Gruma, S.A.B. de C.V. (GRUMAB) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to GRUMA's Fourth Quarter 2019 Earnings Conference Call. [Operator Instructions]. I would now like to turn the call over to our host, Mr. Raúl Cavazos, GRUMA's Chief Financial Officer. Please go ahead, Raúl.

Thank you. Good morning, everyone, and thank you for joining us today. We are pleased to disclose our fourth quarter 2019 pro forma review. GRUMA has continued to grow its volumes, especially at the U.S. and European operations, while the growth rate at GIMSA in Mexico has recovered and showed quarterly sequential improvement throughout the year. On a consolidated basis, we achieved a 3% volume growth. Along with volume growth, pricing also helped us to increase our top line. In the U.S., a better sales mix improved our average portfolio price, while in Mexico, price increases were implemented to offset cost pressures. On the other hand, the appreciation of the Mexican peso on our foreign subsidiaries reduced our figures in peso terms. As a result, consolidated net sales rose 2%. EBITDA rose 9%, and EBITDA margin improved 100 basis points to 16.4%, driven by the adoption of IFRS 16. Net comprehensive financing costs show an improvement of MXN 182 million, in connection with FX gains on intercompany loans due to the appreciation of the peso. Income taxes were 33% more than in fourth quarter '18 due to higher pretax income, inflationary gains and some year-end adjustments. The effective tax rate was 40.1%, averaging 35.9% for the full year. Majority net income rose 12%, coming from higher operating profits and FX gains on intercompany loans. In terms of CapEx, we invested $25 million during the quarter for capacity expansions on corn chips production in Russia; tostada and corn chips in Central Mexico; a land acquisition in the U.S.; and additional operational equipment in Malaysia and Dallas. GRUMA's debt declined by $9 million during the quarter to end at $1.4 billion, when considering the adoption of IFRS 16, our net debt-to-EBITDA ratio was 1.8x. In 2019, GRUMA obtained a $250 million credit facility, which was used to pay down -- or to pay short-term peso-denominated liabilities. This refinancing allows GRUMA to reduce its cost of debt and improve its maturity profile. The reversion in GRUMA average cost of debt is about 120 basis points. Now talking about the main subsidiaries. Gruma USA, sales volume rose 3% versus the year, where corn flour was the main driver with a 6% growth. Net sales increased 7% on the back of volume growth and higher average prices, especially at our retail tortilla business due to better sales mix. EBITDA rose 12%, and EBITDA margin improved 90 basis points to 18.9%, driven by the adoption of IFRS 16. At GIMSA, sales volume was flat versus fourth quarter 2018, while continuing to show an upward trend on a quarterly sequential basis throughout the year. Net sales rose 5%, reflecting price increases implemented in 2019. EBITDA rose 8% in connection with higher operating profit and higher EBITDA margin, which improved 50 basis points to 16.5%. At Gruma Europe, sales volume surged 28%, where the corn milling business rose 42% mostly from large shipments of byproducts that had been accumulated in order to better absorb freight expense. The tortilla business grew 4%, and we were able to gain new retail customers and increase supply to global restaurant chains. Net sales increased 13%. EBITDA increased 61% and EBITDA margin expanded to 10.4%. On Gruma Centroamérica, sales volume declined 5% mostly from a more competitive environment, coupled with the company's decision to focus on more profitable SKUs and customers. Net sales declined 8%, driven by sales volume reductions in the sales mix favoring private label. EBITDA increased 9%, and EBITDA margin improved to 13.8%. On the other subsidiaries and eliminations line, EBITDA declined MXN 27 million to a negative MXN 66 million. Less activity at the technology division with a lower CapEx, higher freight expenses at Gruma Asia-Oceania, in addition, the corporate expenses related to brand equity were the main drivers of this reduction. Now I'd like to discuss with you our expectations for this 2020. Starting with operational performance of our main subsidiaries, in that case, so Gruma USA, we expect sales volume to grow 2% to 3%, driven by both operations Net sales should increase 4% to 5%, mostly through a better sales mix, especially at the wheat flour tortillas business. Even though we are expecting a 22 basis -- a 10 to 20 basis points improvement on EBITDA margin, we prefer to be a little conservative in value to a flat margin. We believe the better sales mix favoring a better-for-you line with value on products at better margins will help us to offset some cost increases. For GIMSA, we expect sales volumes to grow 1% to 2%, volume net sales to increase 5% to 6%, reflecting the price increases implemented in December. We expect EBITDA margin to be around 16%. However, in Europe, we are expecting sales volumes to be flat in connection with the company's initiatives to rationalize customers in favor of those that yield us better margin. Net sales should be flat, and EBITDA margins are expected to improve about 50 basis points. Centroamérica. We should see volume growth at about 2%, with net sales also around 2%. EBITDA margin is expected to improve 50 basis points. As a result, on a consolidated basis, we expect our sales volume to grow 2%, net sales about 7% to 8%. And even though also, we are expecting to have a little bit better margin by 10 to 20 basis points, we also prefer to be a little conservative, and then we are guiding you also margins to be flat for the year. Maybe in the next conference calls, we can update this value. In terms of taxes, we anticipate an average tax rate of 36% -- 35% to 36%, out of which, about 30% should be cash taxes. We plan to increase our CapEx to about $250 million, including the following mega projects: the construction of a new tortilla plant in the Midwest; the expansion of a tortilla plant in Spain; capacity expansion for corn flour in Mexico; and additional operational equipment at the tortilla plant in Dallas. At this point, we are ready to take your questions. Kevin, please, can you help us?

[Operator Instructions] Our first question is coming from Fernando Olvera from Bank of America.

I have 2, if I may. The first one is related to the U.S. I mean can you give us an update regarding price negotiations with retailers, please?

Yes. We are talking about the negotiations in the U.S. And let me tell you that with major retailers, we've been basically talking about that. But finally, what we are concluding with them is that we don't want to have any price increase on the most -- let's say, on the SKUs that have more movement in the market, which is corn, tortilla and more popular products. However, they allow us to put the price on our value-added products as we did in the last -- in 2018, and did it also in case of 2020. Also, we negotiate with them to have a bigger shelf space in any single store, which is also helping us to move more products. And then through these products we already launched in the market, which has been a very spectacular performance during 2018. We are expecting to have this performance also in 2020 as well as all those products that we are planning to launch this year with the, of course, substantially better margins. That will be enough for us to have a better performance in terms of sales as well as in terms of profitability for Gruma Corp. Actually Fernando, let me tell you that the beginning of the year was really very good. Both January as well as February, the performance of GRUMA Corp. has been quite good. It is substantially higher than the guidance that we have given you at this point in time. What we want to do is to be conservative and to wait until the -- more sustainable results. And then in the next conference call, we can change the guidance for GRUMA Corp particularly. That's why we feel comfortable that with these additional margins and these products will be more than enough to offset this -- some cost increases we experienced during the year and will be better than the year we can see value for Gruma Corp.

Great. And my second question is regarding Asia. Can you comment if your operation has been significantly impacted or not by the coronavirus? And also, can you remind us how much Asia represents of sales and EBITDA?

Yes. Well, let me tell you, coronavirus has been impacting us, particularly in China. In China, as you know, we have a facility close to Shanghai. And this plant was basically closed during the celebration of the Chinese New Year. But also, we will start again right after the celebrations. If you remember, the Chinese government stopped this kind of celebrations in order to avoid kind of contaminations. But all the food companies were to start, of course, with some kind of permission or permits from the government. We anticipate that. We were able to start 4 days after the week of the New Year, the Chinese New Year, with 50 persons. And currently, we are operating with about 90% of our people in China. The sales in China has been going down during this period. We have experienced a reversion on sales. However, please keep in mind that the sales of China amounts for about $40 million to $45 million. We prefer no more than 1%, but these are the yearly consolidated figures. Then we will be -- we have some kind of impact or may have the impact in the results of China. The impact on the consolidated will be -- we think that would be easily compensated somewhere in revisions. We'll make some kind of analysis in terms of the results of the Chinese operations for the year, and we are expecting to have kind of effect for about $5 million which, again, we are expecting to be -- to compensate us with this narrow effect, particularly from the U.S. operations. In terms of our employees, I'd like to tell you that no one of our employees and their families has been infected. And we have 90% of the people because during the celebration of the Chinese New Year, some of our employees went to their province. And because of all this kind of more -- many people traveled throughout China, they have been prohibited to move, and we are applying the home office, and we are working from -- at home. But again, we are really glad to tell you that no one has been infected. And of course, we have a protocol implemented actually during the SARS some years ago, and we'll immediately implement this protocol. We are reviewing every single day, every single shift of all the employees in order to measure their temperatures, measure their vital signs in order to be sure that nobody is infected. Of course, we are applying some additional measures in order to avoid kind of a contamination, and it has been successful for us. In terms of materials for the plant, we have supply in China, and in some point of time, we needed to send something from Malaysia to supply and to have in stock in order to, if for any reason, this issue be more -- in time we'll have more time in place, we will be able to still continue with these protocols. In the other hand, we are expecting that sales, of course, as I was telling you, sales has been going down because of restaurants. And keep in mind or remember that 85% of restaurants in China oriented to full-service. About 40% of the stores -- or 50% of those, in some cases, from [indiscernible] from establishments of this kind of price have really [indiscernible]. The supplier have been shutting down the restaurants, and they are basically operating with about 30% to 60% and supplying them. And the supply has been very lower or it has been lower than -- in the way before, let's say, in the celebration of the Chinese New Year. We are expecting from April to go up -- to start recover a little bit in the consumption in China. And we -- of course, we are expecting to continue or to grow at a small rate throughout the year. And in making those calculations, our impact in the results in China, we are expecting to be about $5 million to $6 million or more than that. That's what we can tell you. And of course, we will keep you updated in the next conference call. Similar to if we have something different, we will let you know, of course, assuming our responsibility to be transparent with you, guys.

Our next question is coming from Felipe Ucros from Scotiabank.

So I want to focus my first question on the price/mix increase in the U.S., I think that's the largest increase in price/mix that you've had in the last few years, which was pretty impressive. So I was wondering if you could give us a little more color about how much of that comes from the extra shelf space? How much of that comes from the actual introduction of new products and that -- and how much of that from price increases in those particular products, where Walmart has allowed you to increase prices? Just trying to get a sense of how you move the price/mix lever so much in the U.S. and how much of that would be sustainable during the rest of the year.

Yes. Well, let me tell you that this price/mix has been successful for us. As we mentioned, we want to be able to -- let's say, any change in the performance we are willing to share with you. And we are even more positive for this year. When we talk about this price/mix, maybe about 60%, 65% is coming from the price/mix of the products, and the 35% to 40% is coming from higher shelf space. And that's going to be the dynamics for this year. And the prices, not -- excuse me, the trends of these products have been going up on a weekly basis, and everywhere in the trends, particularly in the East Coast, in the Northern California, has been growing in a very good rate and, of course, has been allowing the company to absorb this -- not pricing increase from the -- on the more popular products. For mid-2020, we're expecting to be basically the same rate. But with the difference that the growth, we are starting the sales on a better position because, as you remember, we launched -- we basically launched last year. We already capitalized these new products. We have a portfolio of about 7 to 8 new products during the last year. And we are expecting to launch additional 4 to 5 -- 4 new products again. The stars of these products are the carb balance spinach wrap, protein plant powered up as well as gluten-free spinach wrap. But this is going to be for 2020. But most -- the higher volume we're expecting -- and according to the performance of the -- disclosed on the market growth, we think that this is going to be substantially higher. And this is basically everywhere. However, let me tell you, Walmart has been the main customer for this kind of products in terms of maybe we are talking about this, sure. Maybe 20% of the world is coming from Walmart. But all this change has been growing. These products and the distribution of these products have been more generalized in the industry. But particularly, again, in the East Coast as well as in North California, that's the previous situation. We are experiencing a substantial growth of these profitable products. And the new products that we are launching this year, we are expecting to be in market by May or June. Remember that during the year just to show the products to the stores. And we are now expecting those products because we are going to be bringing the -- we are expecting the distribution of products. We feel quite comfortable that the performance of this price/mix for 2020 will be successful and will allow us to, again, improve margins. But again, at this point in time, we want to be conservative. But this guidance for Gruma Corp, particularly, maybe will be changed in the next conference call, in the next earnings.

That's great. Fantastic color. And maybe if I can do a follow-up. In Centroamérica, it seems that you kind of did a shift towards better quality. I think, if I remember correctly, what I read yesterday, it seems that you've departed from certain customers where you had low returns. You've also lowered the focus on private label and increased the prices on flanker brands. So if you add all those 3 things, it kind of looks like a strategic move towards higher quality or higher ROIC per customer. Can you talk a little about that? And during your remarks, you also mentioned a similar move for Europe for the coming years. So maybe you could expand on that.

Well, let me tell you, in the particular case of Centroamérica, we've been growing in Guatemala. However, Honduras has been the most competitive market for us. We were basically, through our flanker, we were fighting with some low-cost producers from El Salvador. But the last part of the year, we needed to increase the prices of that flanker because of reaching the cost of corn [indiscernible]. We've been facing this competitive environment in Honduras. And also, I don't think that we have -- in Honduras we've got the opportunity. We were participating in the program in Hondura, United Nations World Food Programme, a program from the United Nations. And in the year 2018, this program [indiscernible] producer. But we feel that because of that performance in the quarter, the contract was supplied by this firm for this new supplier. And we're expecting that this year, and we will be -- there will be changes to begin this discount. Again, during the year, we are expecting to have a better performance in Gruma Centroamérica. But again, the particular issue or the particular concept of volumes and contribution is particularly Honduras. The rest of the area, we are doing quite well. Guatemala, Costa Rica were basically flat, not because of the tortilla unconsciously are going down a little bit, but because the switching to the consumption of wheat flour increased the sales to 11% during the quarter compared with last year. Then we have a very high expectation for Gruma Centroamérica for year 2020. Talking about Europe -- excuse me, the question for Europe, it was the rationalization of the prior years. Let me tell you some of what we're seeing in the U.K. They asked us to reduce prices. We are not able to do that in [indiscernible]. And then they have discontinued a couple of SKUs, and we are still having this SKU. We'll add additional 2 SKUs providing this client or this customer. That we prefer to let them to go through some other producers instead of supply with matters in terms of the company. We experienced growth for some of those clients. We are working, particularly in Spain, at full capacity. Also, in the U.K., yes, we are working at full capacity. And it doesn't make sense to have a negative performance in our operations when we have not enough operation capacity. But we might -- at this point in time, we are finalizing the installation of a new production line in the U.K. And then while we are now expanding operation in Spain, we have to supply some more profitable products. But what I can tell you in Europe, that retail market is growing. Our brand, Mission Foods, is growing also. And we are performing well. We are expecting to have this -- on this about 50 basis points on improvement on EBITDA because of this decision we are making.

Our next question today is coming from Álvaro García from BTG.

A couple of questions. My first question is on sort of your buyback and dividend outlook for 2020. Given the higher CapEx levels relative to 2019, the $250 million in CapEx, do you expect to keep the dividend the same and maybe not pay -- not buy back as many -- as much stock or maybe reduce the dividend a bit. And then I'll wait for my next question.

Yes, sure. Well, what I can tell you is both dividend and buyback programs, the dividend will be basically, we are monitoring and we are still to pay the same amount, $100 million, for this year. And also, we are expecting to buy back some additional 100 million shares from the market. In Honduras, it will be the same -- in the same amount from 2018 and 2019. And it will repeat mainly in 2020. We have been making enough cash to finance our CapEx program for the year. We are increasing EBITDA and the cash generation. And for us, it will be enough to support these programs or these payments without any additional debt.

Great. That's great color. And then my second question is sort of going back to the pricing, like sort of Gruma USA, the price increases in the U.S., your discussions with retailers specifically. Sort of the narrative last year was that corn prices really haven't rallied, so it's difficult to use that as an argument. Within this year, it was a bit different given the rally we saw in corn in the summer. And so I was wondering if you could just maybe give us a little bit more color on exactly why you couldn't pass price. And the sort of second question to that is, where are some of these saving coming from? Is it labor? Is it lower energy prices specifically? Where are these savings coming from to see these expansions in margin that you expect -- or the flat margins that you'd expect in spite of the cost pressures in 2020?

Sure. Well, talking about the price increases and the negotiations and talking about the corn prices will go a little bit higher during the next year, we will, of course, discuss in detail. But the retailers are also facing kind of pressure from some other retailers and want to keep the corn -- the prices of the most popular SKUs at the same level. Even though they improved a little bit, the prices -- the price increase was basically taken by the retailers. But we feel comfortable with the negotiations to be free to put the prices of our value-added products. Because according to our budget, we were expecting to have a good performance of those SKUs, which was the case. And even while -- so that will be growing by the rate -- the amount of sales by the end of the year are, of course, substantially higher than the beginning of the year. Then it will be basically the same theme for this year. Even we have a little bit lower cost of wheat and a little bit lower price of some other, let's say, ingredients we use to produce our products, we have some increases -- we're going to have some increases on salaries and wages. As well as we are experiencing kind of small increases in some particular components of the formulas or just sort of the piece in kind of additives. But that, for us, a way to the -- let's say the calculation to where it is. We feel comfortable that the company would be able to absorb these cost increases with other ingredients that we have really lowered the cost. As well as, of course, the higher volumes will be more efficient. The absorption of fixed expense, the fixed expenses -- or the facilities will be absorbed. And of course, we are expecting also, again, that the SKUs that we already launched in the market as well as the new one, the new group of SKUs that we will launch this year, will have a very good performance and with substantially higher margins than the -- than we talked about in the portfolio of products. That's why we are expecting to have internal savings that we are going to have in some of the companies. It will be because of that growth, of the sales of the company, the most -- the main value for this absorption. Now in terms of the second question was -- no, that's it.

Our next call is coming from Miguel Tortolero from GBM.

The first one is regarding the U.S. I mean, it seems that the variable that probably did not come as expected this year, and that led the U.S. to not achieving guidance, probably was labor cost and probably, to a lesser extent, a greater mix towards corn flour. So the question is, what will you say is the most important risk that could challenge the profitability expectations that you just shared with us for this year, having in mind that hedges are already in place and that you already know the exact outcome of negotiations with retailers pending? I understand that there is upside to the expectations you shared, but what would you say is the downside or the main challenge? And also the second one, related to the first one, could you give us an update on the great hedging position that you have for 2020?

We are now including the wages, of course, for Gruma Corp. And the main risk for that prices reduced are the inconvenience -- are change of the framing of consumption, which we are not expecting in that. The consumption or the trend for healthy products are really growing up everywhere [indiscernible]. And the conversion of the consumption of that has been switched into the consumption of healthier tortillas. And that's a trend that we have not seen at this point in time. Most of the wheat we are very hedged, and we hedge with some kind of savings. And that corn is already hedged for the full year. The natural gas, also, it was a little bit lower than we have in the last year. Also, in terms of the oil that we require, it's also better cost. And then all these kind of things are already hedged, and we do not see any kind of a risk with that. The other risk could be kind of the corn providers that, due to any reason, start to be massive in the states. Of course, the digital reference would be lower. But according to experience in the past, when the people do not go to take kind of meals on restaurants, they basically are ready to pick up on the supermarkets and at home. Then we saw the case, the switch to full service to retail will be even more profitable for us, if so the case. We think that this really contain and we are almost thinking to have any kind of issue with that. But because we have -- we already have the hedge of the main components of the many reasons that we used to produce products for corn and wheat, and we already know the wages, we feel comfortable with that. Actually, let me tell you that the ratio has been -- will be applied. The increase will be applied beginning April 1. Then the benefit for this in 3 months, we will have a very sound -- we feel comfortable with that, that it will be compensated for this kind of benefit in some other fees.