Natura Cosméticos S.A. (NTCO3) Earnings Call Transcript & Summary

Welcome to Natura &Co's Fourth Quarter and Full Year 2022 Earnings Call. On this call today are Fabio Barbosa, CEO of Natura &Co; and Guilherme Castellan, CFO of Natura &Co. Joao Paulo Ferreira, CEO of Natura &Co Latin America, will join for the Q&A session. The presentation that we'll be referring to during this call is available on the Natura &Co Investor Relations website. I will now hand the call over to Fabio Barbosa.

Thank you. Good morning or good afternoon to all of you, and thank you for joining us today. Very happy to be with you again. Gui will comment on the results shortly. So I will provide a more qualitative commentary. As you know, 2022 was a difficult year, and we continue to operate in fourth quarter in a challenging environment marked by high global inflation that is affecting discretionary spending and changing consumer behavior as well as rising energy costs, foreign exchange volatility and, of course, the geopolitical fallout resulting from the war in Ukraine. In this environment, we decided in mid-2022 to reassess the group's growth model in the short term and shift the focus from sales growth to profit margins and cash conversion. As part of this shift, we took a higher cost structure and the role of the holding company with significant savings already achieved, and we are also reevaluating our global footprint to concentrate on profitable markets. In full year 2022, we posted stable revenue at constant currencies, while adjusted EBITDA margin decreased 160 points. In the fourth quarter, sales growth improved at constant currency, and we delivered further progress in cash conversion in line with our priority. We have some reasons for succession, notably continued strong momentum at Natura brand, especially in Brazil, and also a continued good performance at Aesop. We also saw a solid performance by Avon in the beauty category in Latin America. This bodes well for the second wave of integration of our business in the region that is getting underway, aiming at harmonizing the distribution and sales systems and optimizing the product portfolio. At TBS, we continue working on costs and optimizing footprint of stores and geographies. At Avon International, we are focusing on countries with high growth potential, while revisiting business model at several other countries at the same time, reducing the cost structure. A lot has been done and takes a while to show up at results. This is, as I like to say, a transatlantic. A lot has been done by all means, but a lot has to be done yet, and we are undertaking every effort in that direction. At the same time, I want to remind that the group continues to focus on its ESG agenda. We remain as focused on our commitment to our environmental agenda, the Amazon and its biodiversity, social inclusion, female empowerment and other matters that constitute Natura &Co's DNA are at the core of our commitment to Life 2030 vision and give us a competitive advantage and make us a differentiated company. With that, let me now hand over to Gui to comment on our fourth quarter performance in greater detail. Gui?

Thank you, Fabio, and hello to everyone. I'll start with Natura &Co's consolidated revenue on Slide 5, which stood at nearly BRL 10.4 billion and grew by 3% in constant currency, improving sequentially despite a challenging macro environment. In Reais, sales were down 10.8%, mainly reflecting the depreciation of the British pound, the Australian dollar and the Argentinian peso, among other currencies versus the real. We will look at the performance by business units shortly. But in a nutshell, we posted solid constant currency growth at Natura &Co Latam, with a strong performance by the Natura brand, notably in Brazil and by Avon in the beauty category, while Aesop again posted double-digit growth at constant currency. Avon International's fundamentals improved, but performance was still impacted by the war in Ukraine and by one-off supply chain issues. The Body Shop had another difficult quarter as The Body Shop at home is seeing a return to pre-pandemic levels. In the full year, revenue rose 0.4% at constant currency and was down 9.5% in reais to BRL 36.3 billion. We turn to adjusted EBITDA margin on Slide 6, which stood at 10.5% in Q4, down 280 bps. This reflected different moving parts and business units dynamics. First, the main positive impacts are an improvement of holding expenses, down 23% year-on-year. This is the result of our efforts to create a leaner and simpler organization, as mentioned by Fab, but impacted by the BRL 25 million of phasing expenses mentioned in the previous quarter. In full year '22, corporate expenses already show a 30% decrease compared to full year '21, even though the adjustments only started in the second half. Improving margins that is supported by strong top line growth and constant currency. And finally, 90 bps year-over-year improvement of selling expenses as a percentage of net revenues, benefiting from financial discipline across all businesses with a focus on improvement efficiency and simplifying the business model. These were more than offset by the combination of: first, pressure on margin at Natura &Co Latam and Avon International due to higher G&A expenses; second, additional margin pressures at The Body Shop amid the challenging top line; finally, G&A as a percentage of net revenues increased by 290 bps in Q4 '22 on a year-on-year basis. Q4 '22 was particularly impacted by increased costs related to phase of expenses, including incentives provision as there were almost no incentives in the first 9 months of 2022. In the full year, adjusted EBITDA margin was 8.7%, down 160 bps. On Slide 7, we focus on net income and underlying net income. Net income in Q4 was a negative BRL 890 million compared to the net profit of BRL 696 million in Q4 '21, driven mainly by lower EBITDA, higher net financial expenses and a higher loss from discontinued operations. EBITDA was impacted by a noncash impairment of BRL 383 million. It's worth highlighting that Q4 '21 net income had also benefited from tax gains related to credit recoveries. Q4 '22 underlying net income, which is net income excluding transformation costs, restructuring costs, discontinued operations and PPA effects, was a loss of BRL 49 million. You see the bridge on this slide with the main impact coming from PPA effect for BRL 367 million. Restructuring costs, discontinued operations and other effects for BRL 357 million. And finally, transformation and integration costs were BRL 117 million. On Slide 8, we focus on free cash flow, which is a particular focus of ours and which show a sharp improvement in full year 2022. Free cash flow was an outflow of BRL 1.7 billion compared to outflow of BRL 2.4 billion in the previous year. Despite the negative impact from net income in the year, which was positive BRL 1 billion in '21 to negative BRL 2.9 billion in '22. Cash flow from operations improved to minus BRL 280 million from minus BRL 1.2 billion in 2021. The improvements are mainly driven by, first, operating working capital that improved across all business units as a percentage of net revenues, but was partially offset by business unit mix. The business units that are growing the most carries higher structure working capital. Main driver for working capital improvement was inventory, which was partially offset by receivables with the growth in Latam. Working capital also benefited from lower advances to suppliers. Significant improvements on income tax and social contribution was seen as well. On top of the significant improvements in cash from operations, we continue our resource allocation efforts, which resulted in lower CapEx, down 25% year-on-year, while still investing in our main priorities. As previously mentioned, management continues to be strongly focused on optimizing cash conversion and continues to work on several fronts. First, improving working capital management, where we still see further opportunities for improvement. Second, thorough discipline in capital allocation and CapEx optimization; and third, continued improvement in the cash tax rate. On Slide 9, we look at our liquidity profile. We ended the quarter with a cash position of BRL 6 billion, up BRL 1.4 billion versus the previous quarter and in line with our cash position in Q4 of 2021. Our net debt-to-EBITDA ratio stood at 3.5x at the end of the year, up from 2.85x at the end of Q3 and 1.5x 1 year ago. Although net debt improved on a quarter-on-quarter basis to BRL 7.4 billion from BRL 8.8 billion. Reported EBITDA was particularly impacted this quarter by non-underlying expenses, including BRL 383 million of impairments. Talking about debt capacity payments. As you see on the second graph, our cash position of BRL 6 billion is higher than the total of our debt payments through 2027. The average maturity of our debt, and we face limited debt repayments until 2028. As part of the group's continuous efforts to improve its capital structure and actively addressing the upcoming maturities, Natura &Co Luxembourg Holdings entered on November 14 in a USD 250 million Club Loan maturing in 2025, guaranteed by Natura &Co Holding and Natura Cosmeticos. The funds were used primarily to prepay a USD 150 million loan under the group revolving credit facility maturing 2024 and a GBP 70 million loan of The Body Shop with the U.K. Export Finance Agency. Also in December 2022, Natura Cosmeticos repaid BRL 913 million related to its 10th issuance of debentures. At the same time, Natura Cosmeticos received an inflow of approximately BRL 1 billion in October 2022 resulting from the issuance of certificates backed by real estate receivables, known as CRI. It is important to note that the repayment of the 10th issuance of debentures eliminates our group financial covenants, sorry. Let's turn now to our performance by business unit, beginning on Slide 11, for Natura &Co Latam, which posted a solid performance. Total net sales were up by 10.6% in constant currency and down 3.2% in reais. This was driven by double-digit growth at Natura brand, which grew by 7.5% at constant currency, while the Avon brand was also up slightly in constant currency at 2.2%, thanks to the growth in the Beauty category. The Natura brand posted strong momentum with year-on-year growth of 17.9% in Brazil, supported by price increases and mix effects, which result in 14.9% growth in consultant productivity in the quarter. The average available consultant base is broadly stable at [ 1.16 ] million in Q4 2022, up by 1.7% versus Q4 '21 and by 0.9% versus Q3 2022. This is aligned with our ongoing strategy of focusing on increasing productivity with a more stable consultant base. In Hispanic Latam, net revenue was up 16.9% at constant currency, despite a challenging situation in several countries in the region. Revenue was down 18.6% in real, royalty in constant currency was mainly driven by Argentina, Colombia and Mexico acceleration, boosted by channel mix and productivity gains. Excluding Argentina, sales in Hispanic markets were up in mid-single digits at constant currency, despite softer performance in Peru and Chile. At the Avon brand in Latam, net revenue grew by 2.2% at constant currency. In Brazil, trends continued the sequential improvement we have seen every quarter in recent periods and Avon entered positive territory in Q4, growing by 7.5%, albeit on a soft comparable base. The Beauty segment continued to grow, accelerating to 12%, while Fashion and Home was down 10%, in line with our portfolio optimization strategy. In Hispanic markets, net revenue was down 1.1% at constant currency and down 19.5% in reais. Performance was good in Argentina, but impacted by a decrease in Mexico, which was higher exposed to the fashion and home category as well as in Peru and Chile, which were affected by political and economic volatility. The beauty category grew 7.3% in constant currency, but this was more than offset by Fashion and Home, which was down year-on-year. On Slide 12, we turn to Natura &Co Latam's Q3 adjusted EBITDA and margin. As shown on the graph, adjusted EBITDA decreased to BRL 526 million from BRL 741 million in the same period last year. Adjusted EBITDA margin was down 320 bps to 8.9%. Margin benefit from strong top line performance and strict financial discipline, but this was more than offset by 60 bps drop in gross margin and higher G&A as a percentage of net revenues. G&A growth was mainly driven by higher investments in R&D, notably at the Natura brand, expenses deleverage at Avon Latam and increased quarterly phasing expenses, including accrual for incentives provision. Let's now move to Avon International on Slide 14. Revenue was down 9.9% at constant currency and 23.8% in reais. This drop continues to reflect the situation in Ukraine. Excluding that, sales were down by more limited 6.2% at constant currency. Revenue in the quarter was also impacted by a one-off supply chain challenge related to mascara products, which had an estimated unfavorable impact of 2 percentage points. The TMEA and APAC regions show year-on-year growth, while Western Europe posted softer performance. However, even in a tough macro environment, Avon International was able to pass through inflation and FX pressure to prices, which also benefits rep productivity. As expected, the number of representatives is still down 20% amid the new commercial model rollout and the footprint optimization impact. However, we continue to see good progress on fundamentals. For example, penetration of the Avon On app reached 30.6% in Q4 '22 compared to 25.5% in Q4 '21. Activity units per rep and productivity continued to show sequential improvements as well. Gross margin was 61.1%, up 230 bps, driven by a price increase and a positive product mix, which more than offset pressure from cost inflations and FX headwinds. However, adjusted EBITDA margin was 5.8%, down 490 bps as gross margin expansion and continued focus on transformation savings were more than offset by the sales deleverage and phasing of expenses in the quarter. We now move to The Body Shop. Q4 net revenues declined by 8.4% at constant currency and 20.6% in reais. Although it's still showing challenging results, these figures marked a sequential improvement over the previous quarter, which has seen constant currency sales decline of 19.5%, albeit on a softer comp. Combined sales of core business distribution channels, in other words, stores, e-commerce and franchisees show a low single-digit decline in constant currency, an improvement over the high single-digit decrease in the previous quarter. This underscores the significant impact of The Body Shop at home, which returned to pre-pandemic levels. However, the tough macro environment, particularly in the U.K. and the rest of Western Europe continue to impact retail and same-store sales sell-out was minus 4.8%. Franchise sell-in grew in the quarter, but softer sales sell-out impacted the trend of franchise partner inventory normalization seen the last quarter. Q4 '22 EBITDA margin was 21.4%, down 80 bps year-on-year. This represents a 270 bps efficient gain on SG&A as a percentage of net revenues despite the sales deleverage impact, partially offset 350 bps of gross margin pressure. 2022 was a very challenging year, and management is focused on stabilizing the core channels, top line and the implementation of cost savings initiatives to deliver margin expansion and support cash generation, strict cost containment measures to management headcount levels and discretionary spend were complemented in the quarter by the first phase of structural cost reductions, including the rightsizing of The Body Shop At Home overhead structure, reductions in leadership and IT transformation. The restructuring of the business continues. And in early 2023, management announced several additional steps to improve long-term profitability. These include the announcement in January of the closure of at-home business in the U.S. and not the dedicated distribution center in the U.K. And in February, we announced a restructuring of our global management structure, reducing leadership positions by 25%, as well as 12% reduction in the rest of global overhead staffing. These actions are part of a broader recovery program that will support margin expansion, cash generation and net revenue stabilization in 2023 and beyond. On Slide 18, Aesop again recorded an excellent performance with another quarter of double-digit growth in constant currency, up 18.2%. Revenue in reais was down 2.1%. All regions delivered double-digit growth despite the challenging environment. Retail and wholesale showed solid growth, partially offset by a softer e-commerce performance, reflecting post-COVID normalization of consumer behavior. From a category standpoint, fragrance sales grew at more than twice the overall pace aligned with Aesop's category diversification strategy. The fragrances market has outgrown the market as a whole, especially the premium segment, indicating the importance of this category for the future of the company. The highlight of the quarter was, of course, Aesop's successful China market entry with the launch of 2 physical stores, along with the Aesop.com platform and a domestic T-Mall operation. Performance has exceeded expectations, and the stores already the top 2 sellers among Aesop's 287 signature stores worldwide. Q4 adjusted EBITDA margin was 28.6%, up 190 bps year-over-year, still pressured by planned investments to deliver sustainable future growth, notably in technology, supply chain enhancements and China market entry, but more than offset by sales leverage and other efficiencies. As mentioned in the notice to the market published on November 30, Natura &Co continues to evaluate strategic alternatives for Aesop. We will keep the market updated as soon as we have something concrete to communicate. Let me now hand back to Fabio.

So I think now we're ready here to go for the Q&A, and which we can start. Please add [ to Juvenal Santos ] help me here.

[Operator Instructions] And our first question will come from Joao Soares of Citibank.

I have 2 questions, if I may. First one, I just wanted to understand better what's happening [ in Latam ]. I understand there was a big impact of Argentina, some accounting issues. So if you could talk a little bit more into how that -- the revenue of that operation, how should we expect the performance of this operation and understand the margin dynamics of that operation as well. I think that seasonally, we're expecting a better fourth quarter. So if you could understand, I mean, after all the initiatives that you took throughout the year, how should we think about the recovery rate of that EBITDA margin? And if I may, just one last one on TBS. There was a big improvement sequentially on EBITDA margin. I just wanted to understand how sustainable is this margin recovery at TBS, please?

Joao, can you please repeat the first part of your question. It's not clear here for us, if it's only Latam, or if it's everything. So if you can repeat, that would be great.

Sure, Gui. Just especially looking to Hispanic, both Natura and Avon, I just wanted to understand because there was a big impact of Argentina and accounting as well. So if I could please understand the underlying operation, specifically on Hispanic, which was for -- at least for us, it was worse than what we expected.

Sure. I'm going to tackle here the first part of the question, and then I'm going to pass to Joao to talk a little bit about the situation in the operation, specifically in Argentina and the rest of Hispanic, right? So first, let me just be extremely clear that there is no accounting changes whatsoever from this year to previous years, right? We're still following the accounting practices are related to IFRS 16, to IFRS, sorry, so it's 100% in line with what we have done in the past, right? Now Argentina, of course, it has a special situation given the hyperinflation, which, as you know, is well, it impacts all the lines of the P&L, right? It's not only the revenue, not only the costs, but it's throughout the P&L, of course, through the price dynamics in revenues and of course, through the inflationary dynamics in the cost side, right? So there is no difference whatsoever to what we have done in the year. Now given the very high inflation that we saw in 2022, especially in the second half of the year, especially compared to the previous year 2021. Of course, you can assume that those are adjustments especially impacting the EBITDA margin, they were higher in 2022, so a headwind compared to 2021, right? But it's important to mention that the business there remains very healthy. Natura, specifically, and Joao is going to comment a little bit on that, doing extremely -- continues to do extremely, extremely, extremely well. The margins of Natura in Hispanic Latam, not only in Argentina, but Argentina as well, but Hispanic Latam in general, they continue to be healthy. And of course, as we have communicated before, the main issue in Hispanic Latam has been the profitability of the Avon brand, which is the main focus of the Avon project going forward, and this is why we have been communicating, the Avon is the cornerstone is transformational for us to get that margin for Latam back to the levels where we want it to be. So I hope that is clear from an accounting perspective, there's absolutely no change whatsoever. There is a headwind, of course, given the inflationary pressures that we saw in the second half of last year, which was [ 7% ]. But now I'm going to pass to Joao, so he can comment a little bit more on the operational results.

Joao, I wonder if your question is trying to -- is inferring that the drop in Latin American profitability is coming from Argentina. So I just want to reinforce that, that's not the reason why you see the reduced profitability in Latin America, which comes from other effects I can comment later, if you prefer. So -- but just talking about the operation itself, preliminary data indicates that Natura &Co in Latin America defended its market share throughout the year, increasing market share in the second half. And Hispanic Latin America, Natura grew market share, whereas we lost some market share in Avon. We do see macro social economic headwinds in some countries. Chile, as you followed from other companies, consumption has dropped. Peru in the fourth quarter, had to face some political issues which led to strikes -- on demonstrations [indiscernible]. And in Argentina, we faced difficulties with the shortage of goods. So there were restriction in ports of goods, which reflected on a softer top line growth in those countries, only partially compensated by our performance in Mexico and Colombia. As I said, Natura is -- it continues to grow, albeit a bit softer than before because of these macro headwinds, as I said. And as Gui just mentioned, in the case of Avon, we are restructuring the operation more thoroughly at this point in time, restricting Fashion and Home and by choice in preparation for Wave 2. But overall, the operation is pretty healthy as well its margin.

And Joan, let me talk about the second part of your question, which is related to The Body Shop. So first, of course, let me remind everybody that from a seasonality perspective, The Body Shop has historically a very strong Q4 compared to the previous quarters, right? So that's, again, the quarter where margins and cash flow for The Body Shop are the highest. In the case of The Body Shop in this particular quarter, we had some headwinds coming from gross margin, right, given the inflationary pressure. And as we also have discussed before, right, the fact that we were not that aggressive from a net price increase perspective, right, given the changes, the momentum of the retail, especially in some markets and the head franchisees inventory level. So that impacted the gross margin by 350 bps negatively. But of course, through the cost containment actions that we exercised during the last part of the year, we're able to offset a great part of that amount through SG&A, right? Now those actions, of course, most of them, they are structural changes, and they will remain. There are some small technical changes as well, technical movement as well in the last part of the year. But it's very important to say and to comment that our focus on rightsizing The Body Shop organization is there, right? And again, there are some actions that we disclosed that we took in the first quarter of 2023, which, of course, doesn't -- they don't reflect in the numbers of last quarter of Q4 2022, such as the closure of TBS at home in the U.S. and the dedicated distribution center in the U.K. as well as restructuring of the global management structure, right, which -- by which we reduced the leadership positions by almost 25%. And again, further headcount reductions in the rest of the global overhead staffing. So all of those things, again, we continue to deliver in order to protect the margin of The Body Shop. So yes, it's a big focus, and we are expecting The Body Shop to improve margins compared to 2022 going forward.

The next question comes from Danniela Eiger of XP Investments.

I have 2 from my side. The first on Aesop, something that color our attention was actually the restatement of the past results of the company, mainly on the gross margin line. If you could just provide some color on why that was done throughout the best quarters, that would be great. And also, I think that, that one is for Gui, is mainly related to leverage. The picture of the product called the attention, especially when looking at EBITDA, ex-IFRS by reaching almost 8x. I understand that you don't have like a short-term financial issue in terms of liquidity because you actually, sorry, I'm not sure if I would cut. But I understand that you don't have any like short-term liquidity issue. But just wondering how we should think about the deleveraging process in terms of levers to get that done and also the speed throughout the quarters.

So just to confirm your first question on the -- was on the Aesop standardization in terms of the gross margin from SG&A, right, the reclassification that we did. And then the second one was related to leverage and how we see that going forward. Is that correct?

Yes, that's it.

Okay. So again, the Aesop was an adjustment -- an accounting adjustment that we did. So there is no impact on previous numbers in terms of EBITDA or net income, right? So it was just a reclassification from some logistic costs that were sitting in selling expenses. And basically, they were reclassified to the gross margin, right? That's why, again, there was a negative impact when you look at the gross margin of the company, even though it was just an accounting reclassification to standardize the way that we look at numbers correctly across the [ BUs ], right? But again, there's no -- as you can see, there's no impact in previous numbers in terms of EBITDA, net income or anything below EBITDA. Just to be clear on that. And that will be the way that we'll continue to present Aesop's numbers going forward. Now on leverage, in particular, right? I mean, we -- of course, we finished the year with a high leverage. And that is mainly explained by the very low reported EBITDA in the quarter and of course, in the year, right? So the reported EBITDA, of course, was impacted by the performance of the business, needless to say, but also through several one-offs impacts and those one-offs are transformational, restructuring, corporate rightsizing and impairments, which were, again, a big number, especially in Q4 of the year, which brought the reported EBITDA of the year to low levels compared to historical numbers. And of course, if your denominator is low, your leverage is high, right? Despite the fact, of course, that we have a significant improvement in terms of cash conversion and that will remain the focus. So on that, I'd like to say that, of course, we continue to focus as a company all across the BUs and in the holding. We continue to focus on our 2 priorities for 2023. EBITDA margin and cash flows. So margin has to improve, right, again, 2022 with less than 9% adjusted EBITDA margin in the year. And of course, that number has to significantly improve going forward. And the BUs and the teams are working on that. And we need to continue our efforts in terms of cash conversion, right, which again, we already start seeing that in Q3 and Q4, and that effort will remain in 2023, in order to, of course, to continue to reduce the net debt impact. On top of that, right, which again, it's important to mention, as Fabio has said, we are working on our capital structure, right? And we are working on actions to take to improve our capital structure. And of course, as soon as we have concrete news on that, we will communicate the market. But it is a big focus for us. As, of course, you can see the impact of net interest expense in our results and how interest rates is impacting, of course, not only the cash, but the P&L profile of Natura &Co.

The next question comes from Thiago Macruz of Itau.

My question is regarding a potential divestment of the Aesop operation. I mean, I want to understand how you guys would be taxed on a potential transaction like that in terms of capital gains. Is there any sort of tax shield that you guys could eventually use to diminish that amount is my question.

So let me revert to public information to what we can say. As you can see in the material fact that we issued to the market, we are evaluating and studying structural and alternatives for Aesop going forward, right? Of course, that process, that project is ongoing, and we cannot communicate anything to the market, right? So several alternatives were on the table. And of course, as we continue to evaluate, and as we continue to study, we continue to funnel those alternatives to what we believe is the right thing for Natura &Co at this moment. But I know that Macruz, you appreciate that we cannot say anything that it's, again, not yet communicated. And of course, we're not going to comment on tax or anything like that at this point. And as soon as we have news on the Aesop process, we'll communicate the market in a more comprehensive way.

The next question comes from Bob Ford of Bank of America.

JP, Natura Brazil growth was very impressive in the quarter. Can you comment a little bit on pricing, competitive dynamics, gross margin and the operating profitability for Natura Brazil as well as the momentum for the brand in early 2023. And then Gui, how are you thinking about market exits [ and fabulous well ], right? How are you thinking about market exits for Avon International this year, the fixed cost structure of The Body Shop and for the restructuring and impairment charges for 2023.

Bob, JP here. Indeed, we are passing prices across the entire region. You can probably appreciate that when you see that we are catching up in terms of gross margin and there is still room to continue to price in a couple of countries, right? So a significant portion of our growth across the region came from prices, but not sacrificing volumes in any significant way. So we are pretty glad with that. Notably, with Natura in Brazil, Natura in Brazil is living through a very, very good moment. We see an acceleration of the digitalization, personalization features throughout our business model, which is definitely helping us to navigate through the changes in the market. So very glad with that. I also want to say that behind the aggregate numbers, even when you look at Avon, when you see increased profitability for CFT, that is showing that we are able to price up across the region. We are facing other difficulties related to the shrinkage of the Fashion and Home category as previously announced. But even there, with Avon CFT, I'm pretty glad with the fact that we are being able to price up, okay? Let me hand over to Gui.

Yes, as Fabio have mentioned, again, I'm going to start, and of course, if [ Joao ] has anything to add Q3, right? Especially in the short, medium term, the revision of print is an action that both Avon International and The Body Shop, we're taking in order to improve profitability, right? So just talking a little bit about Avon International, right? We continue to see good momentum coming from a few geographies, right, especially when we look at the Middle East and Asia, Turkey, Middle East and Asia region, and we will look at APAC with a very high weight and performance of Philippines. Those regions are continuing to do well. Now of course, Central Eastern Europe in 2022 was impacted by the war in Ukraine, but we see resilience. We see some countries improving results, and that is also seen in the operational KPIs, especially with the new commercial model. Now Western Europe, again, mainly the developed markets are the regions that we're seeing softer results, right? Now the strategy for Avon will continue to go twofold. First is, of course, looking at markets EBITDA and cash flow, particularly cash flow has been negative. And again, with no plans to turn around that quickly, right? So we'll continue to exit those markets as we have seen in 2022, and we are working on that. Of course, that existing markets is not just pressing a button, right? It requires a lot of work. And again, hopefully, we have more [ new look ] to communicate to the market as we progress. And the second part is to continue to work on the transformational costs in the markets that we operate. So more recently, we announced the 1-year structure for Avon writing, which basically we are merging the 2 sub-use into one leadership team only with a significant reduction of headcount in a more lean and agile and of course, giving more focus as well to the countries that we believe that will make a difference in the future. So that, again, will also continue. So should expect to see more news from Avon in terms of market exits as soon as, as well as more news in terms of transformational savings across the BU. On The Body Shop, you are also correct, Bob, that more recently also became a focus of ours to look again at our footprint and focus not only the core channels, right, that are basically retail, e-commerce and franchisees, the franchisees model, which is very important for The Body Shop, but also at the right geographies, right? So a few markets that we used to operate on a stand-alone basis, right? Those markets were significantly impacting EBITDA margin, especially on a few channels. And that's the case of course, of the U.S. as we communicated that we are basically ending the operations of The Body Shop at Home in the country. And of course, also looking to optimize the rest of the channels in North America in general, right? We'll continue, of course, to focus on the markets that we believe that we have, again, a strong competitive advantage. U.K. being, of course, our main market, right, but also some very strong markets that again we have our own stores or our franchisees models in Europe and the rest of the world. But again, you should also expect to see some news about rightsizing and existing some markets for The Body Shop during 2023.

And just to add, if you allow me, in terms of Avon International, we are revisiting a presence in countries which are not profitable, and we will invest in countries which are growing and being profitable. But revisiting the ones which are not profitable, means also going from full presence possibly to have franchise possibly to distribution possibly to an exit. So all this -- and as depending on our penetration, our brand, depends on what kind of agreement we can reach. And for The Body Shop, it may be something like that, although we are more -- we are largely with the [ head franchise when ] outside the key countries. But to just to clarify that, it's not from presence to exit, but there are scales in what kind of presence we want to have in markets where we may have some opportunity, but with no investment, investment only in the countries where we have seen growth.

Yes. And just to be clear, [ sorry, I ] make a correction, if it was not clear. The [ Europe plan ] that I announced for Avon is basically the merger of CE and Western European one cluster is the [indiscernible] and the brochure plan, and, of course, some in leadership positions. But as I mentioned, we'll continue to focus in the right markets for the region. So I just want to clarify that.

It's very helpful. And just one little follow-up and that is JP. Can you comment a little bit about the momentum for that sort of Brazil going into early 2023, please?

Yes. Well, it is a strong operation that remains strong as we speak.

The next question comes from Joseph Giordano of JPMorgan.

I have a few ones I want to still touch upon on Latam results. So first, I would like to see if you can help us quantify the impact of IAS 29 impacts on the conversion of Argentina sales given the hyperinflation. So did you just mention like headwinds and tailwinds, we saw that throughout the region in companies that are operating in Argentina that results for the [ fourth ] quarter actually had like massive accounting headwinds that actually distorted the P&L in the sense that it kind of hides the material cash flow improvement you guys have been showing. So that's my first question. So try to quantify a little bit the IAS 29 impact on Latin America. The second one is about the higher bonus provision. I think like the market wasn't expecting such provisions given the EBITDA decline. So my question to you, and again, like the EBITDA decline and it goes back with the cash flow improvements, right? So maybe the EBITDA is not a good proxy in Latin America to the cash flow generation at this point. So my question to you is like what changed in terms of KPIs for the variable compensation. And last but not least, like if you have like any kind of like short and midterm leverage targets to kind of guide us through the potential improvements of free cash over the next quarter.

Let me start, of course, answering your questions here, and I'll pass to Joao, if he wants to say anything else about Latam, right? So on the IAS 29, to your point, right, as I mentioned in the previous answer, we had a headwind in Q4 coming from Latam. And of course, when we say Latam, we're talking mainly about Argentina, right? Now to quantify that, you can estimate that the headwind impact on margin was around 70 bps, right? It's not, again, that meaningful given the weight of Argentina in Latam, but was significant, given, of course, what we saw in terms of hyperinflation and the FX dynamics in the country, right? So again, it's very difficult to estimate and to project what that impact is going to be in 2023. But that was basically what we saw in terms of Latam impact totally. I'm not saying consolidated results, but that's impacting margins for Q4 of 2022. And of course, you can get more information on the IAS 29 and the hyperinflation on how we account for that in our financial release, right, in the ITR. But that was basically just to answer your question on how to quantify that. I think that goes a little bit to what I just said. Now the impact on G&A, of course, in Q4, there was a significant impact, especially when we look at Avon Latam and Avon International. So basically, let me start saying that, again, they were phasing of expenses, and it's not only related to incentives, right? They were phasing of different expenses Q3 to Q4 and also Q4 to Q1 of this year that impacted the results of the quarter, right? Also, inflationary pressures on G&A. In the case of the term costs related, of course, to allow and of course, R&D as well, which we'll continue to invest for the Natura brand. On the incentives part, I want to be a little bit clear, right? First of all, it's not, again, an allocation to one person or to only a group of individuals, right? This is basically an extraordinary change that the company did in the half of the year in which we try to allocate a higher weight of incentives to cash flow performance as we have communicated to align on our priorities, right? Of course, there was an extraordinary change that we did in 2022 with also the clear separation of H1 and H2 results. Now we had accrued basically none to very little incentives in the first 9 months of the year and with the stronger cash performance come in the second half, especially, of course, driven by the high seasonal Q4, that's where, again, we saw the higher impact, given again that we have communicated and we'll continue to communicate that cash flow is a strong priority for [ ours ]. Now you should not expect that level of G&A as part of the underlying business, just to be clear, okay? So that was Q4 was impacted by significant one-offs. One of them being just what I described. But going forward, I should not expect to see the same levels of G&A, not for Latam, maybe international or for the group. I'm going to pass to Joao, just to see if he has anything else to mention about Latam, and then I'll come back to answer your last question on leverage.

I do want to comment, Joseph. So as I read most of your reports earlier today, I fully understand that the EBITDA margin of -- Latin American EBITDA margin came as a negative surprise. However, I just want to reinforce my full confidence on our journey to recover profitability. And I wanted to take you through some of the elements. As just mentioned a few minutes ago, our business in Brazil are doing extremely well, Natura, a highlight and even stabilized and with improved profitability. In Hispanic Latin America, we faced some macro headwinds. But as we speak, in Q1, they are less strict than they were in Q4 in Argentina, in Chile and Peru. And the Natura brand has proven a long story of profitable growth there. And as regards even all the restructuring that we are doing, which will create turbulence in terms of top line is targeted at improved profitability and cash generation. Sorry, I hope I'm still on. Joseph, are you hearing us?

I'm still here, but I'm hearing the operator.

[indiscernible] So I described what we are doing in terms of top line. Then I was developing gross margin. I just mentioned our efforts to price up and recover gross margin, which has been a successful movement so far. And finally, you know that we have a story of trimming down our G&A, capping it to a healthy level, which we continue to do, which will be easier now with Wave 2, right? And as Gui just mentioned, a significant portion of the G&A in Q4 related to phasing of nonrecurring items. So just to say that we are pretty confident in our journey to recover profitability going forward. Gui?

Yes. And on the leverage, Joe, we haven't communicated basically what is the [ optional ] level of capital structure for the company. Of course, the focus right now is to work on the capital structures to reduce leverage. And as Fabio mentioned, right, in the beginning, by doing that, allowing us to have the right firepower to invest in our priorities. So you can, of course, assume that we'll continue to have to work on the 2 priorities that I mentioned, which are profitability and cash conversion, but also in structural items to improve the capital structure in the short term. And once we are in that position, then we'll communicate what is the optimal leverage for the company, the optimal capital structure for the company going forward.

Perfect. Gui and JP, just a follow-up here. So you guys mentioned like both about like nonrecurring G&A expenses, both at the perimeters of Latin America and Avon International. So can you help us quantify that? So that's like really, really useful. Sorry for the extra question.

Joe, you can assume that a significant portion of the G&A increase is coming by those nonrecurring, okay? So we're not going to break down, but you can assume that is the majority of the G&A increase in the quarter is coming from what we see here as nonrecurring expenses. Again, part of that, they were, again, a distribution of quarterly phases. Part of that, they were tactical decisions that we decided to invest, but you can assume that most of those -- most of the increase or actually the decrease that we saw in EBITDA and the increase that we saw in SG&A in particular, for Avon International and Latam, they are nonrecurring going forward. And as Joao mentioned, we are confident in our plan to improve EBITDA margin this year.

The next question comes from Eric Huang of Santander.

So from our side, we have seen the improvement in cash generation. So we would like to better understand if you could break down how much of these improvements were related to seasonality and how much were structural? And going forward, where are the biggest opportunities still to be captured in the cash flow side?

I'm going to take that one. And again, needless for me to repeat the focus of the company in this particular item going forward. So I'm going to skip that. But when you look at the cash flow results that we had, especially in the second half of the year, right? You can see that the bulk of the improvement, even though EBITDA margin was compressed. The bulk of that improvement comes from -- come from cash conversion items, right? And with that, basically, I mean, working capital, the net CapEx and the cash tax rate as well. The biggest item of improvement in the last quarter of the year and in the second half in general and full year was inventories, right, given where we were last year and what we communicated again, that we wanted to be in the big focus on reducing inventories across the region, but with a strong focus in some Latam countries, right? A great part of that is coming from Fashion and Home and the bulk of the inventories reduction is coming from finished products. So we are in a very good position right now in terms of supply and service level, at least in our view. Now, of course, as we mentioned, there is a seasonality that impact the business, but the important thing is that when you look at the 12 months combined, we continue to deliver optimizations in terms of working capital as percentage of the revenues. On the payable side, we remain flat in the year, mainly caused by a reduction in CapEx and of course, by lower expenses as well in terms of some important items in Q4, lower purchase, which impacted, of course, the payables items. Even though we have implemented in the second half of the year, some important actions that we are confident that we'll continue to see results going forward in 2023. And receivables, in particular, of course, negatively impacting the cash flow, but that's a mix of BUs. As you know, most of our receivables, they sit in Latam. And with Latam, in particular, Brazil, showing a strong growth in the quarter, again, with Natura growing more than 17% and Avon for the first time in the last 6 quarters in positive territory, posting high single digits in terms of growth with Fashion and Home actually in that equation. That is why, again, we're seeing the headwind in terms of receivables. And CapEx as well, again, as I mentioned, optimization that you should expect to continue in the same thing on cash tax rate. So in terms of seasonality, again, there is, of course, quarters that impact the cash flow. But the important thing is that when you look at the 12 months -- past 12 months, this number has improved and will continue to improve with our actions that we are taking. We're confident on that. And the [indiscernible] is mobilized on that topic.

The next question comes from Andrew Ruben of Morgan Stanley.

I'd be interested to hear more about the Wave 2 integration plans. And specifically, how that's going to differ for Brazil versus the rest of Latam. We saw in the release some of the regions, Wave 1 and Wave 2 would occur simultaneously. So curious what that would involve. And then you mentioned with integration costs that could be offset with some Latam asset divestments. So curious if you could provide more detail on what that might include as well.

Andrew, JP here. So as previously announced, we are starting with 2 in Peru in Q2 this year, which followed by Colombia and Brazil in the second half. Indeed, we are looking at assets -- divestment of some assets that could partially offset the investments related to the implementation. And the difference in Brazil is -- well, I think it's twofold. Brazil is the largest. So we need to be mindful of proud to implement it in a sort of phased way, although to get it behind us before the end of the year. And the other thing is that Avon in Brazil has already gone through most of the structural changes which are necessary for this combination, which is not the case in every single country. So when you look at Peru, the first one we are doing, I mean there, we are simultaneously making structural changes to Avon's business commercial model and combining it with Natura. So that puts additional pressure on the Peruvian operation, which would not be the case in some other countries, but these are the main differences.

That's all the time, we have for questions today. I would like to turn the call back over to Fabio Barbosa for closing remarks.

Thank you very much. Thanks, everyone, for following the call here. And it was a good dig into the details and so on. So that we do not lose the perspective of what is the strategy that we are following. I will quickly go through them again. So first, the structure steps are in motion across the group to improve our performance. This include accelerating integration of Natura and Avon in Latin America, optimization of Avon's international footprint and rightsizing The Body Shop. At Aesop, we are evaluating strategic options, aiming to improve the company's capital structure. Second, our priority, our focus on cash generation and improving the company's capital structure, build the path to unlocking significant value with some first green shoots appearing in the fourth quarter numbers already. The whole organization is mobilized and incentivized to achieve these goals. Third, looking forward, we are confident that the actions we are taking will position Natura & Company to focus not only on profitability and cash, but also return to focus on growth. And fourth, 2023, will likely be another challenging year, but we expect a continuous improvement in revenues as well as a better profitability and cash generation, while continuing to invest in the transformational actions just mentioned. So we are continuing our ongoing work to improve the fundamentals of our brands and businesses. Our priority remains very clear. We are strongly focused on improving margins and generating cash flow, and the teams in the BU are all mobilized and incentivized to achieve these goals. Well, thank you very much for your attention from everyone, and we'll be ready to talk in the next [indiscernible]. Thank you.

Conference has now concluded. Thank you for attending today's presentation, and you may now disconnect.