Hermès International Société en commandite par actions (RMS) Earnings Call Transcript & Summary

Good morning, everybody. I'm very happy to be with you today in this very different period for the presentation of the half year results. Now obviously, we cannot hold this meeting in face-to-face, but we hope to be able to organize it in the best possible conditions directly or in a deferred mode, and thank you for being there. The unprecedented crisis, which started in the beginning of the year that we are still going through allows us to test the solidity of our model. The results of the first semester were highly penalized as a result of the closure of stores, even if we're observing progressive improvement since the end of the month of May. I wish to thank the commitment, the solidarity and the courage of the Hermès teams everywhere in the world. We are today particularly happy to find our clients in our stores and on our e-commerce sites. Given this unprecedented health crisis that we're encountering, Hermès is faithful to its humanistic culture and its commitments. It saluted the economic and financial solidity to face up to this crisis. Hermès has preserved its jobs and maintained the basic salary of all the collaborators in the world without having recourse to public subsidies in different states. The group has made a donation of EUR 20 million to public hospital and has maintained the commitments and [ establishments ] to foundation Soong Ching Ling in China and Red Cross in Europe and Asia. 50 tons of hand sanitizers were produced by Hermès Perfumes, 120,000 masks were distributed. The Shareholder Meeting deciding on a dividend that was maintained at EUR 4.55, identical to that of last year. The executive chairmen have given up the increase of the compensation fix in 2020 and kept it identical to that of 2019. Let's come to the first quarter. As expected, after a sustained first quarter after a very good Chinese New Year, the epidemic was intensified in the second quarter leading to closure of most of the stores for several weeks. At the end of June, the income is down by minus 24% at current exchange rate and minus 25% at constant exchange rates. All the geographical zones have been impacted by the health crisis. The sale in group's at minus 22% at constant exchange rates are coming back progressively respecting the strict barriers in order to protect the customers and our collaborators with improvement started in end of May. The customer loyalty, desirability of our collections, and the agility of omnichannel and the independence of the group are the pillars that support resumption of activity. First half of 2020, all geographical zones were impacted by the health crisis. France, minus 38%; and Europe, minus 36%, excluding France affected by a drop in tourism flows despite the faithfulness of our local customers. After the closure of all of the networking in Europe for 9 weeks, approximately the stores progressively opened their doors in Germany end April and France, mid-May, and Italy and Spain end of May, and finally, mid-June in the U.K. In Japan, minus 23%. The stores were closed in April and in May over a period of 6 weeks. The resumption is very dynamic thanks to the customer loyalty locally. Sales were particularly strong in the e-commerce platform in Hermès Japan. In Asia, excluding Japan, minus 9%. All of the stores were able to open in Continental China in March with activities strongly growing, while activity in Hong Kong and Macau stays low as a result of the border control measures. Many countries in this zone have seen a second wave of closure of the stores, namely Singapore until the middle of June. The new flagship store in Sydney was inaugurated in June, and stores of Guangzhou in China, Continental China and Bellavita in Taiwan reopened in April and in May after enlargement. The deployment of the new digital platform in Asia pursued with success in Hong Kong, Macau in February and then Korea in June with a beautiful growth in e-commerce sales. America, minus 42%. Underwent total closure of stores for over 10 weeks in the U.S. as well as other countries in the zone with very progressive resumption end of June. The revenue by geographical areas reflects the closure of the stores with the greater weight of Asia-Pacific thanks to the good dynamic of Continental China and Korea. At the end of June, all the métiers were affected. The closure of the stores penalized all the métiers, particularly the fashion métiers, such as Ready-to-wear and Accessories. Leather and Saddlery down by minus 23%, close to that of the group as a whole. Clothes and Accessories, minus 29%; Silk and Textiles, minus 39%, have been penalized even more as a result of drop in customer flow. The Perfumes despite great success in the launch of beauty beginning February, underwent a downturn of minus 29%, like Watches, minus 19%. Other métiers of Hermès did particularly well, thanks to the good performance of Jewelry and maison. The breakdown of the métiers is as stable as compared to the first quarter 2019. Creation remains at the heart of our métier. In the beginning of the year, the successful launch of the 16th métier Hermès that I just mentioned, Beauty, with the first collection of lipsticks, which has encountered a very warm welcome for the customers. The major technical innovations with the double-face [ scarf ] printed on both sides and cufflinks in anodized aluminum. The new dinner set, Passifolia, the presentation of the ready-to-wear collections for women and men, the enrichment of the leather collection with model Chaîne d’ancre, Birkin 35 Cargo and Bolide line. Creativity of the group was welcomed in communication over this semester. Indeed, the theme of the year, Innovation in the Making, was launched in New York in February. The recent support of the presentation of the Spring/Summer Men's Collection 2021 in collaboration with Cyril Teste that I invite you to watch online. Exhibition of petit h in March in a GUM store in Moscow revealed the relevance of a proposal and an approach of up-cycling. And finally, all along these weeks of closure in link with our community were the release of Le Monde d'Hermès delivered in person to our customers has always been kept up. The physical network show the inauguration of the new flagship in Sydney in Australia. In June, 5 stores were renovated, embellished over the Sebesta in Kuwait City, Lugano, Guangzhou, Taipei and Montreal. New platform, hermes.com, opened in Hong Kong and Macau in February and then in Korea beginning June. Henceforth, most of our network benefits from our new e-commerce platform. In order to protect all our employees and in respect of the instructions given by the government, our production sites in France and in Europe were closed down for 4 weeks mid-March, the time necessary to put in place the health provisions over all the sites with a progressive resumption of activity. We're pursuing operational investments, namely in the production capacity for the 4 leather workshops, Guyenne, Montereau and Louviers and the second one in the Ardennes. Work is also being pursued in the textile area with enlargement of the Pierre-Bénite site. I'd now like to give the floor to Eric du Halgouët, CFO, for the half year results 2020.

Good morning, everyone. As Axel just recalled, we've been true to our role as a responsible employer. The group, therefore, maintained jobs and maintained the base pay of its employees throughout the world without recourse to government subsidy in the various states. This was a decision that was made as well as our strong vertical integration that both weighed on our operating profitability in the first half, which were impacted by the proportion of fixed expenses as a percentage of sales. In spite of continued improvement in all regions starting end of May, revenues down 24% at current exchange rates and minus 25% at constant exchange rates were hard hit by store closures in the second quarter that peaked on April 20. At that time, over 75% of our stores were closed, including all of the flagship stores. From the 4th of April to 2nd of May, over 70% of our own stores as well as our concessionaires were closed. Wholesale business saw a strong slowdown in the second quarter in addition to a downturn in travel retail due to, in fact, almost all airport stores were closed. The drop in gross margin by 3.7 points is mainly the result of an under-absorption of labor -- direct labor costs as well as indirect production expenses. Precisely, all of our production sites, especially leather production site, were closed for one month from March 16 to April 14. Activity resumed gradually in the following weeks, all the while, giving priority to social distancing. Furthermore, the gross margin was hit by lower sell-through of the Spring/Summer Collections of Fashion sectors that were displayed in the stores in a short period. Communication spending expressed as a percentage of sales, slightly down due to cancellations of events in many countries, such as the Saut Hermès jumping event in Paris. Selling, marketing and administrative expenses, which include mainly store staff payroll and support functions, are down, thanks to good control of other costs due to the drop in sales. This has a negative impact on operational profitability to the tune of approximately 5.5 points versus 2019. Other income and expenses, mainly this is depreciation of rights-of-use and fixed assets. These depreciations are up EUR 40 million due to the new leases taken out and continued strategic investments in our retail network and our digital network. Other income and expenses also include an expense relating to the free share plan, up EUR 30 million in 2020 after the grant plan where free shares were given to all employees in mid-2019. This also includes our donation to the Paris Hospitals Group of EUR 20 million. These 3 components explain most of the increase in other income and expenses due to the drop in business activity. This represents 12.6% of sales. After taking into account all the points we previously mentioned, recurring operating income therefore is EUR 535 million. As we mentioned previously, operating profitability is hit by drop in business, although we maintained jobs and wages and continued our strategic investments, reaching 21.5%, nonetheless. Net financial income is an expense of EUR 43 million versus EUR 16 million in the first half of 2019. This change is due to the increase in foreign exchange hedging options and discounts and hedges as well as location rent liabilities. Furthermore, return on cash on hand went down substantially due to drop in interest rates, which continued in the first half of 2020. Tax rate in the first half of 2020, 32.7%. This is our best estimate of the tax rate for 2020. We compare this with the effective tax rate of 33.1% for 2019. The expected drop of 0.4 points is due mainly to an expected country mix, which will be beneficial in conjunction with an uptick in business in China. Information point. The positive effect of the drop in the tax rate in France is offset by the expense that we booked in 2020, which has to do with the adjustment of deferred tax assets. Net income attributable to owners is EUR 335 million. The group continues its strategic investments in the first half. EUR 68 million were spent on renovation and enlargement of our retail network, such as extension work at the Sèvres store in Paris as well as projects to move stores in China to Dalian. EUR 44 million spent on production, and métiers were broadly mainly in leather, picking up projects in Guyenne, Montereau, Louviers and [ Saint-Gineis ]. Lastly, EUR 50 million were invested in real estate projects, particularly in [indiscernible], and in our digital projects as well with the continued rollout of our e-commerce platform. Operating cash flow reaching EUR 634 million in the first half, making it possible to finance the change in working capital requirements in conjunction with an increase in inventories as well as operating investments, which we alluded to previously as well as payback of rental liabilities. Shareholders Meeting approved in April paying a dividend reduced from EUR 5 to EUR 4.55 per share, which is the identical amount which was paid in 2019. Amounts paid out, EUR 490 million. Furthermore, the group did a share buyback, EUR 123 million worth, excluding transactions within the framework of the liquidity contract. Restated net cash position of this group is EUR 3.9 billion as of the end of June 2020. The group maintains a high level of cash on hand and maintains a sound and strong financial structure. I'd like to give the floor back to Axel to talk to us about the outlook.

Thank you, Eric. The progressive improvement of activity started end of May, and we are confident in the future a way to be able to take support from the pillars that sustain resumption of productivity, the faithfulness of our customers, desirability of our collections, agility of our network and independence of the group. For 2020, the impact of the COVID-19 epidemic remained difficult to assess as a result of the evolutions that are pursued in the different geographical zones where we are present. Today, we are very happy to renew with our customers everywhere in the world. Our objectives are unchanged in the medium term despite economic, geopolitical and monetary uncertainties in the world. The group confirmed the objective of progression of the turnover at constant rates, which is ambitious. Thanks to its business model, Hermès pursues its strategy of development in the long term, follow creativity and the position of knowhow and quality. 2020, despite the pandemic, is the formation of Saddler's Spirit. This will lead to the second semester, the pursual of the work in our leather workshops and the laying of the first stone in Louviers, opening an enlargement of 14 stores in the world, launch of the new collection of Haute jewelry in Paris within the framework of the Fashion Week and the collection of the Women's Ready-to-Wear Fashion show on the 3rd of October and finally the launch of our new finance and governance site with the ESG component. Now the group with confidence keeps its course. Thank you very much for your attention. We are, henceforth, available to answer your questions, thanks to the technique, I hope.

[Operator Instructions] We have a first question, David Da Maia, CIC.

Question one on recent trends. You mentioned the gradual improvement since the end of May, beginning of June. Can we take it then that sales are still down double digit as you -- as some of your competitors have mentioned? And improved trends, are they continuing in July? If that's the case, which markets are seeing the best recovery in most recent times? A last question. Gross margin. Give us the split could you in terms of impact on gross margin between direct labor costs and fixed expenses, cost of sales and lesser sell-through in Ready-to-Wear? Should we expect a return to a more normative level, which is to say, in the neighborhood of 70%, thanks to resumption of production in the second half.

Thank you. Eric, I'll take the first one. You can answer the second. This is Axel. We reached a low point in April. That's when you had the largest number of stores that were closed. So revenues were lowest. What are we seeing for June? In June, first of all, we've seen a real split between retail business and wholesale business. Retailing is our main business. Wholesaling, for instance, travel retail, which has been impacted and continues to be impacted sustainably, what are we seeing in retailing? In our retail business, when a store can reopen and health -- the situations enable that, customers come back. And we see the true desirability of our brand. There's still differences due to health situations in different geographies. Let's look at June as an example. In our retail business, 2 areas as we report this, are growing at a double-digit pace. That's Japan and Asia-Pacific, whereas, things are a bit more difficult in Europe and the United States. The trends that we're seeing in July are in line with Q2, i.e., further improvement from one month to the next, month-on-month, but it's too early to do any actual projections with figures. Eric?

On question 2, on change in gross margin, as to the 2 components, under-absorption, fixed production costs and direct labor and slowdown in inventory sell-through are basically 50/50. The improvement in both of these components is due to the point Axel brought up earlier, i.e., gradual resumption of sales, recovery in sales, which should minimize these impacts in the second half.

Yes, we have another question from Melanie Flouquet, JPMorgan.

I hope you are well. I've got several questions. Sorry about that. First of all, another question regarding June. I believe you said minus 25% for June. A lot of your competitors talked about minus 10% to minus 20%. Some of the iconic products selling well. Why is it then that Hermès isn't outperforming its peers in June once there was a reopening of stores? We're expecting usually high outperformance. Question 2, supply chain, particularly relating to leathergoods. In the past, we had also become accustomed to the fact Hermès was very much supply-chain driven. You saw a disruption in Q2. What's its impact going to be on the full year in terms of volume increases you're expecting? Might we see a catch-up in 2021? Or will this basically be a lost period? In terms of training and developing production centers, you've got a lot of catching up to do for next year, and will growth rates be similar to previous years? Point 3, question 3, online. I'm wondering the recent crisis. Will it be helping even further focus on online business? You've already got a focus on this. Will you step that up? Could you give us the proportion of e-commerce in 2019 versus 2020 and what you're expecting in terms of disruption for 2021 in e-commerce business? Next question. What's the proportion of local sales? You talk a lot about return of local customers, gauging about 40% travelers' sales normalized last year. What was the proportion last year at Hermès? Last question. Sorry about this. On inventories, I see they're up double digit versus last year versus December and June. My question is, are you comfortable with these inventory levels, which brings me to the previous question, if there wasn't depleted inventory, why isn't there a better resumption?

Thank you for the question. This is Axel. I'll answer each point. First of all, I believe Hermès has a sound business model which -- and basically, your question isn't how we're reacting during the crisis. The point is how have we prepared for this. And I think, thanks to our basics, think of our high cash on hand, think of our loyal customer base and our products, this has all paved the way, prepared for us to confront tough times confidently. As to revenue figures, I don't believe we report June specifically. So we can't compare to our peers. They don't either. We can say that in June, we've opened. We've got strong growth. Asia-Pacific, I'm thinking of, which is growing strongly compared to '19 in June. Japan reopened, was impacted, and in June is also growing. We've seen trends that are basically positive. Next. I said this as of Q1, thanks to the Chinese New Year, thanks to local customers in other European countries when the Chinese stopped traveling, held up well. When the stores are closed, I have the same figures as everyone, 0. Unfortunately, that was the case. We had periods of store closures, fairly lengthy periods when our stores were closed based on government regulations, employee safety and so forth. I can't say who else opened what. Sometimes things seem a little more fuzzy than in the U.S. We kept some of our stores closed a bit longer than some of the others sometimes. But still, we coped with the crisis and did not take any risks for our employees' health or customers' health. Regarding our supply chain. There will be 2 effects that'll be important, '20 and '21. First of all, full month's closure of production sites. And there's, of course, the lead time in building production sites and training new employees, and there'll be that gap when we were closed. And there's strong demand for these products. For 2021, we're hoping to be able to resume the usual customer growth of this group, especially since the differential will be fairly easier because there'll be a big difference in 2020. Anyway, productivity rates will be important to look at '21 productivity rates because this felt a big impact due to health measures we took, social distancing in the workshops, separations between people, and the fact that employee density isn't its usual levels. Next, online business. Here, as well, let me say, how we prepared ourselves for this for quite some time. I've been talking to you about our online omnichannel strategy, a new platform that we've been rolling out for 4, 5 years now. Now what do we see during the period? A strong speedup of online sales during the period. That's even more important, more interesting as I see it. The online sales we're doing with new Hermès customers, around 75% of these were new Hermès customers. So these aren't sales that didn't take place in stores. It took place online instead. These are new customers, new customers who came to our online stores, so there wasn't any sort of cannibalization that went on here. We see that our website in China continues to grow very strongly in Q2 despite of the fact all the Chinese stores have also reopened. Next point. I don't give targets to my teams with specific figures as to internet sales. And I say the most important thing is to have an excellent showcase on the internet as well as elsewhere. I have the best in-store service. Growth in both areas takes place in the best possible conditions without any cannibalizing. I can say to you when the stores were all closed, in the U.S. and in France, 100% of sales took place through digital means. But I don't see that as a success in itself. That's basically where we stand in terms of e-commerce. We're continuing to see the potential is very strong. Next, proportion of local sales. We don't report those figures. We never have given the specifics, but no doubt of what we saw in the Q1 results. We've got very strong local customer base in many countries in Europe, of course, and other specific countries like Germany, or think of Italy, France and Spain, more tourist customers. Hong Kong is also an example. Situation is complicated because of border closures, but we've got Hong Kong customers, very strong customer base there. Equally, in Japan, we've had e-commerce there for years. We've got very strong local customer traffic, which has helped our growth. This local customer base we've had for quite some time will be an added benefit to overcome the crisis.

On your last point on inventory levels, we're not concerned about the increase. There are 3 reasons for the increase, 30% approximately due to raw materials increases that these raw materials can be reused. They're not perishable. Secondly, transit inventory due to the resumption of production sites and ramp-up at those sites. So we have transit inventory, especially in Asia-Pacific, in transit. The last, third is finished product inventories, a little bit stronger. Reallocations, particularly to China, have been made when the sell-through was lower in some other countries.

I apologize. But you haven't given -- I hadn't seen June, my mistake. Could you give us the June specifics, the drop that you saw? You talked about a gradual improvement in terms of the half yearly trends. Could you give us more specifics on that?

No, you can't quantify the improvement because it depends on the progressive increase of the sales, which is very difficult to assess today.

We have a next question from Luca Solca.

You did mention the progression of sales per country by geographical zone. Can you give us some precision with regard to this progression. If we look at it from the point of view of different nationalities, if you look at the Chinese consumers, in particular, and then Americans, the Japanese and Europeans, the -- where do the different nationalities fit in, in terms of the resumption of sales? Then you talked about the productivity rate of different sites, especially with regard to the distanciation -- social distanciation in your leather workshops. Can you tell us what is the situation of your work from this standpoint to come to a rate of productivity coming back to the period before COVID-19? Or do you believe that the social distanciation measures and the management of the epidemic are now going to put you in a position whereby your productivity will be weaker in particular for the second half of the year?

Thank you. Well, per nationality, sales per nationality, as there are very few tourists there per country, what do we see since the beginning of the crisis? Well, after a very strong reopening, Asian countries are doing well -- continue to do well. When -- the range buying, but even after the normalization, you see that the situation in Asia is stabilizing with the very dynamic customers, very dynamic from the beginning in China, Continental China in particular, very dynamic in Taiwan, remains very dynamic in Korea. So these customers -- clientele remains very strong. And then with the successive reopening in Asia-Pacific and Singapore, which opened very late, is doing well with the Singapore customers, the Thai customers, et cetera. Now if I were to put things into perspective, I would say that, where it's opening again in Asia, it's doing very well. With one cautionary word where Singapore and Hong Kong depend on the opening of the borders with China where they're not back up to this -- the same level. Then when the Japanese in Japan where the -- there is reopening, they're doing very well with the local customers. And there's one difficulty in Asia, same as the rest of the world, which is travel retail which remains impacted and will remain impacted for a certain time to come. Now in Europe, the share of the local customers going up in true dynamism, which doesn't entirely make up for the losses of tourists in the most touristic zones even though in countries such as Germany, just slightly less touristic or countries very strong when they open like Russia, doing well. Now even if the results are very encouraging, very disparate, you have the U.S.A., where depending on the regions, the epidemic doesn't seem to be well under control. So I can't say that we're back to a normal situation in the U.S.A. Even if we have encouraging signs in the last weeks, the situation still remains to be stabilized. We're relatively dependent, and that will be the link with your second question of the ups and downs in terms of the health measures, the protection measures that will be put in place as well as the perception of the risks by the populations. Now when it comes to production, we've taken time to do things well. We closed down production for 4 weeks. So this was not an easy decision to take. This allowed everybody to stay home for at least 15 days during the incubation period and then find the right gestures, the barrier gestures. We put in place social distanciation. We had lighter teams that could revolve -- compulsively wearing of mask, putting plexiglass between teams. There are a lot of things that have allowed us to improve slowly but surely the productivity. We have also been impacted in terms of productivity by the closing of schools. We have a lot of mothers in our teams. They were not all able to have their children kept so regularly since we've reopened. There's been an increase in our productivity, significant increase towards levels that are relatively high but which are still not at the level of our norm of last year. We hope we get there, but I can't preempt on the health situation. The production of leather is 100% French, and France in the second half of the year, the reopening of schools and the epidemic hotspots, something that we don't have a handle over. So we have the capacity to continue to produce leathergoods. Really, I admire the desire to work of all employees and the energy that they've put into help the house in circumstances that are not easy. And then social distanciation, of course, obliges us to make certain tradeoffs. And so we make up as quick -- easily as possible, and every day, there are new ideas to improve the situation. So we're very confident on leather. And the proof of our confidence lies in the fact that we will continue to recruit because we are 240 more. And we continue to build, even if there were some pauses during the confinement, during the lockdown, of our 4 new leather workshops. Now what will be the speed with which we will come to the normality of the habitual level of productivity. Now that'll depend on the health situation.