Natura &Co Holding SA (NTCO) 2014 Q3 法說會逐字稿

Good morning, ladies and gentlemen. At this time, we would like to welcome everyone to Natura's 2014 third-quarter conference call. Today with us, we have Roberto Lima, the CEO; Roberto Pedote, the CFO; Joao Paulo Ferreira, the Commercial Vice President; and Fabio Cefaly, Investor Relations. 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).

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'll turn the conference over to Mr. Roberto Lima, the CEO. Mr. Lima, you may begin the conference.

Good morning, everyone. Thanks for being with us in this conference call for the third-quarter results. And before starting, I'd like to introduce myself. I've been working in different industries since the early 1970s and I worked in the financial industry, hotels and telecommunications industries, like metallurgical, chemical and textile and different positions starting in information technology and moved to human resources and then to financial. And since 1995, I have been acting as CEO or Chairman of the Board of different companies and I should say that I'm very happy to join Natura in this moment that we have very interesting opportunities and challenges.

I've been with Natura for only a half in the Board since December 2012 until July -- or sorry, excuse -- June 2012 until December 2013. So this is a company that I learned to admire and to respect and I understand that the Company has built a solid foundation based on (inaudible) and hard work and that presents itself as one of the companies that most values the economic side of the Company, but also the social and environmental side of (inaudible).

In my 14 (inaudible) since (inaudible) Natura (inaudible) in late September, I (inaudible) that we have the priority to recover our growth rates in Brazil and to maintain and support the strong performance that we are experimenting now in international operations and in parallel to create as all the projects that aims to expand our value proposition.

For doing that, we have to anchor our actions on the fundamentals of this Company and this business. It means the product and service (inaudible) and at the same time, the direct sales channel, that is one of the strongest of this Company and this channel should receive more and more the support of information technology on the transaction side, but also at the same time in the information-based decision that I mean analytics and business intelligence that we should report to the manage of this channel. In our concerns, the international operations that are mainly in Latin America, what we have to do is just to maintain the focus and to keep on growing the two deals that we have been seeing in the last years and we just finish.

Before I hand over to Roberto Pedote, I just would like to recall the recent acquisition we made, the Aesop Cosmetics Company born in Australia and it was a very interesting acquisition since it is in a different channel. They do (inaudible) with a very varied proposition and we should understand that this was very well-integrated in our operations. Aesop is showing growth rates that are very encouraging and by the beginning of December, we should be open two stores of Aesop in Brazil. So at this time, I'd like to give the floor to Roberto Pedote, who will tell you about the third-quarter 2014 results. Thank you.

Thank you, Roberto. Good morning, everyone. This quarter, our consolidated net revenue grew 5% year-over-year. In Brazil, net revenue grew 2.7% while the consultant base grew 3.7% and productivity fell 1.1%. This growth is lower than we would like, but the initiatives to activate and segment the channel and our launches in fragrance and deodorants supported a slight recovery in revenue growth.

In international operations, we maintained our accelerated growth pace of over 30% in local currency in both Latin America and Asia and to date, these operations already account for 19% of our total revenue. Our international index stood at almost 66%, up from the same period last year due to the good results of our fragrance launches such as Essencial, Kaiak Extremo and Urbano.

As for profitability, our consolidated EBITDA, 307.2% year-over-year, with EBITDA margin up 22.9%, up from 22.4% a year ago. In Brazil, the continued capture of efficient gains, the productivity gains in our logistics operations and the recovery in our gross margin both sequentially and compared to last year played key roles in this margin improvement. In the international operations, the strong results at Aesop and the efficient capture in our corporate expense structure in Buenos Aires more than offset the slight drop in margins in Latin America countries where annual market expenses were more concentrated in the third quarter and with an unfavorable currency translation impact, especially in Argentina.

Net income grew 16.8% on the same period last year. It was a benefit from the lower impact from the marked to market adjustments of derivative instruments. If we eliminated this effect, net income was 3% lower year-over-year. In the first nine months of the year, we invested BRL338 million in CapEx compared to BRL368 million in the year-ago period and we maintain our plan to invest a total of BRL500 million in 2014.

We completed construction of our new plant in Benevides, Para, and the capacity expansion project at our plant in Cajamar. We are capturing efficient gains at our new modern distribution center in Sao Paulo and we have started to implement SAP in our international operations, not to mention other projects.

Our cash generation in both the quarter and year-to-date was down from the year-ago period due to the earlier formation of inventories for our Christmas strategy, which resulted in higher investment in working capital. I would like to remember that the fourth quarter of the year is marked by strong cash generation given the combination of stronger sales with the consumption of inventories formed at the end of the third quarter resulting in lower working capital needs. Based on the latest data from SIPATESP/ABHIPEC, our target market grew by 12.9% year-over-year in the first six months of the year led by the toiletries category and while our marketshare fell from 20.7% to 19.4%, we have no information yet on the market for the period since June.

Turning to the social and environmental highlights, we are included in the Dow Jones Sustainability Index, which is an important benchmark in the market. We also launched new products that strengthen our commitment to sustainability, which includes fragrance refills in the Ekos line and the deodorant ecocompact, both of which have much lower carbon emissions than regular products. Now we'd like to start the Q&A session. Just remember that we have Roberto Lima, Joao Paulo and myself here. Thank you.

(Operator Instructions). Guilherme Assis, Brasil Plural.

Hi, good afternoon, everyone. Thanks for taking my question. I have actually two questions. One to Roberto Lima and welcome to Natura's executive board. My question, Roberto, is I would like to see how do you see your mandate now as the new CEO for Natura? You mentioned in your opening remarks that you see opportunities and challenges right? And I would like to see what is your primary focus now as the new CEO and what we should expect going forward to see in terms of changes in strategy in the way that Natura is actually implementing all these new initiatives? Okay, that's my first question.

The second question is about the rampup in margins that we saw in the quarter. I would like to understand if there's any relation to the drop in the volumes sold with the pickup in margins and if we should expect -- as volumes start to grow back, if we should see any pressure on the margins going back and how sustainable is the 27% (inaudible) margin in Brazil operations going forward? Those are my questions. Thank you.

Thank you, Guilherme, for your questions. So I have been here for two months and I think that I don't see changing our strategy. The fact is that we have a market that is growing faster than we are and the focus will be on try to get back to the marketshare we used to have and to accelerate the growth rates. It's a (inaudible) that we should base our actions in the two main fundamentals. That's this business, which means the service and product innovation, trying to speed up on the time to market and everything that could be more creative and the second one is to keep on betting on our channel and affording to this channel much more technology in terms of -- I'm talking about the information technology for the transactions, but, at the same time, we do more and more the information technology that could lead us to have good business intelligence, service and analytics and CRM and things that we could build and to help us to manage this channel that counts with more than 1.4 million consultants spread out all over Brazil and in the international operations in Latin America. So this will be in a very practical way.

At the same time, we will keep on studying the new opportunities we have outside Brazil and to the same system in direct sales and try to understand more and to learn with the recent operation of Aesop how the retail business behaves and if we have some opportunities in that.

Let me talking about profitability. The key impact that we had in the third quarter, first was the recovery of the gross margin. This was especially three factors that we mentioned in the second quarter. That was price increase, it was the stability of promotions and also a better conversion cost in our new factories. These were the three elements that allows us to improve gross margin. In addition to this, we are showing efficiency in several lines of the Company, including logistics, administrative expense that allows us to have, even with our lower-than-expected growth, a reasonable profitability.

There is no relation with the reduction in volumes. The reduction in volumes was mainly a mix effect in the third quarter versus the same period of last year. We had more fragrances this year and in the third quarter of last year, we were doing a launch of one of the sole lines with a lot of products that were scents to experimentation at that time.

What we can say about the future is exactly the same as what we said in the second half. That is that, in the second quarter, that is in the second semester, we expect to have a balanced profitability in Natura at similar levels as the second semester of the previous year. Not exactly the same, but similar levels or a little bit more, a little bit less, but in this range. And I think that we are just repeating what I said in the last conference call at the end of the second quarter.

Okay, thank you, guys.

Robert Ford, Merrill Lynch.

Thank you and good day, everybody. I was on the earlier call and I get the importance of the channel and innovation, but one of the things that Joao Paulo mentioned was that with hedging Natura, the conversion is higher. Productivity rates are higher, but the adoption has been slow. Can you tell us why the adoption has been slow and how you can help accelerate the adoption of hedging Natura to reinvigorate growth rates?

Hello, Bob. Joao Paolo speaking. First of all, we were in a period of trials. So to start with, we didn't push very hard the adoption. Second is there's a novelty related to the way the consultants did our business online. As you recall, we do think there is room for advising on products and contacting customers. So it takes time for people to learn and we are devising training material to be rolled out throughout the channel so that they can feel more comfortable with that. So given that fact, we don't feel there will be full adoption. We are not yet spreading the news as loud as perhaps we should that all the adopters have increased productivity, but we will do so. As we polish the user experience in that channel, we will start spreading the news louder throughout the channel, Bob.

That's helpful. And I was curious, I have my own hypothesis. I feel that sellers are very concerned with respect to disintermediation and then sellers that already have pre-existing incomes that are taxed, if they hit certain thresholds, then all of a sudden there could be concerns that the incremental income that they're receiving from Natura could also be subject to income tax, not just the VAT, which you already collect and I understand. But I think if you hit, I don't know, is it BRL20,000, BRL21,000 in terms of income and you're selling Natura on the side, then having an electronic record of not just the sale -- well, the sale at MSRP and the cost of goods sold, it makes it kind of a no-brainer from an enforcement perspective to go after that. And I'm just curious how you address those concerns as you try to roll out what sounds to be a very sophisticated and promising toolset.

As regards to any fear of being left out of the game, I can assure you that our consultants are not fearful of that. They are very comfortable. We have told them how it works. We don't want to take their customers. We are actually showing role models to show how this helps them during their current business. It's not to replace their current business, it's on the other -- it's rather to enhance their current business because now they can play with different channels, they can service their existing clients better and they can reach additional new clients. So we've been telling that to them. I can assure you that this is being understood. There is no fear in the system whatsoever. Maybe as regards to tax issues, Roberto can develop that further.

Hi, Bob. We don't have any signs in any of our research we saw that there is this concern in terms of this because, in the end, they should continue to do what they do and if they have profits above the limit, they need to declare as individuals. And then it's exactly the same as they have been doing in direct sales in this term. And in our dialogue, in all of our discussions with the channel, we haven't received this concern as an important one so far.

That's great. Thank you very much.

Fabio Monteiro, BTG Pactual.

Good morning, everyone. I have a question. You have many different projects. At the same time, the new channels, e-commerce, of course, but also kiosks and the stores and non-CF&T products. I'd like to hear from you a bit about the challenges in entering new channels, selling new products that Natura is not used to and also the learning curve and especially given that the competition is tougher and many, many international brands, some local brands with strong brand equity like Natura have invested in Brazil. If you could give us color please. Thank you.

I'm sure that we have a lot of initiatives and we should consider as pilots, opportunities for us to learn and to understand what would give Natura the dimension it wants to have. And certain of those projects, they are working very well. We just mentioned (inaudible) Natura. This is one that is really a project (inaudible) on that. We'll keep on investing and it grew to be a successful one. The others, talking about retail, are new categories like fashion and home appliance, things like this. We are testing. We are in the pilot phase and each one that -- at the time we have the necessary information to make our decision, we will. (inaudible) or we will keep on investing in projects that we think will answer to some of the needs of Natura to enhance its value proposal to the markets.

Joseph Giordano, JPMorgan.

So hi and good morning, everyone. I'd like to touch upon again on the volume side. Like we've been seeing a very challenging environment for the Brazilian consumer and this has been like highlighted better retailers in Brazil. So I'd like to understand how you're seeing the price sensitiveness for this consumer. And then, as you mentioned, you introduced soap last year, so this created a hard comp base. So I'd like to understand how this product has been performing over the past year. As far as I understand, the issues also drive average ticket lower. I assume that has been growing above the average for the portfolio. Thank you.

Hi, Joseph. First talking about pricing, the way that we see pricing is that we compare in a sub-brand (inaudible) way with our key competitors and we see where we are and then we take decisions about price increase, always trying to understand the role of each sub-brand according to competitors. And we haven't seen any -- there's nothing different from that has been happening since we increased prices recently and from the way that we are looking for the future. The key issue really in volumes this quarter was this comparison of our mix with more fragrances this quarter and the previous quarter that was very strong activated by the launch of one of the segments of soap.

Talking about soap, soap is doing well. It's playing its role. Remember that it's already an important sub-brand that we have in the Company and it has an important role in terms of concepts because you are talking about conscious consumption here. That's a very important concept that we wanted to bring forward and we wanted to build this brand year after year because it adds to the net Natura brand and very contemporaneous to talk about conscious consumption nowadays. Now as a summary, soap is doing well and we are happy to continue to invest in this sub-brand.

All right, thank you.

Alex Robarts, Citi.

Thanks. Hi, everybody. Two questions, one on technology and a second one on stores. A year ago, if I recall in the Natura Day, you guys bumped up your CapEx by roughly BRL100 million for the remainder of last year. And I think an important part of that bumpup related to investments in technology, both on the credit card payment side, but also with the rollout of Natura Network. A year later, and as you, Roberto, take the reins here with your technology expertise and such, do you feel that Natura is where it needs to be as far as with its -- as far as its technology and its IT investments? Are there some opportunities, are there some new projects that you envision? So the first question is about that. If you could comment, that would be great.

Just to start, Alex, just to remember the cycle of investment of this Company, within the last two to three years, investing strongly in the decentralization of our logistics. Today, we have a very efficient logistics system that delivers over the 5,000 cities in Brazil decentralized and now we have spare capacity because it was a cycle to build capacity in logistics. And the second were investing also in manufacturing. We built two factories, one in Cajamar, one in the north of the country. And also we were investing in technology to build the capabilities in (inaudible) Natura and also some transactional systems. For example, we are doing this year the implementation of SAP in the international operations.

What is looking forward is probably the mix of CapEx will be more concentrated -- we will have more technology in our mix, but probably the cycle of CapEx will be lower looking forward because manufacturing logistics, we have been building capacity until now and now we have a space to have less investment in this area, looking the former years and then the mix will be more concentrated in technology. But probably the total investments will be in a relative way lower than what we're doing today.

Right, okay. So in terms of that payment system and the technology, including the SAP rollout, you guys feel satisfied and happy with where you are, the investments that you have and the pace of the rollout? Is that a fair assumption?

Specifically about these initiatives, we are -- most of the investments has already doing. What we are going to have is, as we want to innovate and use technology as an important tool to improve the relations in our channel, it will -- every year, we are going to have investments in innovation to bring new things to the channel, but specifically about what we mentioned, most of the investment has already been done.

Okay, all right. Fair enough. The second question is just on stores and I think, in the earlier comments, I just wanted to clarify this, but I think you said that the Aesop -- the first Aesop store has opened in September. If you could clarify that, but the question relates to just generally the view next year as far as bricks and mortar, how many stores are you contemplating both on the Natura and the Aesop side? In other words, we've heard a couple of numbers, at one point 30 stores, big cities and high-end neighborhoods. Could you comment a little bit on the bricks-and-mortar strategy for next year? That would be helpful. Thanks very much.

Okay, just to clarify, Aesop haven't opened its store here in Brazil. This will happen the first week of December and then we will have a second one that should be open the first quarter of 2015. This is for Aesop. Aesop is a different business from Natura. It specializes with high-end markets-driven companies. That is performing very well. For us, it is a (inaudible). It is something that we have been learning a lot with them and it has its own dynamics. We know that it needs more investments than a direct sales company, but we are able to manage this company as a different business in a different business model and I think this was very successful from Natura's (inaudible).

(inaudible) concerns retail for Natura, we take that -- what we would like to do is to create more opportunities for consumers to experiment our products. We know that every time one person experiences Natura products, they buy it. So this is why we think we should increase the number of opportunities for people to be in contact with our products. If it will be a large or a small retail network, we are not in a position to talk about that now. We are experimenting. We have some kiosks in some malls here in Brazil. First impressions are good. Consumers value a lot our product, our offer, the service that goes together with the product and after this phase of pilots, we will understand what our strategy should be for the future.

Okay, thank you.

Carlos Garcia-Tunon, Cornerstone Capital.

(inaudible) question. Along the lines of CapEx and how that's been trending, it seems that your net debt to EBITDA has also been trending higher. And I was just wondering what sort of level you're comfortable with and if in the future you may need to reduce your dividend payout in order to remain within a certain debt range?

Hi, Carlos. We are operating now at a leverage of 1.2 times EBITDA. We should finish the year with a lower leverage due to the improvement that net really occurs in working capital in Q4. And we are so far comfortable to stay in this range, about 1% EBITDA, 1 times EBITDA leverage. This is what we can mention now and this kind of leverage allows us to have a good practice of dividends, but we cannot give any forecasts here. So just think that around 1 times EBITDA is comfortable for us.

Thank you.

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

So just to finish, I would like to reaffirm that we are all very confident that we have the room to capture more efficiency gains in our Company, even in the local market and at the same time, the international operations we have. As I said, we'll base our first actions in bringing value to our strong fundamentals, the channel and the innovation that we have learned to do. And as the Brazilian market leaders, we know that we have an important role to play in this market. We are assuming that the market is growing faster than we are. We have to catch up, we have to understand how we can accelerate our growth. And for doing that, we count on a marvelous team. I think we have the best people in the market and as soon as we can, we will start showing better results in terms of growth.

At the same time, we have been looking to the important strategic projects we have, as was mentioned in this call and gain from the [progress] we made. Retail, new categories, no CFT products and all that, this is now our radar, but we will jump on that at the time we feel confident that those are good opportunities and that we are able to deal with that. So for the time being, we believe in the heady Natura initiatives, a good project that is growing and we hope to speed up. We are learning with that, consumers are showing what their buying logic that's different from the traditional (inaudible) sales and we hope that we'll have the same understanding in the other pilots we are doing in this moment.

Just for finish, I'd like to thank you all for your questions and for coming this call and I hope to hear from you soon in February when we should do the fourth-quarter 2014 conference call. Thank you very much. Have a good day and a good weekend.

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