Sigma Healthcare Limited (SIG) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen. My name is Ray Gunston, and as Chairman of the Board of Sigma Healthcare Limited, I would like to welcome you to today's meeting, which is being held online only. Circumstances impacted our intention to hold a face-to-face AGM. However, this is something we will again review next year. I wish to begin by acknowledging the Wurundjeri people of the Kulin Nations, the traditional owners of the land on which we are gathered today. We pay our respects to the local people for allowing us to have our gathering on their land and to their elders, past, present and future. As it is past the appointed time, I formally declare the 2021 Annual General Meeting of Sigma open. All presentations and recording of today's event will be available on our website for later viewing. Online participation constitutes shareholders being present at the Annual General Meeting for all purposes. Details about how shareholders can participate have been set out in the notice of meeting and online virtual meeting guide, which has been made available to you. Both documents are also available to view and download at the bottom of your screen. I appreciate that some shareholders may have to leave before the end of the meeting. I, therefore, encourage shareholders to submit any written questions online now. Voting in today's virtual meeting will be conducted on a poll by virtue of the virtual meeting platform. All polls will remain open until the conclusion of today's meeting. As we move through the items of business, I will respond to questions from shareholders and proxies. Before we proceed, I would like to introduce the members of the Sigma Board and management who are present with us today: David Manuel, who is also a member of our People and Remuneration Committee and a member of the Risk Management and Audit Committee, and due to COVID-related travel risks, he's online from Perth; Kate Spargo, who is a member of the Risk Management and Audit Committee and is up for reelection today; David Bayes, who is a member of the People and Remuneration Committee; Christine Bartlett, who is the current Chair of the People and Remuneration Committee and is up for reelection today; Michael Sammells, who is the current Chair of our Risk Management and Audit Committee. We are also joined today by Mark Hooper, our Managing Director and Chief Executive Officer; Jackie Pearson, who became our Chief Financial Officer in October last year; and Sam Lawson, our General Counsel and Company Secretary as well as representatives from the company's auditors, Deloitte, and our share registrars, Link Market Services. Turning to the order of business. We have 6 items of business today, as outlined in our notice of meeting, being the Chairman and CEO addresses; the financial statements and reports; the remuneration report; the spill resolution, if required; the re-election of directors; and remuneration arrangements for the Managing Director and Chief Executive Officer and Chief Financial Officer. Item 6 on the Notice of Meeting has been removed and will not be put to a vote today following the resignation of Mark Hooper as Chief Executive Officer and Managing Director. The first item of business is effectively an overview of the past 12 months and a general business update. I will now give my insights and then hand over to Mark for more detail. This last year has been one that no one could have predicted. And as I commented in our annual review, it will undoubtedly go down as one of the most challenging periods in recent history. As a nation, we endured drought, flood, raging bushfires and a global pandemic. From Sigma's perspective, you can overlay that with Project Pivot, the continuation of our investment in our distribution center network and the rebuild of our technology infrastructure. Above all that, we increased our support for the health and safety of our team through the pandemic so that we could help ensure the community had access to the medicines they needed, no matter where they were in Australia. The challenges and demands on our people have been extraordinary, but their commitment has not wavered. In that context, I'm incredibly proud of the resilience our team has shown over this period. They've not only dealt with all that was in front of them, but also contributed to delivering a significantly improved performance for the business, for our customers and for shareholders. It has put Sigma in a position where we can continue to grow our business with confidence in the knowledge that we have, the infrastructure to support it. With those introductory comments, I will now focus on our strategic direction, leadership transition, our infrastructure investment and the status of these critical programs, capital management and our inaugural sustainability report. I will then hand over to our CEO, Mark Hooper, to provide a business update. Let me first start with our strategy, which I know is of interest to many in the context of any implications from our recent announcement regarding the resignation of our CEO. At our FY '21 results announcement in March, we reinforced our strategic direction, which does not change with the resignation of our CEO. Our intensive period of transformation and investment is now largely behind us, which means we now have the infrastructure, systems, capability and appetite to be bolder in our pursuits. The strategy we have been following and will continue to follow is to firstly drive organic growth from our existing core. We have continued to grow faster than average market growth, reflecting our innovative approach to expanding the products, services and support we offer our customers and underpinned by our new infrastructure. We have strong wholesale and retail market presence, which we will continue to seek opportunities to grow. Secondly, we'll continue to grow and diversify within the context of our existing expansion businesses. Over the last few years, notwithstanding our focus on transformation, we have acquired Central Healthcare Services, or CHS, to service hospital, pharmacies and the third-party logistics market; Medication Packaging Systems, or MPS, to service medication management and dose administration aid services to residential aged care and community pharmacy; and Medical Industries Australia, or MIA, to provide medical consumables and equipment services across the market. These investments provided an initial foothold into their respective markets. With our transformation largely behind us, we now have the bandwidth to intensify our focus and actively seek new opportunities to not only grow within each of these specialties but to also leverage these specialties across even broader related markets in a more structured way. Thirdly, ongoing optimization of the now very competitive operating cost base flowing from initiatives already implemented through Project Pivot over the last 2 years. This program has delivered a more efficient and effective operating program that provides significant operational advantages to underpin actively pursuing the above-mentioned and other new opportunities. Fourthly, leveraging our investment in automated DC network and upgraded technology platforms. Having built the new efficient and automated network, we now have the headline capacity to double our volumes of community pharmacy supply and/or tackle other similar adjacent markets that leverage the same infrastructure and provide an appropriate rate of return. With the transformation investment phase behind us, these renewed business and infrastructure platforms present broader opportunities for Sigma to consider within health care and/or other industries with similar value chain characteristics. Our significantly improved financial performance and position, our continuing disciplined investment approaches and enhanced capacity and appetite positions us to target opportunities to provide an improved mix of higher-margin business and greater diversification to our business portfolio to further reduce our reliance on PBS business. A change in CEO does not and will not mean Sigma deviates from the way we identify or assess opportunities, nor will it delay the execution of this deliberate, considered and targeted strategy. It takes a collective to agree the strategy, execute the actions and deliver the benefits. Turning now to the CEO transition. We announced on April 26 this year that Mark Hooper will be stepping down as CEO in October after 11 years of significant contribution to the Sigma business. Mark joined Sigma at a challenging time in 2010 and has been instrumental in leading the business through many challenges, making transformational decisions to set Sigma up for long-term success. I personally, and on behalf of the Board and team members, sincerely thank Mark for his unwavering dedication, commitment and leadership to Sigma over a sustained period. As I just outlined, it has positioned Sigma to emerge as a much more sustainable business with the infrastructure and financial strength to focus on accelerating our growth. Change inevitably creates uncertainty for some, and whilst timing really looks ideal, ideally for shareholders, Mark has overseen and leaves us all with a significant business transformation that is largely complete, the newest and most efficient DC network in the industry, a total technology upgrade, a business that is achieving growth above average market growth and a strong balance sheet and outlook. The timing means the new CEO, once contracted, is taking the reins at a great time to drive a clearly articulated and executable strategy. Such a strategic outlook requires the long-term leadership commitment that these directions and decisions will now provide. It also offers the incoming CEO the strong business and infrastructure platforms to shape and flex the execution and direction of the resulting strategic initiatives. As part of a normal process, succession planning was already in place and has now transitioned into a more formal search. Maritana Partners had previously been appointed to support the Board in this regard and will now assist us as we seek the best internal or external candidate to capitalize on the opportunity that has been created to accelerate our growth ambitions. I will provide a market update as soon as we have further information to share. Now to our investment program. Over the last 4 years, Sigma has totally renewed our physical infrastructure across Australia. This is a generational program that fundamentally enhances our ability to service our customers more efficiently and effectively and is a key enabler in our overall strategy. We now have the best and most efficient pharmaceutical distribution center network in the industry. It has been built not just for our business as it is today but to absorb the growth that we are pursuing over the next decade. That is a powerful position to be in as we seek growth opportunities. As we highlighted during the year, we also completed a sale and leaseback transaction at the Kemps Creek, New South Wales, and Berrinba, Queensland DCs, which combined netted $172 million, significantly above investment cost, supporting our approach of building these facilities ourselves initially. As part of this, we entered into long-term lease agreements on competitive commercial rates. The effect of this transaction, in addition to it releasing this cash, is that we retain ownership of all the automation across all sites, which has around a 5-year payback and retain ownership of the Canning Vale, Western Australia, and Truganina, Victoria DCs. This is a great outcome for Sigma and our shareholders. The other critical infrastructure investment is the implementation of an SAP company-wide enterprise resource planning system. This is another generational investment. Once implemented, this will support the entire business and will provide significantly enhanced systems capability and data insights. The program commenced at the start of last year, literally right as the pandemic was taking hold across the world. Despite this, we have remained largely on time and on budget, which is an outstanding achievement in the circumstances. We are progressing through user acceptance testing now and expect to go live with Phase I in July this year. I thank our Sigma team, along with our implementation partners, Accenture and Infosys, for their efforts and support to date. Turning now to capital management. Firstly, it was pleasing that we were able to reward shareholders by declaring a fully franked $0.01 per share dividend at the full year. As previously stated, a lack of franking credits had impeded our ability to pay a fully franked final dividend last year or interim dividend this year. Further, the Board is also committed to rewarding shareholders by targeting a dividend payout ratio of at least 70% of underlying NPAT for the foreseeable future. It was also positive to see our net debt at year-end reduce to $50 million. With our investment program largely concluding this financial year, we will see month end net debt peak at around $120 million (sic) [ $140 million ] in October this year before receding as a result of the strong cash generation from our operations. Capital expenditure is expected then to return to more normal levels of $5 million to $10 million per year after this current year. In February this year, we also announced an extension to our existing $250 million receivables purchase facility, which is now set to mature in November 2023. This facility meets our existing funding requirements, and I thank Westpac for their ongoing support. And whilst our share buyback program remains in place and is always an option, our intention is to utilize our strong balance sheet and cash generation to pursue opportunities for growth to more proactively drive shareholder value. Lastly, this year has seen Sigma also publish its inaugural stand-alone sustainability report, which is available on our website. As a large and proud Australian company and country-wide employer, Sigma takes its environmental, social and governance responsibility seriously. We have continued to improve our processes in this area. As we start to emerge from our period of transformation and investment, it was an important signaling of the maturity of the Sigma business and our commitment to making the right decisions for the right reasons. This report establishes the pillars that underpin our sustainability framework and sets us down the path to building a more consolidated structure around our goals and ambitions across the many activities we have been taking in this regard for some time. It will now enable us to better articulate our plans and targets that we will seek to achieve. As part of our sustainability report, we also outlined our initial plans in this regard out to 2030, which provides the road map to the areas of influence that we will target and seek to advance over the coming years. Clearly, we are at the start of this reporting journey, but it is one that has the commitment of the Board, management and our team members. Before I hand over to Mark, I would like to thank each and every one of our team members at Sigma. As I said at the outset, it has been an incredibly challenging period internally and from external forces, and our team has shown fantastic resilience to continue to deliver improved outcomes for the business, our customers and shareholders. I wish to acknowledge the efforts of and thank our pharmacy and broader health care customers who have faced all these same challenges as compassionate business owners, yet continued to ensure the provision of our products and services throughout all of this to people right across Australia. Thank you to my fellow directors who have provided great stewardship for the Sigma business and provided me personally with great support as I transitioned into the Chairman's role. I would especially like to acknowledge the contribution of David Bayes, who is retiring from the Board at the conclusion of this meeting. David joined the Sigma Board in June 2007 and was until last year Chair of the People and Remuneration Committee. David has been a valuable contributor to Sigma during his tenure, and we wish him the best for his future. We have made the decision not to replace David in the immediate future. We will assess this position as we continue to execute our strategy and undertake at an appropriate time a Board Skills Review to identify the Board's needs into the future. I will now hand over to Mark to provide a business update before I return to run through the items of business.

Thanks, Ray, and can I also extend my thanks to those shareholders joining us online today. Ray has provided you with an overview of the important investment and transformation program we have been focused on over the last few years. This has been an incredibly demanding phase but one that is transformational for the business. It also establishes Sigma with a great platform to now accelerate our growth. In today's presentation, I'll provide an overview of 4 main areas: Sigma's financial performance this year, including some insights into business unit performance; our management through COVID-19; the current regulatory environment; and finally, a high-level update on our year-to-date performance for FY '22. Firstly, to the financial performance for the year ending 31 January 2021. Revenue for the year was up 4.8% to $3.4 billion. The underlying performance is even stronger, given the prior year included sales of both FMCG and PBS medicines to Chemist Warehouse compared to just FMCG products this year. The strong result achieved was due to a number of factors. Our pharmacy sales growth, excluding Chemist Warehouse, was up 11.4% for the year, significantly ahead of market growth. This reflects an engaged sales team who remained focused on supporting our customers to build better businesses. Our sales to Chemist Warehouse were down 11.9%, reflecting the cessation of supply of PBS medicines under that contract. Sigma's own retail brands have also continued to outperform average market growth. Like-for-like sales, which reflect sales to the same stores in each year, were up 9% for the year, which follows 11.7% growth in the prior year. Lastly, our expansion businesses collectively performed well despite some challenges during the pandemic. Our Medical Consumables business, MIA, benefited from an uplift in sales of Personal Protective Equipment such as gloves, masks, gowns and hand sanitizer. Our hospital supply business grew by 15%, notwithstanding the long period where elective surgeries were deferred. Understandably, our medication management business, MPS, which mainly supplies medication dose packages to aged care, was negatively impacted by the effects of COVID-19 on many facilities and their residents. Underlying EBITDA for the year came in at $81.1 million, up 39.2% on the prior year. This reflects the stronger sales performance during the year plus incremental gains from the implementation of Project Pivot and the Distribution Center optimization program. Net profit after tax is up 132.8% to $29.1 million, with no receipt of government assistance such as Job Keeper. We also wrapped up Project Pivot at year-end, having achieved over $100 million of efficiency gains over the last 2 years of the program. The benefits are being realized on an incremental basis, and we have embedded the learnings in better ways of working in our day-to-day activity. Our continual focus for management has been the return on invested capital, or ROIC. Pleasingly, underlying ROIC returned to 10.1% this year from a low point of 7.1% last year as we near the end of an intensive capital investment program. As that continues to abate and we grow our revenue and earnings base, we anticipate ROIC will continue to grow into the low to mid-teens. I'll now turn to the impact of COVID-19 and how we've navigated our way through the challenges of this pandemic. Sigma is classified as an essential service business, so it is critical we are able to maintain our operations to support the health needs of the community and, at the same time, protect the health and well-being of our team members and our pharmacy customers who are at the front line. We quickly established a cross-functional COVID-19 working group to identify the risk areas and implement the actions required to mitigate and continue safe operations. This included the updating of all business continuity plans to ensure we were prepared for any eventuality. Like most businesses, we moved a large proportion of our office-based teams to a working-from-home model and significantly enhanced the cleaning and sanitization practices at our workplaces to protect the health of our teams who could not work from home. Pleasingly, our team understood and complied with the significantly increased demands for their own safety and, to date, no COVID-19 cases have been reported at any of our operating sites. We have subsequently introduced a working-from-home policy across our businesses, offering flexible working arrangements for those who are able to perform their roles from home 1 to 2 days per week. Through our pharmacy network, we have moved to offer extended support, including the provision of PPE, constant communication on medicines and COVID-19 practices, implementation of home delivery support services and continuous training and advice. More recently, we have supported those members in our pharmacy network wanting to be involved in administering COVID-19 vaccines, to register an expression of interest and to establish COVID-19 safe practices in delivering this service. Turning to the regulatory environment. Sigma obviously operates in a highly regulated industry with high standards of service delivery and obligations to the community. It is a role we fulfill with pride across our business, effectively delivering the federal government's national medicines policy by helping to ensure the community has equitable and affordable access to medicines anywhere in Australia. During the year, the industry reached agreement with the Commonwealth and the Department of Health on new remuneration environment under which we would operate in the period to June 2025. The agreement resulted in revisions to the structure of our wholesaler remuneration, including the delivery of increasing volume of low-volume -- low-cost medicines. Importantly, it's provided a remuneration certainty for the next 4 years. I'll now move to an update on current year trading performance. We delivered a strong financial performance in the 2021 year, driven by strong momentum in our core and expansion businesses. Pleasingly, this momentum has carried through into the current year. Wholesale sales performance has -- continues to perform ahead of the market, with overall sales for the first 3 months slightly ahead of our expectations. There has been some general weakness in the market being experienced in the FMCG products, which has been impacted by lower sales in such categories as cough and cold, and less export and Diagou buying. We anticipate this gradually improving in the second half. At our full year results announcement, we indicated we are targeting at least 10% growth for the next 2 years as we progress towards delivering $100 million of underlying EBITDA by FY '23. While there have been some challenges in the OTC space, the first 3 months of this year, with first 3 months of this year behind us, this target remains on track. In conclusion, I'd like to make some personal remarks. It was announced on 26th of April that I had resigned as CEO of Sigma and would step down from the role at the end of October this year. This was an incredibly difficult decision for me to make. I joined Sigma at a challenging period in its long history and have committed 11 years to making Sigma better business. The best long-term interest for shareholders, team members and customers have always guided my decisions that I've made both as CEO and a significant shareholder. There have been lots of challenges and tough decisions over this time. However, I feel confident to hand over the leadership of a business much stronger than it was 10 years ago and with a terrific team who have been instrumental in delivering the strong business you see today. I'd like to finish by thanking the Board, and our team members, customers and shareholders for your support during my time at Sigma.

Thank you, Mark. And I think all those people listening will acknowledge what the role at Sigma is meant to Mark. So thank you, thank you, Mark. Before we move on to the remaining items of business, we have received 2 questions from shareholders in advance of today's meeting, which is shown on the screen that I will address now. Firstly, on the question of why were there no explanatory notes provided with the resolutions. Explanatory notes on each item were included within each item of business in the Notice of Meeting, so no further explanation was required. On the second question regarding growth, dividends and share price. In my address today, I have reinforced our clear strategy and plan for the growth ambitions for Sigma, including looking at opportunities in the medical consumables and equipment space. Regarding dividends, with our franking account balance now restored, we paid a $0.01 fully franked dividend at the full year and have outlined our intention to continue to target at least 70% of underlying NPAT as a dividend to reward shareholders. As per share price, the only thing I can say is that we share your view, and we'd also like to see our improving financial and operational performance better reflected in the Sigma share price. Are there any further questions that have been submitted online with respect to general business?

Yes, Chair. We have a question from Mike Robey from the Australian Shareholders. We note your policy on diversity and inclusion recognizes the full range of diversity, not just gender, and that must be leveraged to ensure a high-performing organization. Do you have programs in place to build a better culture of diversity and inclusion? If not, do you have plans in place or being developed to do this?

Thank you for your question, Mr. Robey. Yes, we do have programs in place to build a better culture around diversity and inclusion. As you've said and as we have acknowledged in our policies, diversity is critical in all its forms. As you know, we have over half our workforce which is female, and we've continued -- and we'll continue to develop programs that deal with a variety of other elements of diversity. And we will, this year, be putting in place a rep as part of that development profile. So thank you for your question.

Chair, we have another question. There is spare capacity in the recently commissioned state-of-the-art distribution centers. Can you please give us some color on the use of this to maximize revenues and profit?

Yes, thank you for your question. I don't know who asked that question, but thank you for asking the question. I think through -- that's Mr. Robey as well, is it? Thanks, again, for your question. I think through the context of my presentation, I spoke to various elements of our strategy that are designed to looking towards the utilization of that spare capacity to maximize revenue and profit. As I indicated, not only will that be further developing our pharmacy sales but also our expansion businesses that we've spoken about, which we will look to go deeper in, in the context of MIA, MPS, the aged care areas. And also, as we look to other potential areas such as medical consumables and other types of products such as those that we will look to utilize that capacity. So thanks for your question.

Chair, there are no further questions at this time.

Thank you. We will provide further opportunity for general business at the end of the formal business. We will now move on to the next 5 items of business, which are the financial statements and reports; the remuneration report; the spill resolution, if required; the re-election of 2 directors being Ms. Christine Bartlett and Ms. Kathryn Spargo; and the remuneration arrangements for the Managing Director and Chief Executive Officer and Chief Financial Officer. All eligible proxy votes will be required to have been received by 11 a.m. on Monday, the 10th of May 2021. If you have not already voted, you may lodge your votes today via the virtual meeting platform administered by Link. All voting will be conducted by a way of poll. It will be -- I will be voting any undirected proxies appointing the Chairman as proxy in favor of all resolutions except Resolution 4, which I will be voting against, if it requires a vote. Again, if there are any questions during the course of business, please submit your question using the Ask the Question button at the bottom of your screen, and we will endeavor to respond where appropriate. Item 2 on the Notice of Meeting is consideration of Sigma's financial report, directors' report and auditor's report for the financial year ended 31 January 2021, which I will take as received and read. This matter does not require a resolution. The company's audit partner, Andrew Reid from Deloitte, is available to take any questions on the auditor's report and on the conduct of the audit. Are there any questions in respect of the company's reports?

No, Chair.

Thank you. That concludes our consideration of the financial statement and report. We now come to Item #3 on the Notice of Meeting to adopt the company's remuneration report for the year ended 31 January 2021. The Corporations Act requires an advisory nonbinding resolution to be put to shareholders for the adoption of the remuneration report. The remuneration report provides the detail. However, the key objective of our remuneration strategy, as outlined on this slide, is to attract, retain, motivate and reward employees in return for achieving high performance and creating sustained shareholder value. Alignment with shareholder value is driven by our executive remuneration structure that comprises a fixed salary component and an at-risk component made up of short-term and long-term incentives. We acknowledge and have taken very seriously the strike against our remuneration report last year. Throughout the last 12 months, we appointed an external adviser to work with us on identifying and addressing the issues that led to that strike vote, and we've engaged with other external advisers, proxy advisers and shareholders as part of a thorough review of the structure and disclosure within our remuneration report. As a result of that work, what I want to point -- what I want to highlight from this year's remuneration report are the following points. The one-off retention benefits that were a major focus for some shareholders last year are now complete. A long-term incentive, or LTI, grant for the CEO was scheduled to be put to a separate shareholder vote at Item 6 in the notice of this meeting, which now has been withdrawn following the resignation of the CEO. In regard to the return on invested capital measure in the LTI, we have moved away from cliff vesting to a graduated vesting scale that is outlined in the remuneration report. In relation to short-term incentives, or STIs, we have progressively increased the financial KPIs to 50% of total reward opportunity for the CEO for the coming year and introduced a 12-month cash deferral for 25% of any STI that is payable. We have introduced a minimum shareholding policy with a 5-year accumulation period of 100% for the CEO and 50% for other KMP based on post-tax annual fixed pay. Non-executive directors already have 25% of post-tax director's fees used to purchase shares on market. Overall, we have enhanced the disclosure provided within the remuneration report, including greater detail on STI nonfinancial performance measures and around the existing control provisions in the LTI plan. As you can see, we have listened and have taken substantive action to help to ensure that we remain consistent with market practice, continue to incentivize our team members and maintain strong alignment to the creation of shareholder value. With those comments, I will now open this item up to questions from shareholders. Are there any questions in respect to this item?

Yes, Chair. We have a question from Michael Robey. The CEO's remuneration is well above the industry average 75th percentile in total on the fixed element and the variable element, the industries of similar size and complexity. As the current CEO has resigned, will you correct this situation on recruitment of the replacement?

We will -- thanks, again, Mr. Robey, for the question. We will be undertaking, as you've indicated and as I've indicated previously, a process of working through the replacement of the CEO. In that exercise, we will continue to review the remuneration level for an incoming CEO. And we will consider a number of factors in relation to that consideration, including the level of the remuneration, but also making sure that we're able to attract an appropriate candidate for the level of remuneration that we'll put in place. So that will be part of that consideration. Thank you. Are there any other questions?

Yes, Chair. We have another question from Michael Robey. Can you advise what proportion of the current CEO's deferred short-term incentive you will pay upon his resignation, given that I understand this will be before the 12-month deferral period is complete?

Thank you for your question, Mr. Robey. And we do have policies in place in respect of this. And there is a board discretion available in relation to that position, and that's something that we will consider later in the year.