Inchcape plc (INCH) Earnings Call Transcript

Thank you, George. Good morning, everyone, and thank you for joining us. I'm joined on the call by our CFO, Adrian Lewis; and our Head of Investor Relations, Rob Gurner. I'll begin by giving an overview of the group's performance and outlook before handing over to Adrian, who will give more details. We'll then take your questions. Inchcape's strong performance in Q3 was another demonstration of the resilience and diversified nature of our business. We delivered revenue growth of 35% including 10% organic growth. Our distribution business delivered organic growth of 13%. This was supported by continued momentum from APAC with broad-based growth across our markets. Our performance in Europe was strong, driven by the continued unwind of our order bank, though new consumer demand across Europe remains muted. In the Americas, there was growth in the majority of our markets in the region and we are delivering market share gains and accelerating our cost synergy program this year to offset softer markets in Chile and Colombia. On Derco, we are delighted with the progress made on integration. I want to reiterate that Derco is a superb business. It gives us further scale and diversification in the Americas and brings us new long-standing OEM relationships. Furthermore, we are supporting some of those OEMs in markets outside the Americas, as evidenced by our global strategic agreement with Great Wall, with whom we are already establishing a market presence in Indonesia. On that point, we made excellent strategic progress across the group during the period. We won 5 new distribution contracts with leading Chinese OEM, Changan in the Philippines and across 4 African markets. This partnership was developed primarily as a result of Derco's long-standing relationship with Changan. These wins take us to 16 contract wins and acquisitions so far this year compared to just 5 in the whole of last year. And this is further evidence that we are building a global market-leading distribution platform from which to support our OEM partners. Importantly, we continue to build a strong pipeline of future potential contracts to help support organic growth. Our diversified market footprint, strong OEM relationships and our robust financial position, ensure that Inchcape will remain the natural consolidator in a fragmented industry. To that end, we completed all 3 previously announced acquisitions in APAC, in the Philippines, Indonesia and New Zealand. And we are also continuing to invest in our market-leading digital and data capabilities to support the performance of our distribution business. Our digital and data capabilities are helping us to drive the development of our vehicle life cycle services initiatives. In this area, we continue to be agile in adjusting and optimizing our capacity in bravoauto as we develop a number of business models in various markets. The development of our digital parts platform in Australia is going extremely well, and we continue to plan a rollout of the platform in other markets in APAC next year. We'll continue to provide a further update on VLS at our full year results in March. Moving to outlook. Based on prevailing market conditions and considerating accelerated cost synergies and the contribution from acquisitions, expectations for full year 2023 results remain unchanged. These expectations were originally outlined at our interim results in July. I'll now hand over to Adrian to take you through the details of our performance during the period.

Thank you, Duncan, and good morning, everyone. In Q3, the group generated GBP 2.8 billion of revenue, up 35% on a reported basis and up 37% in constant currency. On an organic basis, revenue grew by 10%. Distribution revenue increased by 47%. The M&A impact largely reflects the consolidation of Derco and on organic basis, distribution revenue increased 13%. Let me give you now more color on each of the distribution regions. In the Americas, we delivered a resilient performance with growth in the majority of our markets, market share gains and accelerated cost synergies offsetting softer markets in Chile and Colombia. We are especially pleased with our share performance in the softer Chile market, where share has been running well ahead of the prior year and ahead of Half 1 run rates. In APAC, there was continued momentum with broad-based growth across our markets, including Hong Kong and Singapore. And there was further positive momentum in Australia where our market share with Subaru continues to improve. Our APAC region was further supported by the completion of the 3 acquisitions during the quarter. In Europe, there was good growth in key markets, driven by the continued unwind of our order bank. New consumer demand in Europe remains muted. The group's performance in Africa was solid and will be further supported by our contract wins in East Africa with Changan. On Derco, as mentioned earlier, we have proactively accelerated our cost synergy program, and we now expect to deliver an in-year benefit of up to GBP 20 million from our previous expectations of an in-year benefit of around GBP 13 million this year. We remain on track to deliver the full GBP 40 million of annualized cost synergies in 2024. We continue to expect Derco to deliver operating margins at the top end of the 5% to 7% range typical of a distribution business this year, and that is before synergies, of course. And in the context of a more challenging operating environment in the likes of Chile and Colombia, I am particularly pleased with the progress we are making in improving Derco's working capital position, and we have now reduced Derco's excess inventory that was GBP 200 million at the start of the year by 50%, an improvement from the July position where we had got through 20%. And this is great progress given the market circumstances. Our continued focus on aligning inventory management practices in those -- to those employed across Inchcape is working well. And importantly, given the market conditions, we have continued to work proactively with our OEM partners to revise down previously agreed orders for new vehicles as we move towards 2024. And as a result of our progress in this area and with further alignment of trading terms, we continue to see a working capital opportunity at Derco to be delivered by the end of 2023. And also, as we said earlier this year, this will be partially offset by a working capital outflow across the rest of the group as we started from a highly optimized position. Overall, we are pleased with the progress we've made with the integration of Derco and the operational performance of the business to date. Moving to retail, where reported revenue was robust with an increase of circa 2%. Volume growth was mainly in the fleet sector, offsetting the change in revenue recognition relating to the agency model. Excluding this, revenue growth would have been around 12%. This robust performance reflects the strength of our retail business amid a challenging consumer sentiment environment. So overall, the group delivered another strong performance in Q3, highlighting the continued resilience and diversification of our business. That's it from me. Duncan, back to you to sum up.

Thank you, Adrian. Inchcape produced another strong performance in the third quarter with double-digit organic growth, and I'm pleased with our ongoing momentum. Given our continued strategic progress, I remain highly confident about the medium- to long-term future of the group. Adrian and I are now ready to take your questions.

[Operator Instructions] Our very first question is coming from Mr. Andrew Nussey calling from Peel Hunt.

Yes. A couple of questions from me. First of all, when we look at Chile and Colombia, please, can you just update us on the relative scale of those markets in the context of distribution? And what industry are suggesting for market performance in '23? And any thoughts on what the market estimates are saying in terms of '24? And secondly, Duncan, if you could just sort of update us around the pipeline, which you alluded to in terms of new distribution contracts and the potential for M&A, please?

Very good. Thanks very much, Andrew. So look, let me comment on Chile and Colombia to start with. You'll remember, the largest market of the two clearly is Chile by some way. The original forecast for that from the local motoring organization, ANAC, was 380,000 units for 2023. They've moderated that during the year. At the interims, that was around 360,000 was their forecast. They're now saying about 310,000. We based our judgment the year on a 20% decline. We've been clear about that since we mentioned the acquisition over a year ago. And this year, yes, it's around 310,000. So about a 30% decline. In Colombia, Colombia is also seeing a decline of similar levels in terms of 30% year-over-year. It's one of the reasons why I am pleased with our Americas performance is despite declines in those 2 markets, the Americas business continues to deliver for us. Now as you look into 2024, we said at the interims, we didn't envisage Colombia improving in '24. And I think -- and we are taking a sensible and prudent view of how Chile will perform into 2024 also. So we're not expecting a big uptick by any means from Chile into 2024, and we will plan our business accordingly. Look, in terms of the pipeline, you can see this year, we've had a stunning year already, 16 deals, 13 contract wins, 3 pieces of M&A, which have now completed. And look, the pipeline for both contract wins and M&A remains strong. I would remind you that the contract wins we're having aren't just with Chinese OEMs, although clearly, in Asia Pac, and in Americas, they are. But we're also winning with Subaru and Mercedes at the same time. And also, we've added more Stellantis markets and JLR at the same time. So pipeline remains strong, but we, at the same time, remain very disciplined with valuations of M&A and making sure that we're adding these contract wins into markets where we have scale like Changan into the Philippines and like Great Wall Motors into Indonesia. So Andrew, hopefully, that helps.

Our next question is going to be coming from Carl Smith of Zeus.

Just 2 questions from me. First of all, it's good to hear about the recovery in Singapore and Hong Kong. Would you say that, that is sort of -- those markets are back to normal? Or have you got a bit more recovery to come from those in 2024? And then second question was on the impact of the agency sales model, sort of, I understand what you're saying about if you exclude that impact, you'd have a 12% organic growth. Have we seen the full impact of that on retail revenues or would we expect that in '24 as well.

Okay. Thanks very much, Carl. I'll take one on Singapore and Hong Kong. And Adrian, if you could follow up on agency. So look, we took the Board of Directors of Inchcape to Hong Kong and in fact, the Philippines just a few weeks ago, and Adrian and I have also been in Singapore. So we got first-hand knowledge on the ground as to what's going on in both markets. Singapore has been muted for some time. And we're at the trough in Q3 in terms of COE availability. We're seeing improved availability in the fourth quarter. And the forecast show an improving Singapore into 2024. So further COE availability. Now it won't get back to its peak in '24, but we can now see people surrendering their COEs, and COEs coming back into the market. So we are relatively optimistic about Singapore into 2024. And Hong Kong, as a result of our broader EV coverage with Great Wall and with SAIC's MIFA product, and with Toyota bringing more products to market for us, we feel optimistic also about 2024 for Hong Kong, and we've already seen improvements in -- and we'll see improvements in Q4 as we built a really big order bank for those cross-border people carriers that we see. So optimistic about both markets, but they're not going to get back to their peak in '24, but they are improving. Adrian, over to you.

Yes. So thanks for the question, Carl. So if I step back a little bit at the start of this year, our relationship and the retail model for one of our brands in the U.K. market changed. It changed to what's called the agency model, and that is essentially where we take a commission on the delivery and the sale of a new vehicle, which means it's just a bit of an accounting adjustment to revenue recognition, which is why we think it's helpful to give you an indicator of the performance without that. It gives you an indicator of the volume performance and the price mix that is attached to that. So yes, for that particular brand, you have seen the full impact of it. We do expect other brands to start to shift towards that sort of model, but probably not until the end of 2024. And we'll update you as to how to think about revenue and operating margins in the retail sector attached to this. I'll remind you that what we said and what we're actually seeing in practice is that at a profit perspective, it's kind of -- it's broadly neutral. So whilst we don't get the top line. We do get the commission, which is consistent with the gross profit per unit that we would have seen prior to the agency model coming into play. And I would just add, at the same time, we have a much lower stock holding as a result of that. And final thing on this, this is retail only, which is obviously the U.K. predominantly in the distribution market, which is where the majority of our business is. That this is not an issue and it isn't -- that the operating model is entirely down to us in partnership with our OEMs to decide how we approach and put together our route to market.

Thank you, Carl. Hopefully, that was helpful. Thank you.

We'll now move to Georgios Pilakoutas of Numis.

Changan contract wins. I just wanted to clarify, are these new markets for Changan. And if you could give us any sense of what kind of scale they could be, if they are new markets. And kind of -- maybe kind of short to medium-term time of kind of where Changan aspirations are in terms of market share within markets. Then one on FX, if you could just kind of update us on the translational headwind for next year? And then perhaps you can touch on how given we're seeing some depreciation in some of the Americas markets, just a bit of an update on the transactional impact, if at all, is working there and how Derco is dealing with some depreciation in those markets? And then last one is just given ongoing rise in interest rates and to some extent where equity markets and your share prices. Just if that changes at all your shorter-term ambitions around M&A versus leverage reduction versus even buybacks?

Very good. Thank you, George. I'm sure that was 3 questions. So look, let me comment on Changan. And if -- and then I'll ask Adrian to give you some -- I think some thoughts about how you might scale it, then FX and rates is coming your way, Mr. Lewis. So look, I think the -- if I take a step back, Changan is further evidence of the impact that Derco is having on Inchcape. Derco had long-term relationships with Changan. I was in China meeting key Chinese OEM partners in the middle of June, which Changan was one of them. Shortly after we announced a global partnership with Great Wall Motors, but we were also talking to Changan about markets at the same time. Now, I didn't quite expect the Changan deals to happen quite as quickly. But clearly, they have. The 4 markets in East Africa are new, leveraging our cluster approach that we have in East Africa. In the Philippines, they have been working with another distributor prior to Inchcape, but have now switched that distribution contract to Inchcape. And look, that's a big market. That's 110 million people with really good GDP growth, low motorization rate. It's a great market for us. And George, we're going to run that through the same infrastructure, of the CATS business that we've just completed in the Philippines during the third quarter. So in the Philippines, don't forget just a few weeks ago, we had our digital delivery center with about 700 people in it, but no distribution business. A few weeks later, we have the CATS acquisition and now Changan going through the same infrastructure. So look, I think more to come in terms of contract wins, both with our traditional OEMs and our Chinese partners, but nice progress in Q3.

Thank you, Duncan. I think I'll break your question into a few parts before in relation to FX and rates. In terms of Changan, I think -- it's -- as Duncan has said, a super exciting opportunity and the opportunity for us to scale those businesses over time, but you shouldn't think about this as being a big call on capital as we step into those markets. We'll be leveraging third-party networks and as Duncan has said, leveraging our back office infrastructure. Moving to your point around FX. Look, it's a bit early to call FX headwinds and tailwinds on a translational basis for 2024. But I would say that for 2023, it's broadly neutral for us. In terms of your question around transactional FX movements and just to give you a bit of context here -- and I'll speak specifically just to give you an example about how we've approached this with Derco. We have currency payers of Chilean peso and Costa Rica -- and in Colombia with USD, Japanese yen and renminbi. In all of those currencies, one of the first things we did as part of our integration planning was to step into some hedging arrangements to make sure we protect against short-term FX volatility. That is our hedging approach. It's one that we have adopted across Inchcape for a number of years. What it does, it enables us to create time against FX movements that don't leave us either overly advantaged or disadvantaged in the market from a retail pricing perspective. And now, of course, as FX moves, ultimately, that has to translate into our commercial operating model. But our hedging policy gives us time to do that. And the movements you've seen in those payers that I mentioned has been translated, and you've seen today us underwriting and reiterating our operating margin expectations for the Derco business. And the hedging policy has helped us to do that. Your final question was around M&A, leverage and buyback. I think our position, Georgios, is exactly as it has been. Our capital allocation policy still stands. Our first priority is to invest in this business, and we have done that this year. Our second priority is our dividend payout ratio, which we are committed to. And our third priority is to invest in M&A, and you've seen us do that in the third quarter of this year. We announced 3 deals in the second -- in the first half, and we've completed them in the third quarter. And now after all at the end of that, there's cash left over for buybacks, then that's how we would deploy that capital. But right now, our pipeline is full. We think there's a really exciting M&A opportunity to consolidate this business as there is by growing the business through contract wins. So our capital allocation policy remains unchanged. Hope it covered all your questions.

We'll now move to Arthur Truslove of Citibank.

So first question from me, just to clarify a couple of points on guidance from earlier in the year related to Derco. So in particular, are you still expecting to get rid of all of the GBP 200 million of excess inventory this year? And previously, you talked about Derco being 15% EPS accretive this year. So I just wanted to confirm that both of those two pieces of guidance are still in play. And then secondly, on the synergies, you're obviously expecting to deliver GBP 20 million this year. Obviously, that must mathematically have accelerated materially in Q3. Just to clarify from your statement, does that mean that you're now expecting to do GBP 40 million next year, so that being GBP 20 million in the bridge. And then the final question I had on the new acquisitions. Obviously, you've talked about them being around GBP 400 million of revenue. In terms of PBT contribution in Q4 and then on a full year basis, are you able to just shed some light on that?

Very good. Thank you, Arthur. So all 3 questions going to Adrian.

Thank you, Duncan, and thank you, Arthur. So first one around Derco, and there's a couple of pieces in there. So the inventory balance that we acquired as we had said at the start of the year was GBP 200 million higher than we had originally anticipated. Now you'll also see in the statement that we've released today, Arthur, that we have made great progress in that. And so we're really pleased particularly in the context of the marketplace to be around half of the way through that inventory reduction plan. We set out at the start of the year, we said we were going to work with our OEM partners. We were going to act responsibly in the marketplace to make sure we deliver across all of our stakeholders in moderating down that inventory balance, and that's exactly what we've done. That's a daily, weekly and monthly conversation with our OEM partners. And we've been -- as the market landscape has changed, particularly in Chile and in Colombia, we've been working with them to moderate that down. We are -- so we are on track with that program. We are acting responsibly, and we're going to get to where we thought we were going to get to. But I think the other opportunity, which we note in the paper is -- in the release is around overall working capital. So the alignment of our trading terms with Derco has been also a success for us, which will give us further working capital opportunity. And I'll remind you, there are some offsets against that with the core group starting from a highly optimized position. Around EPS, the 15% EPS accretion, I think what you can see in the statement is a reiteration of the Derco acquisition being on track. The integration program being on track. You can see us accelerating synergies and responding to a market situation and reconfirming our profit expectations for the year, which is consistent with more than 15% EPS accretion. So we see the overall Derco acquisition as being firmly on track, and stand behind those EPS commitments that we made at the start of the year. Synergy benefits, GBP 20 million this year, yes. So what we have done practically and in the market is we've been working really hard to make sure we've got the right cost base for the markets that we are presented with in Chile and in Colombia, particularly as we bring those businesses together, and we've brought forward some of those activities. So the benefit that you're seeing in this year's P&L as a result of those synergies is around GBP 20 million. And you're absolutely right. We are standing also behind the overall program of activity is adding up to GBP 40 million of cost synergies. So you're right, next year's contribution to profit will be GBP 20 million above what you've seen this year, so GBP 40 million in aggregate. In terms of the new acquisitions, PBT contribution in Q4, we're not giving specific guidance around those, but you should think about those as being low single digits. The APAC region is one that features a number of very mature markets, which tend to have higher than average operating margins. So whilst it's not going to be accretive to APAC, those businesses will certainly be in line with the core distribution average margins. And we are -- and we'll cover the full year guidance for those acquisitions as part of our 2024 guidance later in our results announcements in March.