Coats Group plc (COA) Earnings Call Transcript & Summary

Good morning, everybody, and welcome to today's Coats Investor Call. My name is Drew, and I'll be your operator today. During today's call, there will be a Q&A session. [Operator Instructions] I will now turn the call over to Jackie Callaway, Coats' CFO, to begin. Please go ahead.

Good morning, and thank you for joining us. Today, we are delighted to announce that we have delivered a major step to full derisking of the U.K. pension scheme. We have a series of slides that explains what has been agreed and the implications of this transaction, which will take about 10 minutes to run through before we move to Q&A. Starting on Slide 3, which sets out the key elements of the transaction with PIC. We have agreed a GBP 1.3 billion buy-in, which ensures the remaining 80% of benefits payable from the scheme. This builds upon the transaction we announced in December 2022, which covered the first 20%. As a result, the transaction today ensures that 100% of risks related to the scheme's liabilities are now hedged. This comes at a cost of up to GBP 100 million or $128 million, which will increase leverage to an anticipated 1.6 to 1.7x in 2024. This remains comfortably within our targeted range. This funding is structured as a GBP 70 million upfront contribution and a GBP 30 million loan to the scheme while certain costs are finalized, and we realized long-term assets of circa GBP 90 million. These long-term assets are a common feature of the pension scheme and will be realized in the normal course of business either by redemption or on the secondary market. Back in January 2024, we temporarily switched off deficit contribution payments of circa $30 million per year, and these contribution payments will now permanently cease as a result of this transaction. The transaction also confirms that no further cash contributions will be made, which provides certainty over the group's improving free cash generation. We will use the veto cash generation to accelerate revenue growth or return cash to shareholders. Later in this presentation, we'll give our updated capital allocation framework. Slide 4 highlights the significant progress we've made over the last 10 years to now eliminating the pension deficit. While we have made significant cash payments to the scheme, we've also worked hard on a collaborative basis with the pension trustee to get to the situation we are in today. On Slide 5, we thought it was useful to outline the key events on a timeline between 2013 and today, as well as what comes next through to the point where we have the option to compare it to a full buy-out and remove the pension liability from our balance sheet in 2027. This leap journey from back in 2013 to today's positive news demonstrates Coats' intention to always be a good corporate citizen and to do the right thing for its wider stakeholders. Focusing on what comes next, the planned activities between September 2024 and late 2026 enclosed finalizing the detailed insured benefits and data. In conjunction with the pension trustee, we've already completed significant due diligence on this data over the last 18 months. Realizing circa GBP 90 million of long-term scheme assets. As I mentioned earlier, these long-term assets are a common feature of the pension scheme and will be realized in the normal course of business, either by redemption or on the secondary market. Paying to PIC an GBP 80 million deferred premium and finalizing data true-ups and at the end of the process, we will see if there's any surplus funds. If so, some or all of the loan will be returned to us. Our full refund to loan also covers the expected costs of finalizing all the administration needed to achieve the full buy-out, including the existing business as usual administration expenses of circa $5 million per annum. On Slide 6, I wanted to put on record our thanks to advisers and the pension trustees. It has been a combined effort, and we could not deliver this outcome without each of you and your efforts. Given we have achieved certainty on pension, the Board has updated our capital allocation framework. It should not be a surprise, but we think it is helpful to provide clarity. In priority order, we are aiming to accelerate organic growth with $30 million to $40 million of CapEx per annum as well as developing new products. We then intend to pay a progressive dividend, which in recent years we've been growing at 15% per annum. We then are looking to execute on value-accretive M&A, where we have a good pipeline of potential transactions. And we can do all of this while maintaining financial leverage within our target range of between 1 and 2x. Should leverage fall below the 1x for a sustained period, then the Board will consider additional shareholder returns such as buybacks. We have an exciting future underpinned by a clear capital allocation policy. So now moving to Slide 8 and to summarize. The U.K. pension liability risks are now 100% hedged, which is the major event. To achieve this, we'll pay up to GBP 100 million of cash. To finalize the transaction, it will take 24 to 36 months given the requirement for data true-ups and asset realizations. This gives us the option to remove the scheme entirely from the balance sheet in 2027. And this transaction and the outcome is an exciting step forward that will help to accelerate growth and generate greater returns. And on that note, we'll be happy to answer any questions you have. I'll pass back over to the operator.

[Operator Instructions] Our first question today comes from Charles Hall from Peel Hunt.

Jackie, well done. Great results to finally get here.

Hi, Charles. Would you mind just speaking up a little louder for us?

Is that better?

That's much better. Thank you.

Excellent. Just a few questions. Obviously, there'll be an interest charge connected with the cash payment. How does this affect your profit guidance for the year?

Yes. So I think in terms of numbers, Charles, the only number we see changing at this point is an increase in net debt of GBP 100 million, which was -- which came out of the bank account for us today. We don't see any other changes to guided numbers. So no change to expectations for this year's numbers.

Got it. That's clear. And then secondly, on the dividend, you alluded to the 15% you've been growing in the past and talking about aggressive policy. Is that a sort of indication that it will be broadly that sort of level in the short term?

Yes. So I think on the dividend, we've always had a progressive dividend policy. We always look to move forward with that. I think a good indication of the fact that we had it at 15% in the past, a good indication for the next few years on where that dividend will [indiscernible].

Perfect. And then lastly, on M&A. Does this change your appetite for acquisitions or the scale of acquisitions you might do, given that obviously, it puts up the net debt to EBITDA?

So absolutely not, it doesn't. As you saw with our capital allocation framework, M&A forms a big part of what we want to do going forward. I would note that we start to deliver quite quickly as we move into next year. And we're very much, as we talked about at our half year results, we're focused on looking at exciting pipeline and certainly, particularly in the area of footwear adjacencies, potential bolt-on acquisitions where we can use our balance sheet.

Our next question today comes from Bruno Gjani from BNP Paribas.

I guess the first one is just around the mechanics of the loan. Could you provide some further color in terms of what are the key drivers that may influence how much of it may be recoverable? And I guess, how we should be thinking about that?

Thanks for the question. Very nice. So the loan of GBP 30 million, we've got this in place because we do not want to get to the end of ramping up all the estimates that we've got here and ramping up the pension scheme and having a surplus that is a great support from a tax perspective to get back out of the scheme. So there's a couple of things that we do need to finalize over the next 2 to 3 years. One of them is GMP utilization. So we need to go through that process as all other pension schemes need to do. So we need to do that. We've got the ongoing administration cost of $5 million per year, plus any wind-up costs that's in the GBP 30 million loan. And also, we just need to realize those long-term assets. So as we go through those 3 steps, we will see what surplus we've got at the end. If there is a surplus we'll return to the Group. So from a cost perspective, it's going to cost somewhere between GBP 70 million and GBP 100 million. We won't know that final cost until we get through the next 2 to 3 years.

That's very clear. And I guess aside from some of the de-risking benefits and the implications on capital allocation, are there any softer benefits from this latest action? I guess, by that, I mean how much of your time has been consumed by the -- in recent years? How restrictive has it been in terms of strategy, if at all?

So it's actually a really good point, Bruno. We've spent a significant amount of time. Certainly, in my 4 years here as CFO, has spent a significant amount of time in this area. Well, absolutely, it will be great to move forward, particularly in our engagement with potential new investors and to just talk about our core business and not spend a lot of time explaining the pension scheme. We do feel that this has been quite an overhang to the stock. So we're delighted to have the news today and have this fully bought in and now much journey to getting it off balance sheet over the next 2 to 3 years.

Our next question today comes from David Farrell from Jefferies.

I just wanted to kind of explore any ongoing pending contributions relating to the outstanding U.S. and German pension liabilities that you've got on your balance sheet. Are there any kind of ongoing costs that are being paid into either of those?

Yes. To me, in terms of pension schemes outside of the U.K. over the years, we have a scheme in the U.S. That scheme is actually in surplus. So there's no funding requirements there. We have a couple of schemes in Germany. Those are pay-as-you-go schemes, so there's not a material amount going into those schemes. And then we have a tail of much smaller schemes, which as I described, they're not material and even in aggregate.

Okay. And can I just ask in terms of the incremental returns to shareholders. You kind of mentioned saying a sustained period below 1x. Other companies in the sector have engaged with buybacks with leverage over 1x, perhaps 1.5x. Why is below 1x the right number to start that?

Yes, we for some time have had a policy of keeping our leverage between 1 and 2x. We certainly want to grow both organically and inorganically. So I think that when we set that the target of 1 gives us the ability to use the -- 1 and 2 gets us the ability to use the balance sheet to fund an organic growth. Should it fall below 1 for us and we don't have any immediate M&A opportunities, then we would look at other ways of returning capital to shareholders, and that would be most likely on some form of buyback.

[Operator Instructions] Our next question comes from Maggie Schooley from Redburn Atlantic.

Congratulations, I know this has been a long time in the making. I just had 1 quick question follow-up. Clearly, you think leverage will go down over the next couple of years, and you have historically displayed that even when paying the pension contribution. But given challenging markets, would you still expect that deleveraging to be between 0.3 and 0.5x? And what gives you that confidence in perhaps when we think about your leverage and the way that clients pay you, there's very little credit risk? But if you could just kind of talk to us a little bit about the confidence in these challenging markets of that deleveraging.

Yes, I think, Maggie, we've seen -- as we reported in our half year results, we've seen -- we've gone through recovery of the destocking. We've seen the business return to growth. So -- and we -- as we stand at this point, we're trading in one of the expectations. So I think going forward, we remain confident on the outlook. We've dramatically improved the quality of the earnings of the company. So we do see that we will deliver around sort of 0.3 to 0.4 annually going forward. That's how I describe it at this point.

It looks like we have no further questions in the queue today. So I will hand back over to Jackie for any closing remarks.

Thanks, Drew. And just I'd like to close by thanking everyone for joining the call today. As was mentioned, this is exciting news for us. I'm sure there may be some further questions that come out over the next few days. We'll be happy to take those on a one-to-one basis. Thank you very much, everyone, and have a good day.