AO World plc (81A.DU) Earnings Call Transcript & Summary

Everyone, good? Okay. Well, welcome, everyone. It's great to have everyone here in person, and I'm needing more chairs, so a really good sign. So thanks for joining us this morning at what is our London-created problem. There's quite a bit of investment going into this. You'll have heard me say before that this is where we bring our products to life for customers through industry-leading storytelling. And this here is our latest innovation on that journey as we convene hopefully, some of the best talent across the market to explore how we take that concept to yet another level. We're, of course, doing this in conjunction with our global brand partners, and we're doing it in a really cost-effective way together. The vision that I said at the beginning is that we will do to product information off the screen what Pixar did to the world of animated film when they launched Toy Story back in 1996. The truth of that is similar for them at the beginning of that journey is that exactly what that means right now, how long it will take or exactly what it will cost is actually a bit uncertain. But this is the hub that we're investing in, and it's crucial to our journey to relentlessly make online a better way to shop electricals, explain products and generally do everything on every metric better for customers. So our last update for the full year was only 3 months ago at the end of August. And so today, we intend to be pretty brief. In fact, we expect this to be a reasonable -- reasonably uneventful update. The key messages are that sales are in line with where we guided, profit is around the top end of guidance and our profit guidance is above consensus for next year. So quite a positive message. I'd like the rest of this presentation, though, to be, frankly, reassuringly boring, at least by our historical standards. And so put simply, we're doing what we said we'd do. We're making solid progress with all the sort of strategic realignment goals that we set out at the full year results. And with that in mind, I'm going to take you through that progress, then Mark is going to explain the financial output. And I'm sure you'll have all seen and have a copy of the RNS, and then we'll take questions at the end. So looking at the sort of macroeconomic picture first, even with the U.K. government's chaos and recent course corrections and despite England comfortably winning their first game of the World Cup, you don't need me to tell you that the global economy is experiencing a dramatic slowdown and that the consumer outlook is tough. The area of cheap money rising house prices, but low inflation and full employment despite lower growth, feel pretty well behind us. The disruption though and the cost of COVID feel firmly still with us. In the U.K., the cost of living crisis has been building since early '21. Consumer sentiment is weak. The economy is now in recession officially, and I expect growth to stay negative for the rest of '22 at the very least. Interest rates are rising for the first time in years, and the Bank of England is forecasting that inflation will be in double digits for the remainder of '22. Over time, though, our core major domestic appliances category has proved to be resilient through various cycles, as you can see from this graph. We've been helped by the fact that it tends to be less discretionary than other categories and a decent percentage of our sales are distressed purchases. However, in this calendar year, market movement data suggests that an exceptional 18% decline has happened in MDA volume. So that's the biggest single year of decline in our 22 years in this market. It's even meaningfully higher than we saw in the recession in the 2008, '09 period. And data providers suggest that the online market will marginally grow in '23 and '24, but will still fall short of that during COVID. So in short, market conditions remain unpredictable and volatile so the uncertainty we expected and we have planned for continues. So against that challenging backdrop, what are we doing? Well, back in August, I said that we were buttoning down the hatches ready for the storm that look pretty clearly on the horizon. And I set out the immediate strategic actions that we were undertaking. And as a reminder, they were: number one, a focus on cash and profit generation, primary lens; a simplification of our refocus across all operations of what we needed to do to achieve this; number three, reduce our overhead; and number four to remove all international costs. The short-term consequence of this is a reset of our sales level. In the medium term, our ambition is to be a cash-generative business producing in excess of 5% of EBITDA and then kicking on and growing again at a rate of more than 10%. Well, in just a few short months, that approach has already proven to be a prudent one. And I've been really pleased with the buy-in to this and the approach across the business. And we're making steady progress against every one of those priorities. In August, I said there would be parts of the business that we would consciously and deliberately remove as they no longer fit with the priorities through the new lens. For example, we chose not to roll out the partnership with Tesco, and we've ended our whole business in the housebuilding sector, actually still firmly believe that both were attractive opportunities that over time could have contributed well and added scale to the group. But through the lens that I've set out, they don't fit with our focus on profit and cash generation in the short term. In fact, quite the opposite, both require meaningful investment in both P&L and capital and both consume a lot of cash in the short term. We're also acting to ensure that every product we deliver contributes positively to our profit and cash focus. And as Mark will explain in more detail, the actions we've taken include range reviews and introducing things like delivery charges. We've removed pockets of sales, and we're reducing costs accordingly. It's improving profitability and cash generation. We believe that the long-term migration of customers to online will continue despite the COVID blip. And without a legacy store estate to distract us, this actually remains a significant growth potential for us over the medium and long term. And our sector-leading customer service proposition means we're continuing to see repeat customers across all of our categories. In terms of the cost reduction actions that we've taken, we've continued to identify and drive increased operational efficiencies over the past 6 months. This includes removing hundreds of thousands of square feet of warehousing that we put into COVID, rationalizing vehicles and reducing our office footprint as well. We also continue to reduce our overheads. In the last 6 months through our lens of simplification, we've significantly reduced headcount, particularly in senior and middle management layers. And combined, these actions have significantly reduced our cost base going forward. So we anticipate that we'll have removed about GBP 30 million run rate of overhead. And given the large element of this relates to our people, I'd like to publicly thank everyone in that process for the AO way that they went about it because necessity doesn't mean at all that it's easy. We'll start to realize the full benefit of all those actions during the second half and fully into the next financial year. On Germany, ever since we decided to close our operations in Germany in June, we've been managing an orderly closure of the business. Trading ceased on the first of July and physical operations were largely closed about a month later. The main warehouse in Bergheim is now fully vacated and sublet to a new tenant and the strong interest in the remaining 2 properties that we have for sale. We now expect total cash cost for the closure to be around 0 against our original estimate of up to GBP 15 million. The majority of AOs in Germany have now left the business, and I'm grateful for the professional way that they approach this difficult situation. And I was really pleased that we've managed to help the vast majority to find new roles elsewhere. We've also mitigated the key risks and in true AO style have reached amicable solutions to any challenges that we face with partners in the territory. And by March '23, we expect to have materially exited Germany and the small number of property leases and contracts that remain will wind down throughout '24. So in summary, the actions we're taking are yielding the results we expected, and I'm pleased with the progress that we've made. We've always been a well-oiled machine, but we're now less complex and an even more efficient business as a result. We expect our EBITDA run rate to be about 5% in FY '24. We will see the benefit of the actions that we've taken in the second half, and this will mean that our profit for this year is around the top end of previous guidance. This excellent progress has not been achieved by accident, and I'm really grateful for the hard work of all AOs over the last 6 months. It hasn't been easy, but I'm proud of their commitment to delivering the plan. These are unquestionably tough times. But with over 20 years under our belts in this industry, this is not our first rodeo or indeed our first recession. Scale in our world matters, relationships matter and they are not built overnight. I said during COVID that when our manufacturers were experiencing hugely challenging times and supply chains but it was a time to deepen our relationships rather than exploit the situation for short-term profit. Well, that trust that we built with the consistency with how we've done that over 22 years, means that those relationships with manufacturing partners are now stronger than ever. And I'd like as ever to publicly thank all of them for their support through this period in the moments that have really mattered. As our industry-leading Net Promoter and Trustpilot scores show, we continue to amaze customers, old and new, through our obsession with treating them all like our [indiscernible] and making our moms proud as a result. And I'm very proud that from our humble beginnings, we retained the title of being the U.K.'s most trusted electrical retailer. So thank you for now, and I'll hand over to Mark.

Thanks, John, and good morning, everyone. It's good to get the COVID nonsense behind us and again, be together in person. So welcome, everyone, today. John has already been through the detail of our strategic focus for this year, and our medium-term objective continues to be a pivot towards cash and profit. The current economic landscape has clearly impacted this period. AO has tracked slightly behind the market with a 20% drop in sales, and this is a consequence of the tactical decisions we've made to stop certain sales or improve profitability. We've also removed free delivery slots from the site, and that was at the beginning of August. This offsets the growing cost of logistics given a growing realization with customers that deliveries aren't free. We've been pleased with the reaction from our customers who see the value and the quality of the delivery service that we provide. We've accelerated our pricing structure development, particularly in newer categories that have been in the investment and growth phase over the past few years. As a result, very few products in our loss-making with the corresponding margin drag removed. We expect and are planning for this to reduce sales volumes. Following these operational changes and the pivot's profitability, we have delivered 3-year growth of about 36% in the U.K. Gross margin has remained robust, given the global inflationary pressures of the last 6 months, maintaining margin this year particularly is as much about the actions that we've taken regarding what we stopped doing, not to charge more for as it is the usual actions around optimizing costs and sales prices. Our operating model review has focused on 2 key criteria. Does it operationally fit with what we do well and does it produce sufficient gross margin? Those that don't, we either have or will stop doing. We are optimizing the physical logistics network for current levels of sales, although shipping and driver costs remain elevated. We have a fixed price fuel agreement in place until February next year and that mitigates the price volatility in a key variable cost line in our logistics operation. Our drive to profit has seen the business make a number of changes around the overhead structure. We continue to invest in acquisition, marketing and brand, but we're no longer chasing sales into negative margins. We're reviewing our warehousing footprint to rightsize for our current logistics requirements. The management and operational simplification has led to a significant reduction in headcount and cost base. That reduction compounded with some limited hybrid working in the business leads on to us reviewing our office space requirements and we will continue to drive the cost base in line with sales with that laser focus that John mentioned on delivering EBITDA of 5% or more as we enter the new financial year. As we have worked on simplification, there have been a number of one-off costs that we've adjusted for in the period. These are associated with the discontinuation of the store trial with Tesco, termination costs of employees through the simplification program and some ERP software provisions. These exceptional costs totaled about GBP 3.6 million, including about GBP 2.6 million of those in cash. Looking forward to H2, our continued review of overheads could lead to further asset impairments, particularly in our property footprint. We have continued our focus on an efficient working capital model. Inventory levels have remained flat relative to sales, and we're happy with our current stock holding, although we'd maybe like a few more American fridges and PS5s. Global supply chains in our category are still not as efficient as pre-COVID, but the trend is definitely improving. Reductions in the levels of B2B stock as we exit those channels that John spoke about earlier, I mean we can do a bit more on general retail to protect customer availability. Debtors and contract assets have seen a small reduction since year-end. The focus on maximizing profitability in mobile has brought the asset down a little bit, and prepayments have fallen in line with revenue in the main retail business. Payables and contract liabilities have also both fallen since year-end, in line with the reduction in revenue. The working capital outflows we saw from peak trading in 2021 through to the summer of this year as our run rate reduced have now all normalized. We expect working capital to be fairly flat in the second half of the year. CapEx remains minimal in H1. And in H2, we expect to buy the land that is currently leased for our main recycling site, and we'll fund that mainly through a commercial mortgage. But otherwise, again, CapEx will be very low in H2. Our RCF expires in April 24, and we'll refinance that in the first half of 2023. For the year ended March '23, revenues as we remove certain pockets of sales are still expected to be in our guided range of GBP 1 billion to GBP 1.25 billion, with continuing adjusted EBITDA now expected to be around the top end of our previously guided GBP 20 million to GBP 30 million, and that's as we go through this pivot year. In the medium term, we're targeting adjusted EBITDA margins of over 5%, and we now expect to achieve this in our next financial year. We'll continue to focus on cash generation and again, in the medium term, we intend to deliver revenue growth of over 10%. In conclusion, we're making solid operational progress. The actions we are taking are delivering the results we expected. We continue to delight our customers and our manufacturing partnerships remain strong. I'd like to add my appreciation to John for the hard work and focus of our AOs through this challenging period. So thanks again for coming today. It really is great to be back together in person. And with that, we will take questions.

So we'll start with Jon from Peel Hunt.

[indiscernible].

Yes. So if we take the World Cup, I mean, clearly, we've been grit by dominating performance against Iran, which we should all think we're going to win the World Cup now. I think there's a simple formula, the longer it goes on through the World Cup, the more TVs we sell. So I think that's the way to think about it. From a Black Friday perspective, the Black Friday is a brilliant concept for consumers because it means that they can buy everything from a gifting point of view that they need for Christmas at discounted price rather than inflated prices or full prices. We're not seeing any great collision of the 2 that's creating any massive challenges. But clearly, we've planned through the lens that we've said that we want to make cash and profit, not give everything away through that period. So hopefully, that answers that. From a non-MDA perspective, again, we're looking at it through a profit and cash lens. And we're not just blindly chasing sales across those categories. So through our existing customer base, our growth and penetration in those categories is pretty consistent. Where we've pared back on that a little bit, is in the marketing efforts of attracting newer customers as the origination into those newer categories that was frankly still in investment phase. So we've pulled back on that. That will probably mean that the growth in those categories will be slower, but we're relaxed about that.

So I mean, do you see the sort of the percentage of like marketing shifting every time [indiscernible]?

Pretty happy macro area.

A couple of questions, if I could, please. John, if you could maybe expand on your perception of the Black Friday event for 2022. I guess it's never been particularly loved by most retail tailors. Do you see a declining volume this year? Or do you think it's going to continue to grow and grow at a [indiscernible]?

So I think the retailers that don't love it, I wouldn't count us as one of those. So we're all about delivering incredible value for customers. And I think Black Friday does that at a time that people want to buy stuff. So if you're a retailer that sits in a golden quarter and makes all your profit out of customers that need to buy stuff for Christmas and then you reduce the price after Christmas, I think it's quite problematic. So from our perspective, we think it's a great phenomenon. And I think that what's changing over time about is the shape of it. So it was an extremely big spike and that's flattening out more. So Black Friday is now more known as November. And so it's how do we deliver that value for customers but do it brilliantly. And so if you have such an accentuated spike around a few days, then it's impossible to do that from a logistics planning perspective, and it's both from a quality and cost-effective perspective. And the 2 very much go hand-in-hand. So what we've been working on is thinking much more from an airline perspective, all right, we're going to set ourselves up around an amount of capacity, but it's not an infinite amount of capacity. So it is very much more kind of when the capacity is gone, it's gone. And when the Ryanair plane is full, Michael is not going to put another plane on just because you want to book another 4 seats. So it's about how do we drive the profitability within those seats as well. And so where do we lean our marketing efforts within that. It won't surprise you to know that doing promotional coffee machines at [indiscernible] is not an area we're going to get particularly rich on. So it's a part of the mix, of course, it is, and it's a part of the promotional calendar, but it's not what we want to be filling all the seats up with. So I think just focusing more intellectually on through a profit and cash lens how we fill those seats so -- and how we make the most of the opportunity that is definitely present in that period.

Helpful then, Mark, maybe -- could you just give us a bit of color around the exceptional costs around the PLP project and what happened there and...

Yes. So of our exceptional charge is the biggest element by far was the people restructuring costs. But there were some small charges around some write-off of some software licenses that it doesn't look like we'll use in the short term. So we're obviously looking at a big bang ERP implementation last year, which we paused indefinitely. And as part of that, there was some licenses we paid for that we no longer require. Tony next because you're right there.

On sales, one question on sales, one on gross margin. Can you tell us what MDA sells decreased by within product revenue line? Could you also on sales tell us what your inflation was in terms of MDA and in total as sales question? Could you sort of take us through the sort of [ non movement ] of the gross margin? So I presume there's going to be some volume-related claim you did gain. So I know how you look at it, but if you could give us some sort of categories within the overall movement of gross margin to give us a bit more insight [indiscernible].

Okay. Do you want or I can do any or all of those...

Do you want to do the first -- the last one first, which is the fact that sales have stepped back has not created. We're working really closely with manufacturers such that we don't drive dysfunctional behavior around that. So that's not an issue within the mix. The rest of it.

Yes. So MDA sales, we are still very, very driven by MDA sales, Tony. And so I think you can close enough our top-line movement in sales is representative of MDA. So sort of the direction of trouble of the top line is similar for the category. It's so big for us. And so I don't think there's a meaningful difference. In terms of the mix of what's going on in gross margin -- sorry, I'll take the inflationary point. So inflation, we're probably seeing price inflation were about 7% something of that region. The -- taking the mix of gross margin, we've obviously seen -- sort of a number of bits go in there. So you've got the inflationary pressures that we're seeing in logistics, particularly. Towards the end of the period, we've improved our delivery charging somewhat, but that is right at the end of the period for the first half. We've also then got some mix effect. So we'll probably skewed slightly more towards MDA than we were in the prior period, which is helpful generally towards the margin. And so it's the basket of those things, but actually a lot of the actions that we've taken around whether it's action on affiliates, whether it's action on charging customers for delivery, most of that's happened right at the end of the first half, so there's not a lot of impact actually in those numbers.

[indiscernible].

Yes. I think -- and on the inflationary point, we've seen that go into the market faster than ever on the basis that nobody sat around with that margin being able to absorb it as those price increases have come through from manufacturers due to their own input costs explode quicker than ever into consumers.

So -- but in terms of the trend we currently [ 7% ] or we currently [ 3% or 10% ]?

Well, so it is obviously kind of -- it tends to stick, and it's also dependent on exchange rates. And so we were mindful that there was likely to be another batch coming through in January as it stands now. I think there's a bit more of a wait and see given the sort of the strengthening of the pound versus the dollar in recent weeks.

[indiscernible]. In terms of the input costs, shipping freight rates are up, they're down around 7% year-to-date. How much of that are you seeing [indiscernible]?

Yes. So in line with sort of all of the U.K. electrical retailers, we pretty much buy everything in a U.K. landed price from the U.K. subsidiaries of the global brands. So we all buy from Samsung U.K. in pounds in the U.K. And so actually that sits in the books of Samsung rather than us. And so that will be partly to do with the increase in input prices that we're seeing partly reflects the raw materials but also shipping and interest rate -- sorry, exchange rates all sit effectively in the suppliers' books, and it's consistent for electrical retailers in the U.K.

And we don't have an OEM business where we'll own the brand and take control of all the shipping and everything that goes through, so it's not a part of our business of any materiality. Simon?