Natura &Co Holding SA (NTCO) 2014 Q1 法說會逐字稿

Good morning, ladies and gentlemen. At this time, we would like to welcome everyone to Natura's 2014 First Quarter Conference Call. Today with us we have Alessandro Carlucci, the CEO, Roberto Pedote, the CFO, and Fabio Cefaly, the IR. We would like to inform you that this event is being recorded, and all participants will be in a listen-only mode during the Company's presentation. (Operator instructions.) We have a simultaneous webcast that may be accessed through Natura's IR website at www.natura.net/investors. The slide presentation may be downloaded from this website. There will be a replay facility for this call on the website after the end of the event.

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 -- relates 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, the CEO. Mr. Carlucci, you may begin the conference.

Good morning, everyone, and welcome to our earnings conference call for the first quarter of 2014. Natura's consolidated net revenue grew by 15%, with the Brazil operation growing by 9% and the international operations, including Latin America and Aesop, growing by 53%. Our consolidated EBITDA grew by 8% year-over-year while net income fell by 6%. Our revenue growth in Brazil was driven by solid growth of around 8% in consultant productivity, which reaffirms the strength of our value proposition and brand preference. And it's also a positive sign of the investments in marketing, product innovation and management tools for our sales team that we've been making since mid-2013.

Our international operations in Latin America maintained a robust growth pace while also becoming more profitable. We've decided to intensify our investments in brand-building in the operations and implementation in order to take advantage of the good moments that these operations are enjoying, especially with the sustainable relation network model in Mexico. Aesop, which today has 82 concept stores in 10 countries, has been registering very strong results in terms of revenues and profitability.

At the same time that we are making the investments needed to make us more competitive in the short-term in Brazil, and to transform Natura through advances in its commercial model with the Natura Network and the development of new brands and categories, we also continue to make adjustments in our Company to make it more efficient, and that frees up resources that will be used to finance these initiatives while still keeping our profitability in line with historical levels.

I would like to take this opportunity to comment on some of these opportunities that, combined with the significant improvements in our profitability in the international operations, represent important sources of funds for reinvesting back into the Company. In our logistic operations, we further diluted the fixed cost of the network we've built over the last few years. For example, the new distribution center in Sao Paolo, which has a more efficient process with more technology and lower labor needs, will support an increase in the volume of orders.

As a result of our continuous focus on productivity and efficiency, we identify optimization opportunities in our organization's structure, and most of them we already implemented during this first quarter. And as a result of our continuous focus on capturing productivity and efficient gains, we identified opportunities to collect -- in our collecting the trade bills process. Even though late payments are low and in line with historical levels, we are improving the collection process, especially for bills that have already been written off.

We intensified our efforts in this area during the second half of last year, and this quarter, in addition to the benefits captured, we had to make a one-off adjustment that Pedote will explain in details a bit later. I should also confirm that we are going to rebalance our profitability along the year, remembering always that our businesses (inaudible) [and accompany] our launches and marketing actions, with the calendar changing from cycle to cycle, month to month, generates variation in our quarterly profitability, but not in our annual profitability.

In terms of our market share in Brazil, for the ninth straight years, we maintained our leadership in the overall CFT market, with market share of 12.4%, which represents a reduction of 70 basis points from 2012. As we already mentioned in the earnings conference call for the fourth quarter of 2013, the contraction in our market share was concentrated in the first half of last year in the perfumery and cosmetic categories.

In the countries where we have operations in Latin America, excluding Brazil, our market share ranking improved from the eighth place to seventh. In the operation and consolidation, we expanded our market share by 70 basis points to 5.1%, and are already -- and we are already a relevant player. And in the operations and implementation, our market share expanded by 20 basis points.

I should mention here that in March, we inaugurated our industrial complex in Benevides in the state of Para, which will handle the entire manufacturing process for our soaps. Ecoparque, as we name it, it is an important platform for generating sustainable business and for reducing production costs through its proximity to the supply chain. Lastly, before handing the call over to Pedote, I would like to share with you that, after a year of the Natura Network pilot program in two important cities in the state of Sao Paolo, the results obtained were very positive, and we are planning to start expanding this model in the second half of this year.

So, those were the points I wanted to cover. I will now ask Roberto Pedote to give us some detail on the results.

Thank you. Good morning, everyone. Since Alessandro has already commented on the [factors] that have supported consistent revenue growth in Brazil, I would like to take a look at other factors that impacted our results.

[Despite] improvement in our profitability in the international operation, our consolidated EBITDA margin was pressured by the lower EBITDA margin in Brazil, caused mainly by our lower gross margin, the higher investment in marketing action, and the non-recurring impacts from severance costs related to the optimization of our organization's structure and also by the adjustment in our criteria for recognizing the recovery in renegotiated trade deals, as Alessandro mentioned [to you]. Consolidated gross margin remained [statically] stable in the quarter due to the combination of [our margin] expansion in the international operations and margin compression in Brazil, which is explained by the increased use of promotions and the higher than expected local currency depreciation.

In Brazil, we expect gross margin to recover over the course of the year. Since the positive impact from the price increases was implemented in March, and also from the second round of increases planned for August will be felt mainly in the second half of the year, rebalancing our gross margin in the total year 2014 compared to the total year 2013. To give you more details on our receivables, since last year, we've been improving our collection process in order to make the process to recover trade bills past due over 108 days more robust. In recent months, we saw that these renegotiated trade bills present a different delinquency profile that calls for more conservative provisioning criteria. For this reason, we decided to make a one-off adjustment to the provisioning criteria that had been applied to the renegotiated trade bills last year, which generated a nonrecurring cost for this quarter. [All to that], even with these adjustments, we achieved consistent improvement with real gains in our collection [process].

[In the quarter], the 6% drop in net income was due to three main reasons - the higher depreciation expenses resulting from the CapEx investment made last year. Second was the planned increase in our net debt, as well as the higher interest rates in the Brazilian economy that increased our financial expense. And last is the temporary impact from adopting the straight-line method for our income tax rate, which in 2013 stayed at around 31.5% for the first nine months of the year, and only in the fourth quarter was adjusted to reflect the average [tax] rate of 32.5% in the whole 2013 year. For 2014, we've been applying since the first quarter the same 32.5% income tax rate.

For the whole of the year, since depreciation in the financial results are independent [our] revenue and EBITDA, the divergence between revenue growth and net income growth will be lower, and the first quarter naturally represents less favorable [seasonality] for revenue and EBITDA, and at the end of the year, the difference in the income tax rate will be neutral.

Free cash generation was impacted this quarter by the distribution of CapEx, which this year will be evenly distributed over the fourth quarter. For the fourth quarter, we've already invested BRL135 million this year out of a total of BRL500 million planned for the period, while in the first quarter of last year we invested only BRL61 million out of the total of BRL550 million invested in 2013.

Those are the main points I wanted to cover today. Thanks, and let's go now to the question and answer session.

(Operator instructions.) Melissa O'Connor with Bernstein.

Hi there. I'd love to learn a little bit more about that promotional intensity that happened in Brazil this quarter that, as you mentioned, impacted both margins and market share. Can you please give us a little bit of color around what were the major drivers of that, and why you think that's going to improve, going forward? Thank you.

Hi, Melissa, this is Alessandro speaking. Well, just to recap, since the second half of 2013, we raised investments in marketing and we want to keep the same level in 2014. What typically happens, but this is not something that is particularly to this year, is the fact that, in the first quarter of every year, we used to invest a little bit more because is a seasonal moment of the year in sales, is summer vacation, and then people are not in the city. So, we used to invest more in marketing when compared with the other quarters of the year, special on promotions.

So, excluding this fact, we -- our plan is to keep the same level of investment in marketing that we had on the second half of 2013 for the whole year of 2014.

Understood. And so, from your competitors, are you seeing a greater response than you have before, or has -- is the competitive environment relatively consistent with how it's been?

We keep seeing a very competitive environment with all the major competitors investing [that] -- as we saw last year. So, there isn't a change even though it's still very competitive.

Okay, great. Thank you so much.

Thank you for your question.

Lore Serra with Morgan Stanley.

Hi, good morning, or good afternoon, I guess. I guess I wanted to ask a little bit about the pricing. And in years past, I think most years you've taken one price increase, and so I think you did -- one time you did a second one because of taxation or something, but I don't remember this being a typical cycle to do two price increases in one year. So, could you give me a sense of why you see that opportunity this year? I mean, I understand the FX rate is -- you're trying to cover the FX rate, but sort of from a market perspective, why is that something that you think is kind of the right thing to do?

Hi, Lore. I think that last year we did two price increases, but the key for us this year is that, when we plan it, this first price increase in March, the cost situation for Brazil related to the exchange rate was in a better situation than today. Then, the second price increase is much [more] related to a higher cost pressure that impacts everybody here in Brazil related to exchange rate and inflation. This is why we believe that there is this opportunity, and we are going to do this now in August, our second price increase.

Okay. And so, should we think about the two together as what you'll sort of put into pricing, or is it one on certain products and the others on other products?

Now, normally any price increase that we give, we'll always look category by category, and even in the same category, product by products to see where are the opportunities in comparison to our competition. Then, generally speaking, there is a cost pressure. There is more -- the exchange rate is worse than previous year, but the price increase is not equal to everybody, and it always take into consideration opportunities -- specific opportunities and specific challenges that we have with some products.

Okay, great. And just if I could ask a little bit about the Aesop, I mean, it seems like you've been growing that more rapidly than I guess I understood in the past year. Can you give us an update on kind of where you see that? I mean, I guess what you said is you're going to build storage in Brazil to help the effort. I guess you'll put it on the ecommerce platform. But, internationally, any update in terms of what you see for that asset?

Hi, Lore, it's Alessandro speaking. Well, you are right. As you said, the real business of Aesop is better than the business plan that they presented to us when we bought 65% of the Company. So, the business is doing very well, and I'm not including the efforts of opening Brazil, because this is something that we added to their plan after we acquired the Company.

And also, as you said, we are planning to open two stores, Aesop stores, here in Brazil, so this is also going to speed up the growth and the expansion of the Company. And they still -- they have in their business plan, there is still a lot of space to grow in other markets we got in Aesop, and this is going to happen, not only this year but also in the next years in new countries, because Aesop is nowadays in 10 countries, and we believe that this brand can really be a global brand.

Okay, thank you very much.

Thank you for your question.

Alex Robarts with Citigroup.

Thanks. Hi, everybody. I guess one of the things that we benefit from in this particular press release is that we get kind of the full picture of the year for the year in terms of the industry growth rate, the sell-in according to (inaudible) for the market size of CFT. And, I mean, the number posted at 10.6% growth last year, and I'm just wondering, how do you think about the industry growth for this year? It's quite a particular year. There's a lot of moving parts, a political year as well. If you could comment on the growth rate you think that the market can have this year? And particularly, do you think toiletries can continue to outpace the cosmetic and fragrance segment, as we saw last year?

And then, finally, it looks like SOU did a good job in helping you stabilize that toiletries market share for the year. Do you think it makes sense to -- or do you plan on doing some small white-space type of rollouts in fragrance or cosmetics that might stem any more further loss of share in that segment? That would be very helpful. Thanks very much.

Hi, Alex, it's Alessandro speaking. We project, and of course this is only a projection, that this year, because of the facts that you mentioned, the CFT growth should be between 10% and 8%. So, this is our expectation today. Even though we don't believe that the World Cup or the other things that are going to happen are a problem for our industry. We know that they are not going to help. So, because of that, the growth should be similar, maybe a little bit lower than last year.

Regarding the cosmetics and fragrance market share, Natura market share, we believe, yes, that we can grow our market share in this area, even though we lost last year, mainly because we have a good innovation pipeline on these two categories for the next two years. And during this period, we believe that we could grow market share. And there are, yes, some white spaces in the market where we can occupy with our brand. They are not as big as it was in the SOU launch, but there are some white spaces, and we are working on that to guarantee that we can really be present in the different segments of the market where our customers wants to buy.

Thanks very much. [That's helpful.]

(Operator instructions.) Lore Serra with Morgan Stanley.

Hi, thanks for taking another question. I just wanted to ask you about the rep base. And I know we've talked a bunch about this, but you've been trying, I guess the last three or four quarters, to get the rep base growing, and it seems to be sort of stuck and stubborn. And yet at the same time, I'm getting the impression, and I could be wrong, that some of the new entrants to direct selling maybe aren't having as much as an impact now as they were, let's say, 12 or 18 months ago.

So, as you think about this effort to recruit reps, is it just getting more difficult because, I don't know, it's full employment in Brazil, or there's a sort of finite number here and you're reaching it as an industry? And therefore, is it really -- the big issue is introducing the new reps to the online model, because then you attract a new, I don't know, demographic or age cohort in this? So, I guess I'm asking is, in the direct sales model, is the sort of rep base now really just kind of where it can be?

Hi, Lore, let me see if I understood your question, and please let me know if I miss something.

Well, first of all, as you know, our strategy changed in the last year because, in the last five years, we have focused it to increase penetration mainly by growing the number of consultants, and realized last year that, marginally speaking, this strategy will give less results than historically speaking. So, we decided to leverage the assets of the number of consultant and the preference of the brand and the penetration that we already have to change the strategy from growing the number of consultants to growing their productivity, because also, as you know, we have low frequency on the consumer purchase. So, that's where the opportunity is.

And by doing that, we changed all our motivation program, our marketing incentives, and all the marketing strategy to promote more productivity. And since the half of last year, we [have started] to have gains on consultant productivity. And we saw the same this quarter. And this is a strategy. This does not mean that we are not going to grow any more the number of consultant. That means that we are growing -- we are going to grow lower than we used to grow in the past years.

Saying that, there is something important to share with you in this first quarter, that typically, January, February, that's our summer vacation, are very low activity periods, where our consultants, they travel, they are not here. So, historically speaking, the growth of the channel, or the number of consultant, is lowering this period when you compare with other quarters. When you are growing 10%, let's say, or 50% the number of consultant, if you lose two or three points of growth, it's not a problem, or does not call your attention. When you are growing in this new strategy, we were growing 2%, 3%, and you lose those 2%, 3%, you don't have a growth. That is what happened this quarter.

So, this is the only difference that I would like to call your attention that explain why in this quarter we didn't see a growth in the number of consultants. But, for the next ones, you are going to see again a growth, not as big as it used to be, but some growth in the number of consultants.

Talking about the industry, or maybe before that, talking about the strength of our recruiting process, it's still very good. So, we are still having a [relevant] amount of people that want to join what we've been doing since these changes in strategy. We've been more, how can I say, more selective to include new consultants, trying to see which one are really going to keep, because our strategy is retention. So, this is what changes, but the level of people that wants to join is still high. So, we don't see a problem in the business model and in the industry, but what we see is a change in our strategy, as we already shared with you.

Thank you. That's very helpful. Thank you.

Just to add something that you asked of me, of course the Natura Network, it is going to be a new way to recruit a new profile of consultants, because we are offering a new way to do the activity. And because of that, we already learn in the pilot that we can start to attract a younger one and a more educated consultant when we compare with the average of our consultants.

That's very helpful. Thank you.

This concludes today's question and answer session. I'd like to invited Mr. Carlucci to proceed with his closing statement. Please go ahead, sir.

Well, thanks for your participation in today's conference call. I'd like to close today by reaffirming that we are confident in our plans of 2014, with the highlights, the performance of the international operations that maintain a robust growth pace while also becoming more profitable, the initiatives that will continue to improve consultant productivity in Brazil, and the actions to obtain the productivity gains that will finance our investments, include those important for our growth in the medium-term. I look forward to talking with you again on July 25th when we will discuss the results for the second quarter of 2014. Thank you once again, and have a good day.

This concludes Natura's audio conference for today. Thank you very much for your participation, and have a good day.