Nestlé S.A. (NESN) Earnings Call Transcript & Summary

Welcome and thank you for standing by. I would like to inform all participants that this conference call is being recorded and will be available to clients with JPMorgan. Part of this conference call may also be reproduced in JPMorgan Research. If you have any objections, you may disconnect at this time. Press participants are not permitted on this call and should disconnect now. Unless otherwise permitted by internal JPMorgan policy, members of JPMorgan Investment and Corporate Banking are not permitted on this call and should disconnect now. I would now like to turn the call over to Celine Pannuti from JPMorgan.

Thank you. And good morning, good afternoon, everyone. Thank you for joining me today. I am Celine Pannuti, and I head consumer staple research at JPMorgan. As part our CEO fireside chat series, I'm delighted today to be at Nestlé with CEO, Mark Schneider. Mark, thank you so much for your time today. We have an hour-long of discussion, but I think you wanted to have some introductory remarks, so the floor is yours.

Celine, thank you so much for joining us today and to all of our investors joining us today. Thanks for your interest. While we want to devote the maximum time of this call to Q&A, I felt it was useful to start it off with a few framing overview comments and wanted to reassure you that after the expected slow start into the year in Q1, we're now noticeably picking up pace. And this is not so much a macro observation. This really comes down to some of the things that happen under our own steam, most notably now: the consistent brand support kicking in; the higher rate of innovation/renovation with significant innovation hitting the shelves this quarter; and then also the on-track recovery in our supply chain on VMS in our Nestlé Health Science business. So with all these things underway, I think we are well positioned to make good on what we laid out to you in our Q1 call, and that is that swing over to noticeable positive strong RIG growth in the second quarter and then consistent delivery thereafter.

So thank you for that introduction, Mark. And in fact, it was really playing on the first question I wanted to ask you around the 4%. I think I remember -- so that's part of your outlook for the year. I remember, in January, you were mentioning that you plan to usually beat your guidance. How do you -- should we feel around the -- around 4% guide? Is -- I think consensus is shy of 4%, it's, I think, 3.9%. Are you comfortable with that? And you mentioned about your cadence of innovation and initiative. Could we -- so that means that we will be looking at 5% growth throughout the year. Maybe if you could give us a bit of beyond -- I think you mentioned frozen food and NHS that's what really would drive such a high growth because those businesses still are not big enough in the grand scheme of things.

Sure. So coming back to the profile of the year, I think we laid out a somewhat backloaded nature and Q2 being the one where we swing then from negative RIG to positive RIG. The around 4% was meant to be exactly that, centered on 4% but not centered in a way, and I think I mentioned this in the full year call, that's supposed to mean a backdoor of 3% to 5%, but rather narrowly, centered around 4%. And that's still our best estimate at this moment.

Right. Maybe if we can touch upon the RIG. So you mentioned RIG coming back to positive in the second quarter. What we have seen in terms of volume to start with across the last couple of years, some pressure on total demand after a very high consumption during COVID, and obviously, the impact of elasticity as prices have been risen. Nevertheless, it seems that at -- when we look at macro data, that food volume are still underwhelming. So if you could comment on what -- how you view that and whether from a Nestlé-specific standpoint, some of the initiative you did in terms of SKU reduction are also helping. And then maybe also on the mix side, if you could comment on what you see in terms of your mix delivery. Are you seeing a bit weakness on the mix, which would potentially lead on some down-trading from a consumer standpoint?

Yes. So let me start maybe with that last one. So on mix, I'm not so concerned. I think it's really volume where the issue lies. And yes, it's not surprising that after these 2 years with significant inflation, '22 and '23, in vast parts of the world, there have been, at some point, volume reaction from the consumer. And it came in many different shapes and sizes: people down-trading, people trading towards private label or maybe for the convenience of a prepared meal to scratch cooking because they had time available but no cash. So finally, there was a reaction. And I think that reaction was noticeably felt in the entire industry. I think it got exacerbated in the North American market. And as you know, U.S. is a major part of our business. But the reduction in SNAP food support payments as from Q2 last year, that was certainly strongly felt in the second half of last year and also in the first quarter of this year, where you compare quarters without that support against prior year quarters with that support. Starting from the second quarter now, at least that year-over-year comparison begins to clean up again. And so at least you don't have a drag from that. Look, the underlying consumer sentiment, that is something that doesn't prepare from one quarter to another. And it's important for me to point out to our investors that when we hear exude confidence on the second quarter and the second half of the year, this is not built on an overly positive view on how the consumer confidence, all of a sudden, naturally reappears. It's built on what we do under our own steam, on innovation/renovation, brand support and in particular, fixing the VMS supply issues. And that really then makes that difference.

So talking about initiatives and brand support. I think you mentioned at Q1 that your market share, you were gaining or winning -- or holding share at 55% of the business. That number has been, I think, weaker in the past couple of years. So can you talk about the initiatives that you are making in terms of innovation, in terms of investment in order to get ahead in terms of share and competitiveness?

Yes. And so maybe to talk about results first, compared to December last year, what we're seeing now, especially around our billionaire brands is some green shoots on market shares. And there has been about a 5% increase in the sales that shows -- that show positive development. And as you mentioned, it's mostly driven by innovation/renovation and then also now benefiting from a full year of stepped-up brand support. We started the stepped-up brand support spring last year. As you know, there's always latency. So when you start stepping it up, there is some time lag until you see the benefits. But now we're essentially lapping that time frame, and we've seen the benefits. And then on innovation/renovation, what you saw is going into COVID, for a while, innovation/renovation held up. Then '22 was a year where there was a toll because the company, clearly, between supply chain issues, inflation and many other issues, got distracted. And also something, by the way, that we saw across the industry that finally, after all of these extraordinary burdens, innovation/renovation activity was dipping. And then starting from '23, it pointed up again. And then specifically for the all-important U.S. market, we do have significant new items on shelf now that came on shelf late Q1, beginning of Q2, so most notably around functional waters, pet care and also frozen food.

Definitely, I will come back to the U.S., but maybe I would like to tackle a question that has been in investor front of mind of late. And that question is around Nestlé defensiveness or what has been perceived maybe of a bit more of a prone to accident in the past couple of years, be it some numbers or really that has come below expectation, the issues you mentioned with the NHS and a bit EMENA integration, food safety. Now a lot of that we will discuss and are unrelated. But investors are asking, Nestlé is a big company, should be defensive and has been the beacon of operational excellence. How do you view -- I mean, what do you explain that it has been more accident-prone? Investor asking about culture, asking about is it too big to manage? And so I would like to hear from you and how you and the Board of Directors are thinking about that and whether in such a big company, and I think you have an extended Executive Board of 16 members, a COO could as well be a part of that team?

Yes. So Celine, fair question and important to spend some time on it. It's important to separate between the market-related items. So the fact that after 2 years of significant inflation, virtually everyone in our industry have paid a penalty on volumes. I mean, clearly, you had to react to the food price inflation with price increases. And then, at some point, there was that consumer reaction, and no one was really immune from that. So that side and the fact that RIG delivery as a result of that, over the last 5 to 6 quarters have been somewhat unsteady, that is something that's part of the industry. And given that this was literally a 150 years' event, I think it's important to not take that as an argument against the company or the industry for that matter. I think we have good reason to believe that it won't reoccur on a frequent basis. And then you're right, there were a number of one-off issues that were specific to our company. And that question about is there some underlying connective logic that ties them together has come up a few times. It's understandable. I think we have laid out the time line and the reasons behind each and every one of them. And it becomes very clear that relating to time lines and reasons, that they're not connected. I mean it's truly coincidental that they were occurring at the same time, just like you enjoyed remarkably long stretch of time, between 2017 and 2021, without any of these issues. And so it's not that all of a sudden something is structurally wrong or culturally wrong with the business. So we do take them very seriously. The management team and, of course, the Board of Directors spends a lot of time in understanding the root causes, what gets done to address the issues and also what gets done to be sure they don't reoccur again. And we are also committed to full transparency to you, our investors, on where we are with them and what progress we're making and also reassuring you that that focus on operational excellence and getting the basics right is not lost. And obviously, it's our job now to convince everyone among our investors with good solid delivery on RIG and also then an accident-free period that that's the case. But just wanted to assure everyone that I think we are focused on this. The size of the company, I think we're structured in ways and we are operationally minded that we can handle it. And so that is not my major worry.

Good. Maybe coming back to -- you just mentioned RIG focus. I would like the other side of the equation being pricing, which we've gone through an unprecedented inflation period with high pricing. And more and more, we are hearing whether the absolute price point level may have been gone too far. I think some of your retailers as well are talking about trying to push their own private label in a more meaningful way. So the question really here is how should we look at your pricing going forward with, on one side, maybe further selective pricing? And on the other hand, will you see some pressure to give back to consumers? And with that, could it be that in some regions, like I'm thinking North America, Western Europe, we could see negative pricing?

Yes. So wide range of questions and let me focus on a few of them. So generally, I think the inflation spike on commodities and energy cost and labor was large enough, you couldn't ignore it. So the strategy of just sitting it out and not reacting, in our own role forward pricing was not available. And no one's done that. So clearly, you had to price. And at the same time, what made this inflation spike so unusual is that literally all cost items were trending up, whereas now, we're entering a phase where it's a much more nuanced picture. So you still have individual commodities, cocoa, of course, making the headlines or coffee trending up. But then what you don't have is this groundswell of all commodities and energy and labor heading up. And so that differentiates 2024 from where we were at the beginning of '22. And I think that's good news. What that means going forward is that we'll be much more nuanced and targeted in where we take pricing. And you do have usually very rational conversations with retailers about that. As you mentioned, many retailers these days are engaged in private label and store brands. So through that, they have a good sense of how commodity costs and other input cost increases are impacting product price. And so usually, it's quite a rational conversation. And when it comes to the comeback of private label, it's important that we don't over-interpret it and relate it to the inflation spike only. I think if you look at that same movie 2 years before, the years '20 and '21, you've seen a significant retreat of private label in the face of COVID. And so what you've seen then in '22 and '23 is private label is making a comeback, on the one hand, repairing their supply chains, so simply product availability allowing for more market share; and then on the other hand, on top of that, of course, somewhat price sensitivity among consumers. To your question on absolute or relative price points, it depends on the category and geography. So clearly, there's some where, yes, absolute price points do matter. So the so-called magic price points in emerging markets that are sometimes linked to daily cash earnings are a good example. We've also seen renewed focus on absolute price points among U.S. consumers, the lower-income spectrum, where clearly, there has been pain towards the end of '23, early '24. And so people go shopping with a fixed cash budget. And so they don't just only judge your product price on how it relates to competition, but rather, does it fit into that budget, which is either determined by the cash they have on hand or whatever spending limit they have left on their credit cards.

Right. So that I think is a good way to go into frozen food because that probably has been a category where consumers' been a bit more sensitive to price points and it has been one drag that you have had in the first quarter. So can you talk about how you are addressing that, i.e. so CNBC today, you were talking about some of this innovation. So innovation, but as well price point, to which extent you have to manage both. And maybe stepping back, and this is a question that even predates you CEO, the relevance of that frozen food in that -- in your portfolio. I know it's a good cash generator. It's 20% of the Zone Americas sales. But does it really fit with Nestlé overall portfolio?

Yes. So maybe we'll start with that more fundamental question. And I wanted to ensure (sic) [ assure ] our investors that, obviously, we know there has been pain on that business in '23. And it's important to look at it in a multiyear perspective over several years, where I think we've also seen outsized performance. And that outsized performance was not only driven by COVID. I think it was also driven by some of the renewed interest we've seen among younger consumers in the U.S. because the sheer convenience and affordability of a frozen meal is pretty hard to beat. And at the same time, I think there's a growing awareness, especially in the wake of the processed food debate, that frozen is actually a very sensitive way of handling a food item. So you preserve the essential good nutrient properties of the food, you make it available with minimal processing and available and then to the time when the meal is prepared. And so with all of that affordability, portion control, minimal processing, I think people began to rediscover this category even before the onset of COVID. Then of course, you have a huge spike driven by COVID. You had a post-COVID normalization, and now we have an inflation issue, especially with lower-income consumers. But as you look through that cycle, in the U.S. market where essentially our frozen food business happens, I think we are having the scale and we are having the ambition to succeed. And you see that with some of the key innovation here. Now in frozen food, it's important when it comes to price and also what happened last year and the growth dynamics for this year to dissect between the prepared meals on the one hand and then specifically, pizza and snacks on the other hand. I think on meals now, we have significant innovation hitting the shelves. This is an area that is very sensitive to innovation. People want choice. They want new things to try out. And in that context, I think our new Vital Pursuits plant and many other new innovations, for example, for the air fryer that we're hitting the aisles, I think that's really, really important. Air fryer is one of these new trends. Here's a household device that's becoming more and more ubiquitous. And it allows you so much more range on what can be prepared with a frozen meal. And so clearly, this is a trend that the team has capitalized on. And with all the innovation that was sitting on the shelves now, Q1, Q2 is exactly built around the air fryer and its potential. On pizza and snacking, this is clearly where you had seen some volatility related to pricing. And this is where some competitive gaps had built up that really health was down. And I think this is where we sharpened our price points. And I think that also bodes well then going forward. So this is where we addressed the pricing in a ways to advance RIG going forward, and we're quite confident on that.

Another point you mentioned earlier is how you are amending the supply chain in the U.S. VMS business. And you are, for NHS as a whole, looking for mid-single-digit growth, so effectively, a reacceleration into the second half. Can you talk about how your market shares are trending from a sellout basis versus where you were a year ago and how you plan to address through activation, through innovation, the recovery of the level that you have lost because of these issues? And maybe if you allow me to step back because I know NHS is a business that you have built up over the past couple of years, we have had these temporary issues that you're fixing. But as we look ahead, '25 and forward, what kind of growth -- NHS as a whole, what kind of growth, what kind of margin profile can we expect from this business?

And let me offer again my regrets over this integration issue. This is not what you as our investors expect from Nestlé, and I think we stressed that many times ever since it reoccurred. But I hope you're also taking confidence for how energetically we were taking care of it, basically making all the resources of the Nestlé U.S. market available to fix this issue, and we're now perfectly on top of it. So in Q2, we're absolutely on track around the lines that we laid out as part of our full year and Q1 call, and we're seeing a strong recovery. The priorities are clear: first is to make the product available again; second, to be sure that we are regaining the shelf space that's ours and that we used to have; and then the third one is also to be sure that the repurchase rates are holding up and that consumer interest is there. What we've seen ever since last summer is that market growth, as per our projection, have completely normalized. So no more post-COVID headwind, and so the market focus there. And we saw that exemplified with the one brand that had not been subject to these integration issues and that's Pure, which has seen continuous double-digit growth. For the products that have gotten now back to shelf, again, very constructive, very good consultations and discussions with the retailers. So actually, a healthy amount of interest in putting us back on shelf. And then for the few ones that now have been out there fast, I think we've also seen a very healthy consumer interest. So Osteo Bi-Flex, one of our brands that recovered a little bit more quickly, doing very well; and then Solgar, which is a wonderful brand, everything that we ship internationally is also doing very well on that. So very much reassured that we are, in fact, putting this issue behind us to then capture the full strategic benefit that high-level, high-value VMS products can offer and what they can offer to the company. So then segueing to Nestlé Health Science overall, I mean, with that interruption now that came from the supply issues and integration issues, we are trending exactly to the targets that we had laid out for '25 and beyond, and that is mid- to high single-digit organic growth. You'll see a very strong second half, which, of course, is against the backdrop of a weak second half last year. But then once everything normalizes, you will see that this will be one of our higher-growth categories going forward. And then also with that, you will see the steady margin recovery. We had pointed at the time to a UTOP margin at the end of '25 of around 18%. We'll have now a few months of delay due to the situation that we were sort of disrupted here with the supply chain issues, but we'll be getting towards the target level as we look at '26 and beyond.

So talking about high-growth business, let's go into pet care. So it has been a phenomenal journey, double-digit growth, I think, for the past 4 years and I think a business with strong fundamentals. At the same time, what we have seen is that probably pet adoption is slowing. And we have also seen that you yourself and a lot of your competitors have invested a lot into capacity. So question, Mark, from investors is like what does that mean in terms of the level of supply? I think even yourself, you were remaining 100-plus innovation hitting -- or new products hitting the shelf in the U.S. So can you talk about the shape of normalization? I mean, clearly double digit, you said was not sustainable, but what does it mean to normalize in that market? And how should we think about volume, mix and price given that effectively mix, there are question about down-trading and pricing has also been quite elevated in that category?

Sure. Look, we continue to be super excited about the pet care category. And obviously, we always made it clear that this will not be a permanent double-digit grower. But we also made it clear that even after normalization, this will continue to be one of our highest-growth category because globally, the 2 main growth drivers, and that is continued premiumization in advanced markets and continued higher, what we call, caloric conversion, so feeding household pets with more dedicated pet food and not household food waste, both of these continue without any signs of slowing down. Now if we start with pet adoption, this is now, looking at the U.S. market, the fifth consecutive year of positive pet adoption growth. And so when you compare that to some of the peers that people had in 2020 and '21 against these monster growth rates on pet adoption, well, at what point will this come down? It hasn't. And so clearly, the majority of new pet owners enjoyed being pet owners, and then they apparently convinced other people to adopt pets as well. And so our slogan, BetterWithPets, it seems like it's catching on with consumers and we're quite excited about that. And so clearly, the growth rates have come down, they continue to be positive when it comes to pet adoption. Then you had -- after these very strong growth rates, you had inflation takeover for '22 and '23. And that, of course, is normalizing now. But still, when you put together the underlying pet adoption rates plus the emerging market growth, plus then the continued opportunities around mix and the residual pricing we're seeing, it's still a fairly exciting growth cocktail. And that is what we're excited about. We had to add capacity. As you know, we were capacity-constrained. Like everyone, we were somewhat surprised about this huge surge in pet adoption, which I think is understandable. This was on no-one's radar screen. As that capacity now fully comes on stream in the U.S. in '24 and early '25, I think our ability to meet supply is going to be much better. We already benefited from some of the international capacity that has come on stream as from last spring, last summer. And now we'll see some of the U.S. benefits kick in. And then when it comes to promotional activity, I wouldn't see that so much only as a warning sign because there are segments of the pet care business that are quite expandable for us. So think about convincing consumer about the benefits of wet as opposed to dry pet food or treating. I think this is where promotions are not just only a sign of competitive intensity, but also a way of connecting with the consumer and convincing them of the benefits of those subcategories. So overall, very positive. On the capacity that other people may be building, of course, our visibility is limited. But from what we're seeing, there is no sign of overbuilding in the industry. And given that the fundamentals are so positive, even if there was, I think within a few years, people would grow into it. So this is very different from overcapacity and stagnating categories or shrinking categories. Again, no sign of overcapacity now. But even if there was, I think it will equalize fairly quickly.

Another star or big category of yours is Coffee. So I have one question on Nespresso, but first, I wanted to look at the first -- the bigger divisions so Coffee and powdered and liquid beverages, a category that did very well during COVID. Now we have had 2 years of flat RIG because pricing has been quite elevated. And as you were mentioning earlier, coffee prices be it Robusta but even arabica continue to go up. So I wanted to understand how you feel about the potential to further raising prices and how you are linked to maybe managing margin versus RIG performance. And if you could also update us on the performance of Starbucks and Nescafé brand, please.

Sure. So as you mentioned, I'm a big fan of our Coffee category. And I think Coffee has been a very steady top-level performer of ours of the categories through thick and thin. We had seen, particularly outperformance, of course, doing COVID. Then there was a period of post-COVID normalization, which kind of came to an end last spring. And since then, I think we have seen a recovery on RIG, albeit a somewhat more muted one because of the high coffee prices. Now the high coffee price, it's important to seed in perspective. They're high compared to a year before, 2 years before. But when it comes to historical levels, unlike the current cocoa prices, I mean, this is not something that's unheard of. And so that's why I don't believe that we are at coffee price levels that are reducing demand. And I think it's more about gaining consumer attraction through meaningful innovation. And I think this is where we have a pipeline chockful of new items that are currently being rolled out. One of the key trends where I think we've been heading the at-home trend is cold coffee. So whether it's NESCAFÉ Ice Roast that allows you to prepare that at home or, for example, Nescafé liquid concentrates that make a proliferation of a cold coffee beverage so much easier. So I think there's lots of exciting innovations out there that resonate, in particular with the younger consumers, that are interested in creative coffee beverages. And so with that, I do believe that there is an exciting path ahead for coffee. On Nescafé and Starbucks in particular, I think we have seen solid positive development, and it is fueled exactly by innovations like these. So we're not waiting for the macro conditions all of a sudden to miraculously improve or consumer sentiment to improve or coffee commodity prices to decrease to ramp up growth. I think here, the key unlock is a continuous flow of innovative products.

Maybe going into Nespresso. I remember a year ago, we were having this discussion. And at the time, you said RIG will come back, and it did come back in the second half of last year. Now I think there has been some phasing issue in the first quarter, which you may want to address. But overall, how do you see the Nespresso franchise opportunity in terms of top line and margin? And we've been hearing from some of the out-of-home consumption where maybe consumers have been a bit more cagey about price point and down-trading within out-of-home. Is it something that could impact as well Nespresso consumers?