Pinewood Technologies Group PLC (PINE) Earnings Call Transcript & Summary

Good morning, everyone, and thanks for joining us for Pendragon's results presentation. Over the course of this session, we'll go through the results for the 2021 financial year, take a look at how we've performed, and give you a complete update on the substantial progress we're making with our strategy. My name is Bill Berman, and joining me is Mark Willis, the group's CFO. I'll begin by going through how each of our divisions performed. After that, Mark will take you through the financial performance in greater depth. Then I'll spend most of this morning's time on the progress we're making with our strategy to transform automotive retail through digital innovation and operational excellence. If we turn to Slide 4, we look at a few of the highlights for the group as a whole. To sum up, I'm excited about the progress we're making with our strategy and about the hard work our teams have put in — progress that has changed at pace over a year that still included plenty of challenges, both from the impact of COVID and from constrained supply. Our disciplined strategic delivery has driven productivity improvements and strong margins. With our strategy supporting us, we're able to outperform our markets, with our new car sales down 2.1% in supply-constrained markets, against the franchises that we represent being down 3.5%.

Our combined used car volumes rose 14.4% while the market was up 11.7%. Thanks to our new capabilities and the boost from some favorable market tailwinds that were well covered, we posted a record underlying profit before tax of GBP 83.0 million and achieved like-for-like revenue growth of 27.1%. This strong financial performance is made possible by the cost and state restructuring we have completed since 2019, with costs now significantly lower than they were pre-pandemic. As we reopened during the second quarter, we were able to maximize the benefit from unprecedented conditions in the used car market. Our advantages in our vehicle sourcing supply chain allowed us to maintain vehicle inventory levels and challenging supply conditions, meaning we can meet the levels of pent-up demand and maximize our margin opportunity. I will come back and cover our view on the current outlook at the end of the presentation. Next, turning to Slide 6, franchise UK Motor. The key metrics were positive across the board in UK Motor, with our teams delivering an excellent performance in good market conditions. Our revenue grew by 26.7% on a like-for-like basis, with our new digital capabilities underpinning this performance. I'm pleased that we outperformed the market for the franchises we represent as I just covered.

We saw strong demand all year, especially in the second half, though the widely known chip shortage clearly held sales back. Over 2020 and 2021 combined, roughly 1.5 million car registrations were lost from the market, which builds a solid pipeline for future demand. In used cars, UK Motor posted like-for-like unit growth of 13.1% while the market rose 11.7%. Our digital channels and the supply advantages that come from our breadth of sourcing helped us beat the wider market. A lot of our strategic initiatives are aimed at maximizing gross profit margins in new, used and after sales, and we've seen gains in each of those areas. New gross profit per unit, or GPU, rose by GBP 463 per unit to GBP 1,911. Used car GPUs went up by GBP 530 to GBP 1,730. And our after sales margin improved from 49.1% to 50.7% — I'll cover more on the strategic drivers behind these later in the presentation. Overall, with results stemming from our strategy on both margin improvement and cost management, along with a boost from market tailwinds, UK Motor delivered an underlying profit of GBP 85.8 million. Slide 7 shows that Pinewood made further robust progress during full year '21, delivering a 24% increase in international user numbers, in line with our growth strategy.

Pinewood's capacity to develop products swiftly has been a major factor behind how our group has performed. Being able to move changes forward fast, drawing on the Pendragon Group companies and using them as an incubator, is essential to the long-term development of Pinewood and our car retail operations. BMW and Renault have both acknowledged how strong Pinewood is as a DMS system over the last year, granting additional certification statuses with each. On the financial side, this showed up as revenue rising 9.4% to GBP 24.4 million and operating gross profit up 3.3% to GBP 12.5 million. Slide 8 addresses Car Store's operational results. To sum up, we achieved meaningful progress across full year '21 with our used car strategy. That includes relaunching the Car Store brand with a new market-leading proposition, and the changes we made have already begun to affect how Car Store runs and how it has performed. Car Store volumes rose 26%, beating the 11.7% market growth mentioned earlier, and combined with rising used car prices that produced a 60.4% increase in like-for-like revenue. Gross profit per unit also climbed by GBP 356 to GBP 1,221. Consequently, Car Store posted an underlying operating profit for the year of GBP 1.6 million — its first — versus an operating loss of GBP 1.2 million in full year '20 and an operating loss of GBP 25.2 million back in full year 2019.

Broadly speaking, I'm glad the existing Car Store sites have made a positive contribution to the group's results, and we are on track to deliver our new proposition. Finally, turning to the divisional review, Slide 10 shows that PVM, our leasing business, also had a very strong period, with operating profit rising 31.6% to GBP 17.5 million, compared with GBP 13.3 million in full year '20. What let PVM grow operating profit was the level of profit on disposal of defleeted vehicles, which accelerated as used vehicle prices rose. Residual values on disposal vehicles had typically been set 3 to 4 years earlier. So as prices went up, profits on disposals of these units improved. I'll now pass the call to Mark, who will take you through the financial performance for full year '21 before I cover the strategy update.

Thanks, Bill, and good morning, everyone. This first slide today provides a summary of the main financial metrics and clearly lays out how we have progressed versus 2020 — a year, as we all know, that COVID-19 affected heavily — while also showing the substantial changes made to the business relative to the comparable pre-pandemic period in 2019. I will go through each metric shown here over the course of the next few slides. The central point from this slide, though, is that although a smaller store estate has meant lower revenue than in 2019, the gains the business has achieved in gross margin rate, combined with the substantial changes made to the cost base, have together more than offset that lower revenue. Once we adjust for government support received in 2021, operating costs stand GBP 109 million below 2019, while GP is down only GBP 31 million even though the estate has shrunk by approximately 60 stores since the beginning of 2019. Thanks to the gross margin rate gains and our cost restructuring, along with a GBP 9.8 million decrease in net interest charges versus 2019, the group reported underlying profit before tax of GBP 83 million — GBP 99.4 million above FY '19.

Moving on now to Slide 12, where we summarize the group income statement. Let's begin with revenue, and that's risen sharply versus last year. Overall, revenue was up 18%, and on a like-for-like basis it climbed 27.1%. Gross profit rose 24.9%, and the gross margin rate went from 12.1% up to 12.8%, with better margins across each of new, used and aftersales. As Bill described, that reflects both our new strategic initiatives and the exceptional used car margin market conditions seen during the second half especially. Combined used car GPU rose 43%, moving from GBP 1,169 to GBP 1,675. And in the second half, GPU went past GBP 2,000 per unit as the market hit its peak and our initiatives were rolled out. New car margins were strong too, again weighted toward the second half, since supply restrictions and pent-up demand meant less discounting, and OEMs concentrated on building higher-margin models. New car GPU was up GBP 463 to GBP 1,911, and again hit GBP 2,300 per unit in half 2. Turning to cost, the successful rollout of our store estate and the more efficient payroll operating model brought in during the second half of 2020 has produced a substantial cut in operating costs, lifting operational leverage relative to pre-pandemic levels.

We posted total underlying operating costs of GBP 325 million. Within that figure sat GBP 12.2 million of furlough grants and rates relief for the year, and costs rose 5.8% against 2020 — a year that, as you'll no doubt recall, benefited from a significantly higher amount of government support. Underlying interest costs came in at GBP 33.4 million, which is GBP 4.1 million lower year-on-year, driven principally by a reduction of GBP 3.8 million in vehicle stocking plan interest thanks to lower inventories. The net result of all these movements is an underlying profit before tax of GBP 83 million. The group also recorded non-underlying costs of GBP 9.7 million, of which GBP 9.6 million is noncash impairments of property right-to-use assets, including impairments on U.S. leases and vacant U.K. property. Termination and severance costs were GBP 1.8 million, the majority of which relates to our transfer of finance process from dealerships to a centralized shared service center. There was noncash pension interest cost of GBP 1 million, and those costs were all partially offset by gains of GBP 2.7 million on the sale of business and property, plant and equipment. After nonunderlying items, therefore, the group reported profit before tax of GBP 73.3 million, an increase of GBP 103.9 million versus the prior year.

Now moving to cash flow, on Slide 13. The group’s closing adjusted net debt of GBP 49.7 million shows a cash inflow of GBP 50.7 million, compared with FY ’20 closing net debt of GBP 100.4 million. As a reminder, FY ’20 net debt got a benefit of roughly GBP 30 million from deferred VAT. That has since been repaid. So if you adjust for it in real terms, net debt came down by about GBP 80 million. Cash generated from operations was an inflow of GBP 99.5 million, with much better operating performance driving a GBP 70.4 million increase year-on-year here. That improved operational performance was partly offset by a working capital outflow of GBP 41 million, with 3 main drivers behind it. First, the deferred VAT payment. Second, we saw an outflow of approximately GBP 17 million after a reduction in new car inventory and the related loss of the timing benefits that gives us, and there was an outflow of roughly GBP 70 million tied to increased cash funding of used vehicles, reflecting an approximately 40% rise in used car valuations over the year. Those outflows were offset by a GBP 20 million inflow from higher deposits and lower debtors.

In the year, net capital income came to GBP 14 million. The main driver there was GBP 31.7 million in cash from disposals of businesses and property, and GBP 28.2 million of that came from selling off the last of the U.S. businesses. Offsetting that was capital expenditure of GBP 17.7 million, which stayed at a lower level because we're still being cautious given the uncertainty around COVID. Then lastly, a number of our big projects got pushed back due to raw material delays in the second half. Interest came in GBP 3 million lower year-on-year, again because stocking financing costs were lower on the lower stock levels, and lease payments and receipts were also down GBP 3.1 million as we keep successfully managing the exit of vacant properties, with a further 12 leases resolved in FY '21 through either sublet expiry or reassignment. And finally, on this slide, the group completed a successful refinancing in March of this year, agreeing a new debt facility of GBP 175 million, made up of a 5-year term loan of GBP 100 million and a GBP 75 million RCF on a 3+1+1 year basis, which gives the group the headroom it needs to keep investing in its strategic games for 2025.

And to wrap up with the financial statements, I've gone through the main balance sheet movements. So overall, net assets shifted by GBP 98.9 million — they rose by GBP 98.9 million, reaching GBP 225.6 million. The main items worth flagging: first, a reduction in plants and equipment. That's actually a reclassification of roughly GBP 9 million, moving fixed asset vehicles into stock. Inventory fell 15.8%, going from GBP 608.8 million down to GBP 512.8 million, and there are really 3 drivers behind that. First, a GBP 210 million decrease in new stock value as supply constraints kicked in; second, a GBP 110 million increase in new stock value, largely driven by average stock prices rising approximately 40%; and third, the transfer of fixed assets into inventory I mentioned earlier. Payables came down by GBP 140.2 million, which stems from lower vehicle creditors tied to the lower inventory. And lastly, the net liability for defined pension scheme obligations dropped from GBP 75.5 million to GBP 23.6 million at the end of 2021, and that GBP 51.9 million decrease is made up of contributions of GBP 12.8 million, a net actuarial gain of GBP 40.1 million, and a net interest charge of GBP 1 million.

And now I'll hand things over to Bill, who will walk you through the strategy.

Thanks, Mark. As a quick recap, at Pendragon our vision is to transform automotive through digital innovation and operational excellence. To achieve the group's vision, we identified 3 strategic priorities for growth: first, to unlock value in franchised UK Motor, to grow and diversify our software business, Pinewood; and lastly, the disruption of car sales in the U.K., our new used car strategy. The group is progressing extremely well to strengthen existing as well as create new competitive advantages in the evolving U.K. automotive retail landscape. UK Motor operates from a far leaner cost base with substantially improved efficiency, continues to act as a cost advantage source of supply for used vehicles. This was particularly important throughout 2021, given the well-documented supply issues facing this sector, has a greater reliance on internal and external data in order to strengthen our digital capabilities and improve internal decision-making, has a broad portfolio targeting multiple customer segments and significant geographical representation across the U.K. Our physical state both now and in the future will be a critical asset to satisfy the omnichannel demands of consumers. Pinewood has made excellence to forward as well, further surpasses competitors throughout the development of enhanced digital capabilities, has enabled the group to advance its digital and physical ecosystem and has contributed to group profitability both in the U.K.

And internationally as well. And lastly, that used-car disruption — or the new used-car strategy. It's unique to Pendragon, because of the vertically integrated assets and capabilities we have inside the group, it carries no OEM dependency, which gives us more strategic freedom, it's landing well with customers, and in the end it will push margin upside for the group in FY '22 and beyond. With the goal of speeding up digital innovation, Pinewood has made excellent progress strengthening our omnichannel capabilities and further digitizing the operating model. Our websites are now transactional, so customers can buy used cars online. Finance payment functionality is enabled on our websites. Customers can apply online and get automated, real-time decisions. With our Evans Halshaw brand, customers can complement their online vehicle purchase with regulated and nonregulated insurance products. That generates additional margin for the group when transactions are completed 100% online. Next, Sales+. Sales+ is our new functionality through layered DMS applications that let our store associates manage the sales process effectively and efficiently. The platform gives customers a transparent, stress-free experience. Second, from a regulatory standpoint, the built-in control makes sure the selection of finance and insurance products is matched to our customers' needs and requirements.

Past the first launch of features, additional rollouts have brought in remote digital signatures, remote payment requests and driver's license capture. Search across all new and used car group stock, plus the ability to look dynamically across used finance providers to surface the best offer for the customer. Group profit has also come from a group-wide platform for vehicle acquisition, management and pricing that focuses on optimizing both turn speed and margins on used vehicles. And lastly, 4 more pieces of digital capability were delivered during the year. Digital vehicle valuation, digital payments, 0% financing for aftersales and the addition of Power BI for analytics and insight. Our omnichannel strength puts us at the forefront of the U.K. automotive retail sector. These capabilities let us largely mitigate the impact of the third national lockdown at the start of 2021 and supported our market outperformance through the remainder of the year. The second objective for UK Motor was driving operational excellence and best practice. Several enhancements have been made to our used car warranties following an in-depth review. We now offer a 3-year product that complements our 1- and 2-year products. Consistent with the benefits of our proposition versus our peers, we were able to raise prices.

During Q4 2021, we shifted to providing customers with offerings tailored into our products across every channel. Pricing is now set based on age, the vehicle's mileage when sold, and term. Those changes, backed by updated associate training and engagement, are currently producing record penetration levels and better margins for the group. Second, we started a scale program aimed mainly at improving processes and procedures so that preparation speed, quality, and the resulting rectification spend are affected. Finally, combining digital auctions with better internal processes has lifted margins on the vehicles sent to trade during 2021. UK Motor's third objective was running a lean, efficient cost base. However, the pandemic sped up our plan to rightsize parts of the business, including optimizing our staffing model by cutting roughly 1,400 roles and shutting 15 nonproductive stores. We restructured the senior leadership team, removed certain customer call center functions so stores can truly direct and handle customers themselves, and transformed the accounting function within UK Motor onto dealership teams, which has been centralized within our shared service center. These levers have contributed significantly to the previously mentioned circa GBP 110 million reduction in underlying operating costs versus FY '19.

Within the U.K. franchise motors division, several opportunities exist that will generate additional value for full year '22 and past that point. Additional Sales+ releases are being developed right now at Pinewood. Through these releases, new functionality will be added that automatically works out the initial used car offer, allows real-time systemized registration of insurance products, and opens up insurance product opportunities. As part of the scale program aimed at preparation and rectification, multiple cosmetic opportunities have been pinpointed. In aftersales, steps have already been taken to boost both the volume and conversion of vehicle health checks carried out in our workshops, along with 0% financing made possible by Pinewood. On top of that, there are numerous further levers for maximizing retention and value for our workshops. Menu based and dynamic finance and insurance pricing is presently being developed by Pinewood. A group-wide strategy is also being developed to capitalize on the opportunity that electrification of the fleet provides. And the team keeps a constant watch on the landscape and is explaining new propositions such as subscription and, more broadly, mobility as a service. We stay confident in the opportunity our strategy provides, how we are positioned within the evolving consumer and competitive landscape, and the opportunity to unlock incremental value.

Like I said before, Pinewood has achieved very strong headway in getting the group's omnichannel abilities and its foundational operating model into better shape. Beyond that, Pinewood took a mobile-first tack when building the new website, which backs up the strongly differentiated omnichannel offering. Looking at Pinewood on a stand-alone basis, 2 objectives exist. The first one is to fulfill the international order pipeline that already exists and that the division has assembled. Over the past year, international users rose by 24%, which marks a solid move ahead given pandemic travel limits that blocked systems implementation. Plenty of strong pipeline opportunities are still there, and despite what has happened in Eastern Europe, growth is set to speed up as worldwide travel loosens. The second one is to push additional geographic growth. Current ties hold the potential to open up more orders from dealer groups as well as OEMs, as a single end-market DMS provider. So I'm glad to report that BMW U.K. and Renault have each just granted Pinewood certification status. Well done to the team for the growth this will generate down the road. Disrupting our used car sales in the U.K. is our third strategic priority. Rebrading the division was our first objective. A fresh brand identity and logo has been soft launched throughout Car Store physical and digital channels.

On the right-hand slide, you're able to view a handful of instances where execution was clean and moderate. And lastly, we've now successfully rolled out a fresh tone of voice along with associated training for our associates. Objective number two involved bringing a strongly differentiated value proposition to market. Our cross-functional teams have performed superbly in delivering a market-leading omnichannel hybrid proposition for customers. Pinewood, taking a mobile-first approach, has built a new and dynamic website where customers can purchase, arrange finance, include a part exchange, and round out their purchase with regulated as well as nonregulated insurance products. If that's what the customer prefers, every bit of this can be done remotely without any human interaction. That said, when a customer does want advice, our associates stand ready to serve as their personal adviser, in person or digitally, and they're trained to support the end-to-end customer journey. Associates can engage with the customer at any point along their journey, and this works seamlessly across digital and physical channels alike. Across the state, home delivery or same-day collection are both enabled. There's also a 14-day no quibble money back guarantee in place, for whatever reason the customer decides to return the vehicle.

Interest after sales finance, along with other digital initiatives in UK Motor, has now been rolled out within Car Store. Car Store has served as the place where all digital initiatives get incubated before broader deployment across UK Motor. The propertizition is landing well with customers. At present, Car Store holds an excellent 4.6 out of 5 Trustpilot rating. The ultimate goal tied to the used car disruption is the size of the physical estate. The first concept store backing the omnichannel proposition sits in Chesterfield. We're thrilled to welcome customers into that store in April. Looking ahead, 2 additional stand-alone stores are planned for FY '22, Warrington and Borehamwood. We're converting a number of small format locations that previously operated at cellular car centers so they also offer click-and-collect capability. Those locations will carry the Car Store Direct branding. Group stock is now featured on the Car Store website to maximize inventory levels and the utilization of our existing physical estate. A full launch of the proposition, backed by an integrated marketing campaign, kicks off in April. I'd like to show you a short video highlighting why Car Store excites us so much. Car Store's mission is to empower our customers to buy, sell and take care of their car needs the way they want to.

I'll start with the presentation.

Slide 29 shows exactly why our used car proposition excites us so much. We believe these capabilities lead the market when compared with other disruptors. Thanks to what Pinewood has developed, customers at Car Store can move effortlessly between digital and physical channels. Our digital capabilities lead the market. A customer can buy, arrange finance, add a part exchange, and round out the purchase with insurance products both regulated and nonregulated. There are 150 stock group locations offering click and collect along with traditional walk-in journeys. Brick-and-mortar will always have a role, since buying a car is very tactile. You can touch it, taste it, smell it, hear it, experience it and feel it. Finally, as we look ahead to 2022, performance across the first 2 months of 2022 has been good, with underlying profit in January and February ahead of 2021. Supply constraints in both new and used cars have kept supporting higher gross margins. But as expected, we are already seeing used car margins normalizing from the extraordinary levels achieved in 2021, and we expect that to continue in the coming months. The shortage of new cars is expected to last for the entirety of 2022 due to continuing raw material shortages, and we're also mindful of the further impact the conflict in Ukraine may have on supply.

The Board is mindful of inflationary pressures, and when you add in business rates going back to full levels, that will mean higher costs in 2022. We're still confident the right strategy is in place, and we expect to make positive progress toward our long-term goals this year, with underlying profitability before tax coming in line with the Board's expectations. To sum up, I'm pleased with how much has been delivered across the group in the first full year since our strategy was announced. Executing that strategy has been a key contributor to the record 2021 financial performance. I'd like to thank all of our associates for their hard work, dedication and performance throughout the year. The cross-functional team continues to maintain a high pace of change, focusing on driving further incremental value in FY '22 and beyond. I remain confident in the opportunity that our strategy provides and in how the group is positioned in the evolving consumer and competitive landscape. We continue to target underlying PBT of circa GBP 85 million to GBP 90 million by 2025 and the significant shareholder value creation that this will drive. Thank you again for joining us today. Before we turn to Q&A, I'd like to say a few words about the recent media coverage reporting interest in Pendragon.

We've chosen not to discuss this in public, and there's no additional information we can offer today. At this point, Mark and I would be glad to take any questions you have.

I have 3 questions, if that's alright. Clearly, you haven't brought back the dividend — I'm curious about the reasoning there, and sort of what has to change at a fundamental level for it to be reinstated, that's...

Yeah. You're correct. If we look at 2021, we haven't. As you'd imagine, the board keeps that matter under review. Back in 2020, when our strategy was launched, we stated that we were in an investment phase of growth. That's where we are right now. But as I mentioned earlier, we'll keep reviewing that decision, as you'd expect, going forward.

Right. For us, the question is where excess capital can best be put to work — growing the business, a handful of other opportunities such as additional new vehicle franchises, putting money into our used car strategy, or further progress at Pinewood. So there are several different channels, and we're asking where cash is best placed. That said, we're considering everything from possible share repurchases to a dividend down the road, though ultimately the priority is investing in our strategy and moving the business forward.

All right, great. And then regarding the Ukraine crisis, what exactly will the effect be — I know you mentioned supply and costs...

It's difficult to give a definitive answer at this moment. About 7% of wiring harnesses come from Western Ukraine, so there is an effect there. Naturally, that differs across franchises. Certain OEMs in Central or Eastern Europe are feeling that impact more strongly. There have been media reports from portion VW about either cutting shifts or actually shutting plants as they attempt to rework their supply chain. A significant share of Neon is made in Ukraine, and that is a major input for chip manufacturing. So none of this has fully worked its way through the system yet — where it ultimately lands, or how long the conflict will or won't go on, is unclear. But as with anything, the global supply chain is extremely fragile. I first became aware of it back, I believe, in 2010, 2011, with the tsunami in Asia, and watching how that unfolded, and then what has occurred over the past couple of years because of the pandemic has really placed a lot of emphasis on this. So it remains to be seen, but 7% is significant within the global supply chain and in how that ripples through. And unfortunately, many of these things can't easily be shifted to another provider — one company somewhere in the middle of nowhere that makes a widget, and they're the only ones producing that widget, that can make things pretty complicated.

Even so, our confidence in the forecast for this year and beyond remains intact, and we've factored as much of that in as we can, though some effects are certainly going to be felt.

Yeah. I think it’s worth keeping in mind that we discussed how strong the margin was in the second half of last year. We also mentioned that 1.5 million registrations had been lost. Will another 0.5 million be lost by the time we reach the halfway point of this year? So is this huge pent-up demand for new vehicles, with OEMs concentrating on building higher-margin models? There will be some kind of balance — if suppliers are constrained, margins will remain strong, though we don’t know how strong, and we don’t know how much supply we’ll construe, as Bill says, but those factors will offset that somewhat.