2003 final results presentation
3 March 2004
Nigel Northridge and Mark Rolfe
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Slide 1 |
(Gallaher) (Nigel Northridge) Good morning everybody - Gallaher results fire up the city? Apologies about our little break outside. Thank you for joining us - good morning. |
Slide 2 |
I'm delighted to report on another strong year of progress - both in operational and financial terms. Our business has performed well in both our mature and growth markets. We've grown total Group volumes some 5%, due to gains in continental Europe and the CIS, and our key brands by 8%. We have closely examined the synergies to be achieved by optimising operational resources, as our international base has broadened. Following a review last year, we restructured our European operations, ceasing production in the Republic of Ireland. We also realigned our UK and continental European businesses to sharpen our focus on the Group's eurasian objectives. Ahead of the full benefits of the European restructuring programme, manufacturing productivity increased over 8% - underpinning a real-term reduction in unit costs of 5%. Our top line growth and tight control of costs led to growth in profitability, resulting in an 8.6% gain in EPS. This growth in profitability has been reflected in strong cash generation, improved interest cover, and reduced underlying net debt - even after our continued investments in future growth. And now, Mark will take you through the financials. (Mark Rolfe) Thank you Nigel, and good morning everyone. |
Slide 3 |
These results show growth in gross and net turnover, EBITA and PBTA - resulting in an 8.6% increase in adjusted EPS. Our divisional financial performance has been affected by foreign exchange translation effects this year - positively in respect of the stronger euro, and negatively due to the weaker dollar. These divisional effects are partly offset by Group hedging activity, so that, overall, our adjusted EPS growth largely reflects underlying performance. |
Slide 4 |
Last May, we announced the restructuring of our European operations. We have ceased manufacturing in the Republic of Ireland, and have begun reducing jobs in Austria and the UK - in total, around 430 operational jobs will go by the end of 2005. Since the year-end, we have extended the scope of the restructuring, mainly impacting administration functions in the UK and continental Europe. This affects around another 100 jobs. Including this recent initiative, the total costs of the restructuring will now be in the region of £65mn, mostly for redundancy payments, and the impairment of operational plant and machinery. This has resulted in an exceptional charge of £39mn in 2003. The benefits of this investment will build over time, and once the project has completed, by the end of 2005, we expect annualised savings of at least £20mn. |
Slide 5 |
Despite price increases, the reduction in UK net turnover arose from a volume sales decline of 5.1%, and continued downtrading within the UK market, although at lower levels than seen in recent years. The volume decline reflected the first full year impact of the personal limits change announced by the UK government in October 2002. This was the main cause of a reduction in the UK duty-paid market of around 2% to 3%. Additionally, incremental trade sales at the end of 2002, ahead of new health warnings on packs, held back sales at the start of 2003. The slight increase in EBITA results from price increases and lower operating costs, with a consequential gain in EBITA margin. |
Slide 6 |
Continental Europe has delivered strong underlying volume and profit growth, and has benefited from the translation of euro earnings into sterling. These improvements were more than enough to offset the Poland start-up losses, and the first full year of investment in our joint venture with RJ Reynolds. Both operations are trading well. |
Slide 7 |
Continental cigarette volumes grew nearly 4% - however, adjusted for new and discontinued sales, our underlying volume growth in 2003 was nearly 7% - despite the steep total market declines in some European markets. The tobacco operations' improvement in EBITA was mainly due to this volume growth, price increases, improved margins and the favourable impact of foreign exchange. |
Slide 8 |
Our distribution operations continue to perform well and also benefited from the strong euro, which - along with the improvement to EBITA margin - led to a 24% increase in EBITA, to £71mn. |
Slide 9 |
CIS net turnover - despite the impact of the weaker dollar - increased by almost 5%, largely driven by volume growth of some 11%. The strong volume growth in Kazakhstan and Ukraine more than compensated for a decline in Russian volumes - due to the phasing of trade sales in 2002, and the planned reduction in non-filter oval sales. Significant improvements in the mix of sales in Russia, continued good growth in Kazakhstan, and Ukraine moving into profit following the start-up phase last year, led to growth in EBITA of 4% to £44mn - despite the impact of the dollar. And, of course, with current exchange rates, we may see an impact on the translation of CIS earnings this year too. |
Slide 10 |
Gallaher's remaining overseas operations increased net turnover by 7%, partly reflecting favourable exchange movements, despite volumes decreasing to 10 billion cigarettes. This volume decrease mainly reflects a sharp reduction in lower-margin Middle Eastern volumes. Ireland is the main profit contributor in the rest of world division, and had another good year in difficult trading conditions. Although the market declined by over 6% following the €50 cent duty hike in December 2002, price increases, currency benefits and lower operating costs compensated for the lower volumes. However, our business in Africa and the Middle East suffered from adverse exchange movements with invoiced sales being denominated in the US dollar, and much of the cost base in the strengthening euro. We continue to invest in Asia Pacific, which remains a strategically important region for us. |
Slide 11 |
The net interest charge was £126mn including an FRS 17 net financing credit of £5mn. We have benefited this year from lower interest rates - averaging 5.5% - and positive underlying cash flow of £162mn, but these gains were offset by the translation of euro interest payable into sterling. EBITA interest cover was 4.8 times, within the Group's target range of between 4.5 and 5.5 times. Our year-end net debt decreased to £2.45bn. However, this modest decrease in year-end balances masks the continued high cash generation of our business, and arises because of the stronger euro. This added £121mn to the year-end net debt figure due to the revaluation effect. |
Slide 12 |
The tax charge of £126mn includes a tax credit of £8mn, relating to the exceptional charge. Excluding this credit, and after adjusting for amortisation, the effective tax rate was 26.7%. We expect this effective rate to remain broadly stable in the medium-term. |
Slide 13 |
Adjusted earning per share increased 8.6%, reflecting the growth in underlying earnings. We are proposing a final dividend of 20.15p per ordinary share, which would bring the total dividend payment to 29.6p - an increase of 7.4% over 2002. |
Slide 14 |
Turning to cash flows. Excluding JVs and associates, and the exceptional charge, EBITDA grew 8.6% to £699mn. After adjusting for working capital fluctuations, the cash conversion rate was 102%. Higher levels of working capital in 2002 reflected higher trade debtors in the UK and the CIS, and increased duty-paid finished goods in CED and Ireland. Although this investment reversed early in 2003, it has been largely replaced by higher levels of trade debtors and duty-paid finished goods in Ireland, additional investment in Poland, and lower excise duty payable in the UK. |
Slide 15 |
Total cash flow. Investment of £144mn on cap-ex and acquisitions was partly funded by disposal proceeds of £11mn. In the UK we continued to invest in our production facilities, kiosks and gantries. Continental Europe saw continued investment in the vending business of ATG, ahead of the German regulatory requirements impacting in 2007, and in the newly-acquired Polish factory. And across the CIS we continued investment in production facilities in Russia, Kazakhstan and Ukraine. Overall, before the effects of exchange translation, we have delivered strong net cash flow of £162mn in 2003. |
Slide 16 |
And finally, I'd like to discuss our manufacturing achievements. During 2003 we strengthened our already competitive position, increasing Group cigarette productivity over 8%. This enhanced productivity, together with competitive pricing of raw materials, underpinned a real-term reduction in total unit costs of 5%. Our European restructuring programme is progressing as planned, enabling us to integrate manufacturing capabilities and maximise use of our most efficient assets. The transfer of manufacturing from Ireland to the UK was completed on target at the end of last year. |
Slide 17 |
We introduced a number of initiatives in 2003 to ensure that our operations remain at the forefront of efficiency - including the formation of a cross-functional process, with key operational representatives from across the supply chain, including purchasing, logistics, manufacturing, R&D and IT. This has brought increased focus to a number of areas, including: - raw materials; - optimisation of the Group-wide supply chain; - manufacturing efficiency; and, - product and pack standardisation. And we have continued to invest in state of the art technology. These investments drove cost reductions, improved quality, increased capacity, and enhanced flexibility. |
Slide 18 |
The increase in UK cigarette productivity, of 8.8%, was driven by greater use of UHS machinery, and a major re-organisation of working practices. The combination of reduced leaf costs, and enhanced productivity, underpinned a 3.2% reduction in real-term unit costs. Productivity at our Austrian cigarette factories increased 7%, assisted by higher volumes and initial benefits associated with the European restructuring. This improvement underpinned a real-term reduction of over 4% in unit costs. Our manufacturing facilities in the CIS substantially increased total output, helped by the effective deployment of assets across the region. Productivity in the CIS grew 9% as a result of higher efficiencies and investments in new technology to manufacture more hard box, filter cigarettes and premium brands. This change in mix contributed to a 0.9% real-term rise in unit costs. And now back to Nigel. (Nigel Northridge) Thanks Mark. |
Slide 19 |
Gallaher has had a productive year. We've made solid progress with our strategy to create value for our investors through the development of a balanced portfolio of interests right across Europe and into Asia. We've delivered strong volume growth, laid foundations for future growth through our acquisition in Poland and strategic partnership in China, and continued to build the equity of our brands. |
Slide 20 |
We achieved strong organic growth in significant markets in continental Europe and the CIS - founded on our leading cash generative positions in the UK, Austria, Sweden and Ireland. Total Group volumes increased some 5% to over 160 billion cigarettes. This growth was driven by demand for our key brands - Benson & Hedges, Silk Cut, Mayfair, Memphis, Sovereign, LD, Ronson and Sobranie - which together increased volumes 8%, and now account for just over half of our total Group volume. |
Slide 21 |
As Mark has mentioned, we are absolutely committed to remaining at the forefront of efficiency. Following the operations review, we conducted a Group-wide organisational study identifying opportunities to enhance Gallaher's effectiveness still further. These will be implemented during 2004 and 2005. |
Slide 22 |
Gallaher had a good year in the UK. We maintained our lead of the premium cigarette sector and we grew our share of the value sector. In addition we extended our leadership of the cigar and pipe tobacco markets. |
Slide 23 |
Gallaher's cigarette share improvement resulted from our absolute growth in the value segment, and the continued slow-down in the rate of downtrading from premium - primarily as a result of the more moderate duty increases in recent budgets. |
Slide 24 |
The UK market itself declined by around 2% to 3%, as smokers took advantage of their increased personal import allowances. Our total UK volumes decreased 5.1%, due to the overall market decline and the timing of sales into the trade. Excluding the phasing of trade sales, our underlying volumes reduced some 1% - reflecting solid performances from our principal houses. |
Slide 25 |
Benson & Hedges - which maintained its leading share of the premium sector - and Mayfair, both did well. B & H was strengthened by the successful introduction of Silver in February. Together Silver and Gold increased market share to 9.3% - thereby mitigating the impact of downtrading on the house. |
Slide 26 |
We grew Mayfair's volumes by some 14% - increasing its share of the total market to over 10%. This drove Gallaher's growth in the value sector, where we now have a 33% share of sales. During the run-up to the ad ban in February, we took the opportunity to reinforce the equity of our UK brands through investment in a final round of advertising. And we continued to support Gallaher brands at the point of sale throughout 2003. I'm pleased that we will carry on our sponsorship of the Jordan formula 1 team in 2004. F1 provides excellent support to B & H across Europe - and will help to increase awareness of our brands elsewhere. |
Slide 27 |
We extended our lead of the declining UK cigar market in 2003 - supported by the launch of Hamlet Miniatures Filter and Aromatic in December 2002. In the handrolling tobacco market, Amber Leaf enjoyed continued success - increasing market share to nearly 16% - thereby partly offsetting the decline of the mature Old Holborn brand. And, we increased our lead of the pipe market - growing share to some 50% - largely due to gains from Mellow Virginia. |
Slide 28 |
Gallaher traded strongly in continental Europe during 2003. Particularly pleasing was the organic growth we achieved, bearing in mind the significant total market declines we have seen in some countries - notably France and Germany. Our market leadership in Austria and Sweden underpinned good volume growth elsewhere. We achieved an underlying increase of 6.7% over 2002. This increase in volume was driven by strong volume growth - of 24% - in our key target markets. |
Slide 29 |
During the second half of 2003, our cigarette market share in Austria stabilised for the first time in recent years. On a full year basis we maintained our lead of the market with a 46.5% share of sales. Our growth brand, Memphis Blue, grew market share to 6.6% - up from 5.7% - and we have stabilised Memphis Classic. |
Slide 30 |
Classic was promoted to smokers using posters, press ads, point of sale, limited edition packs, etc., and to retailers in the trade press. The campaign underpinned the popularity of Classic, and the brand's market share remained much more stable in the second half. |
Slide 31 |
We maintained our leading cigarette market position in Sweden with a 39% share of sales. Our growth brand Level increased volumes by 13%, and it continued to gain market share - averaging over 7%, up from 6% last year. We also launched a new value brand, Vermont, in September. |
Slide 32 |
Gustavus has continued to make solid progress - supported by new product launches and innovations in pack design. Volume sales increased significantly throughout the year, and retail market share reached over 1.6% by December. Our true market share - based on sales volumes as opposed to the retail audit, which doesn't cover all the trade channels - reached over 2% by December. And it continues to grow. |
Slide 33 |
In Germany the market was challenging. Duty-paid volumes were impacted by the excise increase at the start of 2003, and declined by over 6%. Gallaher performed well however. We increased our share of the resilient generic sector, while maintaining our branded cigarette market share - leading to an increase in total volume sales of 3%. In Greece, Gallaher held cigarette market share at 5% - largely due to Silk Cut's popularity - and we increased our lead of the handrolling growing tobacco market, with a share of over 38%, due to demand for Old Holborn. |
Slide 34 |
Together with RGI, we launched a variety of both virginia and American blended cigarettes, and cigars, in western Europe during 2003, including: - Benson & Hedges American Blend 10s, Mayfair and Hamlet 5s in Italy; - Benson & Hedges Silver in Spain; and, - Benson & Hedges Menthol in France. Total cigarette market share increased to 3.2% in Italy and 1.6% in Spain, reflecting the strength of our B & H metal range, underpinning the growth potential of our American blend variants. |
Slide 35 |
In France, trading conditions were tough - steep tax increases severely impacted duty-paid market volumes, so that the total duty-paid market was down over 13%. Gallaher's performance in this market was resilient nevertheless, and we increased share to 3% - with a volume reduction of only 7%. |
Slide 36 |
We have continued to make excellent progress in central and eastern Europe. Excluding the impact of new Polish volumes, Gallaher's central and eastern European volumes grew some 10% - driven largely by strong growth in Romania. This growth assisted an increase in our pan-Balkan market share to 4.9%. |
Slide 37 |
As you know, we began trading in Poland in July, following the acquisition of KT Merkury, and we've grown volumes swiftly. When compared with 2002, KT Merkury's second half volumes more than doubled. New brand launches, including Benson & Hedges, Silk Cut and those of LD, are now in distribution, and our retail market share increased to 2.6% by December. |
Slide 38 |
Our distribution businesses delivered solid performances. In Austria, TOBA achieved enhanced margins due to efficiency savings and improved fees. This more than offset the impact of our lower cigarette market volumes. And the company continued to leverage its comprehensive distribution network to build sales of non-tobacco products. In Germany, ATG made good progress. The company increased its share of vending to 25.5% and outperformed the total market - increasing its share of sales to nearly 6%. Our German associate, L-T, delivered a resilient performance in 2003. Efficiency savings, and growth in sales of pre-paid phonecards, largely offset the impact of lower cigarette market volumes and new recycling regulations. At the beginning of 2004, L-T acquired Lekkerland Europa - a distribution company with a pan-European reach, using its own financing. |
Slide 39 |
In the CIS, we increased regional scale, grew market share in Russia, Kazakhstan and Ukraine, and increased total volumes some 11% to 82.5 billion cigarettes. Importantly, we increased our filter, hard box volumes 31.3% - capitalising on the demand for higher-priced international brands in the region. |
Slide 40 |
In Russia, we continue to increase our average rouble pricing - through improving our mix of sales - and we grew our share of the total market to 15%, despite intense competition following the substantial increase in cigarette taxation on 1 January last year. While our overall volumes declined 6.8% - driven by a steep planned reduction in sales of low-margin oval cigarettes - sales of hard box filter cigarettes grew 16.1%. |
Slide 41 |
We are achieving this success through building brand equity in Russia. Our leading brand, LD, maintained market share at over 5% - its position strengthened with new variants, including the recently launched LD Slims. This underpinned sharp growth from St George and Troika in the intermediate-price sector, and, Sobranie in the higher-price sector. The marketing expenditure that we have placed behind Sobranie has developed the brand's premium, international status, which, together with the launch of new slims variants in 2003, drove Gallaher's share of the premium sector to over 3% by the year-end. |
Slide 42 |
We had another excellent year in Kazakhstan. We grew market share to 30%. Strong demand for LD, Sovereign and Sobranie drove a volume increase of some 65%. Sovereign extended its market-leading position, with a share approaching 15%, and LD increased market share to over 7%. |
Slide 43 |
We grew our share of the Ukrainian market to 11.6%. Volume sales increased over 150% as brands including LD, St George, Troika and Three Kings all gained market share. |
Slide 44 |
In our rest of world division, underlying volumes declined sharply, mainly due to a sizable reduction in Middle Eastern volumes. Our performance in Ireland remained resilient despite challenging trading conditions, and an increasingly hostile regulatory environment. Gallaher maintained cigarette market share at over 50%. Following last December's €25 cent tax increase, we estimate that non-duty-paid consumption will continue to grow in Ireland - as it did in the UK in the late 1990s - if the government maintains above inflation tax rises. |
Slide 45 |
AMELA and contract manufacturing volumes reduced substantially, entirely due to the reduction in Middle East volumes. This was partly offset by a good performance in Africa - where margins are better - notably in Nigeria, and our main regional market Guinea, where we are the market leader. Total African volumes increased 20% to 4.5 billion cigarettes. |
Slide 46 |
We had another year of progress in Asia Pacific with volumes continuing to increase, albeit from a low base, driven by gains in Taiwan and China. This region is strategically important to us. Recent initiatives - including the acquisition of Gold Bond in China, the establishment of our partnership with Shanghai Tobacco, and entry into the Japanese cigar market - have established a solid base for future growth. I'm looking forward to the launch of Memphis in China this year, and I'm pleased that in Japan, we've entered into a long-term licensing agreement for JT's domestic cigar business. It's a small business that offers market leadership, and an interesting platform for the future. We've recently increased our focus on Asia Pacific, extending our team to add momentum to the growth that we have already achieved, and to evaluate new opportunities. |
Slide 47 |
Our results reflect a good performance right across the business. We grew revenues and earnings per share, while increasing efficiency and driving down operating costs yet again. Our core markets in the UK and western Europe are providing the investment we need to accelerate our expansion eastwards. Last year we achieved significant organic market share gains in Russia, Ukraine, Kazakhstan and Romania. We also secured a presence in Poland through the acquisition of KT Merkury, and we signed a licensing agreement with Shanghai Tobacco that will open up new opportunities. As our international base broadens, we have closely examined the synergies to be achieved by optimising operational resources. Following a review last year, we restructured our European operations, ceasing production in the Republic of Ireland. We also realigned our UK and continental European businesses to sharpen our focus on the Group's eurasian objectives. We continue to be confident about the future. Thanks for your attention. |