The Swatch Group AG (UHR) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen. We saw that we needed some positive emotions. We are a company that lives with emotions. We have emotional products. We have clients that are driven by emotions. And I thought it was really important, again, in this situation where we are in, in the whole world, to have this kind of emotional starting that you just have seen. We just took the 4 minutes from this conference to transmit you these feelings, and I hope you had some feelings. Now you remember are the ones that followed already the conference a year ago, that the room in which we are and where I'm accompanied by Mr. Steiger on my left side, who is Chief Controller and member of the [indiscernible]. And on my right side, Mr. Kenel, who is the Chief Financial Officer, that we have not the usual public. Last year, the journalists were missing, and we had the teddy bears from the charity organization Orbis. So we hope that this year, we will have journalists, but not possible. But we said we have to change. So this time, we have here and perhaps we can see it as public, famous watch heads in the Swatch's history. So you go from Tantan to Napoleon, you find a lot of them. And so we feel a little bit more emotions in the room. Of course, we would have preferred that you all could be here together with us. Okay. So let's start. 2020. We are all in the same boat. I think everybody of all of you have been touched by the consequences of what happened and what still goes on in the world. The first part of the year 2020 was, of course, totally different than the second part. We all were confronted for the first time with this kind of situation. We had to adapt. And we saw also some heavy traces on our business. Not because there were habits changed by the wheel of people because governments has taken decisions to shut down the operation and to shut down the world and to shut down everything with some understandable reasons by the time. It was new. We have not known what is happening. Then the second half of the year, you will see it in the presentation of Mr. Kenel, there was an acceleration immediately. Things got more normal in certain countries, but got not normal in certain others. Unfortunately, Europe is showing to be in the hit list of repeating always the same situation and not trying to learn a lot about it. Now before that, Mr. Kenel makes the presentation about the past, let's give you a little feeling about what's happening out there in the world when the markets are open. We have the experience now in some countries, or many countries in Asia, but also the United States. And the situation is proving what we always saw. When there is a crisis, for whatever reason, that people want to compensate after the crisis is over. They want to spend. They need emotions and they want to buy things that are long-lasting. And they want to have sure values. And this is something that we see. We see it in Mainland China. We see it in Macau. We see it in Korea, in Taiwan, in Thailand. The restrictions that are blocking us to develop the full power of sales as we had before 2020 is, of course, the tourism that is a part -- a big part for our brands or some of our brands. But the local consumption, where it's open, whether people see perspectives, where they start to live again, social relationship, they want to go out. The situation is good. And it's a big opportunity for us because we, of course, learned to handle the situation when stores are closed. E-commerce has been dynamized. Also the habits of the consumer to buy not only in stores, has a bit changed. But if you add this together, when the situation gets normal again in the countries, it will be the famous 1 plus 1 is 3, and not 1 plus 1 is 2. So I'm really looking at the experience in these countries, which show and indicate a very dynamic quick recovery. Okay. So with this look and experience in the first 2.5 months of this year, let's have a look back with Mr. Kenel on the results of 2020. Mr. Kenel?

Thank you, Mr. Hayek. Ladies and gentlemen, the last year business experience has been very challenging due to different lockdowns enforced by governments, taking suddenly away our beloved habits of life, our mobility and our shopping experience. However, with fighting spirits, creativity, motivation and flexibility of all our employees, we are serving our consumers all over the world and to satisfy demand where shops and boutiques are open or otherwise, throughout e-commerce and other means like click and collect or direct services. Despite the challenging year, Swatch Group shows again, financial health and strength. Let's highlight this. Operating cash flow of CHF 819 million was generated. That is 14.6% to net sales versus last year, 14.9%, hence, on a similar ratio level. Net liquidity position increased by CHF 332 million, up to CHF 1.7 billion. And the equity is CHF 11 billion strong and shows an equity ratio of 85%. The consolidated balance sheet shows that we have only 15% in current and noncurrent liabilities. The 85% equity ratio is despite our shortened balance sheet since it does not carry any value of goodwill nor brand valuation nor own developed patents. The equity, therefore, is showed net of these values. Otherwise, it would be, of course, higher. On the asset side, the cash and cash equivalent position is at CHF 1.8 billion at the closing date, very important in such a challenging economic environment, where cash is even more important than ever. Let's also have a highlight on the trade receivables of CHF 685 million, which represents only 32 days of outstanding invoices or 2 days less than in the previous year. It reflects the very good quality and financial health of our business partners. Then the 2 main positions, which are inventories at CHF 6.3 billion or 49% of the balance sheet, which is most important in order to guarantee business continuity throughout the value chain and to generate sales. And the noncurrent assets, our production and distribution means with a net book value of CHF 3.6 billion or 28.4% of the balance sheet. In the inventory, in the semifinished and finished goods, we have a total of CHF 2 billion, around 31% in value, such as gold and diamonds. Compared to the previous year, the total of inventories decreased by CHF 537 million. The main positions decreased in the same proportions. Raw material decreased by 9% to CHF 470 million, work-in-progress by 11% to CHF 395 million, semi-finished goods decreased by 8% to CHF 1.7 billion, finished products by 8% also to CHF 3.3 billion and spare parts for our customer service, which remained on the same level. The split of the inventories throughout the value chain gives following picture: 1/3 or CHF 2.1 billion are in raw material and work-in-progress in the production pipeline in order to feed the production and guarantee the production continuity also having security stock. And 2/3 or CHF 4.2 billion are at brand level and market front, ready to sell and available to consumers, most important key driver to generate sales. Let's come to the net sales generated during the year. Within the year of many lockdowns and the lack of tourism, the group achieved net sales of CHF 5.6 billion, hence, a concentrate decrease of 28.7%. The strength of the Swiss franc during the year eroded net sales by CHF 286 million or 3.4 points to actual rates in a decrease of 32.1%. Deducting the operational expenses from net sales, the group achieved a positive operating result of CHF 52 million. Recalling the negative numbers of the first half year, we certainly have to highlight the strong performance of the second half, showing that markets are recovering rapidly or even booming like China, when restrictions are removed. Net sales increased again up to CHF 3.4 billion at constant rates, only 14.3% behind last year at constant rates and at actual rates, 18.4%. This, despite the fact that the travel retail at the airports and that international travel destinations still were hit in full. In the second half year, we generated a positive operating result of CHF 379 million, which allowed to close the whole year positively at CHF 52 million. With the optimized cost base achieved, the operating margin was 11.2% in 2020, whereas the year before, 11.4%. So we are back on the same level. Further deducting financial expenses, the group achieved a result before income taxes still positive of CHF 36 million. Now deducting income taxes of CHF 89 million, sets the net result in a loss of CHF 53 million. The tax load resulted of the profitable entities in Switzerland and from abroad affiliates like China, with high tax rates. Taking now earnings per share. Net result to group shareholders divided by the average number of share outstanding, the loss per share is CHF 20-something for the registered shares and CHF 99-something for the bearer shares, and there is no dilution effect on this. The split on the net sales generated by region is the following: The Swiss market generated CHF 340 million. The other European countries over CHF 1 billion. Hence, Europe, including Switzerland, generated over CHF 1.3 billion or 23.9% of the worldwide net sales. The main region remained Greater China, with almost CHF 2.5 billion of turnover, showing that 44.5% of the total net sales were generated in this region. The other Asian countries and the Middle East generated CHF 1.2 billion or 21.2%. The Americas CHF 490 million, 8.8% and the remaining part, 1.6% were generated by Oceania and Africa. Now let's come to the specific segment of watches and jewelry, including production. This segment generated CHF 5.3 billion, hence, 33% less than in the previous year at actual exchange rates. After governments removed partially COVID restrictions and allowing shop opening again, there was a very positive recovery in performance, especially from Mainland China, which resulted in a double-digit growth over the year. The own operated e-commerce channels showed continuous growth throughout the whole year with a growth rate of over 70%. Tissot achieved its best ever turnover in the U.S. in December, and this without the Tissot connected that was not launched at that time. Also, over the year, 384 own boutiques were closed down, alone 54 in Hong Kong because of the known local situation. However, 55 boutiques were opened at prime location in different cities, optimizing the boutique network in the growing markets. The operating result in this segment reached CHF 179 million. Hence, an operating margin of 3.4% compared to the 14.4% in the previous year. However, in the second half of the year and without the production, this segment showed an operating margin of 17.8%, much higher than in the previous year with 14.8%. And separating the discontinuing operation of Calvin Klein as well as the expenses of shop closures, the operating margin reached 19.3%. The production sites, especially for third parties were loaded below average capacity. On the other hand, for our own brands like Blancpain, Omega, Longines and Tissot demand exceeded production capacities, which led to specific bottlenecks. In addition to that, Omega suffered a 10-day business interruption due to the cyberattack late September. However, by the end of the year, the order book in the production recovered almost on the level of the previous year. In the second segment, the electronic system generated net sales of CHF 268 million, a decrease by 3.1% in local currencies and convert it into the strong Swiss franc, a decrease by 7.3%. The companies of this segment are in competition with producers from Asia and the U.S., with a huge exchange rate advantage. However, the electronic system entities are highly innovative and are always coming up with worldwide unique solutions, giving high-tech competitive advantages. For example, on the left, the worldwide smallest clock oscillator that has the size of a peppercorn, this oscillator is used in high-tech IoT application as well as in many wearable consumer electronics where time measure is key. On the right, the very new the AULP 011, meaning advanced ultra-low power on an 11 micron thin plate. This IC is a high-speed and powerful 32-bit microcontroller with flash memory, worldwide unique and of the size of 4 peppercorns. AULP 011 is used in the newest generation of multifunctional quartz watches or radio frequency identification modules. Lately, we received an order even from China on this RFID-producing company seeking for very high-end tech solution rather than for the best price. Currently, the market is very hot about the electronic system products, loading fully our capacities. The same situation is observed at Renata, which achieved best-ever sales in December. Renata is leader in high-quality and energy density coin cells and thin film batteries, which are daily used in many products such as hearing aids, calculators, medical devices and so on. The coin cell on the picture is the rechargeable lithium-ion battery, unique in energy density, long lifetime and cycle stability for recharge. It is also used in the Tissot connected for example. The operating result achieved in the electronics segment was CHF 6 million without a negative exchange rate impact. However, the negative exchange rate impact of CHF 12 million sets it into a loss of CHF 6 million. Now let's have a look at the cash flow statement, operating, investing and financing. Starting from a net result of CHF 53 million. We adjust by the accruals, noncash items and net gain on sales of fixed assets and the working -- change in working capital. Change in working capital, which had a very positive effect of CHF 370 million cash effect of the inventory decrease and CHF 124 million from account receivables. We compute the cash generated from operations before tax, CHF 1.47 billion. Minus taxes paid during the year CHF 229 million, we generated a cash flow from operating activities of CHF 819 million, a decrease by 33.1%. And where did we use the cash that we earned? Firstly, and cash-wise, investments of CHF 253 million in equipment machinery buildings, hence, 45% less than in the previous year. Then the cash in from divestments of assets, CHF 109 million and from net financial divestments, CHF 18 million, which totals net cash flow from investing activities at CHF 126 million or 63.4% less cash used for investment. With that free cash flow of CHF 693 million was generated, 21.3% less than last year. But we have to point out the strong free cash flow of the second half of the year with CHF 748 million. Hence, even 8.4% higher than in the previous year. Then the last part, the financing activities. Here, the cash was used in order to pay the dividend of CHF 284 million to the main shareholders as well as CHF 11 million to minorities. Then cash in from the sale of treasury shares of CHF 24 million and taken bank loans of CHF 20 million, resulting in a net CHF 251 million cash outflow or 59% less outflow than last year. Finally, after the negative impact of exchange rates in cash of CHF 50 million, the increase in the cash position was CHF 392 million. And here, you see the detail starting the year with CHF 1.148 billion of cash, adding the CHF 392 million, gives the CHF 1.540 billion, including the marketable securities of CHF 207 million minus short-term debt of CHF 47 million, results in the already said, net liquidity position of CHF 1.7 billion, an increase of CHF 332 million. Now let's come to the investments on an accrual basis and by nature. In total, we invested CHF 246 million or 48% less than the previous year. Why? Some investments have been delayed because of the COVID health measures and lockdowns. Machines couldn't be installed in time. And constructions have been slowed down or even have been stopped for some weeks. Nevertheless, we invested in technical equipment and machinery for CHF 109 million. Other equipment, shop equipment and fixtures for CHF 62 million. Construction in progress CHF 7 million, land and buildings $20 million, intangible assets such as software and others, CHF 40 million and other assets, CHF 8 million. Now let's have some examples of investments. Here you have the Comadur machineries and production lines, especially for glass crystal production. Comadur is producing all kind of flat and shaped glasses, such as the high-tech crystal for the new Tissot connected also as shown on this picture. And we also invested into the new assembly line of this Tissot connected, and of course, in our customer service centers, like here in Russia and also on different training centers all over the world. Investments in Tissots. Here the new Tissot shop in St. Petersburg. Then the Omega House at the Circle, the new and huge convention shopping and business complex at Zurich Airport. Omega got the prime location there and has 800 square meters of magnificent exhibition. Here, the inside view of it. Then Blancpain opened boutiques in China, here the one in Hangzhou. And finally, as an example, Harry Winston at the Galaxy in Macau. Let's have a quick look on the key figures of the holding company, where we have a net income of CHF 533 million coming from cash in dividends from our subsidiaries. Also showing a very strong and healthy equity position of the model company increased to over CHF 8 billion or an equity ratio of 97.7%. The strong and healthy financial situation as well as the strong operating cash flow of the second half of the year, leads the Board of Directors to propose the following dividend to the general assembly, CHF 70-something per registered share and CHF 50-something per bearer share. All other details are available in the annual report. Thank you very much for your attention. Keep safe and stay in good health.

Mr. Kenel, thank you very much for your extensive presentation. So now we have 2 other presentations. And this time, it's not about brands, it's about our industrial backbone because I have -- there were a lot of articles about questioning our industrial backbone, volumes. And many people have talked about it without knowing what industrial backbone means. The Swatch Group has constantly over the last 10 years and even before, but the last 10 years, we invested more than CHF 2.6 billion into Switzerland, into our factories, into new machines, new procedures. And the world today is totally different how you do something. And the volumes from the past is not the volumes from today. You need today flexibility. You don't need sheer volumes to be capable to produce a Swatch watch for example. You can produce it more on a flexible basis. And this is something we do constantly. But we wanted to show you 2 recent developments, recent. It took many years to make it, but they are already in operation. One is Mr. Casafina the boss of ETA, who is showing you how we are producing platines for movements. Mr. Casafina, please show the people what ETA is doing. They still think we do it like 10 or 15 or 20 years ago.

Thank you Mr. Hayek. [Foreign Language]

[Foreign Language] So this is dramatic the change, and we had to do this because we are constantly under pressure. Also because of the Swiss franc, you have the tendency to forget that we are producing in Switzerland on all levels, and we are forced, of course, to be innovative. And our people are very innovative. Of course, we are not going -- every time we're doing something outside to communicate this to everybody. That was just the glimpse. And of course, there are many other sites of our 150 sites we have in Switzerland that have this kind of approach and these kinds of machines. And that's where the billions of money is going. And this creates at the end also additional jobs here in this country. So Pascal Haering, you show us another example with Renata. He is part of the management of Renata. Renata, very successful brand and company, who is doing batteries, huge volumes. And also there, they are state-of-the-art. Their site is in Basel-Land in Switzerland. And it's very competitive despite all this Swiss franc issues and your products are costing not a lot. Okay. Mr. Haering.

Thank you very much, Mr. Hayek. Renata is a battery producer. And one of the products is silver-oxide battery. I'm very happy to present to you the next level of silver-oxide battery assembly technology and machinery. Silver-oxide batteries are used worldwide in these different applications. The composition of such a battery, even if they are very small, are composed of several small components and important pieces. The most important part are the active materials inside the battery, which is mainly silver-oxide on the cathodic or positive side and zinc and electrolyte paste on the anodic or negative side of the battery. When assembling batteries, it's very important to have the accuracy and the control on the processes, otherwise, the batteries will not serve what they should do inside the devices. The application of silver-oxide batteries traditionally is coming from the watch application and currently is powering more than 90% of all the Swiss-made watches based on quartz movements worldwide. Renata is producing 150 million silver-oxide batteries per year and distributing worldwide. The applications go from diagnostic devices in medical applications over to small electronic devices such as remote controls and other small devices. When we are looking on the targets for this kind of process technology in the assembly, we are looking back also development, which was, of course, done over decades. But the last 8 years were invested to come to the next level of this assembly technology. The targets for this development were to introduce a 100% in-line testing and controlling data tracing and as well sorting for the parts which are not inside specifications. Only if parts are used, which are completely inside the necessary specifications, we can also have a battery as a final product which is inside the specifications. Of course, it was also the goal to have a new benchmark in productivity and quality and improve significantly these values. One of the components inside this process technology is the 3-dimensional light field camera technology, which allows to acquire 3-dimensional data of the components and the parts as well to sort them out if they are outside of the specification. In the next video, you can see these 3D light field camera technology in action. [Presentation]

Another component of this process technology which is very important for the final product is the dosing of the active materials, especially the dosing of the zinc and the electrolyte. In that case, it is dosed as a paste, already premixed in the right composition, but it needs to be dosed very precisely to microliter quantities. While the dimensions of the components are necessary to be hold within some micrometers, here, the challenge to those in the microliter dimension is much higher. In the next video, you can see this dosing equipment dosing its materials. [Presentation]

This new sophisticated dosing technology is not only dosing, you have as well a measuring tool available where you continuously can measure these dosing of the materials and also a closed feedback loop to correct if there would some deviation from where it should be. As a third important technology implemented into that process machinery, it is an engraving by laser. So we can work with parts which are non-graved at the beginning, and we can grave them at the end of the process. And as well, there is a 2-dimensional bar code in the surface engraved which allows the traceability of these batteries back to its day of assembly and to the process parameters used for this assembly. In the next video, you will see this engraving by laser in action. [Presentation]

To have a lot of data available from the assembly process and also quality data, data sets available from all individual batteries produced, of course, it's very nice and good to have also then an analysis of the data. But even more industry 4.0 is requiring and also using this deep learning possibilities. So as already described before as well, this machine is able to deep learn itself and to base on the experienced data set, which already acquired. We are locking 26 quality points of each individual battery and the data storage is summing up to 1.3 billion data sets per year. Only a deep learning possibility of the machinery allows to analyze these data volume and to do the right decisions in time. On the next video, you can see this acquiring of data and how it is used, especially for the surface analysis if there were scratches or contamination. [Presentation]

When we are looking on the achievements for the implementation of this process technology, they are quite remarkable. We have a manufacturing time reduction from assembly to delivery of 91%. In addition, we have an increase of the assembly output by a factor of 6 and as well reducing the scrap rate by 50%. Finally, we could almost reduce the water usage to 70%, which sums up to 1.2 million liters of water and, of course, as well of wastewater saving over the whole year. This kind of development is only possible with good partners. And therefore, I would like to thank the partners, but especially the not named industrial partners we had in Switzerland for this construction of the machinery, which are companies, smaller or bigger companies coming out of the machine industry. Thank you very much for your attention.

Pascal, thank you very much. You see this is sometimes forgotten out there, because we have fantastic brands. And you have seen at the beginning of the press conference these emotional movies, the fantastic products that we are doing. But a lot of time that we are passing here in this group is also with our 18 or 19 or 17 manufacturing companies. Additional, of course, also our brands are manufacturing companies like Omega, for example, or Breguet or Blancpain or others. But apart from this, this is our daily business. And I would say that 50%, 60%, 70% of what we are doing, we are occupied with these kinds of things, and that gives us the new opportunities to make at the end the fantastic products that the consumer can enjoy. This should not be forgotten, and we do it in Switzerland. So now thank you, gentlemen, for this presentation. And thank you for the patience, because it's necessary they get the podium also once. Now we come to the question and answers, and I have to read them, because I've got them by mail. So I start immediately.

You're certainly impatient. So Corinne Gretler, like always, she is the first one. She is Speedy Gretler, not Speedy Gonzales, from Bloomberg. So she is asking, people have been saving a lot of money during the pandemic restriction and it's expected that there will be a wave of revenge spending -- of reverse spending, I think, not revenge. I know we've seen a quick recovery in China. But when we look at the other key regions, what's the outlook for the recovery in the U.S. and Europe, considering the U.S. is way ahead in its vaccination campaign. Does Swatch need all 3 -- Swatch group need all 3 key regions to broadly recover this year in order to reach 2019 sales growth levels. And if I may please ask you about whether the sliding stock markets in China may become a worry for the luxury good markets -- makers. So first, Corinne, I don't know. I have not seen these sliding stock markets in Mainland China. And stock markets are very jumpy, as you say. It's not predictable. They go down or up for whatever reasons. No, I don't think so. I think the consumption of goods like ours is something that stays, it's independent. Of course, if the stock market is booming like hell, the tendency is also that people have more money to spend. And yes, we could have additional people buy certain products. But if it goes down for 1 week or 2 weeks or 3 and then it goes up again, we see no reason why it should go further down in China. I see rather the trend that it will even be stronger. Now to the first part, as I said before, it's not just China, we see many countries that have a normalization. China, of course, is fabulous. Then you have Macau, you have Russia, you have Taiwan, you have Korea, you have Southeast Asia. And you have some countries in Europe who are doing very well and are very close despite some closures that they have to go through. Every 3 weeks, there's another decision, opening, closing. They are very close to the '19 -- 2019 numbers. Just as info for all of you, inside our company with all our brands, our comparison is to 2019. We eliminated 2020 as a comparison basis, because it was such a terrible situation that the numbers, it doesn't help us that you say, oh, in China, we are 1,200% higher than we have been in February or March 2020. What is important is pre-pandemic, where are we pre-pandemic. And the situation looks good, of course. Europe and Switzerland is impacting us. Switzerland is a big business with tourists. And as long as the closures and the tourism is not happening, it will be, of course, more difficult to approach the 2019 numbers. But it looks really that we are on the right track. And when you see how we accelerated the second half in 2020 and how quickly it comes back, and we see already many of the countries how quickly they come back and they even go over the 2019 numbers. And most of the countries I was mentioning, they were already way over the 2019 numbers. And still, we have a currency problem. The Swiss franc is strong. So I see no reason why our aim is not to come as close as possible to 2019. But I cannot tell you when I look at how quickly it changes when people are, like in Germany or in Italy, closing again, opening again, I don't know. But what is clear, consumption patterns, and not only in the luxury, for high-quality consumer products where you have attractive products, where you have a customer base, this is going to be a choice that people will make throughout the whole year. And they will want to compensate with more money they have. But you asked about the U.S., Mr. Steiger, he was country manager also at the same time of the United States. He is following the U.S. still very closely. So you can give us your experience and the results for the first months of this year, Mr. Steiger.

Thank you, Mr. Hayek. I believe as Corinne indicates in her questions, yes, the recovery in the U.S. is going very strong. We had already in November, December, we have surpassed the 2019 figures. As you have heard by Thierry before, some brands had even the highest sales in December in their history. And the growth continued in January and February with -- in both months double-digit growth in the domestic sales. So we expect that we will close the first quarter about 15% above 2019.

And you have to imagine, you compare to 2019, where you still had tourists in this country in the United States. They were traveling there and the airports were fully operating. And so this shows the big potential that is there. And what Mr. Kenel showed and Mr. Steiger said, it's not just the luxury and the high end, it touches all brands of the group. So the trend is clear. That's for your question. Then number -- second question, Silke Koltrowitz from Reuters. Could you make up for the ongoing weakness in the entry price watch segment by strengthening your presence in the more attractive jewelry category, including through acquisitions? Silke, I don't know where you are. That's an assumption. It's not a question. You say the ongoing weakness in the enterprise. There's no ongoing weakness in the enterprise. You have seen what is happening with Tissot. Tissot is really strong, and this without taking in account the connected watch that they will launch in mid-April in China, for example, and in the U.S. later. So also Swatch. Swatch is where the stores are open very strong. And on a store-by-store level, we closed in the U.S., for example, many stores of Swatch, because the locations are just crazy as way too expensive with all these things that are happening. You see that they are on the levels sometimes of '19 or even higher. But of course, Swatch is the brand that is the most affected by the tourism business. Let's not forget at many airports, Swatch is present, many airports and many touristic regions, and it's a spontaneous buy. Of course, Swatch compensates a lot through e-commerce. They are strong in e-commerce, but cannot compensate the spontaneous buy that you have in the touristic regions. And it's not an ongoing weakness. It's the contrary. It's an opportunity. And with the new launches, and by the way, the new campaign that you have seen. Je ne regrette rien is a good word. Je ne regrette rien, we do not regret nothing what we have done in the past, what we have done today. And there is nothing to regret, because it's showing the fruits in the markets. Do you want to add something, Mr. Steiger?