Scandinavian Tobacco Group

Welcome all to Scandinavian Tobacco Group webcast for the second quarter results 2024. As said, my name is Torben Sand and I'm heading the investor relations and group communication. And I am today joined by our CEO, Niels Frederiksen, and our CFO, Marianne Rødhulbock, as well as our newly appointed chief commercial officer, Regis Brosma. Please turn to slide number three for the agenda for today's call. Today's presentation will cover the following agenda points. Nils will start by giving you an overview of the key highlights of the second quarter, as well as an update on our strategy and other key events, including the acquisition of McBaron. Then Regis will take over and give you an update on developments in our core markets, as well as insights to recent trends and developments in our product categories which are handmade cigars, machine-rolled cigars, and smoking tobacco, as well as next-generation products. MyAnna will follow with an overview of the financial performance in our three reporting divisions, North America Online and Retail, North America Branded and Rest of World, and Europe Branded. Whereafter, she will turn the focus to key financial developments for the group, including an update on cash flow, leverage, and capital allocation. Nils will conclude the presentation with an update on outlook and guidance for 2024. After the presentation by management, we will conduct a Q&A session where we will be more than pleased to take any questions you might have. And before we start, I ask that you pay special attention to our disclaimer on forward-looking statements at the end of this slide presentation. So now, please turn to slide number five, and I will leave the word to our CEO, Nils Frederiksen.

Thank you, Torben, and welcome and good morning to everyone on the call. The second quarter delivered solid improvements in the financial performance of Scandinavian Tobacco Group compared to the week first quarter of the year, with net sales increasing by more than 6%, and the EBITDA margin improving compared with the same quarter in 2023. For the first half of the year, net sales was positive and the EBITDA margin was lower than last year. The next generation product category and the handmade cigars category delivered another quarter of net sales growth and the decline rate in machine rolled cigars was lower than in the beginning of the year, all contributing to the improved performance. In a moment, I'll give you an update on the good progress we are making with our strategy rolling towards 2025, as well as some details on the McFarland acquisition. I'll also provide a little more insight to our growth enablers, which in the second quarter accounted for 12% of group net sales. Before doing so, let me conclude my introduction by giving you a few financial highlights for the second quarter. Reported net sales increased by 6.3% to 2.4 billion kroner, Adjusting for acquisitions and exchange rate developments, organic net sales growth was 4.8%. The EBITDA margin increased to 24.5% compared to 23.1% in the second quarter last year. And free cash flow before acquisitions was 177 million kroner compared with 159 million kroner last year. Adjusted EPS came in at 4.1 daily kroner versus 3.5. The financial performance year-to-date supports our expectations for the full year, which implies that net sales will continue to deliver growth in the second half of the year, while the EBITDA margin is expected to decline compared with the second half of 2023, where especially the third quarter of 2023 delivered a relatively high margin. Marianne will give you more details on the financial performance later. I'll now turn to an update on our strategy and other key events So please turn to slide number six. We're now well into the fourth year of our five-year strategy rolling towards 2025, and we continue to make good progress in delivering on this strategy. Let me give more detail to some of the most recent achievements. Firstly, acquisitions have been and remain an important part of our strategy, not only to become a larger and more profitable company, but also to deliver long-term value for our shareholders, including the commitment to our capital allocation policy. We believe the acquisition of Egban does exactly this. And in the next slide, I'll summarize the details we informed the market about in relation to the announcement of the acquisition. Secondly, in March, we announced the creation of one commercial organization with a stronger focus on our core product categories and with the aim of getting closer to our consumers and customers. Throughout the spring and early summer, we have completed the implementation of this new commercial organization, which is headed by Regis Brosmeier, who has been appointed as Chief Commercial Officer. I think the importance of being close to our customers and consumers cannot be underestimated, and in a moment, Regis will share his thoughts on how to achieve our ambitions with the new structure. In addition to the organizational changes relating to the creation of one commercial organization, we decided to implement additional adjustments to our cost structure across the group to increase cost agility and flexibility and to stay fit for the future even if consumption of key products remains subdued for a longer period of time. Part of our strategy is to invest more in our growth enablers to secure long-term sustainable growth for STG. These investments have started to deliver good results with our next generation products delivering strong growth in net sales and accounting for an increasing share of group net sales. Our U.S. retail stores delivered double-digit net sales growth, driven by the expansion with new stores and by increasing same-store sales. And finally, we continued to increase the international sales of handmade cigars and combined the growth-enabled share of group net sales increased to 12% in the second quarter. Now, please turn to slide number seven. I'll now give you a little more insight to the acquisition of McFarland. The transaction value is 535 million kroner and the company will be included in our financial numbers from the beginning of July this year. McFarland is a leading smoking tobacco company and will, on a full year scale, add about 8% to our net sales. It will also contribute a valuable portfolio of brands within the smoking tobacco category and expand our market positions within both pipe tobacco and fine cut tobacco and it will increase our presence in the nicotine pouch market with both brands and production capabilities. The combination with our existing businesses is expected to deliver meaningful synergies when fully integrated and good value for our shareholders. Integration planning has started and will continue over the coming months and we will communicate more details no later than 12 November 2024 with the release of the third quarter interim report. And with this, I'll now leave the word to Regis. Please turn two slides to slide number nine.

Thank you, Niels. So my name is Regis Grosma and I have been working for Scandinavian Tobacco Group since 2002 and in multiple positions across the globe. Just before my appointment as Chief Commercial Officer in March this year, I was heading the North America branded and rest of the world division, and I joined SDG's executive board in 2019. As Niels just alluded to, we have during the spring and early summer implemented a new commercial structure for the group. Allow me to just give a few words and comments about how the new structure will enhance and strengthen our capabilities to deliver the best brands and customer and consumer experience going forward. The new commercial structure is centered around simplicity to stay fit for the future and to become even more consumer and customer focused. The new commercial structure will drive faster decision making. It drives better prioritization. It allows for better resource allocation to our growth opportunities and to our attention areas. It facilitates a more seamless collaboration and the new structure allows for more opportunities for our people. In the new commercial structure, we center around three categories and four sales clusters. We put accountability closer to the brand owners and closer to the local markets for execution excellence. We drive brand equity and we win at local and market level. Please turn to slide number 10. So let me spend a moment on the most recent performance measured by our product categories. Each of the product categories is unique and can be compared one-to-one, even though there are similarities between them. By increasing the category focus and by giving you more granularity to each product category, my sincere hope is that the uniqueness and different dynamics become apparent, whether it's for handmade cigars, machine-boiled cigars, or any of the other product categories in our portfolio. So handmade cigars. This category includes handmade cigars sold via online platforms, via retail stores, by sales of our brands to external retailers and distributors in the U.S., as well as our sales to markets outside of the U.S. This category delivered an organic net sales growth of 3%. The category contributed 37% of group net sales in the second quarter. Machine-rolled cigars and smoking tobacco, this category improved its performance significantly during the second quarter compared to a weak first quarter, with a decline of 2% in organic net sales compared with a decline of 12% in the first quarter of the year. The category contributed 46% of group net sales in the second quarter. Next-generation products more than doubled net sales. This via combination of strong growth in the distribution of third party products in the US and through the rapid growth of XQS in particular in the Swedish market. The category contributed 6% of group net sales in the second quarter. The group other includes sales of accessories, third party contract manufacturing and bar sales in our retail stores. Now please turn to slide number 11. Core market trends. So cigars remain at the core of our business and is the category where we have a vision to become the undisputed and sustainable global leader. Cigars constitute about three quarters of the total group net sales. Therefore, I would like to spend a moment describing the current market trends as we see them today. Let me start with handmade cigars. Global consumption of handmade cigars relates mostly to the U.S. market with about 65 to 70% of the total global consumption. We saw an extraordinary growth in consumption during the pandemic. Since the pandemic, the volumes have been declining, yet volumes remain above the pre-pandemic levels. Currently, the market is estimated to contract by a mid-single-digit percentage. Although we remain confident that the decline rate will eventually stabilize at a lower level, this is still not the case, and it remains uncertain when this will happen. Consumer behavior and consumer spending in America remains an issue of uncertainty for many companies, and I wish I could better predict the consumption dynamics in the coming years. But again, so currently our base case scenario is that we will not experience an improvement in the next quarters ahead of us. For machine-rolled cigars, the total market declined at almost the same rate as in the first quarter, with close to 5% lower volumes. Consequently, the year-to-date volume decline in Europe has accelerated compared to previous years and it remains uncertain whether this is only temporary or a new level we must adapt to. The coming quarters will provide important data points in this respect. I will give you more details about market dynamics shortly with specific focus on France. However, the consumer behavior from most tobacco and nicotine products are rapidly changing. including those from machine-walled cigars. Consumers engaging with machine-walled cigars have traditionally been cigarette smokers, but with the many new alternatives in recent years, whether heat-not-burned, vaping, or nicotine pouches, the traditional dynamics are changing, and we must understand this better and adapt accordingly. On top of the consumer dynamics, regulatory changes have always and will continue to have impact on development for each product category. And at SDG, we know how to navigate these changes. With this, I will now turn to a brief update of the performance by each product category. Turn to slide number 12, please. During the second quarter, our overall reported net sales increased by 4% for handmade cigars, 3% in organic growth. This despite a declining total consumption in the aborted U.S. market. We managed to offset the total market trend by growing our net sales of handmade cigars through both our online and retail business, and by increasing our sales to the international markets outside the US. The growth in online is driven by an increasing spend per consumer. The growth through our retail network is driven by the expansion of the number of stores, as well as a mid-single-digit increase in the same store sales. Our sales to US distributors and retailers are under pressure due to overall consumer demand, inventory adjustments, as well as lower contract manufacturing sales. Based on our own sales, we do see consumer down trading trend towards either lower priced brands and or buying the same brand online at a discount. This dynamic put pressure on our margins. Sales to our international markets outside of the U.S. remain strong with a double-digit growth in the first half of the year. A double-digit growth which we have experienced for more than five years. This is driven by resilient consumer demand as well as consumers moving from high-priced student cigars to our brands. The strength of SDG in having presence in the different parts of the value chain puts SDG in a strong competitive position to deal with these headwinds. Please turn one slide to slide number 13. Machine rolled cigars and smoking tobacco. During the second quarter, our machine rolled cigar business in Europe did improve its performance compared with the wheat development in the first quarter. The decline in total market that I mentioned previously make it important that we adapt our strategies based on an up-to-date assessment of the market trends and our performance versus our key competitors. meaning that we factor in the current total market decline rates and that we are taking commercial actions to improve our performance to gain back our lost market share. As Niels explained in a previous webcast, we would investigate our current pricing strategy and adapt if needed. We have finalized that body of work and we have initiated actions towards our pricing strategy to find a new balance between volume, market share, and profitability. Another example is the rebalancing of priorities between the traditional and the filter and flavor settings. The initiatives we have already taken and are taking to rebuild our market positions will take time to have full effect. And although we have improved the market share index from 27.6 to 27.9% in the past quarter, it's too early to call the recovery. I will however like to take the opportunity to explain more in detail about the market development in France, the largest of all European markets. In France, the total market volumes have declined by an annual average of 5-6% since 2020 and our market share has also declined. Why has this been the case and how can we turn the needle? Our strategy, based on pricing studies, has been to elevate the pricing of our portfolio and focus on gross profit increases. Price elasticity results show that the pricing advantage would more than compensate for the volume losses. The underlying base assumption was that competitors would also implement pricing to the same extent or close, especially with the high inflation over the last years and the cost of the track and trace implementation. This has not been the case to the extent we anticipated. The actions taken in the last month are that we have repositioned the Panta brand to the value for money segment. And on September 1st, we will reposition our biggest brand signature back to the mainstream segment. The first results on Panta are encouraging. With this, I'll turn to the next slide, please. Next generation products. During the second quarter, the category more than doubled its performance compared to the second quarter last year, and now represents 6% of group net sales. The strong performance ahead of plan is driven by two main drivers. The first is the rapid growth of XQS, and secondly, the strong growth in the distribution of third-party products in the US. XQS is continuing its strong performance in the Swedish market with month-on-month market share growth. We now roll out to other countries, of which the launch in the UK is the most notable. We have significantly increased our sales force to drive growth in the independent channel. We're off to a good start, and a positive side effect is that our Machine World cigar brand signature is showing a lift in this channel's market share performance. Our next milestone is to bring XQS to the Danish market as of early September. The third-party distribution of Zyn.com has performed well, but in June, the online sales of Zyn have been paused by PMI. We refer to PMI's press release on the matter. So overall, we are very pleased with our performance of XQS, and we're executing according to plan. With this, I will now leave the word to Marianne. For more details on the divisional performance, please turn two slides to slide number 16.