that you have to take against P&L just in terms of transaction costs there. Just to understand, if I could a little bit more in terms of the composition of that EBIT movement or the $37 million that was added.
Can you give us a bit of a breakout as to whether there's much in the way of acquisitions in there? The other one was just, sorry, back on the pipeline and acquisitions. I think back at the last set of results, I think you talked about $350 of future spend in terms of the pipeline. Obviously, you've spent about $40 in the quarter. Can I just check, was the $400 that you mentioned, was that incremental from here? Is there going to be quite a bit more, as in there's another $90 odd million that's been added into the hopper, if I just think about the maths, just to understand where you are on that M&A.
John, Mark here. Just to answer your second question first. As we've said in the statement, we've done $284 so far, and there's, I think, another $400 to come. We think this year we'll do in the region of $700 million. As Mike mentioned, there's actually two slightly larger transactions in there of the sort of $200 million order. If you back out those two M&A transactions, actually, the underlying pipeline is pretty normal, stable.
Makes sense. Got you. Brilliant.
Yeah. John, in terms of the acquisitions that we have done to date, whilst the gross margins have gone up, the cost base has also gone up. Therefore actually, in terms of trading margin, it doesn't have a significant effect at all in terms of the deals that we've done. As I said, I think it might have been yourself indeed that asked me, I think three or six months ago, how do acquisitions affect the flow through? They're all slightly different depending on what they are and how much first-year integration costs we have to endure or choose to put together. I think the ones we've done so far, I think you should assume that there's little effect in terms of the trading margin.
When you say little effect, Mike, just to be clear, as in they are kind of producing a 7% EBIT margin, or they're not producing much because obviously you're taking those front-end costs of integration?
No. As in they are producing that margin that you've just described.
Brilliant. Lovely. Thanks very much.
Thanks, John.
We will now take our next question from Gregor Kuglitsch from UBS. Please go ahead.
Hi, good morning. Thanks for taking my questions. I've got a few. The first one is, normally you talk about an exit rate and kind of how you've traded. I gather obviously it's only a month in the second quarter, but is there any discernible change from the kind of 7.0% Growth organic that you just printed or just so we can get a sense of where things are heading there? Second question is on inflation. If you could provide any kind of outlook, how you think that's going to trend. Obviously, there's lots of commodity moves going on. I'm talking specifically here about the U.S. I think you had 3% in the quarter. I want to understand if you expect that to start slowing as we sort of wind through the next couple of quarters.
The final question is on M&A and perhaps also on guidance. Can I just understand when you're saying your EBITA outlook is in line with consensus, what are you baking in for the M&A contribution there, please? Specifically, does it include some contribution from the deals that you expect to conclude shortly, so that's $400 million, or is that too precise and it kind of get lost in the rounding? Thanks.
Thanks, Gregor. Yeah, let me take those and Mark can interrupt as normal. Exit growth. We've said in terms of the USA, we have seen a good November growth in the U.S. I haven't actually got the final numbers for November. We're still scrubbing those as you'd expect. Clearly we need to work through the Q2. Markets are supportive. Our visibility is, as you know, only eight weeks. The other thing I would say, the normal volatility within our business, and I know everybody's sort of slightly nervous at the moment in the external markets. I think we said at year-end, certainly on some one-on-one meetings, the U.S. organic growth rate last year was 9.9% for the year. Our monthly volatility within that was between six and 12. Each month was between 6% and 12%, and it averaged 9.9%.
It's a little bit back to my earlier comment, we don't really worry too much about monthly volatility. We tend to worry about trends. We are not seeing a change in those trends at the moment. The exit rate for November, certainly the initial feel for that is absolutely within normal levels of volatility. In fact, the growth in the U.S. has been quite good in November. Order books remain good, customer sentiment remains good. We are aware of the external environment and the nervousness around that, therefore we remain very conscious around costs. I have to tell you from where we sit with our limited visibility, things appear relatively normal at the moment. In terms of inflation, the difficulty with inflation is I don't know what the future inflation is. There are a number of factors within that.
If you wanted my best guess, it's somewhere between two to three for the U.S. because, of course, as you indicated, it's sort of lapping the previous year. It's clearly quite volatile out there. There's discussions around tariffs, that could quite quickly lead to deflation if they completely stopped, as opposed to just not implementing the next lot. You've got oil, which last time we were on the road, people worried about it hitting $100 a barrel. Everybody's now worried about it hitting $50 a barrel, and it's only six weeks later. There's a ton of volatility around, therefore, it's pretty damn difficult, frankly, to have a view on that too much. If you wanted my best guess today, it's two to three.
In terms of the range of M&A and analyst expectations, we don't include future deals when we talk because until we conclude a deal, each deal is different. Back to John's question around flow through, different deals have different characteristics. Some require much higher first year integration costs than others. When we talk about the future, it is just on money that we have spent to date. If that helps you, Gregor.
That $700 I was talking about is not in the guidance.
Yeah.
Increment. Yeah, exactly. Correct.
Okay.
That's great. Thank you.
Thanks very, Gregor.
We will now take our next question from Manish Beria from Societe Generale. Please go ahead.
Hello. Good morning. I have three questions. The first one is, I wanted to know what will be the impact of IFRS 16 accounting. Will it change in any way the capital allocation policy for you because that will increase the leases, I mean, that you are raising the balance sheet, so that might change your net debt EBITDA. That was my first question. The second question was, I assume you are doing so much of acquisition now, so probably there will not be any buyback. Just wanted to check, how do you decide between a buyback versus special dividend and also raising your ordinary dividend? What's all the criteria you use when you do either of those? The last one is on the U.S. margin.
Going by your comments, it seems like the gross margin only expanded by 10 basis points in U.S. It's just my calculation. I don't know how much you agree with that. Can you comment, I mean, is the gross margin expansion in U.S. this quarter was lower than what you probably have been doing 20 to 30 basis points expansion? Thank you.
Thanks, Manish. Let me take those. I'll probably do them in reverse order because that's the way I've written down. Underlying U.S. gross margins expanded a touch. By the way, 10 basis points a year, Manish, I wouldn't describe as just only. I think that would be a good performance. We always say, top-line growth with incremental gross margin and control of costs is a good business model. Expanding our underlying U.S. gross margins a touch, we think is good and sensible and controlled, particularly when you grow in the top line to the order of the 9% that you're seeing. We are happy with that. We have confirmed today that our underlying gross margins have indeed increased a touch. That's good with good top-line growth.
In terms of capital allocation, I love rolling this out because people think I'm very boring, but it is consistently solid how we think around capital allocation. We put our capital into the business first. That's organic growth. That is the first use of cash. The second use is for growing the dividend in line with long-term earnings through the cycle. That's the second use. The third use is M&A, for either small bolt-on acquisitions or where we see a strategic need and complement, such as those private own brands label acquisitions I talked about earlier. It is only then if we have surplus capital, do we then look to return that to shareholders on a reasonably prompt basis, when we are clearly some way outside of our net debt to EBITDA range of 1-2. That is what we have done.
We've got a good track record of doing it, and we'll consistently do that. How we return that cash will depend on the size and magnitude of the cash and the circumstances at the time. I think importantly, we spend capital back into the business onto dividends and into M&A, and it's only surplus that then goes back. The fun IFRS 16, which I'm sure you're all looking forward to. I think, Manish, the guidance I give you, before I give you a couple of helpful pointers is nothing changes in the real world for us. Okay? We'll continue to run the business exactly as we are. Clearly, in accounting world, the operating leases will come back onto the balance sheet, as will some rentals drop out. We'll give an update to the market in due course in terms of the absolute specifics.
Clearly, if that changes the reported net debt to EBITDA like any other company, we'll change our range. It doesn't actually change anything in the real world. I think that's the important thing to note. Yes, the current net debt to EBITDA range of 1-2 is based on the current IFRS. If IFRS changes, which it will, we'll update the range, but you won't see a fundamental real-world change in our capital allocation policy. I hope that's as clear as I can be.
Yeah, that's clear. I also wanted to check, last year you raised your ordinary dividend by 20%, and you talked about-
Yeah
dividend in sense of the whole cycle. That means that raise was correct, and you see a good cycle, and you can maintain, even if there is a recession or a slowdown in U.S., those sort of dividends is sustainable. The second is on the buyback versus special dividend, specifically, does it signal anything? When you do a buyback rather than a special dividend to that, these share prices undervalued or you do those sort of analysis, when you decide between a buyback and special dividends?
Sure. Is the dividend sustainable? Yes, it is. Otherwise, we wouldn't have done it.
Yes.
Secondly, on the buyback, it is because we had surplus capital. When we have surplus capital, it is only then when we choose to repatriate that to shareholders.
Okay. Thank you.
Thanks.
We will now take our next question from Ami Galla from Citigroup. Please go ahead.
Hi, just one question from me, please. In the U.K., could you give us some more color as to what are you doing in terms of restructuring there, and where are we in the restructuring process? The second one, in the U.K., you flagged that you're investing in the B2C platform. A bit more detail around where are the investments going there would be helpful. Thank you.
Sure. No, thanks for your questions. No, the restructuring in the U.K. continues. The management team, Mark Higson, who leads that business, and Simon, the FD, are doing some good work. The main phase of that restructuring will clearly finish as we go through the next quarter or two. Some of you that certainly live in the U.K. will have seen the rebranding has finished. We are just about, next week, to exit the national distribution center. We had a big warehouse up in Leamington Spa. That is just about emptied out now into the regional distribution centers, and that will close. That will save money.
I think importantly, whilst we are not seeing it yet in the results, the lead indicators that Mark Higson and the team look at in the U.K. business, such as customer service, Net Promoter Score, availability of product in the right place at the right time as ordered by the customer, all sounds fairly obvious stuff, but it's stuff we haven't done very well in the past. All those lead indicators from a business perspective are certainly turning up and have been, in some cases, for a couple of months now. That's deeply encouraging. Of course, it's entirely expected by myself and John, but it is encouraging that those lead indicators are coming through. Clearly, as the Finance Director, I'd love them to be coming through in the numbers, which I'd certainly expect to start to see in the second half of this year.
Don't expect anything much in Q2. That's exactly what I said three months ago, too. We should start to see some of that coming through in the numbers. There is no doubt we are trying to run a smaller, more profitable U.K. business. That's why we exited a ton of low-margin business last year. It just takes a bit of time to get this stuff turned around and the customer's product in the right place and satisfied again, having not done, frankly, a very good job of it over the last two to three years. Your second question around B2C platform is that, yeah, we continue to invest. We just opened a new warehouse near Liverpool, between Liverpool and Manchester. We continue to invest in systems and technology as our B2C business grows.
Of course, as customers, as we know in B2C ourselves, we expect good service and availability. We continue to grow that business. The challenge, as with all B2C businesses, of course, will continue to remain about customer attraction and customer repeatability. Certainly, there are a number of IT investments and platforms into that business that we're executing at the moment.
Yes. Thank you.
Thanks.
We will now take our next question from Kevin Cammack from Cenkos. Please go ahead.
Morning to you. It's two questions, but I think they're sort of related in a way. I guess it's sort of hard sat here to keep track of all that's going on the sort of U.S. tariffs front. I just wonder if you could give us an idiot's guide of how this may have or potentially could have an impact on the business at all. Similarly, if you look at the U.K., are there any contingencies that you've had to put in place already or potentially will have to because of Brexit?
Let me take the U.K., and then I'll let Mark touch on tariffs. No, the U.K., the Brexit situation, of course, something is getting closer, at least, isn't it? Nobody is entirely sure what that is. I don't think our contingency planning has changed for that at all, Kevin. We clearly retain quite a lot of stock in our warehouses that would allow us to service our customers. I think if you stand back from it, we've done all the sensible contingency planning. If the ports get blocked, I have to be honest, Kevin, plumbing suppliers aren't going to be the first ones that get released across the border. We are not at a competitive advantage or disadvantage to any of our competitors. I would have thought food and medical suppliers would be pretty high up the list. We're realistic about it.
I think we've got good contingency plans in place as best as you can, given that nobody really knows what on earth is going on. We remain vigilant to it, given that something is getting closer. I don't think for the Group, we see this as a high-risk issue.
Kevin, on tariffs-
Yeah
We kind of set out the COGS impact in the back of the appendix of the full year results. Just to remind you, we obviously were thinking then that the Section 301 list three, which was the most recent round of tariffs, was going to go up to 25% in January. Obviously now, the presidents of China and the U.S. have had a hug, and we're going to sort of suspend hostilities for a little while. The overall impact on the business was actually pretty minimal. We gave a sort of COGS impact of about $12 million all in. Are you still there? Hello? Hello, operator? Operator, we've got a whole load of music being played.
Yes, I'm trying to locate the source. Just give me one moment, please.
Thank you. Thanks very much.
This is the first time in my career I've ever had a backing band.
That sounded like Mark's playlist as well to me.
At least it was country music. Anyway. Sorry about that, Kevin. As I was saying, that sort of $12 million of COGS, we would fully expect to pass through to customers. Overall, I think a reasonably minimal impact. Obviously, it's had an inflationary impact on our business. Obviously, the worry is if, at a stroke of a pen, Mr. Trump decided to suspend hostilities entirely, deflation is not good for our business. You saw the impact of deflation on the business a couple of years ago when we went through the industrial. I would say a small impact, but it would have a deflationary impact on the business. I don't think that would be the case.
What you describe as the current suspension of hostilities, if that were to be permanent rather than temporary, are you saying the only unwind is around $12 million?
Yes. Actually, in terms of Chinese sourcing for us, it's pretty small. It's not a big part of the business.
I think, Kevin, just going away from the sort of absolute detail. If tariffs were completely taken away and that generates good demand and keeps everybody calmer, that has to be a good thing. Whether there's a small short-term impact or not on pricing, it feels to us as though getting rid of them must be a good long-term political desire on everybody's part. Yeah, there'll be a bit of short-term ups and downs as there have been to date, and we'll manage that. I think long-term, we feel as though it would be good if they were completely taken away.
Thank you.
Thanks, Kevin.
We will now take our next question from Clyde Lewis from Peel Hunt. Please go ahead.
Morning, Mike. Morning, Mark.
Morning.
Three, if I may. One on sort of the U.K. and Canadian businesses, if you could just, I suppose, follow on from your comments about the U.S. start to Q2, just so we can say a little bit about those two markets. Secondly, where are you with regards to U.S. organic branch openings at the moment, just to sort of get an idea of what's happening on that front? The last one on the U.S. was employee numbers. Can you give us an idea of what sort of rate of increase are you seeing at the moment in the U.S. in terms of average number of employees?
Yeah. Let me take U.K. and Canada, and Mark can take branches and employees. In terms of U.K. and Canada, again, I don't really want to get into monthly reporting because I think particularly at the current time, people can read way too much into monthly reporting. Of course, at some point they'll be right. We're not ignorant to that. Listen, I think across the group, U.S. remains good. Canada, I talked about it in the script. We're definitely seeing some weakness around Alberta for sure. U.K. market, I would say the U.K. is much more our business is really about self-help. The market, we don't expect to be great. In some respects, we have just got a ton of self-help to do in our U.K. business. We are getting on, and we are getting out back.
You've heard me talk about some of the successes we've had. I think it's very much we need to focus on our customers and delivering the right product at the right price at the right time in the U.K. The market will do what it wants, and we'll respond with our cost base to do what it wants as well.
Just on branches, Clyde. Net, actually the branch numbers overall were down by about 10. We did a little bit of pruning in the U.S. with some branches. Obviously, remember overall our strategy is we're not putting in a lot of space growth in this business. We want to try and put more till points in branches and more outside salespeople visiting customers rather than space growth for its own sake. In regions where we're under-penetrated, yes, of course, we'll put branches in, but overall, you shouldn't expect organic branch effect to be large in the business going forward. Similarly on heads, obviously through the acquisitions, about 400 heads are in. There's about another 500 heads to come through the door.
Okay. Thank you very much.
Thanks, Clyde.
We will now take our next question from Robert Eason from Goodbody. Please go ahead.
Good morning, everyone.
Morning.
Just on the U.S. and just understanding the environment there, are you seeing any change in behaviors around the use of working capital, around gross margin behavior, whether regionally by product, just given the volatility that we all see from our side? Secondly, excuse if this is too early, given that the announcements also came out at 7:00. Just in terms of your thoughts on the plumbing and heating market in the U.K., given that one of your competitors has now put up the for sale sign, what's your initial views on that for your own business going forward?
Thanks, Robert. The first question is a good question, actually. I don't think we are. I was trying to think as you were asking the second one. The only thing I can think of, Robert, is there's been a bit of people trying to play a little bit around the fringes on tariffs, in terms of forward buys, securing supply, making sure that customers' pricing that has been given is honored.
Okay
some of the contracts, as you know, that we provide are long-term. There's been clearly a ton of work of repricing across the whole industry post some of these tariffs. I don't think there's been anything fundamental elsewhere that we're seeing either in terms of either credit lines or customer behavior, debt collectability, all that sort of stuff is actually pretty normal at the moment. No, there's nothing I would say in particular, and I've had to think quite hard about those examples I've just given you, really. In terms of Travis's announcement this morning. Listen, I saw it at probably about 7:30. We've been pretty busy since then, fussing about our own business. Listen, you've heard my view on the U.K. business. I think for us, we remain pretty focused on sorting ourselves out in this market.
Clearly we'll look to understand Travis's announcement in a little more detail going forward. We remain pretty focused on our own business right now.
Okay, thanks a lot.
Thanks. I think we've got time for one last question, operator, if you have one, Phil.
Yes, we will now take our last question from Phil Roseberg from Bernstein. Please go ahead.
Yeah, good morning, Mark. Good morning, Mike.
Morning, Phil.
Just one last question from me. You had mentioned at the full year the changes to your tax guidance based on a possible change in Switzerland and state taxes rising. Could you possibly give us an update on that situation and where you see, if there's any change from what you talked about in October?
I think at the summary level, Phil, there's probably no change. Clearly the Swiss tax reform is still going through, trying to get regulatory approval. You might imagine we've done a bit of work on it since then. I don't think anything fundamentally changed, and there's certainly no change to the guidance. I think the guidance is still pretty solid. I think in short, no change.
On the U.S. side, the states raising taxes opportunistically.
Certainly in the U.S., there is a little more pressure on state taxes. I think for our group that's well within the guidance I've given. Yeah, you're right. Certainly the states, everyone thinks the U.S. has got a tax rate of 21. It clearly doesn't, because you've got 21 plus state tax, plus sometimes the state taxes are much broader, as are some of the federal taxes. The U.S. from a tax regime for us, as I said at the year-end, is unlikely to work. That certainly hasn't changed. I don't think there's any change to guidance at all, Phil. I think we continue to look at the various options for the group. I think the guidance we gave is good guidance going forward.
Thank you.
Phil, thanks very much. Operator, I think that's it. I'd just like to conclude by thanking everybody that's shown an interest this morning and on a continuing basis. Thank you very much for taking the time to dial in. We appreciate your support, and enjoy the rest of your days wherever you may be. Thank you. Back to you, Operator.
Ladies and gentlemen, this concludes today's call. Thank you for your participation. You may now disconnect.