Pepco Group N.V. (PCO) Earnings Call Transcript & Summary

Good morning, everyone, and welcome to the full year results for 2022. So let's start with the highlights. Strong financial performance in line with guidance, and that's despite challenging macroeconomic conditions. We continue to progress with our 4 strategic pillars. We're getting bigger, getting better, getting simpler and getting cheaper. And as you'll see through this presentation, you'll start to see us maximizing the group opportunities as well as how we've previously and continue to maximize the opcos as well. We continue to accelerate our store opening program and 516 net new stores for full year '22. And importantly, we've maintained our price leadership position by managing the headwinds through becoming more efficient and more effective in everything that we do across the operations. And finally, we're on track to deliver EBITDA growth in mid-teens for 2023. So if I now move on to the financial highlights. You'll see that sales were up 17.4%, and that's supported by 516 net new stores, and like-for-like is up by 5.2% for the year. And then finally, EBITDA is up 13%. So I'll now hand you over to Mat.

And so if we just move to the key financial highlights. There are 6 key messages that we'll be discussing today. The first, as you already know from our Q4 update in October is that we delivered strong revenue growth in the year. That was underpinned through a record number of store openings and a strong like-for-like performance in both of our businesses with Pepco delivering over 7% and Poundland delivering over 2.5% (sic) [ 1.5% ]. That performance was driven through both our bigger pillar and our better pillar but also through our continued focus and investment in price. That is evident through our gross margin performance where the decline year-on-year is driven to that price leadership and offsetting the inflationary pressures that the business faces. Pleasingly though, however, when we talk about our simpler and cheaper pillars delivering on our cost initiatives, our performance at an EBITDA level was delivered to a significant improvement in our cost of doing business with a 1.6 percentage point improvement year-on-year. That is delivered through a broad-based set of initiatives across our stores, DCs and central offices and is one that we anticipate to continue into the future. Fourthly, and importantly to continue to deliver for our customers, the business invested significantly in stock through the year. We're continuing to see significant levels of disruption in supply chain across the globe and to ensure that the business is well set up to fund our growth in stores and proposition development in addition to trading Christmas successfully, we made a decision to invest in stock earlier this year to ensure availability. That, however, is in the context of a continued prudent performance with net debt remaining at 1.6x on an IFRS 16 EBITDA basis. And as Trevor has described, our EBITDA growth for the full year remained on track with our previous guidance, continuing the strong performance of our business. If I turn to the summary of our profit and loss on the next slide,you'll see our strong top line and our strong like-for-like revenue translates strongly to underlying EBITDA. With that gross profit margin moving 2.1 percentage points, representing a roughly EUR 125 million investment in price across this year. That decision on prices made around 12 months ago, and we believe absolutely was the right one, both 12 months ago and even more so today as customers facing cost of living crisis and challenges to the household finances are seeking value, and it's one that we believe will support our growth into FY '23. The improvement in our cost of doing business and the broadly stable EBITDA margins that we reported is through a number of notable cost of doing business initiatives through the simpler and cheaper pillars that we have. We've described this on a number of occasions, but to give some examples. Through our DCs, we've been able to implement more effective processes through investment in systems to have a consistent set of warehouse management infrastructure, digital infrastructure across all of our DCs. In addition to delivering more effective allocations, reducing the pullets, we’ve distanced our pullets travel. Pleasingly, not only is our EBITDA margin performed strongly, but our underlying PBT and EPS grew more strongly than EBITDA with underlying PBT growing by 23% and EPS by 19%. In the year, you will also notice non-underlying fees of around EUR 75 million. This is a combination of factors, but the most meaningful being the IFRIC pronouncement on IAS38, which means that our ERP investment, which is a cloud-based system, is now a non-underlying item given the change in the accounting year, which represents just around EUR 35 million or around half of the cost in the year. The balance reflects a combination of restructure costs that we've already described in Spain, alongside the previously flagged BCP costs, which remain underlying. If I turn now to the segment performance and sort of initially focus on Pepco over the slide, the business performed strongly, opening almost 450 stores in the year with revenue growth on a constant currency basis of almost 29%. This is clearly an exceptionally compelling financial performance through a trading lens and is a testament to the strong performance and the strong strategy that the team is executing. Under that, you will also see the performance of our LFL. This clearly demonstrates the impact and degree of impact to COVID throughout the year with our quarter 1 being significantly impacted by restrictions impacting the customers' shopping behaviors and ability to shop with us. In Q2, we saw those restrictions ease, albeit in the prior year that had not yet, and we saw a significant gain before a more normalized performance. That normalized performance of 7% and subsequently 8% is in the context of the long run rate LFL that the Pepco business have of around 6%. This gap is a testament to the continued investment in proposition that the business is making alongside the initial refits through the businesses has begun to undertake. Underlying EBITDA, while somewhat impacted through the investments in gross margin continues to perform strongly at 19.1%, which again is a testament to the effectiveness of the growth program that we have in growing more effectively and offsetting some of the gross margin effects that we see. Moving on to Poundland over the page. The shape and performance of the Poundland business follows broadly similar levels with 70 store growth in the year, principally driven through our Dealz featured in Poland. 5% revenue growth and just over 2.5% LFL growth with the profile of that being similar with impacts to COVID restrictions in Q1, easing throughout the year. The business continues to perform strongly, and that is demonstrated through the growth in EBITDA percentage year-over-year from 10% to 10.2% even given the significant headwinds that exist in the environment. This is predominantly through a combination of the better -- and pillar that we are charting which has seen continued proposition refits. Over 340 stores have now been refit. These refits are coming at exactly the right point in terms of presenting the Poundland proposition in the new line, including expanding the proposition to areas like clothing, frozen food and greater levels of chilled food, which absolutely is what our customers are desiring from a business and puts us in a good position to take advantages of the growth over the coming year. Moving over the page to describe the gross margin and cost of doing business trends. What you will see here is that the gross margin compression that we've seen in FY '22 has been broadly similar in both H1 and H2. This is hopefully is what we described that we have seen in the investments in price broadly equal weighting throughout the year, and we're clearly now beginning to see early signs of easing in the environment, which Trevor will come on to describe in a little bit more detail. Pleasingly, though, underneath that chart is our cost of doing business to sales, where you can see continued gains year-on-year and half-on-half sequentially through that as we begin to deliver on the significant set of programs in all of our businesses. If we turn on to cash flow. Now what you'll see in the year is continue -- is what we've already flagged in terms of the stock investment. We're absolutely clear that stock is the lifeblood of the growth opportunities that we have, both in terms of delivering on our existing store estate, where we anticipate a strong performance into Christmas and also funding our store growth. It is more important for the business at this stage should guarantee the availability of stock for our customers and for our growth plans. And therefore, we've made judicious decisions to invest cash around EUR 300 million in the year in ensuring that we have the availability of stock that we need. Underneath that, you'll continue to see investment in stores in the year, that's principally is due to new store investment, and we anticipate that accelerating as we grow our store base -- as we grow the store opening program and also begin to invest into new stores. Pleasingly in the year, we are beginning to see the -- we've begun to see the benefits of the refinanced debt at time of the IPO, delivering the annualized benefits that we forecast, alongside a continuing prudent debt position with the underlying EBITDA on a pre-IFRS 16 continuing at 0.6x, which we believe gives us capacity to explore further growth opportunities or continue to make the right decisions to fund the growth in our business and do -- and operate for our customers. On the final slide on stock, what we sought to do here is to provide the position of stock in terms of the performance over the past 4 years. What you will see is through FY '19 and FY '20, the business performed at broadly similar levels of stock to sales. In FY '21, as the global disruption to supply chain began to affect flow of stock, that percentage decreased. As you'll see into FY '22, the business has made a very deliberate decision to invest into stock to ensure we guarantee availability for our peak trading. As we have already described, we have ensured we are performing strongly into this quarter. A lot of that is due to bringing -- pulling forward to stock to ensure availability. I'll now hand back to Trevor to talk through the strategic update.

Thank you, Mat. Well, let's start with the strategic update. So we continue to focus on our 4 strategic pillars of bigger, better, simpler and cheaper. These are real programs. They're big programs, and the combination of these programs has allowed us to continue to maintain our price leadership position in these important times for the customers. And what's pleasing is, these programs have also allowed us to maintain our EBITDA margins. So let's start with the first and most important pillar, the biggest value driver for the Pepco Group, which is new store openings. So we've opened 516 net new stores in full year '22, and that's ahead of our upgraded target of 450. We opened 163 in our strategically important western markets. And pleasingly, these western markets continue to perform very well. We opened up one new country in full year '22, which is the strategically -- very strategic important market of Germany, and we opened up in Greece in October of this year. We're going to continue to accelerate our net new store openings, and we're planning to open 550 net new stores for full year '23. So let's move on to the next program, which is our better program. And what I've done this time is I'm going to split what are we doing to maximize each and every one of the opcos by getting better and also start to talk about how we intend to maximize the overall group. So I'll discuss both of those programs. So looking at how we're maximizing the opcos. When in Pepco, we continue with our new look program. We've refitted our stores in Wroclaw, and we refitted our stores in Warsaw, and they continue to perform exceptionally well for the customers both in terms of -- as well as sales and in profit. In quarter 2, starting in January, in the 12-week period, we plan to refit 225 Pepco stores to the new look. So that's 225 stores in quarter 2 alone. In Poundland, we continue with the important Diamond programme, which remains very potent for our customers. We carried out 129 refits in full year '22, and we're planning to continue that program and do 250-plus refits in full year '23. So there were a couple of programs where we're maximizing the opcos. So what are we doing to maximize the group? What I've previously described what we're doing in Spain, we're taking our Dealz format and our Pepco format and combining them into 1 Pepco format. So that's putting together 2 businesses into 1. The infrastructure work will be completed by the end of March. And all of the Dealz refits in Pepco will be completed also by the end of March. Pleasingly, the stores that we've refitted continue to trade exceptionally well, again, both in terms of sales as well as early indications of profit and customer sentiment is exceptional. Finally, in terms of the infrastructure, the -- put in the 2 infrastructures into 1 means it will be far simpler and far cheaper in our overall running of the Spanish business. If we move on to Ireland, we talked at the Valencia Capital Markets Day about testing the same work that we've done in Spain into Ireland. We've now completed 5 of the 6 refits. We've got 1 more store to do, and we're still in the test phase and the early customer response has been very, very positive. But as I said, we're still in the test phase. We've got 1 more store to refit, and we will start to evaluate post-Christmas and then we decide what we want to do sometime in the new calendar year. Then the next program I'd like just to chat through is quite important, and it's a program that is better, simpler and cheaper all put together. And this is the recent announcement where we've decided that in Poundland, we will actually put in the Pepco range of GM and the Pepco range of clothing. It's worth saying that the overall sales of Pepco GM and Clothing is significantly bigger than the overall sales of Poundland Clothing and GM, so there's some -- potentially some significant margin benefits. So just to simplify this, currently in the business, we operate with Pep & Co Clothing. We operate with Pep & Co GM, and we operate with Poundland GM and also Pepco GM and Pepco Clothing. Going forward, we will just have 1 range of GM across the whole group and 1 range of clothing across the whole group. This is a far simpler customer offer. It's going to be a far simpler infrastructure. We're going to be able to maximize -- truly maximize the group sourcing in our Asian arena. And finally, we'll just, over time, have 1 team managing the 1 product range of GM and Clothing. So as I said, that will be better for the customers and massively simpler and cheaper for the overall group. So just to finish off on 2 of the other strategic pillars, simpler and cheaper. Well, I've mentioned before, we started an end-to-end analysis on Pepco 3 years ago. It's a 5-year program, and we're now 3 years into the program. And as Mat said, you can really start to see the benefits when you look at our cost of doing business. We've made significant progress over the past 3 years, and we've still got a good 2 years to come. So there's much, much more to do. Pleasingly, we started the interim process in Poundland. We're going to review the planned by move and sale process, and we're going to identify what we wanted it to be in the future. And we should start to see some benefits at the latter part of full year '23. And we think that program will also last around between 3 and 5 years. So what's the summary? What would I like you to take away from today's presentation? Well, most importantly, we continue to deliver on price leadership, which is so crucial to our customers in these tough times. We've accelerated our biggest value driver, which is net new stores, and we're planning to open up 550 net new stores in full year '23. Importantly, we're continuing with our new look program in Pepco. And as I said, we will refit 225 stores in quarter 2 alone. I'm pleased to remember that program is about 2 to 2.5 years where we'll refit 2,000 stores to our new look Pepco. I think it's important to note that previously, we've always have plans to maximize each and every one of the opcos. And hopefully, you can start to see our plans of how we want to maximize the opcos. And more importantly, start to maximize the overall group as well. The macroeconomic conditions remain challenging. So whilst they remain challenging, we maintain our EBITDA guidance. Thank you very much.

We’ll take the first question from James Anstead from Barclays.

Two quick questions, please. Firstly, on inventory, it's obviously risen from 15% to 20% of sales in the last year or so. Should we think 20%, is this kind of rule of thumb going forward? Or do you think that will come down as you hopefully sell the stocks you held over from last Christmas? That would be one question. And then just with reference to your target of delivering EUR 1 billion of EBITDA in less than 5 years. Is it reasonable to interpret that as kind of slightly rephrasing it EUR 1 billion of EBITDA by FY '26? Is that a fair way of interpreting that guidance?

So I'll start on both of those, and I'm sure Trevor will build. In terms of the stock, we absolutely anticipate that coming down. This is a very deliberate set of actions, which, one, as you recognize, yes, we had some holdover stock from last year that we -- that we'll sell this quarter; and secondly, bringing in new stock for this quarter earlier than we typically would have done around 2 weeks earlier. And that is as a consequence of the disruption that we're seeing in terms of flow of goods and many of the retailers are seeing as well. Clearly, it is connected to that disruption that we're seeing and very much that we will target a more normalized level, but it will be contingent on when we feel confident the performance of global supply chain will enable us to move back to that. But I'll let Trevor [ build on that ].

Yes. I think the other point just to add to what Mat said is that when we look at the business, we've had 2 to 3 years' worth of disrupted sales. So we made a deliberate decision that we wanted to maximize the sales in quarter 1 and quarter 2 to give us a really strong base going forward. And to do that, we need to make sure that we're really in a good position on stock. There's no threat around the stock because if I look at the Christmas sell-through, we're in a very good position in terms of Christmas sell-through. So this stock is all continuity. So that will burn off nicely through the quarter 2 period.

Yes. Just in terms of the EUR 1 billion target. So look, we're not going to be committing to a precise year on that. And what we're committing to is, we understand -- we have a very meaningful opportunity in this business through a combination of the store growth we have and these strategic levers that we're delivering. And it's about articulating the fact that we will achieve that longer-term target more quickly than we previously described. So at this stage, we're not going to be committing to that -- to a specific time point on that. But it is to say that we're absolutely confident we can more quickly deliver on that long-term ambition.

Now we take the next question from Simon Bowler from Numis.

I apologize, I missed the first few minutes of the call, so sorry if any of this has been touched on. But 3 quick questions. Firstly, I'm just wondering if there's anything -- I recognize the comments you made on Christmas sell-through. Just any other color or comments you can give around kind of shape of current trading. Secondly, you've been quite explicit on your guidance for revenue and EBITDA for the year ahead. I was wondering if you could just help us with the moving pieces below EBITDA to get down to PBT. And then thirdly, just one other one on the stock. Can you comment on to what extent that's spread across kind of Poundland and Pepco? Or really, we're just talking about kind of Pepco dynamic when you talk about the deliberate trading decisions being made?

Sure. So Simon, I'll start with the first one initially. So in terms of the Christmas trading, look, what we said in the statement is it's strong. And as you probably can -- we have stopped to have a strong Q1 . This is clearly about our FY '22 results, and we'll come out with our Q1 performance in January. More broadly, though, in terms of the trends, what we are seeing with the customers is they do want to have a Christmas. I think customers are finding ways to have a Christmas this year following the fact that there's been 2 years of disruption to celebrating and we are seeking to maximize that opportunity at the moment. So at this stage, we won't be committing to specific numbers. We'll come back in January, but it's being strong, and we're certainly seeing our customers react well to the ranges that we have across the business. In terms of the kind of revenue EBITDA piece, so look, where we performed today, whether that's -- you're talking about the non-underlying piece, that's something we'll need to come back on in regards to the Software-as-a-Service accounting, and that's what gives you specific guidance on that. But clearly, at this stage, we've already begun to indicate some of the other transformation programs we have in the business in terms of the 1 GM, 1 Clothing that Trevor has described. So there is the potential for some more of that. And again, that is something that we'll update on across the course of the next few months.

Yes. In terms of the stock, where is it Pepco, Poundland. Essentially, the decision was mainly made in Pepco because Pepco has probably suffered more of the issues of store closures, restrictions, et cetera, given the Central Europe and how COVID was handled. So it's predominantly a Pepco decision and one that, as Mat says, so far has played out well with the customers in the first quarter.

We will now take the next question from Michal Potyra from UBS.

It's Michal Potyra from UBS. I have 2. The first one is, could you please comment on the gross margin trends expected during the next year, please? That's the first question. The second question is on your like-for-like sales, solid but also below the headline inflation, if you could maybe give us a little bit more color on the volume component profit and perhaps stick over the last period?

Look, in some ways, those 2 questions are very much intertwined. So I'll give an answer, which I hope kind of covers both, which is the way that we have sought to cause the current kind of environment is, we have not based or benchmarked our pricing on inflation. It has been benchmarked on the best possible price that we can deliver to our customers. And that, in many regards then, therefore, has led to the gross margin compression that we've described. Now in terms of the chart that we described in terms of H1, H2, that's at a lower level than prior year, but it's relatively static. And broadly, we would expect a similar kind of profile into FY '23. That being said, what we've always sought to do as a businesses make the right decision at the right moment and continue to deliver on our profit in the right way through the levers that we have in last year. That was about investing in price and then delivering on our cost of doing business. So whilst I'm sort of giving an indication that broadly at that level that we reported in H2, we still will reserve the right that if we believe that's the right thing to do to invest more heavily or that we will continue to -- we'll make that decision and deliver on our profit growth through pushing hard on our cost of doing business. But at this stage, given where we are broadly static. In terms of the LFL, as you say, what we're primarily seeing is that the LFL growth in the business is through a combination of volume growth in terms of new customers, probably around between 1/3, ½ of the Pepco LFL and similar in Poundland is through traffic and the balance is through average basket growth. And that average basket growth is principally being driven through our proposition transformation and not through inflation. So what we have done in both of our businesses in Poundland through the introduction of frozen, extended, chilled and clothing and in Pepco to the introduction of affluent ranges, through the introduction of good, better and best product hierarchy is grow our share of wallet with our existing customers through the value of our proposition. So that's how we're looking at it. And as I said, we're not -- we are not benchmarking our prices against inflation or overall our sales performance. It's absolutely rooted in doing the right things for our customers.

Just to add to that, you talked about trends. So there's a couple of things that are going -- starting to go in our favor in terms of commodities and containers. And there's a couple of things that we still got to work through in terms of FX and inflationeither the effects on wages, et cetera. What we are absolutely committed to, as Mat says, is we will always hold our price position. We're a discounter. We've got to be a discounter every day and not just when it suits us. So we will maintain the price position. And we'll do that by continuing what I said in terms of the bigger, better, simpler, cheaper program. We've still got plenty of opportunities to get simpler and cheaper so we will maintain our price leadership, and we will continue to focus on the simple and cheaper programs that allows us to hold our final EBITDA margins.

As there are no further questions, I would like to hand the call back over to Trevor for any closing remarks.

Thank you very much. Look, thank you, everyone, for joining us on the call today, and really appreciate your time and look forward to seeing many of you over the next 2 coming days. Thank you very much. Bye-bye.