RCL Foods Limited (RCL) Earnings Call Transcript & Summary

[Audio Gap] to interim results presentation. [Operator Instructions] Please note this call is being recorded. I would now like to hand over to our CEO, Paul Cruickshank.

Good morning, everybody. It is great to be presenting to you for the first time as the CEO of RCL Foods, and I'm looking forward to engaging with you during the session and the journey ahead. As we have done in the past, I will give a brief overview of our performance and strategic progress, Rob will take you through the financials in more detail. And then Marthinus, Chris and I will go through the headlines around each division's performance. Moving to Slide 4. Our key highlights for the 6 months ended December 2021, our key message is that we have made solid progress from a financial and strategic point of view despite some significant headwinds. Not only is consumer spending under increasing pressure as a result of rising unemployment numbers post the COVID lockdowns and the July riots, but the continued high cost of raw material commodities have placed considerable pressure on our margins. Our response, consistent in the past years, has been to focus on what we can control, execute the basics well and actively pursue our strategic goals. This focus has helped us deliver a pleasing 9.2% revenue increase, despite a number of categories being under pressure from a volume perspective. The majority of our brands have increased their market share, resulting in a 14.4% statutory EBITDA increase, which flowed through to a 21.6% improvement in our HEPS. The more muted underlying EBITDA increase of 2.5% clearly speaks to the margin pressure our business units are under and which we are working hard to mitigate. Cash generated by operations was up significantly, and Rob will speak to that further. Moving to Slide 5, which breaks down our underlying EBITDA performance per business units. EBITDA improved at an underlying level in all business units except Baking. Groceries continues its resilient performance with Pet Food once again a standout performer. Whilst Baking came under pressure despite good volume growth in Bread, Buns & Rolls due to high input commodity cost environment. Sugar had another good period, driven by strong focus on operational efficiencies, supported by favorable local market conditions and Vector has continued its turnaround from a revenue and earnings perspective, aided by the continued integration of its network as well as the restoration of volumes to pre-COVID-19 levels. Chicken improved, albeit off a low base, with margins still modest in absolute terms. This was delivered through a combination of focus on agriculture performance and improved pricing realizations. Slide 6 is an update on our bigger picture strategic progress. As you are aware, our strategic portfolio review in 2021 gave rise to 2 key decisions, to separate our value-added brand previously referred to as FMCG, food business from our Chicken, Vector and Sugar businesses to enable them to grow in a more pure play environment and to actively grow the value-added brand component by our strategic focus and investment. We've undertaken a number of actions to progress this 2-part strategic intent. We consolidated the RCL Foods Group and Food Division executive structures into 1, and that enabled us to simultaneously reengineer our organization in line with our value-added growth strategy, and I'll come back to that on the next slide. We've completed the legal separation of Chicken, Sugar and Vector logistics businesses into independent legal entities in preparation for different strategic options. Management has prioritized alignment and clarity on ways of working and accountability with respect to Chicken and Vector Logistics, while Sugar's operating model continued unchanged in the medium term. As we have said previously, we believe in the potential of each of these businesses and will continue to support the growth of each by giving careful and responsible consideration to the next steps. At the same time, we have pivoted our strategy to focus on value-added growth, which brings me to Slide 7. Our vision is to build a focused value-added branded food business that generates sustainable shareholder value. To do so, we need a business driven by diverse high-performance culture, one with right scale and which is built to last. These key elements are captured in 3 pillars and will be enabled by our strategic thrust and our sharpened strategy. Our new flatter executive structure and value-added brands focused operating model will enable -- will further aid the delivery of this. As a key first step towards scaling the business, we have carried out a full evaluation of the South African food landscape and are clear on the categories in which we'd like to extend either organically or via acquisition activity. In scaling the business, we will seek to leverage our brand strength and differentiated capabilities, including our national platform, which we see as a key enabler. We will be updating the market as when appropriate, on next steps in our journey. I'll now hand over to Rob, who will take us through the financial review.

Thank you, Paul, and good morning to you all. I'm going to start on Slide 8, which is really just a landing slide summary of all the financials. Pleasing to see, as Paul has highlighted, mostly green -- positive variances on this reporting period. And in the subsequent slides, I'll cover off most of the pertinent matters and the only 2 just to pause on here on this first slide not covered elsewhere. Just to remind you in terms of how we express a view of our underlying results, obviously, front lining with the statutory or reported numbers, but we seek to give you insights to some of the more material and more importantly, once-off items that have taken place in the period to give you a perspective of our underlying performance, and we repeat that through the analysis. Secondly, we're not going to touch on dividend again other than just you noted here. We have kept the dividend the same as the previous period. The market I know is familiar with our approach. Where we don't target a specific dividend cover and especially at interims. We are concerned about the outlook for the second half of the year. So our sending a message of that we're still in a good dividend paying position and hence have held the dividends, but we would prefer to give specific guidance associated with our full year numbers in August. Moving on to Slide 9. Paul has highlighted that the period's performance on an underlying basis is driven by Sugar, Chicken and Vector's performance relative to the prior period. But here on this chart, on this waterfall chart, you can see the extent of the once-off items which we strip out of our underlying perspective. And most of them relates to Chicken. Certainly, in the prior period, the COVID and the IFRS 9 adjustments on commodity procurement and then the civil unrest in the current period are all mostly Chicken adjustments, and you will see that in the detail of their section as well. And then we had a very unfortunate fire in our Sugar business. And just to cover that off here, the ZAR 39 million represents the cost in our system, which is largely our insurance access and other costs -- recoverable costs associated with it. But obviously, we are still in the phase of working through that process with our insurers. And so haven't booked any material upside other than the known loss and the acknowledgment of loss from our insurers. Moving on to slide, the next slide, 10, is really just to walk through in terms of our EBITDA performance due to headline earnings and then underlying headline earnings, again, not a significant amount to note here other than a pleasing continued reduction in our net finance costs. And then the share of profits is down on the prior period, largely by virtue of investment in Royal Eswatini Sugar, which is a forecast outlook, not dissimilar to our own in terms of a more challenged sugar period coming up. Slide 11 really just summarizes the unadjusted reported view of our numbers, and I'll put these slides in here to tee up what will be subsequent to the address by my colleagues in terms of their underlying divisional information. So Slide 12 then migrates that through the underlying adjustments by units. So that you can see a better perspective of the performance of the underlying business units, and as Paul has mentioned, a pervasive margin challenge that we have faced in this reporting period. Slide 13 is a very good picture in terms of -- we remain strongly cash generative. In the middle of that chart, you see that healthy free cash delivery. And yes, it's supported by a good top line in terms of the operating profit flowing through, but we also, for the period, had a good working capital result. And you can see the swing from the prior period, the underlying performance there remains a focus area for the business and a good one, but obviously significantly helped by the cutoff issue, which I'll cover off on the next slide. And then the only other comment to make on this is we're coming towards the end of our debt package moving into year 4 of a 5-year package, and there are some early repayment obligations coming at us. So we've had 1 in this period and 2 that will be in this H2 period coming up. Slide 14 is our busy working capital slide, but it does a good job in terms of capturing our continued focus in this area. Overall, for the comparative being 5.2% down in rand terms and whole 2% down as a percentage of revenue over the comparable period. So overall, a very good result. By virtue of the later cutoff, we follow a retail calendar cutoff in our system. It meant that we cut off this period. And after year -- the calendar year close, we cut off on Sunday, the 2nd of January. What that meant for us is obviously a later window in terms of which we could get in receivables as well as honoring the obligation of all of our payables. So if you want to look at it differently, it's a cleaner cutoff, more absolute cutoff for us, a good indication every now and again when this cutoff is as late as this. But it's part of the reason for the rand value and the days references improving. Hence, we always show at the bottom left, the adjusted debtors days reflection, which itself is suggesting is affected by the cutoff, but a pleasing and continued pleasing underlying book and remains an area that is well managed within the business. So despite the economic environment, it is a cleanly and well-managed book. Slide 15 then deals with our CapEx spend in the period and forecasted. We had previously signaled that we would see slightly a higher forecasted spends and those are slowly coming through, mostly related to catch-up spend in Sugar and Chicken. But what you're seeing here is also some expansionary CapEx sitting within our Baking business unit and Vector Logistics. So a shift toward more expansion CapEx, but offer the same in terms of the working capital comment, the overall remains well managed when you judge the spend against a variety of metrics, whether they be percentage of free cash or percentage of revenue, they're still very acceptable references and our ultimate test is the see-through in terms of how this translates to an underlying improving return on invested capital, which is on the next slide, Slide 16. So the put up of this at an interim is always a little bit challenging or more difficult to interpret by virtue of obviously, it being a rolling 12-month reference. So what you're doing is you're picking up the H2 or previous financial years and particularly evident when you look at Chicken and Vector's prior period reported ROIC numbers, which are very big negatives largely because that goes back to the period where we booked some of the impairments. But overall, and then especially on an underlying basis, you see the improving trend, especially pleasing results coming through our Food division. Vector is improving as well in line with the trajectory of the planned consolidation of their networks post the Imperial Cold chain acquisition. So there's still a road to travel on that, but a pleasing improvement. And Chicken is -- quite clearly remains challenged. We are in the process of that turnaround. Marthinus will give us some color to that a little bit later. And then the last 2 slides, I've included in the deck, but I'm not going to spend any time with them. It really is how we find ourselves from a debt package perspective with our commitments and covenants and underlying, which are all in very good space. And so really nothing to highlight other than just to record them here for your benefit. I'm now going to hand back to Paul.

Thanks, Rob. So then just moving on to the few division results. Just a reminder that the landing page of each of the business units does reconcile the actual reported results, underlying performance, as Rob has highlighted. And this is to give the market a clear view of the true performance of each of these business units. The Food division, a reminder as well, comprises Groceries, Baking and Sugar and the statutory EBITDA growth, it was slightly down in the prior year but 1.9% ahead on an underlying basis. So moving to Slide 22, which is the Groceries underlying EBITDA is 2.4% up on the prior year, primarily driven by growth in grocery, despite price increases implemented to counter high commodity costs. Strong volume recovery, albeit of a lower COVID base and heightened cost focus and consolidation of operations in beverages also contributed to improved Groceries result. If we move to the next slide, with culinary categories within Grocery, talking about culinary categories in grocery, which has remained resilient despite the competitive trading environment and commodity input price pressure. Our Nola brand retained its market leadership position and a new economy proposition was launched under the brand, which is gaining traction. Yum Yum's share growth is also pleasing considering the volume of imported peanut butter in the market, which does not attract the tariff whereas the raw peanut imports do. Albeit slow progress is still being made with [I Tech] in attempts to align the approach to peanut and peanut butter imports. Focus on the culinary category for the upcoming year, we're now delivering operating efficiencies and driving a pricing strategy that best mitigates the margin risk associated with the high input costs. If we move to the next slide, in Pet Food, highlights a strong performance in our category despite the category being under pressure. This is reflected by growing market share position across most brands. Furthermore, branded Pet Food volumes grew by 9.2%, offsetting the loss of low-margin DOB business. More specifically, our premium retail and veterinary ranges are well positioned, delivering strong growth and our Optimizor brand continues to outperform in the co-op channel. A raft of exciting Pet Food innovation is ready to launch into the market once approved by the relevant government department. Moving to Slide 24. Pies operating unit has seen good recovery in volume on the back of strong promotional plan and growth coming in from innovation. The Pieman's Big Deal Pie and the newly-launched frozen Pieman's range in the retail channel. Margins have, however, come under pressure, primarily due to significant raw material cost increases. Selling initiatives ended mitigating margin risk and landing necessary price increases will be a key focus area. Our Beverages business has delivered improved performance from a cost perspective with the consolidation of the ultra-high temperature and fresh plant yielding the anticipated efficiency benefits. However, volume growth remains muted as the category struggles to recover post the COVID lockdown with significant distributors service-giving challenges compounding this in the most recent months. Moving to Slide 25. Although our Bread, Buns & Rolls operating units has seen strong volume growth during the period, particularly on bread, underlying EBITDA across the Baking business is down than the prior. Margins have been challenged as price increases landed have only partially offset wheat cost pressure. External milling volumes have been under increasing pressure as the business focused on protecting margins amidst the rising wheat price. On Slide 26, the Bread, Buns & Rolls operating unit achieved good volume growth, largely on the back of the new depot rollout program, which is part of the bigger Sunbake growth strategy. Performance for the period was especially pleasing considering price increases necessitated by high raw material and diesel costs. The capital expansion project of Polokwane bakery is on track and will be commissioned before the end of the financial year. Moving to Slide 27, an improved operational performance through the milling results supported by the early benefits of the ERP planning system that is being implemented at our Pretoria site. The launch of a quick new coating product for the QSR market also contributed to the improved result. The Specialty operating delivered a disappointing result with margins under pressure due to increased input costs and a shift in mix. Therefore, improved efficiency throughout the plant consolidation initiative will be a key strategic focus area for the business over the next 2 years. Moving to Slide 28, Sugar produced a strong result aided by continued focus on our controllables, coupled with high international sugar prices and favorable local initiative factors. Slide 29 unpacks Sugar's result in more detail, which is underpinned by increased local demand, together with a 42% increase in the international sugar price, which improved export earnings for the period. The continued focus on cost control across the value chain also contributed to the strong results. On the downside, cane quality and yields are temporarily affected by an aphid infestation and heat in the early part of the season. The fire that Rob has mentioned at Komatipoort sugar warehouse in October destroyed 40,000 tons of sugar, disrupted operations in the last quarter. The insurance process is progressing well and the business has appointed a team to design the optimal future storage solution for sugar. On Slide 30, Molatek delivered a strong performance for the period, especially considering the prior period's exceptional results, which was bolstered by farmers rebuilding their herds post the drought. Higher raw material prices have started to put pressure on margins. And as a result, the business is focused on managing costs and driving an improved mix to mitigate this as much as possible. I will now hand over to Marthinus.

Good morning, and thank you, Paul. All right. Moving to the first slide, I think the key here is the low base. So if 1 looks at EBITDA performance, we're still talking relatively very small numbers. However, there was an improvement. And I think what bodes well for us is that the revenue was increased as a result of making more products, selling more and on the back of better prices in the market. We had a very challenging start to the financial year in the first 2 months, mainly as a result of Avian Influenza and also, obviously, the looting incident. Moving to the next slide. I think we've laid down some significant building blocks in supporting our business and particularly the turnaround. It will stand us in good stead. Specific reference to the regional management model, decentralized model, integrating the value chain elements within these 3 regions, feed, breed, agri processing, distribution and sales, creating that focus that 1 requires giving us the focus, particularly on the agri side of things. We are in essence an agri business. So your KPIs and the number of chicks that you can produce, number of eggs on the back of your attributability and livability is obviously key to lower cost. We have introduced the new breed. It is a process that needs to roll out and will not only see that benefit really during calendar year 2023. It will be more significant in F '24 as this process rolls out. We see a significant reduction in imports, mostly driven by the Avian Influenza in Europe. I think AI is very much a very volatile space at the moment and the industry has embarked on programs to do proper surveillance. We see it still circulating in live birds and there's lots of AI in Europe. So one also looks towards contingency measures to be more prepared should one, again, have a very intense period during the next winter. Moving to the final slide. And here, we refer to specifically the external feed business of EPOL. It is a time, as Paul also mentioned, where 1 tries to protect margin in the absence of just growing new business, which one will have to discount given the current state of affairs in a prolonged bullish commodity market. One's best defense here is try and add value to your customers business and to focus on cost reduction. Thank you very much. That's from my side. And I think I hand over to Chris.

Thanks, Marthinus, and good morning, everybody. Moving to Slide 36. Just looking at the headlines, we see pleasing revenue growth to just over ZAR 1.8 billion, driven predominantly by the recovery in our foodservice volumes to almost pre-COVID levels, good growth in retail and L&A Zambia business consolidation for the first half, offset partially by the unrest in July. The next bullet under headlines, I'll talk to the next slide, which is the good progress we've made on the final phase the Imperial Cold Logistics network. And then just commenting on the EBITDA, you can see a growth of nearly 12%, on an underlying adjusted basis with the impact of COVID regulating to about 9.2%, but pleasing nonetheless and on track with our turnaround. Turning to the next slide. We've spoken about the revenue growth, just focusing in on the final Phase 3 of our network integration. I'm pleased to say that our capacity builds are complete in some of the areas, namely Port Elizabeth late last year. Bloemfontein, we're just coming online with net capacity build now, expansion build and Durban and Polokwane due over the coming months. And by the end of the financial year, by June, we will have the integration complete. There has been some delays due to international supply chain challenges and COVID primarily, but the good news is that it's coming to finality. And now on the bottom of the page on the right-hand side, you can see our final end state of 7 sites and approximately 350 vehicles from where the far left, you had 14 sites and 445 vehicles. So it gives you a bit of a feel of the integration benefits that we'll get once done. And moving to the final slide and really a quite an exciting area for us. So our Empty Trips, which is our digital freight matching platform. As I've said previously, we've rolled out internally, and we're in the process now of rolling this out to the external market. We're excited by this opportunity, and we'll watch the space as we go into the external marketplace. And with that, thanks, Paul. I hand back to you.

Thanks, Chris. Just moving to the prospects slide, I want to summarize the key themes have already been mentioned. But GDP growth in South Africa is expected to be less than 2% over the next 3 years. There's no doubt that the economic conditions will remain tough for the foreseeable future. And along with higher inflation places more pressure on the consumers. we are acutely aware of this. The current situation in Ukraine will contribute to a further rise in commodity costs, the extent and impact of which is currently unknown. So just summing up quickly the outlook for the next 6 months, we expect a continued resilient performance from Groceries. Sugar will continue to focus on its operational efficiency as the season starts up. Though the full year results will not be at the record levels in the last fiscal year and are expected to be materially lower due to previously mentioned agriculture challenges. However, despite this, we still expect to see the second highest profit in the business unit's history. Whilst Chicken has made strides, as Marthinus has indicated and implementing its turnaround strategy is not yet at the right level of profitability, mainly due to the breed challenges which he explained in more detail. Vector has also made good progress with its turnaround and is well on track to deliver further once its capacity build are complete. We will continue to drive the managed separation of Chicken and Vector as a priority in a well-considered manner. That wraps up the formal part of the presentation. Thank you for your attendance, and I look forward to hearing from you and over to you, [Karen].

[Operator Instructions] The first one pertains to chicken. So the comment reads, congrats to Marthinus and his team in driving Rainbow back into profit in very difficult circumstances with AI, soaring input costs and genetic issues. Can I ask for opinions please on: one, time frame to get genetics back to normal? Two, do you believe the current consumer will take any more price increases in 2022? Three, due to global and local issues, maize and soya are elevated. Can I get your view on the second half input cost scenario as at these levels? What is Rainbow's view on input costs and how it's positioned itself? Thanks. Marthinus, if I can pass over to you.

Thanks, [Karen]. Anthony, thank you for your good wishes. Yes, I think I did speak about the time frame. So first placements on GP side has taken place and then, Anthony, as would know. There's quite a time lapse going from grandparent to parent to [indiscernible]. So every time about a 7-month gap. So a significant contribution will come in the 2023 calendar year, more towards the middle of that year, leading to F '24 as that progeny process rolls at. The -- in terms of the commodity markets, I think, I also expressed the view, but we see that the fundamentals point out to, particularly on the maize side and pretty good stocks to usage ratios, but fundamentals have not played out more technical matters, [indiscernible] position. So in this current scenario of high volatility and in the midst of the Ukrainian crisis, it's hard to see that the commodity -- the price is just going to come back. So I think we're in for a bit of a more of the high jump. It links to obviously our capability or capacity to pass on price. I think we're in for a high food inflation period. But whether the consumer can manage that, that is the big question, and it is obviously a big and a huge risk factor in our lives. And it's hard to say. Price has to move given the input cost, and we'll obviously do our best. Thank you.

Thanks, Marthinus. The next question relates to Vector. Comment is, Vector has a good performance. Is the business actually still a core holding of RCL Foods as there has been informed whispers in some logistics channels that Vector is on the block with some rival celebrating as the opportunity to acquire it? Does RCL actually plan to further clean up its disparate structure to create value? I'll hand over to Paul.

Thanks, [Karen]. Thanks, Anthony, for the question. Slide 5 is really where we set out the strategic intent, which is not dissimilar to what we said at September full year results announcement. So Vector, Chicken and Sugar over a period of time, as and when appropriate, we will find the right option for them. We don't know what their option is yet, and we'll evaluate each one on its merits as and when those options arise. What we have done now is focused on what I call the administrative part of it. And we have done that, and we will consider how we take it forward. And as I did say, we will update the market as it's been appropriate on any 1 of those business units with vision on how we plan to proceed with it.

Thanks, Paul. The next query reads, you mentioned that you are firm on which trees you would like to expand into organically and inorganically, which categories are these?

I'll maybe take that one. Thanks, [Karen]. We've done a lot of work on our category -- assessing category landscape. Obviously, what I'm not going to share is what those categories are. We're not going to show our hand to our competitors. What we're clear on is we our brands can extend to in what we call adjacent categories, and that would be organic growth. So that 1 we are clear on it, and we've already begun that process, the inorganic and acquisition type activity will be very focused. Again, underpinned by those categories, one of plan. And what I'll just share is that criteria is needed to be that they are branded. That it is growing from a market perspective and is margin accretive to our RCL Food prices.

Thank you, Paul. The next query is quite similar in its relation and relates to Slide 5 of our presentation, where Sugar is grouped in with other FMCG value-added products and said that operating model will remain unchanged in the medium term. Does this mean that Sugar will remain in the portfolio for the foreseeable future? And if that's correct, then why was this unit separated into a separate legal entity?

[Karen], thanks. So happy just pick that up, and I answered most of it earlier. So I'll just pick up the specific pieces. So let me start with the second part that Sugar was always separate legal entity. There was actually no work to do there. There was more work around Chicken separation and Vector was also a separate legal entity. Chicken had been integrated into the old consumer division. So that answers why we separated it. And for all 3 of them, what it is prepared ourselves for what the future may be. And the second one around Sugar, I earlier described that we'll do it on a basis that makes sense for each one of those businesses. All we're saying is that from an operational perspective, currently, Sugar will remain as part of the food division. And there's no change in which is the way in which we are operationally running that business, and we'll assess that as we go on.

Thank you, Paul. The next query reads, how far forward has RCL hedged from a wheat perspective?

So we obviously don't share our positions to the market. I think what is important is just to acknowledge that we do import wheat from the Ukraine. The impact of that will need to be assessed. It was only last week's news. So we're obviously doing that. In the lead up to what has transpired in the last week, we did extend our physicals because that obviously is a key focus point now as necessarily opposed to your actual hedge position. We have to have physicals to enable us to make bread. So our emphasis has shifted to mitigating that risk. Suffice to say that given the circumstances, we are quite short and have been short across all our commodities for quite an extended period of time.

Thank you, Paul. A query related to sugar tax. The Minister of Finance increased sugar tax from ZAR 0.021 per gram to ZAR 0.023. Suffice to say this looks negligible, can you please put into context for us and perhaps comment on what the potential impact could be?

So to be honest, this was a surprise to us last week. We're obviously working with industry to assess what the impact is. The extent of the reformulation at this point is unknown. What is the concern is government's indication that they will target other soft drinks as opposed to carbonated, which was in the first round of the Sugar tax. So we will work with industry and government to understand this, but it was a surprise in a sense that the master plan clearly said that the Sugar tax would not be extended beyond existing categories. That has been increased in an indication to extend. So we need to assess the impact of this and understand from government what this actually means and also to our customers what they intend to do from a formulation perspective.

Thank you, Paul. As a related query in terms of some new news is for your logistics business, can you give us an indication of the impact of record high fuel prices?