Coles Group Limited (COL) Earnings Call Transcript & Summary

Thank you for standing by, and [ welcome to the Coles Group Limited ] FY '21 Results Conference Call. [Operator Instructions] I would now like to hand the conference over to Mr. Steven Cain, CEO. Please go ahead.

Thank you, and good morning, everyone. Steven here. Welcome to our 2021 full year results announcement. Joining me on the call today is Leah Weckert, our CFO. Once again, we are presenting our results from a locked down Melbourne. It's hard to believe that it was only 2 months ago that we had our Virtual Strategy Day here. Much has changed since then, most notably, the amounts of the Delta COVID-19 strain; the relief of the vaccination program which will see the majority of Australians vaccinated by Christmas; and the road map to normality, including migration. The good news is there is finally a light at the end of a 2-year tunnel, and I, along with many others at Coles, are looking forward to 2022. During FY '21, we've experienced 11 COVID lockdowns, and again, I would like to acknowledge our team members, suppliers, community partners and the various governments for their resilience and support to secure our food supply chain and deliver a safe in-store environment for our customers. With that, I'll move into the presentation for today. So Slide 1. I'd like to start by briefly talking about our vision, purpose and strategy, which was launched 2 years ago and designed to build trust with all stakeholders, our ecosystem, if you like, and grow long-term shareholder value. Whilst we've made significant progress, we recognize the majority of our transformation and associated benefits are still to come, particularly those that relate to our automation projects with Witron and Ocado. The operational highlight for the year was the improvement and acceleration of our e-commerce business and omnichannel offer, which exceeded $2 billion across the group for the first time. We introduced more unique and innovative products, particularly through own brand; rolled out new formats like Coles Local and Black&White Liquorland, launched our new Together to Zero sustainability strategy in our quest to be Australia's most sustainable supermarket. Moving on to Slide 4. I will not go into this slide in too much detail as most it will be covered later, but it serves as a reminder of where we have come from since our demerger in FY '19. It is clear we're making real progress against each of our strategic pillars of Inspire Customers, Smarter Selling and Win Together. As we look to the future and increase investment and pace of change at Coles, you will see an increasingly differentiated omnichannel offer around own brand, Ocado, team engagement and sustainability, supported by longer-term supplier relationships and our Smarter Selling program. Moving on to Slide 5. With regards to the financial results for FY '21, total sales increased by 3.1% to $38.6 billion. On a 2-year basis, headline sales increased by 10.2%. EBIT increased by 6.3% to $1.9 billion, and we delivered operating leverage across all 3 segments of the business. Net profit after tax increased by 7.5% to just over $1 billion. Smarter Selling continues at pace and delivered around about $300 million. Capital expenditure was pretty much as forecast, $1.1 billion. Operating cash flow was $3.6 billion. And strong cash realization of 106%, complementing a strong balance sheet for future growth with net debt of just $355 million. For our shareholders, I'm also pleased to report a fully franked dividend of $0.28 per share, taking the total dividend for FY '21 to $0.61, a 600% increase -- sorry, a 6% increase compared to FY '20 and totaling around $800 million, which will go to many millions of Australian shareholders, either directly or indirectly invested with Coles. With COVID-19 still a part of our lives, we have continued to focus on team member safety, mental health and well-being, including investments in technology and distribution centers and manual handling equipment in stores. I will now take you through some of the strategic highlights in more detail, starting with inspiring customers. Moving on to Slide 6. We have made good progress against this pillar of our strategy by improving customer advocacy (NPS) and delivering innovative and differentiated products for our customers. Our market share position has improved with the Q4 exit position restored to pre-COVID-19 levels as shopping centers recovered and local shopping unwound. I will discuss this in more detail later. We made significant progress in building trust and loyalty with our customers, and we are now ranked as one of Australia's most trusted consumer brands in the Roy Morgan survey. We led the industry and removed door-to-door paper catalogs back in September last year, saving more than 260 million printed catalogs to date. We also launched Coles And Co, which provides a far more personalized digital experience for our customers around recipes and promotions. As more consumers shifted towards purchasing online, e-commerce sales grew by 52% for the year with Q4 growth of 62% and a penetration of 6%. I will go through some more detail on e-commerce later. Sales of exclusive to Coles products, which includes Coles own brand and exclusive proprietary brand products grew by 5% with penetration now at 32%. 46 Coles brands won awards during the year, and we made progress on our trusted and targeted value with 30% of our store layouts now tailored and an extra almost 500 products on everyday low prices. Our convenience offer is now available in more than 300 stores, providing a quick and easy solution for the many customers wanting high-quality, ready-to-eat meals, many produced by our own facility in New South Wales. Finally, in liquor, e-commerce sales grew by 79% for the year, and we enhanced our omnichannel capabilities in this space through the opening of 3 e-commerce dark stores in Victoria, Queensland and Western Australia. Moving on to Slide 7. As I mentioned earlier, a key operational highlight for Coles was the step-up in our e-commerce capabilities. With millions of Australians currently in lockdown and through the 11 lockdowns we experienced in FY '21, more and more of our customers are turning to Coles online to get their essential food and groceries. From a financial point of view, fourth quarter growth of 62% was supported by investments made in capacity and digital customer experience. E-commerce penetration was 6% in the fourth quarter, and this has increased to 8% in the first quarter of FY '22. In New South Wales, this now is in double digits. Customer metrics remained strong with NPS almost doubling over the year helped by improvements in the perfect order rate delivered in full and on time. We know the importance of the omnichannel customer. In the fourt quarter, the omnichannel experienced that customer spent more than 2x that of an in-store-only customer. A number of new services were also added during the year, including same-day home delivery, now available in more than 300 stores and Click & Collect Rapid, in 90 minutes, available in more than 400 stores. Our Coles Plus membership has seen a significant increase in paid members since the relaunch in February 2021, and we're working hard in the background on delivering Ocado, which has delivered a differentiated and leading home shopping experience for shoppers in the U.K., France and Canada. Now moving on to our second pillar, Smarter Selling, which is Slide 8. We achieved Smarter Selling benefits of approximately $300 million, despite the challenges presented by COVID-19, which is helping drive operating leverage in the business. Some of the initiatives implemented during the year include data and technology-led solutions supporting store operations, including our smarter forecasting tool. We implemented measures to reduce loss through the use of artificial intelligence to optimize markdowns. And we introduced loss-prevention initiatives such the installation -- such as the installation of electric entry gates at the front of store. We also introduced new customer self-service solutions at the checkout such as customer bagging benches and trolley-assisted checkouts. This enabled greater customer choice and increases in team member productivity. During the year, we also commenced implementation of fresh produce easy ordering. This is the last of our categories that needs this to happen, and we'll make the business far more efficient in the future. We also saw construction progress significantly at the Witron automated DCs in New South Wales and Queensland and at the Ocado CFCs in Melbourne and Sydney. Supporting an efficient and agile workforce, we launched a new people and payroll system called myhub. myhub replaced over 16 disparate people systems, providing a one-stop shop for our team members. Finally, our tailored store strategy continued with 65 supermarket renewals completed during the year, including 10 Format As, 36 Format Cs and 4 Coles Locals, including the first one in Queensland. Moving on to Slide 9. Since the commencement of our Smarter Selling program, we've now delivered cumulative benefits in excess of $550 million. As you can see on this slide, the team have done a fantastic job in delivering sustainable savings, primarily in logistics, stock loss and waste, store remuneration and then the split of the benefits of approximately 40% in GP and 60% in cost of doing business. Our plans are not changed, and we continue to target $1 billion of benefits by the end of FY '23. Moving on Slide 10, Win Together. One of the key highlights in the latter part of the year was -- has been the launch of our sustainability strategy. And as a reminder, we are committed to net zero by 2050, 100% renewable electricity by the FY '25, reducing our Scope 1 and 2 emissions by 75% by the end of FY '30 and diverting 85% of waste from landfill by FY '25. In terms of other highlights under the Win Together pillar, I said at the start, we've improved safety by 15.7% in the business. And I do feel that we have a safety embedded culture at Coles. We invested in team member mental health and well-being with the launch of monthly manager health communications, and we continue to hold GEM challenges, which is gratitude, empathy and mindfulness, throughout the year for our team members. We supported diversity through increased gender balance with a 2.3% improvement in women in leadership positions, and we did this through a focus on developing female leaders, particularly in our store manager and technology teams. We were recognized as a leader in LGBTQI inclusion, winning for the first time a Gold Workplace Equality Index award. We're also improving the ways in which we work with our suppliers and recorded our highest-ever engagement score in the 2021 Advantage supplier survey, which is the widest supplier survey in Australia. Working with our dairy farmers, we announced an extended direct milk sourcing model to Tasmania, and we further expanded the model in Victoria, New South Wales and South Australia to supply milk for Coles branded cheese, allowing more dairy farmer suppliers to enter longer-term relationships with Coles. Contributions to charity and community partners in FY '21 included more than $6.7 million for FightMND, a new record; and $2.5 million for children's hospitals across Australia through the Curing Homesickness fundraising initiative with Mum’s Sause. Finally, we continue to focus and support team members and communities through COVID-19 lockdowns and natural disasters. This year, we saw bushfires and cyclones in Western Australia and floods in Queensland and New South Wales as well as several derailment in WA as well. Moving on to Slide 11, which is our market share. We shared with this slide with you on the Strategy Day, but we've updated it for Q4, which has our market share at 27.1. While we are not reporting our monthly market share, the Q4 exit market share has been restored to pre-COVID-19 levels as we saw the performance of our shopping centers improve as the local shopping trend began to unwind. Of course, we expect more local shopping from the latest lockdown restrictions, particularly in New South Wales and Victoria, but it was pleasing to see that as restrictions did ease in the fourth quarter, our market share improved. Finally, on to our strategy tracker, as we do at every results presentation. This is the Coles strategy tracker, and I am pleased to say that we remain on track for most of our metrics. As I've outlined today, we've made progress on safety, customer satisfaction, market share, sales densities, Smarter Selling efficiencies, profit growth and cash realization. Whilst we've improved team member engagement over the last 2 years, we did step back slightly this year, and this remains a focus for us in FY '22. We will continue to report on our progress with the next score card update at our interim results in February. With that, I will now hand over to Leah, who will take you through the financial results in more detail. Leah?

Thank you, Steven, and good morning, everyone. It is nice to be speaking to you today again with a strong set of financial results for the year. I'm on Slide 14. You see that the group sales increased by 3.1% to $38.6 billion, and on a 2-year basis, we have grown group sales by 10.2%. Group EBITDA grew 5.4% to $3.4 billion, while group EBIT increased by 6.3% to $1.9 billion. And pleasingly, we achieved operating leverage across all 3 segments during the year. Net profit after tax increased by 7.5% to $1 billion, and the Board has determined a final dividend of $0.28 per share. This takes the total FY '21 dividend to $0.61 per share, a 6% increase on FY '20. Moving now to Slide 15. As I just mentioned, it is pleasing to report sales revenue growth and strong EBIT growth across all segments. In supermarkets, sales increased by 2.6%, despite cycling a significant pantry stocking event that occurred in March and April of FY '20, followed by the national lockdown. We have delivered strong 2-year growth at 9.6%. Sales were driven by elevated demand in Victoria during the lockdown in H1 as well as strategic initiatives that have resonated with our customers; successful value campaigns, including helping lower the cost of breakfast, lunch and dinner; and the MasterChef cookware and knives campaigns. Most pleasing is the growth we have achieved in e-commerce of 52%. This e-commerce growth was supported by the enhancements to the customer experience, additional home delivery and Click & Collect stores and the launch of same-day home delivery, the Coles Plus subscription offer and Coles Rapid. Supermarkets EBIT increased 5.2% to $1.7 billion. This was delivered through sales growth and approximately $300 million of Smarter Selling benefits, in addition to strategic sourcing initiatives, which have helped to offset the approximately $130 million of COVID costs during the year. This has resulted in 13 basis points of expansion of EBIT margin to 5.0%. In liquor, sales increased by 6.6%, very strong on a 2-year basis at 15.1%. E-commerce sales growth of 79% was underpinned by the opening of 3 dark stores in Victoria, Queensland and WA during the year. Liquor EBIT grew by 19.6% to $165 million with a 49 basis point expansion in the EBIT margin to 4.7% as the high proportion of fixed cost in the liquor cost base were fractionalized across the elevated demand driven by COVID-19, particularly during the Victorian lockdown in H1. Express same-store sales grew 7.7%, driven by growth in Food to Go, in particular, coffee and cold drinks, with both of these categories benefiting from investments in new self-serve coffee machines and fridges. Express EBIT grew 103% to $67 million, up from $33 million last year, despite the challenging fuel environment, and this was through a focus on same-store sales and very disciplined cost control. The Other segment recorded net cost of $61 million for the year. Corporate costs were $83 million as industry-wide increases in insurance were seen and an increase in the workers' compensation provision was taken, reflecting claims experienced over the past 12 months. Earnings from property operations were $27 million, and Coles' 50% share of Flybuys' net result was a $5 million loss. Turning now to Slide 16. Operating cash flow, excluding interest and tax, was $3.6 billion with strong cash realization of 106%. Higher provisions compared to last year are a result of higher employee entitlement provisions with less team members taking leave during COVID-19 as border closures have curtailed travel plans. There was also an increase in the workers' compensation provision due to COVID-19 delaying access to medical treatments for some injuries. Turning now to Slide 17. Gross operating capital expenditure on an accrued basis increased by $278 million year-on-year to $1.1 billion, in line with our previous guidance. Store renewal spend increased year-on-year with an increased weighting towards bigger schemes with more Format A and B renewals done in FY '21 compared to FY '20. There was also an increased spend on conversions of existing stores to the Coles Local format, 4 of which we launched in FY '22. In FY '21 we introduced a new program called Rapid Innovations Rollout, which takes the best of innovation from Coles Local and innovation stores, such as Tooronga and Moonee Ponds, and quickly rolled it out to large traders across the network without the need for a full renewal. This has included innovations such as mochi and fresh squeezed orange juice machines. We saw a step-up in growth initiatives, being those that we expect to drive top line sales. This included increased new store openings, a step-up in the Ocado project cost and acceleration of our e-commerce offer. Increased spend on efficiency projects primarily reflects the ongoing commitment to the Witron implementation, together with supporting our Smarter Selling program in-store and DC network operational improvements. At the time that we announced the Witron DC, we indicated that the total capital spend to complete the 2 DCs in the New South Wales and Queensland would be up to $950 million. We remain on track to deliver the 2 DCs within this amount. FY '22 will be the peak capital spend for the project with approximately $290 million of capital spend. By the end of FY '22, approximately $690 million of the $950 million will have been incurred or just over 70% of the way through the projected spend. This is why we have called out a step-up in Witron and Ocado project OpEx in FY '22 as these projects get nearer completion, and construction and development activities peak. As previously communicated, we expect one-off project OpEx associated with the Witron and Ocado projects to be up to $75 million in FY '22 and up to $160 million in FY '23. Finally, we reported a net outflow of property CapEx of $35 million as acquisition and development activity exceeded divestments. The primary driver of this was a large number -- sorry, a number of larger developments, including Cobblebank in Victoria, Whiteman Edge in WA and Andergrove in Queensland, all of which are now open and trading with strong early results. I'm turning now to Slide 18. At the Strategy Day in June, we indicated that gross operating CapEx was expected to be up to $1.4 billion in FY '22. We have a strong balance sheet with capacity to invest. Cost of debt remains very low, and we have opportunities available to us in our core business, which will deliver a strong return well in excess of WACC. The incremental investment will be directed to areas where we can take advantage of changing customer preferences that have emerged, including during COVID, since we put our original plan in place in FY '19, and enable us to build a business that will be on an even better strategic footing in a few years' time. These initiatives include initiatives in e-commerce to take advantage of the COVID-driven acceleration of online shopping; acceleration of our successful format trials, including the Black&White format for Liquorland and Coles Local, which we will look to now start to scale; enhancements to the customer offer in response to changing customer preferences for increased convenience, health and cuisine experimentation; and also building on the early success of the Best Buys program; and finally, Smarter Selling initiatives such as the trolley-assisted checkout that we have trialed in FY '21 in Tooronga and Moonee Ponds with strong customer feedback and efficiency savings. Turning now to Slide 19. We continue to maintain a strong balance sheet to provide flexibility for future growth. At 27 June, we reported working capital of negative $1.2 billion, capital employed of $11.1 billion and net assets of $2.8 billion. We reported net debt of $355 million, and our leverage ratio stepped down to 2.8x. Trade and other receivables reduced following the settlement of a one-off property loan that dated back to 2014. PPE increased as a result of investments in new stores, renewals and milestone payments for the Witron DCs. We are exiting the year with a balance sheet that enables us to invest in the business, as I outlined before. Turning now to Slide 20. We continue to take a disciplined approach to capital management. The total dividend for the year of $0.61 per share represents a dividend payout ratio of 81%. During the year, Coles issued AUD 450 million medium-term notes comprising $300 million 10-year fixed rate notes and $150 million 5-year floating rate notes. The proceeds of these notes were used to retire existing bank debt facilities. The weighted average debt maturity of drawn debt was 6.9 years as at 27 June, with undrawn facilities totaling $2.4 billion. We remain committed to extending our debt maturity profile over time and retaining investment-grade credit ratings with S&P and Moody's. As I mentioned, our leverage ratio, a key measure for the credit rating agencies, stepped down to 2.8x, further supporting ongoing flexibility for growth. I'll now hand back to Steven, who will make some concluding comments on the outlook before we get into Q&A.

Thank you, Leah. So as you can probably see here, it's been an elevated first 7 weeks of Q1 with sales of 1% on a headline basis, cycling the hard lockdown in Victoria last year, of course, and 12% on a 2-year headline basis. As I said earlier, e-commerce penetration is 8% in the quarter, showing strong growth, and New South Wales well into double digits. In July, supermarkets incurred up to around $15 million of COVID-related costs, which is slightly up on where we were at the back end of FY '21. In Liquor, sales in the first 7 weeks of Q1 have remained strong with headline growth flat and 1 -- I'm sorry, and 19% on a 2-year headline basis. Investments in the customer offer and capability as part of Liquor's refreshed strategy will also increase across the year, including the Liquorland renewal and new store program. In Express, fuel volumes continue to be impacted by lockdowns with average weekly fuel volumes of 49 million liters in the first 7 weeks. Obviously, we expect that to improve as lockdown eases. In the first quarter, Express will be cycling elevated tobacco sales in the prior corresponding period as well as the impact of no increase in the tobacco excise in September 2021. In Other, FY '22 corporate costs are expected to be approximately $75 million, and property earnings are expected to be slightly below that achieved in FY '21. Smarter Selling benefits are expected to exceed $200 million, and Coles expects to renew approximately 50 stores and open approximately 20 stores in FY '22, subject, of course, to COVID-19 restrictions. F '22 will be a significant financial year in capital and operating expenditure as a result of Coles' 2 major commitments announced in FY '19 around delivering world-class technology solutions to improve efficiencies and customer experiences. For the 2 Witron centers, Coles expects total capital investment of $950 million, which is what we originally signed off, of which $290 million will be incurred in FY '22, along with increased levels of operating costs as Coles prepares for start-up and double running of the Queensland facility in the first half of FY '23. For the 2 Ocado CFCs, further project costs will be incurred as Coles prepares to commence operations during FY '23 in Melbourne and FY '24 in Sydney, subject, again, of course, to COVID-19 restrictions. Coles expects to incur a one-off budget operating cost of up to $75 million in FY '22 and $160 million in '23 across both programs, as previously advised. The longer-term operational, customer and financial benefits of these major technology investments will be reflected in the company's financial performance commencing in FY '24 and beyond. As we talked about at our Strategy Day, and Leah has just mentioned, gross operating capital expenditure is expected to be up to $1.4 billion in FY '22 as we invest in omnichannel, fresh produce easy ordering, front-end transformation, Coles Local and Liquorland renewals and more new stores. There is is no change to current guidance of net property capital expenditure of around or up to $100 million either way. Thank you for listening. I will now hand back to the operator for Q&A. Thank you.

[Operator Instructions] Our first question comes from Ross Curran of Macquarie.

Congratulations on a great result. Steven, I was wondering if we might be able to drag out a little bit more detail on current trading maybe state-by-state and whether the extra capacity you've added online means that your market share this time around is not going to be as negatively impacted versus last time when we're in lockdown.

Yes. Good morning, Ross, and thanks for the question. Current -- as we said in the statement, current trading is volatile by state, by day, by hour and it's almost the biggest challenge we've got at the moment is keeping up with the changing sales profiles that we're experiencing. However, what I would say overall is when a lockdown happens we're seeing shorter, less spiky panic buying, which suggests that people are getting used to lockdowns. And then as we enter longer lockdowns, and particularly the 5-kilometer rule, that's then when we see that real move to more e-commerce and more local shopping. In terms of the store cohorts, we've seen perhaps not as significant yet amount of change as we saw last time, but we have seen neighborhood stores increasing by double digits, and we have seen shopping centers reducing by double digits. So the same sort of phenomenons as last time but not yet quite as marked. The point about online is a good one. We're in a far better space this year than last year in terms of both capability and capacity. We'd still probably like more if we could, but the online business is in good shape. And it means that I think that for those competitors who don't have a strong online offer, then clearly, they'll move those out to shoppers who want home deliveries or Click & Collect to the boot of the car.

Is it too early to get a comment on Coles Plus and how that's worked?

Yes, I think so. With all the background noise, I mean it's been successful, but we've got grand plans. We want it to be a lot bigger than what it is today. But I think the focus for people is just on getting their shopping and whether that's the boot of the car or at home. And that's what we're very focused on at the moment is just meeting the demand.

Our next question is from David Errington of Bank of America.

Probably, Leah, this is directed to you. If we could go to Slide 23, the Supermarket's result, where I was encouraged, and I think most people on the call will be, is your cost performance in the second half, your cost of doing business performance. I noticed in the first half, your cost of doing business was up 40 basis points, and in the full year, it was only up 22%, and on my math, the cost of doing business half-on-half actually declined. Your gross margin, though, was a little bit not as strong, but I'm assuming that there's price deflation that's come back in here. But I was wondering, Leah, you normally give us a little bit more color as to what's happening in your cost line, what the moving parts are like with COVID costs there. Because there's a lot of moving parts, underlying costs, there's Smarter Selling, there's improvements in efficiencies, but there's also underlying cost inflation. Would you mind giving us a bit of a -- a bit more of a detailed breakup as to what the cost performance was. And in particular in the second half, it seems to be that you really did see some good cost performance in that second half as sales moderated.

David, yes, sure. So I'm going to start with it on a full year perspective, and then we can talk about H2. So as you mentioned, in terms of the way I kind of think about the building blocks of this, we've got the underlying cost inflation on the cost base of last year, if you like, and that was -- continued to be in the order of between 2.5% and 3%. We then had increased CODB dollar costs from the variable cost of the incremental sales year-on-year. Now that is different for H2, obviously, where we have decline in the half. But at least for the full year, you've got a block there of variable costs. And that was slightly higher in terms of the rate for us than last year because we are seeing a higher online mix in that. And then offsetting that, you've obviously got your Smarter Selling benefits, of which we had around 300 -- approximately 360% of that went to the CODB line. And we also had lower COVID costs year-on-year. So in FY '20, the COVID costs for Supermarkets were in the order of around $205 million. In FY '21, they were around $130 million, and about 75% of each of those numbers went to CODB. So that was a tailwind. And then offsetting those, we did continue to make some strategic investments with increases in the D&A, increases in marketing spend and some investments in digital from an OpEx perspective. So that's the key blocks from a full year perspective. If we talk about H2, the CODB rate for H2 in FY '21 was actually broadly in line with the rate for FY '20. And what you're seeing with the decline in terms of the CODB dollars is a 2-point -- around 2% decline in your CODB dollars, which just translates to -- you've also got a 2% decline in your sales. And so what you're really seeing there is that, that sort of variable cost of sales block that I usually talk about, that is just getting backed out of your H2 position.

And that's pleasing because it means that it wasn't embedded, that you actually could get those costs out when sales dropped, which is pleasing because there was concern that those costs would be embedded. So that's got to be a pleasing outcome.

Yes. They -- I mean they truly are variable, and we spend a lot of time using our advanced analytics tools to get a lot of these measures right in the way that we do forecasting in-store for REM and what we're expecting from sales and also having something which is quite dynamic in the way that it responds to how we're seeing trends from the previous week and the previous days. So it is something that we are able to quite successfully flex up and down based on the sales volume that we've got going through.

And quickly, just a follow-up, Leah, I'm not taking up too much time. You mentioned 2.8% as your leverage, that you think it's a little bit under. What do you think would be appropriate for a company like Coles, that leverage ratio? Because you've got a strong balance sheet, where do you think you could take it? So in other words, how much latency have you got to invest in some of these projects that you've got?

We don't have a target leverage ratio per se. What we continue to be committed to is retaining solid investment credit rating. Now the leverage ratio has decreased this year. But as I kind of look forward over the next couple of years with the capital program that we have in place, I would expect both the net debt and that leverage ratio to move up, but still sitting below the levels that we're at when we first demerged. And I think that's why we feel that this capital -- incremental capital that we have announced is a good decision for us because we can quite comfortably do it within the capital structure that we've got.

Our next question is from Ben Gilbert of Jarden.

So not to disagree with David, but I would have thought that the second half cost could have actually been up a bit more given that pretty much all of those $200-odd million of COVID cost in fiscal '20 would have fallen in the second half. Can you give us an idea of maybe just that split for first half, second half of COVID cost for this year. And then I know this is a really difficult question, but should we -- how we should be thinking about the run rate for CODB into fiscal '22, just around maybe what you're seeing around wages, that obviously $15 million run rate. Is that what we should think as we see these ongoing lockdowns looking forward? Just a bit of color around how to think about fiscal '22?

You're talking particularly about COVID costs, are you, Ben?

Yes, just in second half '22 because I appreciate, obviously, the sales are down cycling some strong numbers, but margin was still off a lot or a lot reasonable amount. And you obviously -- those COVID costs all -- have all weighted towards the second half of the pcp. So I just thought CODB might actually been off a little bit more.

Yes. Well, in terms of the split of the COVID costs, I mean, at the half, we disclosed that the COVID costs on H1 were about $105 million. And so there was only about $25 million in H2. But what we have seen, obviously, is we have put those strategic investments in, which is where we've seen the offset against that tailwind. And again, that was in the key areas of the D&A ticked up. The marketing spend ticked up and we had some additional OpEx that went into the digital space. And we do -- we feel that they have all been good investments in terms of setting us up for some good momentum going into this new year. So from a COVID cost perspective on the look forward, we had about $15 million for July. And what I would probably say is the situation has somewhat escalated since July with a much harder lockdown in Vic and New South Wales, not showing much improvement in terms of numbers and more LGAs being affected. So my expectation would be from a COVID cost perspective, we might expect that number to go up a little bit on a per month basis, but it is very dependent on the situation and the number of lockdowns and the number of states that are affected at any one time. Did you want to build on that, Steven?

Yes. Thanks, Leah. Good morning, Ben. Just a couple of examples as to why the COVID costs have increased. One is, we are required to be at the front door in a number of areas now making sure that customers are aware that they need to check-in. And what we have got is also an increasing number of our team members that we pay for when they're isolating. And those are discussions that we're having as a supermarket task force now with the various authorities because the way it's worked so far is with improved QR code testing or check in rates. The health authorities are now able to identify very quickly where people have been, and of course, it's highly likely that they've been to a supermarket given that's the only place you can go other than the park. But in some authorities, they have been demanding that if a customer has been in the store, that the whole shift isolates, which is different by authority, but is clearly something that is not backed up by evidence. And so we're trying to do now is to sort of move to a situation where, obviously, those in close contact isolate if a customer comes in. And that will halt operations particularly in New South Wales where a large number of team members across the industry have been impacted by that impose so to speak. But what we're trying to do is just make sure that everyone understands that supermarkets are a very safe place to be.

That's helpful. Okay. And just final one for me. Just on inflation, there's obviously some pretty clear cost pressures coming through from your supply base, cost of freight, packaging, soft commodities. Just interested in how you're thinking about the inflation outlook over the next 6 to 12 months. There seems to be a growing expectation out there that we're going to see some pretty widespread price increases coming through in calendar year '22 still backed up by cost pressures. How you're thinking about that? And should we think that the base of inflation is more normal as we move into fiscal '22? Because obviously, I think you brought prior promotions back towards the end of Q4 in the pcp.

Yes. Thanks, Ben. I guess a couple of things there. I think we did call out a couple of quarters ago that we thought deflation had maxed out and we are seeing a number of different things out there in the marketplace. Clearly, meat is still elevated and particularly beef. We are seeing better prices in a number of other areas or lower prices, so to speak, or more supply in produce and so on after a relatively good season compared to prior years. We are seeing sort of steady promotional intensity throughout F -- or certainly the back end of FY '21, which was up year-on-year because of reduced availability in the prior year with all that went on then. And we are beginning to see an increased number of suppliers approaching us for cost price increases in the grocery space, which is very aligned to either increased shipping costs, and we're aware of what's going on in the container space, or to specific raw ingredients or commodities. So certainly, on the package side, I think we'll see some inflation coming through. One thing to certainly watch out for is the tobacco increase, which normally takes place in September and is -- has been double-digit for quite some time. That's not happening this year. And one of the things that has happened more recently is that tobacco, as a percentage of our sales, is reducing. And if there's no excise this year, then that could reduce inflation in the opposite direction.

Our next question is from Grant Saligari of Crédit Suisse.

Wondering whether you could comment on the performance of some of the renewal stores, whether new or group of stores overall, and what your plans are in terms of number of renewals in the coming year versus FY '21.

Okay. Thanks, Grant. We monitor all of our CapEx. I think as we said in the Strategy Day, we have a lot of focus on what investment -- or what return on investment we're getting from all of our CapEx that's been delivered. And the return that we're getting on new stores and renewal is good. We've got a fair number of projects in train. I think we've got about 30 total projects across the group now that are being impacted by the current construction delays in New South Wales and Victoria where, obviously, limited capacity on site and so on. So we've got to accept that this year that there might be some delays, so it's difficult to be precise. But overall, we are looking at around 50 renewals in FY '22. As we've said, the focus in supermarkets -- or the SKU in focus in supermarkets is towards more local activity, both new stores and renewals. And then in liquor, the focus is very much on the rollout of the black and white program which, again, is performing very well. There are 1 or 2 circumstances where it's not performing so well, so areas where -- that we've called out before, areas where there's been tourists, CBDs, where we've done activity in those areas. As you'd expect, we're not quite getting the return, not getting the return we would like, full stop. But we expect that as things normalize in 2022, that will come back.

And it's a slightly different mix in the 50 this year, Grant. So in the year just gone, we did 65. But 36 of those were format C, which, as you would appreciate, there tend to be a smaller renewal, which is faster to do. As we move into FY '22, we are looking to do more of the sort of format A and format B renewals in that mix versus the format C.

Okay. And just secondly, I've sort of noticed on some of our work that your pricing performance relative to Woolworths seems to have improved through the half or, certainly, since April. Has that been something that deliberately you've been targeting? Or is it just a matter of sort of the consistent execution of the everyday low price strategies that you've had? So I guess just interested in that. And I wonder whether -- Woolworths run a lot of specials, particularly we have noticed every second week, there's a lift in specials. I don't know whether you sort of noticed that impacting your volumes from the high/low program. Just interested. Any comments around that and pricing generally?

Yes. Thanks, Grant. I think at the half year, we talked about pricing, and we said that we thought we were in a good space on the various price indices. We've, I think, sort of launched several hundred price reductions, Down Down, since then. Obviously, we've got a continuous program of how we want to improve value for customers. But the sort of biggest program is -- continues to be the Own Brand. And the fact is that Own Brand tends to be more permanently low price. And we believe we've got the best Own Brand offer in the marketplace. And so that -- it's not just a case of the -- what is the price indices on like-for-like products. It's also the fact that the mix is different. And therefore, the price paid by customers is better, too.

And do you notice any impact from the high/low? Because they do up these specials every second week. I don't know if you noticed any volume impact from that.

Look, at a category level or a product level, there'll certainly be some degree of impact, which is why there's so many promotions still in Australia. What we've said is that, over time, we will reduce promotional intensity and focus more on everyday low price, and that will be done in conjunction with the rollout of the Own Brand program. But it's still fair to say that if you take a Coca-Cola 24-pack, most -- the vast majority of the volume goes through when it's at 40% off or half price rather than full price.

Okay. Yes. Well, a terrific set of results.

Thank you.

Thanks, Grant.

Our next question is from Tom Kierath of Barrenjoey.

Just wanted to get a sense on that package inflation. Like how material could that be? I mean what are the types of asks that the suppliers are looking for on the price rises?

Welcome back, Tom.

Good to be back, Steve.

The levels of price increases -- I'll talk about averages rather than the extremes. But according to the team, the levels are similar to those we've seen in the past on average, but we're just seeing more of them. And it is very -- but it is very volatile by category and product depending on which country it comes from. Obviously, 90% of what we sell is Australian, but they rely on -- some of those products rely on either packaging from overseas or commodities from overseas or Australia, again, mostly Australian. But -- so it's an average of averages. I wouldn't -- I'm personally not getting excited by it all. And as I say, one of the biggest swings will be in tobacco, which isn't going to be there this year. So it will certainly increase, but I don't think it will get back to some of the higher numbers we've seen in the past.

Yes. Okay. Interesting. And just the second one was just on the tobacco excise that you pointed out there. I noticed you mentioned it in the convenience business will have an impact. Just be interested, will it have a profit impact on the wider group, across supermarkets and convenience? I know that people in the industry have kind of gained that with buying ahead of the excise and making stock profits. Is that something that we should think about as that excise kind of doesn't happen this year?

Yes. I mean it will certainly have an impact and certainly a bit more so in express than in convenience -- sorry, than in supermarkets. But it's certainly not as material for us as it would be for some of the other players in the market. And really, what we're trying to do is to make sure that the service in our biggest traders is good. So that's where we focus the efforts now. But it does seem that the biggest issue in tobacco is the fact that the social smoking at work has obviously come to a grinding halt. And it doesn't appear to be happening as much at home, and it will be interesting to see in 2022 whether any of that's restored or not or whether the cost of cigarettes and the health messaging and staying at home has caused a step shift in the number of smokers in Australia.

Our next question is from Michael Simotas of Jefferies.