Natura &Co Holding SA (NTCO) 2006 Q2 法說會逐字稿

Good morning, ladies and gentlemen. At this time, we would like to welcome everyone to Natura's 2006 Second Quarter Results Conference Call. Today with us we have Allessandro Carlucci, the CEO, David Uba, the CFO, and Helmut Bossart, Investor Relations.

We would like to inform you that this event is being recorded, and all participants will be in listen-only mode during the company's presentation. After Natura's remarks are completed, there will be a question and answer session. At that time, certain instructions will be given.

[OPERATOR INSTRUCTIONS]

We have simultaneous Web cast that may be accessed through Natura's IR Web site at www.natura.net/investor. If you would like, presentation may be downloaded from this Web site. There will be a [inaudible] for this call on the Web site. We remind you that questions, which will be answered during the Q&A session, may be posted in advance in the Web site.

Before proceeding, let me mention that forward-looking statements are being made under the Safe Harbor of the Securities Litigation Reform Act of 1996. Forward-looking statements are based on the beliefs and assumptions of Natura management and on information currently available to the company. They involve risks, uncertainties and assumptions because, they relate to future events and, therefore, depend on circumstances that may or may not occur in the future.

Investors should understand that general economic conditions, industry conditions and other operating factors could also affect the future results of Natura and could cause results to differ materially from those expressed in such forward-looking statements.

Now, I will turn the conference over to Mr. Alessandro Carlucci, Natura's CEO. Mr. Carlucci, you may begin the conference.

Good morning, everyone and welcome to our Second Quarter 2006 Results Conference Call. For this call, we have changed our procedure somewhat. We have included only a few slides that you can accompany in our Web site, and I'm going to give you a brief report on Natura's second quarter performance and then go immediately to the Q&A session when Dave Uba, Helmut and I will be available to answer any questions you may have. The other slides on Natura's second quarter performance are attached to the presentation, so you can follow them.

To begin with, I would like to mention the behavior of our target cosmetics, fragrance and toiletries markets in Brazil in the first four months of the year. In this period, the CFT target market grew 11% year-on-year in nominal terms, or 5% in real terms. This was slightly higher than the growth recorded in the first two months.

Nevertheless, despite the slight improvement in March and April, we are still reluctant to affirm a definitive reversal of the tendency and a return to the levels of 2005 when the target market experienced real growth of around 10 %. We therefore believe it will be wise to wait a while before confirming a recovery of both. I should also like to draw attention to Natura's market share of 22.5% in the first four months, 2 points up on the same periods in 2005.

Let's now move onto Natura's own results beginning with our net revenue, which moved up 25% year-on-year in the second quarter to $696 million. The main period highlights were, the first one, a good performance of newly launched products like the perfume [Human], which we launched at the beginning of April. The second point is the healthy results from the sales of sets of special celebration dates like Mother's Day and Valentine's Day.

A third point, the launch of Revista Natura to replace the old Vitrine that was a catalog. This is a combined magazine and catalogue we are calling a megalogue, which is chiefly designed as a brand builder and not just a sale booster. And the fourth point is elimination of the promotional mix problem of service in the first quarter of this year.

As for the sales channel, once again, we have good results to report. Our consolidated consultant base totaled 560,000 at the end of June in 2006, 17% up on the figure at the close of the same month last year. The productivity per consultant in Brazil also moved up. Regarding costs and expenses, I would like to remind you of the remodeling of our logistic process, new contacts with call center firms, changes to our flat policy, and other actions which led to a big reduction in expense per share of net revenue.

I would also like to point out the second quarter EBITDA of $180 million real. That was 40% higher year-on-year base, while net income climbed at 47% in the same period to $229 million real.

On the international front, our more mature subsidiaries such as those in Argentina, Chile and Peru recorded also good growth. Revenue climbed 55% year-on-year in local currency, and the number of consultants [inaudible] -- 42,000 at the end of June, reinforcing our conviction that this operation will make a combined positive contribution to our results as of 2007. The Mexican operation, which completes one year in August next, is progressing as expected. We also begin operations in Venezuela this year and in Colombia in 2007.

We are currently revising our 2006 investment estimated from $180 million to $210 million -- $30 million more -- due to increased expenditure on our new R&D center and higher investments in IT, an important base for our future.

Finally, we can see that after the allocation of $41 million real to working capital and $60 million to investment, first half net cash generation came to $145 million real. As a result, Natura's Board of Directors approved the payments of dividends and interest on [inaudible] net of income tax totaling $140 million realize, or $0.33 per share. Registered shareholders on July 31, 2006 will benefit, and the proposal will be referred to the General Shareholder's Meeting.

This payment is 37.5% higher than the dividends and interest on [inaudible] paid out in August 2005 and represents approximately 97% of first-half free cash generation. That brings our shop presentation to a close, and now let's move to the question and answer session. Thank you all very much indeed.

Ladies and gentlemen, we will now begin the question and answer session. [OPERATOR INSTRUCTIONS]

Our first question comes from Juliana Rozenbaum with Deutsche Bank.

Hi, good morning, everyone again. Isn't the estimate a little bit conservative on the outlook for the market for the last of the year? Can you discuss a little bit on price and the reason why you had a deceleration of growth in the first months of the year, and then a re-acceleration in terms of macro factors -- whatever you think that impacted this kind of different performances in the two periods? Hello?

Hi, Juliana. In our view, the deceleration of the growth rate of the CFT market in this first part of the year was mainly because of the low growth of the economy as a whole in 2005.

As you know, there is a fourth correlation between the growth rate of the CFT market and the behavior of the economy as a whole. So as last year, we saw just a little bit above 2% and growth rate for the GDP. We had a very weak performance as compared to this the previous years for the CFG already in the last two months of 2005 and again in the first four months of 2006. So if the economy goes on performing well this year, we might see an improvement of that growth rate for the second half of 2006.

And another reason for this weaker performance in the first four months of 2006 was the world got with this deviation of consumption to electronics and equipment for the best kind of equipment and also a more -- a larger amount of credit available to consumers in that period of the year. That might also have affected a little bit CFT demand for the first half of the year.

So that's how we see it. We might set some reaction in the second half of the year, although, it's still too [inaudible] for guaranteeing that effect.

Okay, but in terms of the performance on this first two months and then the four months that we saw so the last two months, would say there was something different between them?

We don't conceive that there is. The difference is so small- -

Yes.

-- that we do not see any structural change in the performance of the market for those four months by comparing the three and four against the two first months of the year.

Okay. Okay, good. There's another thing -- I mean, on Mexico, you've been talking about applying the last [inaudible] in the other markets in the start up in other markets. How do you think this is going? I mean, what have you done differently in Mexico, and how could that impact the time that you would need to break even in the Mexican operations vis-à-vis at the time you may still need to achieve break even of some of your other international operations? Thanks.

Juliana, as you know, we -- hello, Alessandro speaking, first of all. As you know, we started the Mexican operation with new marketing tools. This magazine that we are implementing now in Brazil, we implemented in the beginning of the Mexican operations, so, this is an example that we started the Mexican operations with new marketing tools.

The megalogue, the Casa Natura, the Natura house, that is the place where we received Natura consultant -- a different kind of sample, not a categoric sample, but a brand sample, to the new customers. So we started developing new marketing tools. We believe that they are effective, and we are planning to introduce those marketing tools in the other operations. Even though I think that it's too soon to know if we are going to have a decreasing of the breakeven points in Mexico because of those initiatives.

Yes.

So I think that it's too soon. But we are happy, because now we understand that there are some room to grow in the developing of new marketing tools and the new operation, because they are small and where we can use them like the laboratories are very good to implement those initiatives.

Okay, great. Thank you.

Thank you.

[AUDIO GAP]

-- on your thoughts in terms of the dressing, perhaps the efficiency of the fulfillment cycle or so?

Bob, sorry. We couldn't listen to your question. Could you repeat please?

Absolutely. My question had to do with trying to better understand your efforts to shorten the time from need to actual receipt of Natura products, particularly outside Sao Paolo, rural, the nature urban areas. My understanding was that you were looking at that as that's an opportunity to strengthen loyalty, improve your product penetrations, particularly in the rural market places.

[AUDIO GAP]

-- had a lot to do with the potential to develop regional distribution isn't so much what I think Avon is doing in [inaudible].

Hi, Bob, this is David speaking. We are actually studying a different distribution model for the company -- not a distribution model, but distribution system. We are now studying. We are not making any experiments yet and to see if it's worthwhile to decentralize the distribution and to decrease the time from orders receiving here and delivering the goods to the consultants.

We suspect that that level of service might affect sales in the consultants productivity, and we, later in this year, we make some experiments to see what the impact of shortening the delivering time to the consultants to see if it really affects the productivity, and then we'll decide what distribution model or system we will have in the future. That's the stage we are right now.

Okay, David, can you help me understand in this particular year-end pilot, what are the fulfillment times like today?

We -- those more distant areas, we -- it may take, let's say, six to eight days to deliver the merchandise to the consultant, and we might decrease that to two days, no more than two days. So we might reduce the fulfillment time five days. That might have an impact in sales, but we still have to test and see if that hypothesis [inaudible] or not.

Okay, and then what percentage of your total sales base in Brazil takes as long as six to eight days for the product to reach the consultant?

I would say that for that delivery time, something like 40%.

So it's a very big chunk of the business that's taking about a week after the consultant submits the order, because the consumer submits to the consultant, the consultant gets the minimum order size and then they go, right?

Yes, it's a considerable part of the business. You are right.

Okay, and can you give us an update on your experimentations with modifications to the single level model? You were looking at ways to perhaps leverage your promoters a little bit more effectively in transfer the culture of Natura a little bit more effectively as you grow the organization, and I was just curious as to what your experiences have been most recent?

Hi, Bob this is [inaudible] Alessandro speaking, and- -

Morning, [inaudible]

How are you? As we mentioned before, we are still testing an evolution of sales structure, and we don't have enough reserves to conclude what we are going to do or if we are going to implement. But we are working hard to do some revolution, because we believe that we must be improve the structure and the relation between Natura and Natura consultants.

But we still don't have any information to conclude something and to share with you about this project. It's a very important plan, and because of that, we don't want to [inaudible] before the time to be sure that we are going to implement something real good.

Okay, what you mentioned earlier -- the Casa Natura and the impact you've had here in Mexico City, there have been recent reports of you expanding to other cities -- Puebla, Guadalajara, Monterey, among others. If you move in those directions, would you also build similar infrastructure in those cities, and what markets do you envision developing at Casa Natura. Would you bring Casa Natura into Brazil, for example?

Yes, we are planning to start in the beginning like an experience in Brazil, but we have reasons to believe that this experience in Brazil will be transformated in a new marketing tool, and we believe that we could implement around the country other Casa Natura, because the experience in Mexican [inaudible], the first one here in Brazil, that is going to be open in two months, probably near Sao Paulo, is going to show us that when you have a place that represents your brand, your values, this has enhanced the relationship between you and your sales people and gives to the sales people the power to share with their customers [inaudible] value [inaudible].

So we are really happy with the results of the [inaudible] in Mexico and we are going to implement one [inaudible] here in Brazil in the next two months to learn about this experience in Brazil.

[Inaudible] Alessandro, would it be [inaudible] hybrid of what you have in Mexico and [inaudible] you have in [inaudible] where you incorporate a spa as well as perhaps more extensive [training] areas for your consultants?

Yes. It's [inaudible]. You know that in France we have a store. It's different from the Casa Natura in Mexico because in Mexico is a place to make relationships with the [inaudible] consultants, training and give some massage and launch products, show our products. And in France we have a flagship store where we receive customers to sell our products. So the concept is more related with the Mexico Casa Natura than with the French experience.

Okay, so no retail at the Casa Natura in or near Sao Paulo, primarily focused on the image of the relationship with the consultants?

Yes.

Yes.

Okay. Well, thank you very much.

You're welcome. Thank you.

The next question from Lore Serra from Morgan Stanley.

Good morning. I wanted to just go back -- I know I'm sort of splitting hairs a little bit -- and just make sure I understood your comments on the outlook for the balance of the year. And I understand that the growth -- you don't want to draw too much significance from a two month cycle, but I guess if the growth did look nicer, both from you and the industry in the second quarter, and yet you're talking that -- I'm not sure I understood [inaudible] comment about the 10% growth you saw in 2005.

I guess I thought you said that that wasn't sustainable or wasn't something that you thought was prudent in this course [inaudible] forecast. So I wonder if you could just expand a little bit more on -- you know, the growth was good in the second quarter, why you don't feel comfortable extrapolating that through the rest of 2006? Okay. Thanks very much.

What we saw -- actually, we only have the data at this moment for the market in the first two semesters of the year, from January to April. What we saw actually, was a growth rate of about 10.5% in the first two months of the year for the target CFT markets. It's a little bit higher than the figures we have at first because those data were reviewed lately and the results for the first two months of the year actually were a little bit above 10%.

And then for the last two months, March and April was a little bit above 11%, so the difference in the figures for the market that you can [inaudible] too small for allowing us to project any improvement for the remaining of the year. [Inaudible] we are, we can see now a higher growth rate for the GDP in the yield and therefore, it is reasonable to expect the reaction of the [inaudible] on half of the year. So we are confident that the market might be slightly better in the second half. I mean better by in terms of growth rate.

The market is great. It's still growing at very high rates, 11% growth rate in the first four months of this year is a tremendous result. It's a lower rate than last year, but still very good.

So we are still waiting for the results for May and June in order to have a better picture for the remaining of the year, but we believe it might be a little bit better than the first half but probably not very much.

Okay. So I understand better now that the first two months were revised and so you're seeing a fairly equal growth rate now is what you're saying. Just in terms of the margin expansion, we saw a lot of margin expansion in the quarter. You mentioned a couple of things earlier in terms of resolving some issues with the [inaudible] as far as policy, and you know, it's been a bit hard to forecast your margins because the [inaudible] has been very variable and some of it depends on [inaudible], which we obviously can't see that well.

If you think about 2006, should we think about this kind of margin improvements continuing particularly on the [inaudible] line or should we expect some reinvestment in some of those deficiencies in terms of marketing efforts over the coming few months or few quarters?

We consider that the second quarter is -- should not be taken as the basis for projecting the remaining of the year, but actually, the first semester as a whole. We expect margins to be more or less in line with what happened the first half of the year and of course, taking into account the natural personality we have in our company.

Regarding sales and margins, we see that we might have in the second half, some stronger efforts in marketing as we had in the discount side of the marketing the second quarter. And that might be offset by the gains in productivity we have in the logistics and distribution and expansion.

So at this point, I -- we do not see any big change, structural change in our margins for the remaining of the year as compared to the first semester.

Okay. [Inaudible] thank you.

The next question we have is from [Margaret Calavar] of [Inaudible] Management.

Yes. Hi. Good morning. A couple of questions, first of all, on cost of raw materials, packaging and then also pricing, and then the second question concerns if you have any projections for the next couple of years on what to expect on international sales as a percentage of total to reach?

This year what you saw up to now was [inaudible] raw material prices was for the domestic raw materials. Prices were in line with domestic inflation but also as we had about 25% of our purchases in some sense linked to exchange, the exchange rates and even the valuation of [inaudible] rate, we at the end, we had a very stable average price for the raw materials in the first half of this year. And we expect some adjustments for the second half of the year probably now that exchange rate is more stable.

As prices -- we adjust those prices just once a year, usually in March, April, so our retail prices will stay constant or stable until the March [eighth] of next year. We are not planning to increase prices until next year and our policy is just to readjust prices according our -- with our [inaudible] inflation rates. [Inaudible].

Okay.

And Margaret, about the international operations, we don't [inaudible] real guideline about our sales in the future, so we don't have the information that you are asking but I can say to you that we should expect an increase of the percentage of our sales coming from international operations and in fact, we have been trying to increase this percentage, but we have a good problem. We are growing fast in Brazil too.

Right.

We are trying and probably for the next two years we are going to see a difference happening in the relevance of international operations. But, of course, Brazil is going to still be the most important operation [inaudible] after next, I don't know how many, but a lot of years in the future.

Okay. Thank you.

Okay? Oh, you're welcome.

The next question comes from Jose Yordan of UBS.

Hi. Good morning. My question was a follow up to what [Laurie] was asking. I just wanted to understand a little better what [inaudible] to the logistics, the costs of servicing consultants and, you know, the magnitude of this and then when exactly it was implemented. Because I think I heard you say that this improvement of what looks to be 50 to 70 basis points, you know, that it wasn't really sustainable. It should be extrapolated but any clarity you could give us on that, that would be great.

We started implementing those changes in the second half of 2005 and those changes consisted mainly first in changing the operators of our call center here in Sao Paulo. We renegotiated a contract. We now have order contractors working in the order capturing [inaudible] company at a lower cost.

That was the first change we made. The second one was in the freight contracts. We changed them a little bit to better reflect that the costs rises for the [unintelligible] of our merchandise and we succeeded in developing better contracts for the company and we lowered costs as well.

And these start happening at the end of the first quarter of 2006. So in the second quarter, I would say at the full impact of those changes are well reflected in the results. That's the first question. The second question--

And therefore we should see that for the next two or three quarters at least it's not going to be on the base until the end of this year?

Yes. It should go on to the end of this year and the same base as we saw in the second quarter.

Great. Thanks a lot.

Our next question comes from [Simone Nelmacki] with [Mananeau Cornetura].

Hi, good afternoon. We're just wondering here if you have any expectations for more growth in personal hygiene as opposed to cosmetic and fragrances and if there's any particular reason for such a small increase in your market share compared to cosmetics and fragrances?

Hello Simone, it's Alessandro speaking. How are you? First of all we don't give guidelines about our growth, our sales for the future. So I can't give you more information about that.

You should take in consideration the difference or the increasing in market share is relatively equal in both categories. The fact is that in the toiletries the market is bigger than in the cosmetics. So if you grow 20% in our market share you are going to see different [inaudible] in the market share. But the relatively growth is going to be similar.

And just to explain a little bit more, there is one reason to explain why we have around 30% of market share in one category and 11 in the other, and it is due to the fact that the [inaudible] is a good channel for the cosmetic area and not so good for the toiletries and that's because we have the difference between the total market share in those two categories.

In the toiletries, you have the supermarkets and it's a more [inaudible] category, that's why the [inaudible] is not so good.

All right. And just take me up on that issue of international stores, how are your French store in comparison with your Mexican store doing comparatively? Which structure is working better and taking to account the differences in both countries?

You know Simone, they are totally different. In France we have the store where we receive our customers and we sell our products direct to the customers. In Mexico, we don't have stores, we have a place where we receive our Natura consultants to show them our brand to establish relationships to train them, to show our products, but this is not a place to sell direct to our customers. So those two examples are totally different, they have different [inaudible] so it's really difficult to compare.

In one, we want to sell to the customer, in the other we want to enhance the relationship between the company, the brand, and the people that are going to sell to our customers. So they are working in different ways.

All right. All right. That will be all. Thank you very much.

Thank you.

The next question comes from Selso Sanchez with Citigroup.

Hi. Good afternoon. I just wanted to get a little more clarity, if I could please, on the Casa Natura concept in Brazil. I thought I understood from the last call that you had been experimenting with a couple of them already out side of Sao Paolo. So is this the third or is this the new format or was I mistaken and this is the first of any kind of Brazil that you're talking about in the next couple of months? That's the first.

Hello Selso and good morning. This is Alessandro speaking. I think that we are talking about the same thing. We started to develop the first Casa of Natura in Brazil six months ago, so the last time we talk about this same experience.

The fact is that we are going to open the new one in one month probably, one month and a half, but we are talking about the same experience. We are not talking about the third or the fourth Casa Natura. We are talking about the first one.

In this same way that we are -- that we developed in Mexico. Is it true that we have one office but is an office is not a Casa Natura in another region of Brazil, but this is not cousin Natura. So to be clear, we are going to open the first one in one or two months around Sao Paulo and probably the second one in four or five months in another region in Brazil. And this is the only experience that we are having in Casa Natura in Brazil.

Can I just be clear then on a difference between Casa Natura, and I've visited the one in Mexico, so I think I understand that concept [inaudible] that you had talked about in the past?

There is no difference. We are just changing the name because [inaudible] is not a marketing name. It doesn't represent the object. You can Casa Natura -- Natura house means that we are going to receive people to understand better who we are and to live the Natura experience. But they are the same thing.

And again, just to reconfirm, those are consultants that you're most likely to receive rather than customers, right?

Yes, yes. Yes, certainly.

And if I could just follow up on -- I think there's been a number of questions on the good expense and operating leverage. I think the message you've been giving for awhile is that certainly the top-line growth is a priority and marketing expenses and so forth would be geared towards driving that.

So to the extent that you have found these great savings on the operating sense side and logistics and so forth, should we just expect that to be continued to false set or reinvested by the marketing expenses, or is there something else that maybe we're missing?

Yes, we- -yes, but our strategy is actually trying to explore all potential [inaudible] in the Brazilian market to extend our market share, and therefore we will bring [inaudible] back of any extra gain in marketing expenses if you see it as a necessary. If it's still too early to say if we are going to increase our marketing expenses beyond the productivity gains we had in order to keep sales growing at high rates.

We didn't see that yet actually. We -- but we'll do it if it's necessary. For the remaining of this year, we believe that expenses -- the total expenses should be more or less in line as I said before with what we saw in the first half. Probably if we have change, those changes will happen next year, but it's difficult to expect any strong change for the remaining of 2006.

Okay, great. Thank you, and then just lastly, speaking about the potential need for marketing expenses, your price increase that you took in March, April, as you said, was there any noticeable reaction from your competitors? Did they follow, or did they not follow? Was that consistent or inconsistent with previous price increases you had? Is there any way for us to judge what may or may not be a response from them from required sense in what marketing expenses to send off?

I felt the increase of prices we had in March and April, it was a nominal increase following the inflation in Brazil, and the market as the history in Brazil follow this increase. So it doesn't change the positioning of our prices, so we don't have any comments in the marketing perspective.

Very helpful. Thank you very much.

Oh, you're welcome.

Your next question comes from [Taiu Dias] of Santander Bank.

Good morning, everyone. First of all would like to congratulate you guys for the good reduce in second quarter of the year. My question is specifically on the administrative expense. According to the release, they went from 15.1% of the net sales last year to 13.2% in this last quarter, and this improvement was due to lower provisions expenses. Was this provisions savings due to an extraordinary event or are -- can we expect that administrative expense will keep around the 13% of the net sales for the following quarters?

Provision expenses are hard to predict. They depend on how quarters behave and how they have long since evolved in time, so we actually in the second quarter of last year probably had an exceptionally high provision expenses, and probably in the second quarter of 2006 it was exceptionally low.

So I wouldn't take the administrative expenses of second quarter as a basis of projection. I would take the total administrative expenses for the first half of the year as compares to net sales. At this moment, we do not see any reason for having any such low change or any big change in administrative expenses for this year as compared to the first half. But again, provisions -- they are not under our control, and according to any change even the lawyers' perception on the final results of the lawsuits, we might have something added to those expenses. So we can't forecast that.

Okay, great. Thanks a lot.

Thank you, and thank you about your words about our results.

Our last question comes from [Gustavo Conguria] from Banco [Atual].

Hi, good evening. Just have one more quick question I would like to make in regards to Q2 regarding the productivity. Just refresh to understand a little bit better. If you could break down the, let's say, the productivity of the old sales wrap and the productivity of the new sales wrap that you added to the base perhaps in the last 12 months, how different is that?

I mean, would you say that these new wraps have a maturity curve, which is shortening or no? I mean, the old sales wraps are selling more, and that's why you've been able to have such an impressive productivity in the quarter- -if you could break down both [inaudible] a little bit there.

Gustavo, unfortunate -- hi, this is Alessandro speaking.

Yes, hi.

Unfortunately, we don't split this kind of information, because it's a little bit strategic, but we are not feeling that we have some behavior changing in the productivity between the older one and the younger one. As we are saying, the older one is much more productive than the new one, and I don't have any reason to believe that the growth happened in one of them. I think that in both segments we are -- we can take -- we can see some gains in productivity. I don't know if I can try--

No, that's fine. It's just that -- yes, that's fine. I just like to see if there was any changes in the behavior like you say -- if the dynamics of the maturity of these new sales reps has changed for some reason, or -- but like you said, the dynamic continues the same way.

Okay, no. No, we are not seeing change in the behavior.

Okay, thank you.

Thank you.

Excuse me. This concludes today's question and answer session. I would like to invite Mr. Carlucci to proceed with his closing statements. Please, sir, go ahead.

I would like to thank you all for your time and for your attention and invite you for the next conference call in October and for the next meetings during this time. Thank you and have a nice day.

That does conclude the Natura Cosmeticos Conference Call for today. Thank you very much for your participation, and have a good day.