El Puerto de Liverpool, S.A.B. de C.V. (LIVEPOLC1) Earnings Call Transcript & Summary

Good morning. My name is Juan Pablo, and I will be your conference operator. [Operator Instructions] This is Liverpool's Third Quarter 2022 Conference Call. [Operator Instructions] Today, we have with us Mr. Graciano Guichard, Chief Executive Officer; Mr. Enrique Guijosa, Chief Financial Officer; Mr. Jose Antonio Diego, Treasury and Investor Relations Director; and Mr. Enrique Grinan, Investor Relations Officer. Today, they will be discussing the company's performance as per the earnings release for the third quarter 2022 issued this week. If you did not receive the report, please contact Liverpool's IR department and they will e-mail it to you. Please note that this call is for investors and analysts only, and questions from the media will not be taken nor should the call be reported on. Any forward-looking statements made during this conference call are based on information that is currently available. They are subject to risks and uncertainties that could cause actual results to differ materially from the expectations and assumptions discussed today. This may be due to a variety of factors, including the risks outlined in El Puerto de Liverpool's most recent annual report. Please refer to the disclaimer in the earnings release for guidance on this matter. I will now turn the call over to Mr. Graciano Guichard.

Thank you. This is Enrique Guijosa and I will -- good morning to everyone. Thanks for joining us. As usual, I will quickly cover the highlights of our third quarter results. So Graciano and I can devote the rest of the call to answer your questions. I will start by sharing with you a very important milestone in our history. This month, we are celebrating our 175th anniversary. As you can imagine, we're very proud of these achievement, as there are not many companies in the world that have reached this mark. We are one of the first examples of globalization as a French immigrant opened a small store in downtown Mexico City in 1847 to sell merchandise that came from Europe to the port of Liverpool. Throughout our long history, we have always been focused on serving our customers and, needless to say, this has required constant innovation and capability with a long-term vision and built upon hiring the best people and maintaining a fortress balance sheet. Today, we are an omnichannel group with 5 business units and an ecosystem vision that takes care of these customers by leading its mission of serving them everywhere, every day and any time, while being the most attractive option in their service, assortment and value. Moving on to Q3 2022. I am glad to share with you that once again, we have a strong quarter with a sequential increase in revenue and profitability across all our business units and improving most of our key performance indicators. Furthermore, we move forward in all our long-term strategic initiatives as our total revenues grew 19.6% and our 3 business segments posted high double-digit top line growth rates. Retail sales grew 19.7%. Interest income increased 18.6% and revenue from our shopping centers was 17.1% ,[it was] a year ago. For perspective, our total revenue of MXN 38.1 billion is 27% above Q3 2019. Same-store sales for Liverpool posted a 19.3% increase while Suburbia grew 16.1%. We continue to see customers returning to our stores as they feel more comfortable spending time away from home. Apparel, particularly formal and occasion wear, footwear, accessories and cosmetics continue to recover the ground they lost during the pandemic. For perspective, ANTAD department stores reported an 11.9% increase in same-store sales during the quarter while the apparel and footwear categories grew comps in 17.5%. Retail gross margin of 32.3% was 40 basis points below year ago. Higher logistic expenses and the normalization of our spring summer sale markdowns were partially offset by a more favorable product mix. For perspective, Retail gross margin was 40 basis points above Q3 2019. Our consolidated gross margin decreased also 40 basis points to 39.6% mainly due to the above-mentioned decrease in our retail margin. Operating expenses without bad debt provisions and depreciation grew 18% year-on-year. The main factors behind this increase are: number one, the variable expenses that grow in line with sales, like commissions to our sales associates, credit card fees and packaging materials; number two, the 22% increase to the minimum wage at the start of this year; number three, investment in new talent, particularly in the technology and digital departments; number four, sales staff increases in selected stores; and number five, general inflation. We have pursued a more aggressive growth in our credit card business in terms of origination, overdrafts, line increases and cash withdrawals. Despite these strategies, we closed Q3 with a better-than-expected NPL ratio of 2.8%, 10 basis points below a year ago. It is important to highlight that this is the best NPL ratio for a third quarter that we have seen in at least the past 10 years. The bad debt provision in our P&L during Q3 was MXN 3.32 million, 31% over a year ago. For the first 9 months of the year, the bad debt provision was MXN 590 million, a 16% year-on-year increase. Our bad debt reserve coverage ratio was 10.5% of our gross portfolio, 118 basis points below a year ago. Our 90-day bad debt coverage stands at 3.7x. Both coverage ratios are above market standards. Finally, our net credit portfolio grew 18.9%, and our total cardholder base was 6.4 million accounts, 9.7% above a year ago. Our Q3 EBITDA of MXN 6.2 billion was 18% above a year ago, while our EBITDA margin was a very strong 16.3%. For perspective, this figure reflects a growth of 220 basis points versus Q3 2019. Net profit of MXN 3.1 billion was 36% above a year ago, primarily due to the above-mentioned operating performance. Our quarterly results also reflect a reduction in interest expense due to a lower debt ratio and a higher contribution from our nonconsolidated subsidiaries, particularly [indiscernible]. Turning to our balance sheet. Total inventories grew 26% year-on-year. This increase is mainly due to the normalization of merchandise receipts for the full winter season. Inventory position is in line with our expectations as we enter the year-end holiday season, which this year includes the football World Cup. [We do not seek or] represents a profitability risk. For perspective, if we compare our inventory against the same quarter in 2019, it is 21% above, while retail sales are 31% above. Cash flow from operations during the third quarter was negative MXN 329 million. This was MXN 2.1 billion below a year ago. And in our largest uses of cash year-to-date are working capital and the normalization of income tax advance payments. CapEx during the third quarter was MXN 2 billion, almost 70% above a year ago. This growth for the first 9 months totaled to MXN 4.7 billion and almost half of this amount was allocated to logistics and technology projects. Importantly, we have tried to remodel our Liverpool Santa Fe store. Our shareholders agreed to pay a dividend of MXN 1.70 per share on their March 10 general assembly. The first installment of MXN 1.02 per share was paid back on May 27 and the remainder of MXN 0.68 per share was paid on October 14. At the end of the quarter, cash on hand was MXN 13.2 billion and our net debt-to-EBITDA ratio was only 0.48x. We paid our Liverpool 17-2 local bonds due on August 19 for a total amount of MXN 1.5 billion with our own excess cash. Short-term debt is not a risk as the next maturity is until October 2024. In terms of new stores, on September 20, we opened Liverpool Tijuana, which was the last large metropolitan area in the country without a Liverpool store. We will open Liverpool Mitikah in Mexico City on November 10. Suburbia opened 4 new stores during the third quarter and another 2 early this month, which brings the total number of openings to this date to 10. We will open another 5 new Suburbia stores during the rest of October to complete our plan of 15 stores during 2022. We continue making significant progress in all our key strategic initiatives. Digital GMV was 23% above a year ago, and our digital share was 21% basically flat versus a year ago. Our 1P and 3P total catalog was almost 40% above year ago. Marketplace GMV increased 48% year-on-year as the number of 3P sellers and SKUs grew more than 50% and 0%, respectively. Monthly active users in the Q3 increased 35% and the total Liverpool Pocket downloads grew 53% year-on-year. We continue to make strides in the speed with which we deliver our digital orders. Our average lead time on a national basis improved 30% year-to-date. The percentage of deliveries in the 5 days or less bracket increased almost 40% versus last year. Furthermore, the share of home deliveries that were shipped directly from one of our stores grew 2.4x to 16.7% as we continue to leverage our strong network, one of our key competitive advantages. Importantly, the normalization of customer traffic to our stores is helping us to gradually bring Click & Collect back to the prepandemic levels. Click & Collect in Q3 was 34%, 9 percentage points above the same quarter a year ago. We completed the transition of our Big-Ticket logistics operation from Huehuetoca to Arco Norte, right on schedule. Plan integrates for the very first time the Big-Ticket logistic processes for Liverpool, Suburbia and all our boutiques under one roof. On July 7, we launched our RUC or Unique Customer Registry project. This is a key initiative in terms of convenience and security for our digital customers. One very important functionality of our virtual credit cards, we are now able to complete the end-to-end origination process for our cardholders on our digital platform. Just a few minutes, our potential cardholders will know if their line was approved and, if so, will be able to start using their credit card other ways, both on our digital channel and also in our stores using their digital wallets. This is without the need to wait for their plastic cards. Online origination already accounts for almost 15% of our creditor applications. I would like to highlight an important foundational item. On July 7, the Mexican Stock Exchange announced that we were going to be part of the S&P BMV Total Mexico ESG Index for the very first time. This is certainly a milestone for us and reflects the significant progress we have made on the ESG front in the past months. Finally, on the rating agencies front, just a few days ago, S&P announced that our rating for global debt issues was maintained at BBB but the perspective improved from negative to stable, while Fitch announced that our rating and perspective were kept at BBB+ and stable, respectively. On November 15, we announced a passive investment in Nordstrom Inc. We invested MXN 5.9 billion to reach 9.9% of Nordstrom's total shares outstanding. The objective of this financial investment is to diversify geographically, taking advantage of our strong cash position at an attractive valuation. Importantly, the mark-to-market valuation of these investments is considered as equity in our financial statements. Well, that's it in terms of our performance in Q3 2022. Let me share with you now the key challenges that we are foreseeing for the fourth quarter. The first one, of course, has to do with Mexico's lackluster GDP growth, which is expected to be close to zero during the last quarter on quarter. The second 1 has to do with inflation, of course. As you know, we will probably close the year around 8.5%. Since wages are not growing in real terms and interest rates have increased sharply, our customers need to dedicate a bigger share of their wallet to basic staples and interest expense. Furthermore, high inflation exert pressure on our gross margin and our operating expenses. In a positive note, we have seen a significant normalization of supply chains and lower import expenses, particularly in shipping rates. Before we take your questions, let me quickly recap a few important points. Our company delivered strong financial results in the third quarter. And the work we have done over the past months has put Liverpool in a good position for the year-end season. We are confident in our ability to overcome the challenging economic environment and close the year on a strong note. Thank you very much. Now Graciano and I look forward to taking your questions.

[Operator Instructions] Our first question comes from the line of Sergio Matsumoto.

It's Sergio Matsumoto from Citigroup. I wanted to bring up the Nordstrom investment for discussion. I just wanted to hear your views, perhaps your -- the plan for that stake in terms of time frame. And maybe more color as to the relationship with the Nordstrom family and the management and any synergies over the long term, if there are any that you can share with us? That's my first question.

We feel that Nordstrom is probably the best managed department store in the U.S. We have certain relationship with the management but not a big one. We know each other for quite a while since we are on the same World Department Store Association. They know our stores. We know their stores. It's a passive financial investment, where we feel our shareholders were going to gain benefit of truly discounted valuation that Nordstrom was having. And also, we are investing in a country which has significant risks than Mexico or our other investments, especially -- specifically in Unicomer. So that's the main reason about the investment. It's geographical risk diversification.

I see. Okay. And is there a possibility for you to perhaps share best practices with each other? Or is that not really contemplated at this time?

No, not at this time, no.

Okay. Understood. And just if I may, one more on the Big-Ticket merchandise migration to the new facility. Are we still -- are we already seeing the efficiencies from that migration? Or are there still some redundant expenses at both facilities?

On this quarter, there were some redundant -- because we ended the move on September. So there were some redundant expenses. And also the warehouse, as you probably guess, takes a little bit of time to change the operations. So -- because we are operating on a more efficient way. But it takes a little time to -- for all the people on the warehouse to learn how to operate that way. So I would say on this quarter, there were redundant expenses plus all the efficiencies were not captured because we were on a learning curve.

Our next question comes from the line of Alan Alanis.

Alan Alanis from Santander. Well, first of all, on congratulations for the first 175 years. That's a big milestone. I have a couple of questions. I'm also going to ask about Nordstrom but in a different -- in a slightly different light. I mean, when you did this purchase, Nordstrom was half of your market cap. And if you would have made an offer for -- with a 20% premium at the time of the price of the Nordstrom, you could have made a hostile takeover of the whole company and leave Liverpool under 3x net debt to EBITDA. And that would have changed -- transformed completely Liverpool from an $8 billion company in terms of revenue to a $23 billion and create a -- the geographic diversification but also a global transformation. Was this ever considered in terms of just doing more than a geographic passive diversification? Because you had the balance sheet to do it at that time before the poison pills that the family established right after you purchased the 10% of Nordstrom.

No. I mean, we frankly didn't consider doing anything hostile. It's not our style. We have never like gone through that route, as you were saying. I mean, we had some opportunities, but it's not our style. So we prefer to do the 9.9% investment. We have the required -- the FTC approval in the States. And more importantly, I mean, it was definitely not a hostile move.

Got it. And now in terms of the geographic diversification, I mean, would this also mean that, for example, if there's a department store in Europe that would be trading very cheap, that you would consider doing similar moves in terms of passive investments in other geographies, right?

We are currently not -- as always, we're not seeking for this. But if the opportunity comes, we always have the ear to the ground.

Got it. Last question, you're seeing credit growth in nonperforming loans. I mean, you've kept them under control, so congratulations for that. But at the same time, on your prepared remarks, you mentioned that, I mean, you're seeing weakness in economic growth in Mexico and the high inflation, which we all know. How do you anticipate nonperforming loan and credit evolution going forward? And how are you preparing for that potential deterioration? And at what speed would you expect this to be reflected in your nonperforming loans?

Yes. As we were saying, Alan, I mean the NPLs frankly surprised us. We have been surprised for several months now, both in terms of the top line performance, which we were expecting a slowdown, we haven't seen it, that's certainly very good news for us, and also the same for NPLs. We have been expecting some -- like a deterioration of our delinquency rates. And we have -- we thought when we gave guidance for this year, probably 6 months ago, that we -- at that point in time, we thought that NPLs were going to close this year close to 3.1%. We are now seeing them ending the year at only 2.5%. So that's a significant improvement and, again, reflects the excellent performance that we have year-to-date and that we already have visibility for -- in terms of know-how, how things are going to evolve for the very short term from now till the end of December. So that's our expectation. And while I am on that, I also -- in terms of the provisions of our bad debt in our P&L, I said that also in terms of guidance a few months ago that we were expecting an amount of close to MXN 1.2 billion in our P&L for this year. That -- now we are seeing that at MXN 1.6 billion. You might wonder why if we're improving our expectation in terms of the NPL ratio from 3.1% to 2.5%, we are increasing almost 30% our -- the charge in our P&L. This has to do with the fact that we are planning to end the year with a more conservative coverage ratio. We expect it to finish at close to 10% coverage ratio. That's like a 1.5 percentage points of what we expected previously, and this is in anticipation of a challenging 2023 year. And on the other hand, because our sales have been performing well above expectations, our portfolio is also bigger than what we thought. So this higher bad debt provision in our P&L has to do with both things, a more conservative coverage ratio and a volume effect. .

Got it. That's very clear and makes a lot of sense in terms of being conservative, but you haven't seen that kind of weakness this year because of the 2.5% that you're expecting towards the end of the year. Okay. So well, again, congratulations, very impressive results. And again, congratulations for the first 175 years of the company.

Our next question comes from the line of Anabel López.

Yes. Here's Anabel from GBM. Congrats on the results. And my question is regarding inventories and business dynamics. So we have seen the inventory levels that have been growing above sales. So could you tell us how much of this increase is due to the anticipation of the World Cup and year-end promotion system and? How much is due to maybe stockpiling or inventory accumulation?

Anabel, I would say almost all of it is due to either the World Cup or certain bets we are making, for example, cell phones. We have accumulation in certain areas, but they are really, really small, like maybe exercise equipment or pajamas. But it's not significant. So I would tell you that we are maybe 6% to 7% above commercial plan, but sales are also above the commercial plan. So we are really comfortable where we are in terms of inventory right now.

Our next question comes from the line of Álvaro García.

Álvaro García from BTG. One follow-up on Nordstrom. I appreciate sort of the value case you see there. But I was thinking, Graciano or Enrique, I'm not sure who would want to take this question, if there is any thinking of making this investment outside of Liverpool, so maybe having paid a bigger dividend, having done that investment on a more personal level or at a family office level. That's my first question. .

Yes. There was always an option where, again, we're seeing -- not Liverpool but El Puerto de Liverpool as a holding company for retail companies, where we have credit and shopping malls and Liverpool and Suburbia and Unicomer. So it made sense to do it under the El Puerto de Liverpool umbrella. .

Okay. And then just one quick update. I don't know what your plans for Huehuetoca might be, Enrique. I don't know if there's any plans on that specifically. Originally, it might have been for sale. Any update there?

Yes. We have decided -- I mean, we considered the 2 options, of course. I mean, we wanted to sell it or we want to lease it. And considering the appetite that we see for industrial properties in Mexico, we decided to keep it and lease it. So we are, as we speak, in conversations with a group. We are in the final stages. We hope that we will have a signed agreement in the next couple of weeks and probably start collecting rent early -- very early in 2023. I mean, the potential revenues, to give you some flavor, are going to be -- I mean, on a full year basis at like MXN 140 million per year.

Our next question comes from the line of Andrew Ruben.

Andrew Ruben with Morgan Stanley. So it was really another very strong quarter. How did you guys -- I recall when we were on this call 3 months ago, there was a tone, a bit of caution maybe on some of the macro-related items. So I'd be curious on your perspective of what played out in the quarter better than your initial expectations and if that experience informs how you're thinking about, say, 4Q or next year.

We see clouds and the storm all around it, but it hasn't yet hit. Now we are still very cautious in terms of provisions, in terms of inventory. We still believe that the next 12 months are going to be tough, maybe not this quarter but early next year, but we said that last time. So we feel it's still going to be a tough environment, and we need to be prepared for it. So we are trying to have costs under control in case when the storm hit, we can reduce them really fast. When the sales grow as they are doing, you can't hide a lot of inefficiencies. But we believe they are going to slow down in a little bit. So we are trying to fill all those inefficiencies beforehand.

To give you some color in terms of our expectations for the fourth quarter, I mean, we, again, are assuming that we will see a sharp slowdown in terms of our sales. Again, we -- as I said -- was saying again and again, we have been surprised by how resilient the consumer has been. In this case, both Liverpool and Suburbia performed very well. And for the fourth quarter, we're expecting total sales -- retail sales growth of around 10% for both formats. So that's a significant slowdown of the close to 20% that we have seen -- we saw in Q3. Again, we're a bit surprised by how strong it has been in the first half of October. We went through our anniversary and special promotions, special sale. And Liverpool grew 35% year-on-year, which, again, we were frankly very, very surprised. So hopefully, the 10% that we are foreseeing is once again conservative. But eventually, I think that we will see a slowdown probably in the first semester of 2023.

Our next question comes from the line of Joaquín Ley.

Graciano and Enrique, Joaquín Ley from Itaú. Congratulations on the results. Two questions here. First, store deliveries in the third quarter were 17% of the total. I understand that the other 83% are not done from the distribution centers but from -- most of them from other stores that are not necessarily the closest to the customer's address. So what can we get in terms of direct deliveries from the stores? How long is it going to take us to get there? What does it take to get [indiscernible] platform once you get there?

Joaquín, not necessarily. For example, in Mexico City, it is not always the most efficient way to deliver directly from the store. In Mexico City, you have several stores that can -- where you can join the route -- delivery route in a single warehouse. It makes more sense not to deliver directly from the store on leisure, like one block away from the store, because then I would have like 2 or 3 trucks on the same address at the same moment. I don't know if I -- so in certain cities, Monterrey, Guadalajara, Mexico City, it makes more sense to have a route from all the stores to a central warehouse and have more efficient routes of delivery. So it is not necessarily an inefficient way. If we have it, for example, Mérida or Tampico, then it makes more sense to deliver directly from the store. But in certain geographical areas, it is not necessarily better to deliver directly from the store than from a warehouse.

But is there an optimal level that you think of to -- for deliveries from the stores? .

Today, we are not at an optimal level because we -- the problem is not the last mile. The last mile is actually not the more difficult part to resolve. The problem is having the inventory in the correct place beforehand, and we are having -- we are doing a complete change in the way we purchase. We are -- we bought with a partner from the U.S. called o9. We've got a software system where we are planning assortment, allocation and planning. The planning part is done. And the allocation part, which is the most important, is going to be done April next year. So give or take, it will take us, I would say, another year to have all the artificial intelligence getting in place. So I would say we would be reaching at the end of 2024 a lot better place than what we are now.

All right. Understood. And the second question is on the online business. I mean, pointing out the obvious, I mean, given that the burning cash today is not as cheap as it was 12 months ago, how have you seen the competitive dynamics, if at all, changing in Mexico in the e-commerce space? I mean, I understand Shopee is out, for example. So...

As you know, I mean, most important competitors on a local level are Amazon and MercadoLibre. And I don't think they're facing, frankly, any squeeze in terms of cash availability. And Walmart is basically on the same place. I don't think that they are like being hurt by higher borrowing costs. As you're saying, some of the flagrant aggressiveness that we were seeing from some of the platforms from abroad are going to be less aggressive in the short term. But we are continuing to see SHEIN also to be very, very aggressive. So unfortunately, we don't see any like reduction in the competitive pressure on the e-commerce side, frankly.

Our next question comes from the line of Héctor Maya.

This is Héctor Maya from Scotiabank. So I wanted to go back to Nordstrom. We were very surprised with this transaction because we thought that probably, there were more pressing capital allocation options, I don't know, like investing in fintech or logistics systems or even start-ups to leverage their technology, I mean, becoming more aggressive to develop or accelerate an in-house merchandise management system or even adapt your footprint as e-commerce hubs or an extraordinary dividend. So seeing Nordstrom's valuation, and your influence in the company might seem limited, left us with the impression that this acquisition follows kind of a more traditional or conservative mindset over a more innovative approach from a business standpoint. So I wanted to know how I'm misreading this and how Nordstrom was the best use of that close to $300 million over other options.

Yes. Thank you, Héctor. Well, let me state very clearly that the fact that we, as you know, devoted this almost $300 million to the acquisition of the Nordstrom stake, by no means, we are like not pursuing our strategic initiatives. I mean, we have the cash on hand in order to continue pursuing our strategic initiatives. We have a very strong CapEx plan for this in the next several years, and the predictions that we have suggest that we -- I mean, we will not be in a cash squeeze that will force us to reduce the investments in this against strategic initiatives. So that was very clear since the beginning in order to consider whether we want to pursue or not the Nordstrom avenue, let's say. I mean, that it was very clear for us that by no way that we were going to be underinvesting the opportunities that we see strategically.