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

Okay. Good morning, everyone. It's Andy Bond, Executive Chair of Pepco here. Welcome and also welcome to Neil Galloway, our CFO, who's joining separately from me, who will be here to help answer any questions. This will be a short commentary from myself, focusing primarily on sales in quarter 1. We don't tend to report [on to] profit on a quarterly basis, but we'll give you a few comments on things like gross margins and then we'll take Q&A after I've made my comments. Look, perhaps slightly out of the norm, I'm not going to immediately dive into the detail in numbers. I'd just like to reflect back on what we said at the Capital Markets Day was the focus for the business going forward. And so I'll just make a few comments there a reminder of the things that we thought were challenges within the business when we spoke in October. We felt we'd lost focus on the core business, expanding too rapidly, doing too much and executing poorly, both across our core estate and our growth areas. And what we said we do, we said we'd do significantly less activity hence [ we're ] focused on our core business and particularly on our 4-wall economics and improving our EBITDA and being more disciplined and focusing on higher return on invested capital growth plans. In this context, what have we done, we have significantly reduced our activity program, eradicating quite a lot of refractivity and also reducing our CapEx on both store renewal and new stores. And we've started to successfully change the dynamics of 4-wall economics with arrested or started to rest the decline in like-for-like growth, and we've made good progress on gross margin expansion as well as good control of costs. And equally, we are spending significantly less on CapEx. Hence, all that means that we will, this year, produce significantly more free cash flow. Whilst that's what we said we do when we started that there's still much more to do. I won't go into future plans too much, but to say there is still a lot of work to do. 4-wall economics, we'll continue to improve by improving our sales as we move forward in the next quarter, we'll look at our price investment activity, improving the quality of our inventory and our range of architecture, and you will continue to see us improve our gross margins. So with that in mind, a little bit more detail about quarter 1 trading, and this is very much repeating some of the headlines of the trading statement we've already seen. So we think we've had a good solid quarter of progress. As I said, record sales of GBP 1.9 billion in total, which represents 11% growth year-on-year. On a like-for-like basis, as we projected at our December update, like-for-likes remain negative, both across the group and each of the banners. However, we have seen each month an improving trend in our like-for-likes. And it should be noted, particularly in Pepco that the like-for-like number of minus 3.7% was against over 20% growth last year. Poundland had a very solid quarter, headline like-for-like of 0.9%, which was driven substantially by FMCG. And it's worthwhile noting that we saw very good volume as well as value growth unlike some of our mainstream grocery competitors. And then moving on to gross margin improvements. Very pleased with the work that we're doing there and the progress we're making. We saw a 200 basis points improvement year-on-year, and we see that gross margin improvement continuing through the year, notwithstanding what is yet un-forecastable dynamics around the Red Sea. But underlying, we see a very strong improvement in gross margins, whilst still allowing us within our capacity to improve our price position and improve our inventory quality. So we will not be seeing that gross margin improvement eroded by those other activities. Adding all that together and also the fact that we're going to do a much lower level of activity, both in new stores and in renewals, then we will see a very strong free cash flow, we think, this year. From a new store and renewal program, we will open less stores this year. We did open a lot in this quarter, but that was both a residual impact of already committed activity and the one-off effect of the Wilko stores, but you see the numbers slow as we go through the rest of the year. And we still forecast just around maybe slightly above 400 net new stores, excluding the one-off effect of that the Wilko's activity. So again, we think it was a quarter of good progress, really at the heart of our business is the need to rehabilitate our 4-wall economics of our [ all ] stores. That's well underway. But that really gives us the fuel to grow our business, whether it be into Western Europe, rehabilitate the Poundland business or the Dealz business. So the [ full ] economics of our core Pepco business are fundamentally and we're making good progress there. And the performance of the quarter itself was strong and improving during the quarter. And we will continue, as I said at the start, to iterate around that same agenda. More work to do in the 4-wall economics of our core business, but we're well underway with that and see continuous improvement. We will have a much more disciplined approach to CapEx, spend less, do less and achieve more as time goes on. So I think it was a quarter of good progress and good financial performance, but still much more to do in terms of getting the business back to full health. With that, I'll pause and hand over for questions.

If anybody on the line would like to ask a question, please can you press star 1 on your telephone keypad and wait to be put through?

[operator instructions] Our first question today is coming from Henrik Herbst calling from Morgan Stanley.

I just had a question on the disruptions in the Red Sea. If you could maybe talk about what type of surcharges you're seeing? And to what extent your -- I guess, your contracting starting -- or at some point, we'll need to contract freights or shipping for beyond Q3? Or what type of rates compared to what you're seeing there? Would you need to do that at?

Well, the latter question, I mean, who knows? We are not in the game of sort of guessing what the numbers will be. I mean it should be a sign of reassurance that we'll contract to quarter 3. We will not need to contract further than that for any time particularly soon. So I mean, in general terms, I think we'll see that this will be somewhat uplift in terms of spot rates, and I think it will calm down a bit. But I really can't say in terms of where we'll be contracting on quarter 3. In terms of the rates we're contracting at now, I mean, we are already contracted, but we are having to incur certain surcharges for the extended vessel times, et cetera, which are pretty much $1,000 to $1,500 per container incremental charges. But again, at the moment, at least, we're not flagging that as a risk to the numbers -- the overall shape that we're describing. We can still see our gross margin improvement coming through, and we can absorb that in the short term. But I can't predict, no one can predict how long this will last. But the longer it lasts, the more pressure on both our P&L and our operational capability. But right now, the experience we've had to date should not be seen as a risk to the overall shape we've described.

[operator instructions] We do have another question coming in now, it's coming from Thomas [ Aaron ], calling from [indiscernible].

Can you comment on like-for-like in January, do you see positive like-for-like in Pepco in Poland and CEE?

I have no intention of commenting on trading since the quarter end. So I apologize. I'm not going to comment on that.

We now move to [indiscernible] ING Bank. [indiscernible], your line is open sir. Please just make sure your line is not muted. [indiscernible] has withdrawn his question. I will now move to James Anstead of Barclays.

Andy, I just have some questions. Firstly, I think in the press release, you highlighted your performance in Poundland clothing, which I think as I understand, it's partly due to some changes as a result of the sourcing and some disruption at Dealz, general merchandise because of the change in sourcing there. I mean how quickly do you think those issues will be remedied is one question? And then just a follow-up on Poland and appreciating you're not going to comment on current trading. But for the people sitting a bit further away than Poland, can you just remind us what has happened since the start of the year in terms of child benefits, et cetera? And how quickly do you think that might be through to sales trends?

Yes, good question, James. Thank you. I'm not saying the others weren't, by the way, but they're a good question. And look, on the disruption -- on the change, I'll go back to sort of elevate the sort of discussion to the strategy that we set out. I mean, by far, the most important thing for the health of the company, both in terms of its strategy and its economics is our 4-wall EBITDA in our core Pepco stores. We lost 600 basis points of margin pre-to-post COVID and we're doing a very nice job of recovering that and we see that recovery continuing, as I say, that is just not only a very significant fuel for profit production, but it also defines the change program for the future because the heart being health of our business is the product offering the customer appeal of our core business. And that's exactly why we step out on the strategy of changing the Poundland and Dealz, clothing GM ranges to Pepco ranges. I think as we said on the call last time, or counterpart in JPMorgan, so it suggests you've never seen anyone having challenges and disruption with change programs. I, at the time, commented, I've never seen a change program that didn't have challenges. These are very significant change as changing out the whole of your clothing offer from one's product offer and sourcing strategy to another has inevitably led to quite a lot of operational disruption. And so the clothing numbers in Poundland have been impacted by that, and will probably continue to do so in the next 3 months. But we're very clear that we have a correction of areas which are around management controllables, the planning of the range, the execution of supply chain strategy, and we will both improve the Poundland clothing offer and learn those lessons for future transformation programs, whether it be GM in Poundland and GM in Dealz. And we will do a better job going forward. But I would also perhaps slightly defensive so these are big change programs, which inevitably lead to some disruption. The gray and the green is back to where It started. By far the most important thing for investors in my view, to get their head around is if you can be confident we can sort out the 4-wall economics of our core CE business, we will produce significantly more profit year-on-year, both this year and into the future, whilst in the long term, delivering a much healthier U.K. business through that change program and a much healthier Dealz business. The last thing i'd say on that point is that we've also got to recognize that whilst the offer, in our view, is significantly stronger by putting the Pepco offer in, we will need to communicate the virtues of that to our customers. And it's only this quarter now in that we're going to start doing the line marketing in the U.K. of the Pepco offer, which itself will improve performance. So I see clothing performance improving because we know what we did less than perfectly. We'll correct those things and we'll communicate to customers. So I see further disruption inevitably because you never do any of these change programs perfectly, but I think we'll get better and better at this. Now I'm very confident that it's still the right direction. We're moving in and I don't see it as fundamentally disruptive to our year-on-year profit improvement program. With regard to Poland, a good prompt, it's worthwhile recognizing that the initiatives that the government are putting in place to support families won't actually impact wallets until for the first time the end of this month. And there are really 2 major programs. One is the extension of 500-plus program, which for those not particularly familiar the government, I think, it was in 2016, implemented a program where every child was -- the family of every child was awarded PLN 500 a month for each and every child as a child support grant. That will be extended to now be PLN 800 per month. Now families are [ less ] significantly wealthier now than they were in 2016. So who knows what will happen with the use of that money. But certainly in 2016, that had a very positive impact both on our company, but the -- both in the home wares market generally in Poland. And the second thing to note, which is sort of a government initiative is the very significant increase in minimum wage, which is the first pay package that will impact January as well and that's a 20% wage increase, which for family owners budget, which is our target customer will have a very significant impact on their net disposable income. And I think the last thing I'd say, let's remind ourselves that all of our performance we're describing now in the rearview mirror in calendar year 2023 was against the backdrop of the market as we said at the Capital Markets Day has been in double-digit decline on periods during the last 12, 18 months. So these initiatives that prompted me to talk about, James, should have a particularly profound impact on the markets we trade because they are discretionary. And therefore, there the parts of the spend that will be most compressed whilst families have budgetary problems. And as soon as those budgetary problems are easy to all, you could argue that the reverse effect should happen very quickly. So early days in this year, obviously, but we are cautiously optimistic as we set about the trend -- the macro trends they should help us during this year.

That's very helpful. One quick clarification on the first point about the Poundland clothing. So just to be a 100% clear, I mean, clearly, you need to make sure people kind of get the new range and like it and et cetera. But my impression from the statement was that there was an element of, let's say, operational disruption as well in the first [indiscernible].

Yes, totally. Absolutely. Look, I don't want to shy away when we can do a better job. We -- it was a very big task that we undertook. We didn't do it perfectly, and we were absolutely quite a number of operational issues that we now know what we need to do, and we will correct them. Absolutely, yes. Absolutely.

We'll now go back to [indiscernible] of ING.

Yes. Apologies. I hope you can hear me now. And apologies if I missed the comment. I was going to ask about the current trade in, which you didn't comment previously with regards to January, but perhaps you can talk about December how it played out in your performance.

Look, I think I don't want to set pristine for the future, but also I don't think, frankly, it's helpful to be managing a business day by day, week by week. So I'm not going to get drawn into an ongoing conversation about weekly, monthly trade. What I will say is to reiterate what we said in the announcement, which is we saw progressively improving performance. We entered quarter 1 financial year with a double-digit like-for-like decline in Pepco. So we were arresting quite a tough situation, and we've done a nice job in each -- sorry, each month, our like-for-like was better than the previous month. So I'll allow you to sort of fill in the gaps between those comments. But I think December overall was a reasonable month and the product that was specifically Christmas, whether it was in Poundland or in Pepco did pretty well, actually. So I think Christmas will be seen as pretty good. And certainly better than the overall headline like-for-likes. But I'm not going to comment on each month's like-for-like other than to say what I said, which is it got better each month.

As we have no further questions at this time, I'll turn the call back over to Andy for any additional or closing remarks.

No, look, I'd just sort of reiterate, I think against our strategic framework we set out at the Capital Markets Day, I think we're making good progress. It's super important. We get our core Pepco business firing on all cylinders. And I think we're making good progress with more to do. We are being much more disciplined in how we grow as well. Add those points together, I think we'll see good free cash flow this year against a very disciplined CapEx spend. And I'm very hopeful that by the end of this year, we'll look backwards with a core business that has recovered the ground it lost during COVID, which is the key point that we said is our key objective for this year. So look, progress in the quarter, but much more to do, and we look forward to updating you again soon. Thank you.