Smiths News plc (SNWS) Earnings Call Transcript & Summary

All right. Good morning, everyone. Welcome to the Smiths News Interim results presentation. [Operator Instructions] So over to you, Jon.

Good morning, everyone. Welcome to the Smiths News presentation. Presentation is being recorded, and you'll be able to view it later on our website. For those of you that are joining us, once again, you'll be familiar with our format. I'll will cover our headline performance before handing over to Tony, our CFO, who will talk you through the financial results in more detail. I'll then review our operational and strategic progress with particular focus on management through pandemic and the impact it's had on our business and our markets. Lastly, and importantly, I'll cover our capital management policy on our plans to deliver shareholder value over the medium term. At the end of the presentation, we'll then take questions. So if you look at the headlines, I'm pleased to report that we are on track with all the key elements of our business plan despite the continuation of difficult trading circumstances since the presentation of our full year results in November 2020. Overall, profit is in line with expectations as a result of careful management of our operations through the second and third lockdowns and the underlying resilience of our business model. Indeed, the core wholesale operation of Smiths News is ahead of last year, with overall profit down due to the impact of the pandemic on our ancillary businesses. Given that the comparable prior year period predated the COVID-19 pandemic, this is a strong performance from what is the main engine of our business. I'm pleased to confirm that our sales have stabilized. We've once again achieved the critical measure of savings and efficiencies offsetting the margin impact of the decline in core sales. To be doubly clear, we have done so without impact on service, maintaining a full service to our customers throughout the subsequent lockdowns. Meanwhile, our capital management objectives are on track following the successful refinancing in November 2020. If we turn to the pandemic, we continue to provide a full and safe service to all of our customers with KPIs at pre-pandemic levels. Importantly, sales in lockdown 2 and 3 did not see the sharp decline that we saw in May to March of 2020, with far fewer retailers closing. Travel and commuting retailers, however, remained severely impacted, and they continue to represent a substantial proportion of the decline in the market as a whole. From the perspective of our financial performance, it is relative stability that drives our ability to reduce cost and maintain control, whilst meeting our service obligations. In this respect, our teams have done a magnificent job. As the country gradually returns to more normal patterns, we are confident that the progress we have made can be sustained with any increase in costs from potentially increased volume being kept strictly in proportion to the benefits. Beyond the core wholesale operation, our ancillary businesses of DMD and in-store have suffered year-on-year profit impact as a consequence of the pandemic. However, I can confirm they are operating at breakeven or marginally better. And we are not reliant on their recovery in the second half of the year. Turning to dividends and capital management. We have been clear that we will pursue a prudent approach to capital management with a focus on maintaining liquidity through the pandemic and reducing debt in line with our new banking arrangements. The tight controls of cash, debt and CapEx have been achieved in line with our expectations. And as we gradually emerge from COVID restrictions, we can be confident in the ongoing performance of the business. In this context, and of course, subject to the performance being maintained, we are planning for the return to the payment of dividend later in this financial year. Indeed after the bank financial covenant tests are met at the end of May 2021. I will give more detail on this shortly, but for now I'll hand over to Tony to take you through the numbers.

Thank you, Jon. Good morning, everyone. The first half of the financial year includes a number of significant events, most notably, the completion of our refinancing in November 2020 and response to the impact of the lockdowns in November and in the months after Christmas. So let's now turn to the adjusted continuing income statement. Total revenue declined year-on-year by 11.5%, reflecting the underlying structural decline of newspapers and magazines, the continuing closure of retailers located at travel hubs and the more general additional impact of the lockdowns in the period. Adjusted EBITDA, excluding IFRS 16 lease accounting was GBP 20.5 million, GBP 1.2 million down from the same period last year. This was a resilient performance in a challenging environment with planned cost savings, dovetailing with incremental cost control as the business [ flags ] to adjust to lower volumes. The decrease in EBITDA can be attributed to the 3 distinct business drivers. A reduction in margin across all businesses of GBP 8.2 million as a result of the decline in revenue and volume. However, the reduction in volume was partly offset by depot and delivery cost savings within Smith News of approximately GBP 4 million. A proportion of these costs are variable with volume in nature, and we expect these to increase as revenues and volumes recover in H2. The final element is overtax savings of approximately GBP 3 million, a result of the restructuring implemented at the end of FY '20 and includes the transfer of certain activities to our shared service center in India. Operating profit, including IFRS 16, but excluding adjusted income, is GBP 18.9 million, down GBP 1 million year-on-year, which comprises a reduction of GBP 0.5 million for Smith News and GBP 0.5 million reduction in DMD. Operating margins increased to 3.4% compared to 3.1% in H1 2020, which underlies the flexibility and resilience of the business model. Finance costs increased by GBP 900,000 to GBP 4.5 million due to the increased amortization cost of the facility arrangement fees GBP 600,000 and increased interest costs and borrowings of GBP 300,000. Adjusted profit before tax was GBP 14.4 million, down EUR 1.9 million, 11.7%. The effective tax rate was 20.8% with a tax charge of GBP 3 million, which is GBP 100,000 lower than last year. Adjusted earnings per share was 4.6p, down 13%. However, it's worth noting that on a statutory basis, the recovery for financial performance has been more marked. Profit before tax was GBP 16 million, up GBP 9.3 million with adjusted items in the period of GBP 1.6 million, which relates to the reassessment of the recovery of the Tuffnells deferred consideration. Statutory earnings per share in H1 '21 was 5.3p, up 3.5p on H1 2020, and higher by 0.7p compared to adjusted continuing EPS in the period. I believe we have now established a stable, profitable foundation on which we can build a revised capital allocation policy, which Jon will explain later in the presentation. I will now look at free cash flow on a continuing basis. Free cash flow generation remains one of the company's key strengths and in these COVID-19 challenging times, the company has maintained its clear focus on cash generation and liquidity. In the challenging trading environment, the group generated GBP 4.6 million of free cash flow compared to GBP 4.3 million last year. It should be recognized that the business continued to be cash-generative throughout all COVID-19 lockdowns. Overall, adjusted EBITDA this time, including the GBP 3.9 million impact of IFRS 16 declined by GBP 0.5 million to GBP 24.4 million. The working capital movement in the period was GBP 4.8 million cash outflow, higher than the same period last year and is driven by the timing of proceeds from retailers and payments to publishers. It's worth noting that during the COVID-19 lockdowns in the period, we did not experience any significant abnormal returns of newspaper and magazine from the closure of retailers. Capital expenditure for Smiths News was GBP 3.2 million lower than last year as the company maintained strict cap control over cash outflows. CapEx plans remain focused on replacement and maintenance rather than growth CapEx and total spend will be broadly in line with the annual non-IFRS 16 depreciation charge, that's GBP 4 million. Lease payments declined by GBP 1 million to GBP 2.9 million as some IT equipment leases came to an end in the prior period. Net interest paid has increased by GBP 200,000 to GBP 3.5 million as a result of higher interest rates under the new debt facility. Average borrowings of GBP 89.5 million in the first half of the year were 9% lower than in the prior year. Arrangement fees of GBP 2.8 million paid in the current year relates to the debt refinancing completed in November 2020. Tax payments of GBP 2.8 million are higher than the prior year due to an additional quarterly payment made in February '21. The cash cost of adjusting items in the period was GBP 2.6 million compared to GBP 4.2 million last year. This primarily represented network reorganization costs of GBP 2 million and patient buyout costs with similar outlays expected in H2 2021. Finally, I shall now turn to look at the net debt position of the group at the half year. The business has continued to remain focused on deleveraging, and this is reflected in the amortization schedule in the new buying facility. The first amortization of GBP 7.5 million was completed last Friday. At half year, closing by net of GBP 70 million, excluding IFRS 16, and increased by GBP 1.5 million compared to last year. However, compared to year-end net debt, to the year-end, net debt is down GBP 9.7 million as a result of GBP 4.6 million from positive trading free cash flow and discontinued cash inflows of GBP 5.4 million following full repayment of temporary working capital loan provided to the new owners of Tuffnells. Following the adoption of IFRS 16 lease accounting, property leasings on our depots have been added to the calculation of net debt, giving an IFRS 16 total net debt of GBP 101.3 million at the half year. As I've said already, we successfully refinanced GBP 120 million bank facility for 3 years in November 2020. Our bank covenants continue to be measured under frozen gap and consequently, bank net debt at the half year was GBP 70 million, which represents leverage of 1.8x EBITDA, a reduction from 2x at the last half year. I shall now hand back to Jon for an update on operational and strategic progress.

Thank you, Tony. So briefly, just to outline that this section of the presentation, I'm going to cover 5 topics: firstly, the actions we have taken in managing through the pandemic and the consequences for service and operations; secondly, an overview of its impact on our sales and markets and what this means for us going forward; thirdly, I will cover our ancillary businesses and provide some reassurance on their prospects; fourthly, our capital management policy and our approach to dividends going forward; and last but not least, our priorities and outlook for the remainder of the year. So let's start with the pandemic. On the right-hand side of the slide, you can see the principles we established last year and which continue to guide us now. When we last spoke last November, we could not have known there'd be 2 subsequent lockdowns and these principles will be quite so core to the way we operate our business. But I'm pleased to confirm that they continue to be met without compromise to either colleagues or indeed our business plan. Clearly, the pandemic continues to impact sales and operations with disruptions in shopping, travel, commuting as well as wider sporting events and social activities. It's these activities that drive the sales of the newspapers and magazines. The second and third lockdowns were, however, less impactful than the first with significantly fewer retail closures. Down to a circa 120 retail outlets temporary closing, which compares to over 2,000 during lockdown 1. This not only helps with availability in sales. It also supports our cash flow and our in-depth linked delivery service charges. Our contracted delivery model is a further element of resilience, which allows for greater flexibilities in variable costs as volumes fluctuate. The removal and consolidation of [ routes ] has played a key role in mitigating the impact of reduced margin. The action we took on central costs following the sale of Tuffnells is also slowing through in line with our plan, as are the longer-term operational savings in the business. Our ancillary businesses have been hit harder, especially DMD, which services international travel markets. The impact across all these businesses year-on-year from a profit perspective is GBP 1.4 million. Looking ahead, we've kept costs under very tight control. And though there is a year-on-year impact in the period, they are operating at breakeven or slightly above. We certainly do not consider them to be a material risk to meeting our future expectations. More widely, we remain cautious and focused on our management of the operations as we hopefully exit the pandemic in an irreversible way. Meanwhile, there will be no compromise to our core principles, and we will work with our industry partners to recover as much as lost ground as possible, albeit that our plans are not dependent on volume recovery. If we turn to sales, the graph on the slide shows the impact of pandemic on the sales over the last 18 months. As you can see, prior to the pandemic, our sales were following the established pattern of decline of up to 5% per annum. During the first lockdown, sales were dramatically impacted, especially in April and May. At the peak of the crisis in April, magazines were down nearly 50% and newspapers were down 18%. Since then, a much more stable pattern has emerged with an ongoing self decline of circa 11%, indicating that the pandemic had reduced sales by a further 6% on top of the established declines. This situation broadly continues and in lockdowns 2 and 3, we did not see a return to the initial reductions of spring of last year. In part, [indiscernible] of the 120 retailers that closed, but actually, you can see that the regional restrictions in magazines in the first quarter of last year had minimal impact. In fact, there was probably a greater impact from the changing of on sale dates between monthly publications. One of the benefits of our business model is that we distribute to all retail channels, and we are not exposed, therefore, to one specific channel. For example, we all know that traveling commuting is a sector that has remained severely challenged. However, on the flip side of that, we've seen sales increase in our independent retailers as consumers have shopped more locally. We believe the current picture is broadly positive and compared to many other retail sectors, our sector shows a remarkable resilience despite all of the disruption. Looking to the ancillary businesses. Okay. So first thing to note on these businesses is they are relatively small in terms of their contribution to the total group EBITDA. So less than 5%. Nonetheless, they do make a valuable contribution and they are complementary to our core wholesale business. As such, we remain committed to their future, whilst recognizing they are subject disproportionately from the pandemic. The impact on DMD sales is obvious. However, some years ago, we integrated its physical operation into Smiths News. This means there are no additional fixed costs, and therefore, with careful management, DMD is running a skeleton operation at breakeven. And when travel returns, we would expect to pick up. But in the meantime, the risks are contained. The situation with in-store is similar with the pandemic causing major retailers to remove or reduce the amount of outsourced merchandising going into their stores for safety reason. We expect this decision to be reviewed in time, but in-store has greater fixed cost than DMD, but we have a number of contracts that mean that we are at least covering those fixed costs. And indeed, the business will make more contribution in the period. In summary, the outlook for these businesses remains uncertain, but we believe there is more upside than risk. And importantly, we are not dependent upon their recovery to meet our profit and capital margin expectations. So turning to capital management. It's clearly the key priority following the successful refinancing in October/November 2020. And by the way of further context, the securing of all major contracts last year gives us high level of cash flow visibility for the next 4 years. Combine that with the resilience we have shown through the pandemic, and the result is that despite the challenging conditions, our goals for cash, maintenance CapEx and debt are all on track. Indeed, further to the period -- indeed, further to the period end, the first net debt amortization payment of GBP 7.5 million was made in April 2021. So looking to our policy. I'm pleased to outline today our objectives are. Firstly, the reduction of net debt to 1x EBITDA by the end of 2023 through, firstly, a strong free cash flow, which supports GBP 15 million annual amortization on term loan A. And then the application of any cash from the Tuffnells deferred consideration and the pension surplus against term loan B. This will then allow us to maintain net debt at around similar levels beyond 2023. We plan to maintain CapEx in line with depreciation of circa GBP 4 million per annum. Any additional CapEx required for growth will achieve a return of at least our adjusted cost of capital. We will return to payment of dividends from the second half of this financial year with a dividend cover of 2x. However, under the terms of our current facilities, our ability to make dividend payments to be restricted to GBP 4 million in the current financial year and GBP 6 million in each of FY '22 and FY '23. In the event there is an excess cash after having applied the policy, we would look as a matter of policy to return to shareholders by the way of special dividends. So hopefully, our strategy for shareholder value is founded on the 3 distinct components that are now clear. The cash benefit of reduced interest payments, boosting profit before tax. The potential for capital growth from a stronger balance sheet underpinning our valuation and share price. And then the restoration of dividend payments from later this financial year. And in the event of excess cash, the payment of special dividends to our shareholders. So in terms of our outlook, the prospects for our ongoing trading as COVID restrictions eased are clearer and more positive than they've been for some time. Trading for the year-to-date is in line with the Board's expectations and on track to meet market expectations for the full year. Before closing, I would like to make a personal comment, however, which goes to my colleague, Tony Grace, who we've announced today will retire at the end of this calendar year. I'd like to thank Tony for his contribution and commitment to the business. And I'd also like to thank him for his personal support to me in my time in this role. If we think back to when Tony joined the company, he has played a huge role in helping us navigate through an immense amount of challenge and indeed change. It's very much to his credit, we've come through stronger [indiscernible] our direction and prospects. On behalf of the Board, we'd like to wish him well in his retirement, and I'm delighted to be around for a good few months yet to enable the smooth transition to his successor. Beyond all of that, I'm very happy to take any questions anyone may have.

[Operator Instructions]