British American Tobacco : Q&A Transcript (0.2 mb)

British American Tobacco plc | Barclays Global Consumer Conference, September 2021

Gaurav Jain:

Good morning, everyone. Thank you for joining 30th Barclays Global Staples Conference. I'm Gaurav Jain, Barclays Global Tobacco and Cannabis Analyst. Joining us today is Jack Bowles, the CEO of British American Tobacco. Thank you, Jack, for giving us the opportunity to host you.

Jack Bowles:

Thank you, Gaurav and good afternoon and good morning everyone. I'm delighted to be... Yes, Gaurav?

Gaurav Jain:

Sure. Sorry to interrupt you, Jack. I will turn it over to you first for your opening comments. And then I will ask some questions that are on top of investor's minds. So over to you Jack.

Jack Bowles:

Sure, thank you very much. So I'm delighted to be with you today. I hope that you all managed to get a break over the summer for some rest and recuperation. Before my discussion with Gaurav, I wanted to take a few minutes to provide a brief update on the strong progress we are making towards building a better tomorrow and creating the enterprise of the future. Our established multi-category strategy is working, and our transformation is accelerating. In fact, I'm delighted to announce that since our first half results, we have taken global value share leadership in the Vapor category and Vuse is now the number one brand globally. Our strong U.S. momentum was an important contributor. And we are now leaders in 22 states, up from 20 in the half year results. The Vapor Category is the largest of the three new categories, by both revenue and consumer numbers.

Jack Bowles:

And this is an important milestone in the transformation of our business. This builds on the strong momentum that we are generating. In the first half, we delivered 50% new category revenue growth, at constant rate. Building on our acceleration over 2020. And we've added 2.6 million new category good consumers, our highest ever increase. To reach 16.1 million consumers of our non-combustible products. This is powered by our strong global brands, Vuse, Glo and Velo, and is underpinned by strong innovation. Each brand drove its category share more than 280 bps higher and recorded volume growth of 70% or above. And we delivered strong financial results in the first half. Group revenue was up by over 8%, driven by the excellent new category revenue growth, together with volume and value share gains in combustibles, and the partial recovery of volume in emerging markets. We invested an

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incremental 350 million in new categories, while also delivering EPS growth of over 6%, which would have been up over 8% excluding transactional effects.

Jack Bowles:

We are building strong global brands of the future. With our record growth in consumer numbers, driven by significant additions across all three categories. Vuse, first half revenue was up 59% and this momentum has continued with the brand achieving global value share leadership in Vapor in July, as well as becoming the first global vape brand verified as carbon-neutral in June. Driven by the success of Hyper, Glo hit record category share across our top nine markets. With revenue up 38% and Velo revenue was up 63% with progress both in [inaudible] and in the U.S. With this strong momentum, we are well on track to achieve our 5 billion new category revenue target by 2025. Also, we are digitalizing BAT at speed. It is transforming our brand relationship with consumers. With more than 12 million contactable consumers, a more than doubling of our social media follower's year-on-year, and Vuse as the leading branded search in Vapor. Digital is also adding value throughout our operation.

Jack Bowles:

Our rapid e-commerce growth comes with much higher margins. And our average subscriber value is three times the traditional retail consumer. RGM now covers 75% of group revenue, enabling precision targeting, store level pricing and optimized trade investments. While MSE leverages data to maximize ROI, and now cover 75% of new category investments. Digitalization is just one part of our transformation. Our portfolio transformation is accelerating with 12% of the group revenue now in non- combustibles. While, of course, our focus remains on continued acceleration of our new category business. We continue to develop further opportunities beyond nicotine. Reducing the health impact of our business puts ESG at the core of our strategy and together with stretching targets across E S and G, builds on over 20 years of strong foundation. Quest, our organizational and business transformation program with five pillars, includes Quantum, which is simplifying the business and delivering ahead of plan. We have increased our overall Quantum target to 1.5 billion pounds of expected savings by 2022. So, through Quest, we are creating the enterprise of the future.

Jack Bowles:

As we have said, previously, 2021 is a pivotal year in our transformation. While delivering strong financial results, we also accelerating our new category revenue growth. Powered by share gains across all three categories and our fastest growth in consumer numbers to date. This momentum is giving us increasing scale. We're now well on track to reduce the negative impact on group margin from new categories for the full year, with a clear pathway to our 5 billion revenue target and to profitability by 2025. Lastly, we remain committed to deleveraging the balance sheet around three times, adjusted net debt to adjusted EBITDA, by the end of the year. At this point, we expect our capital allocation flexibility to increase. So our established multi-category strategy is working and we are rapidly transforming BAT into a high growth multi-category CPG led by the consumer. Growing new category volume, revenue, and value and reducing our impact on public health. We think ESG at the core of our strategy means that we're creating value for all our stakeholders. I am excited about the future for BAT. Thank you. And over to you, Gaurav.

Gaurav Jain:

Well, thanks a lot, Jack, for those comments. And if I could start, by just asking about the stock price performance of BAT. So it has been a difficult stock to own over the last three years. The stock is roughly

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flat, and it has significantly underperformed some of your competitors, such as Philip Morris and Swedish Match. So, for a long-term investor, what would change the narrative for BAT over the next three years?

Jack Bowles:

Well, I think that we have transformed the company in the last three years at speed. I think that we have a consolidated our combustible business. I think that we've made a very important inroads in terms of new categories. We are present now in three categories, and we are taking a very strong share momentum. Our revenue is growing by 50%. And I must say that also the transformation of the company with the savings in terms of the cost base of the company, the digitalization of the company. I don't think that all this is included in our share price at the moment, but yet, we still have to do a lot of investment in the business. We still have to demonstrate our capability to continue to grow from that very strong base. And it will take a bit of time, but I'm very confident in the future of BAT. I'm very confident in our acceleration and momentum in terms of new categories.

Gaurav Jain:

Brilliant. So, one thing that could clearly change for BAT over the next six months is share repurchases. And you did allude to it in your presentation. So by our math, you will still be levered at three X at the end of this year. And it will be slightly more if we exclude Canada, which

Gaurav Jain:

Which is, you know the industry is under protection, bankruptcy protection, there. So how should we think of sharing repurchases? Is the leverages still too high in an industry grappling with new product disruption and regulatory change?

Jack Bowles:

You know, what's important to consider is that the performance of the business is extremely good. As I said earlier, not reflected yet in the share price, but we continue to invest in the business. We continue to do the right thing for the business. And we said that by the end of the year, we'll be around three in terms of net debt to EBITDA.

Jack Bowles:

We're sticking very strongly to our 65% in terms of a dividend policy. And we have the cash. Our business is extremely cash generative, and we'll do the decisions towards the end of the year, the beginning of next year. I think that it is, we understand the logic and the attraction in terms of share buy back of course, and we're reviewing that. Let me assure you, we're reviewing that on a very regular basis. There are timings for things, and we will review a capital allocation towards the end of the year.

Gaurav Jain:

Sure. Now, your EPS growth has all turned over years has been high single figure EPS growth, which is about 7%. And this year you are growing at about 5%, but included in that is a 2% adverse headwind from FX transaction. So, if we say that from FY23, so not FY22 but FY23, you don't face adverse effects headwinds. So, your core EPS growth reverts back to 7%. And then we add in share repurchases. And then you're also spoken of NGP losses reducing between now and FY25. So, if I add all these up then your EPS growth should be high single digit, low double digit. So is that a plausible scenario for your company?

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Jack Bowles:

Gaurav, we have to go step by step, okay. Two years ago when we had discussions, a lot of people told that we could not get the position in new categories, that we could not get the position in THP, that we could not get to a position in e-cigarettes, that we could not get a position in modern oral and that the combustible business was questionable. We've seen a lot of things happening in the last two years. We have a very strong business now. So I have had that for two years of very straight jacket, as I always said, and I want that straight jacket to have a bit more space so that I can do and continue to do the right thing for the business, which is to invest in the business and to make sure that we have the pathway. Look at what we've done and we've achieved in terms of the new categories.

Jack Bowles:

It's the fastest development that you can see in three categories. We're now having understanding in terms of the consumers, the route to market and all the intricacies of three categories. So let me have a bit of space and we'll speak about these things by the end of the year, but do not forget, we said it was also dependent, related to COVID. COVID is not over, we're present in 180 markets and you see a lot of different situations in a lot of different markets. You see a bit of a price skirmishes here and there, you see a regulatory framework that are moving, as you saw in Europe, the menthol ban, there's a lot of moving parts. So, I think that we have to go step by step and continue to develop and to deliver these very strong results that we have delivered on in the last two years in transforming the business.

Jack Bowles:

There's a still a long road to go in terms of transforming the business and to take positions. As we just said earlier, I mean, we're now global leaders in vapor. We have now in the markets where we're present, which are only half of the markets that are the markets of THP at the moment, we're having a 17% share. And in some markets more than 22% share in Japan, we have now 22% of the segment. So let's go step-by-step, we are highly cash generative. We're delivering the financials and we are growing our business according to what we said, step-by-step

Gaurav Jain:

Sure, Great. Now you're just touching on the chip shortage, which exists right now, that semiconductor industry and your key competitor just reduced their guidance for heat-not-burn volumes for this year, because they are saying that H and V device availability is an issue. So, is it something that you are also seeing and is it impacting your ability to acquire new customers this year?

Jack Bowles:

Well, I cannot comment on the competitors, but what I can say from our side is that we have digitalized all our supply chain end to end. And that has given during the COVID period, a lot of flexibility to move the products around and to do the things right. And we see exactly the same thing with the chips. So we didn't have any problems or shortage since the beginning of the year. We have always managed to keep all the needs that we had and to continue to deliver. So in a way, the fact of being a contender or a competitor that is growing fast and at pace gives us the space to manage all these things. So there will be some skirmishes, certainly, but I don't see any major definite problem related to that.

Gaurav Jain:

Sure. Now, on your targets for NGPs breakeven by FY25, and what you have said is that FY21, you know FY20 was a peak year of losses, FY21 should improve. And we have seen the marketing efficiency on

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NGP is improved. So, is that now a continuous trend and a linear trend between now and FY25, or we will see up and downs and how that profitability of NGPs evolves?

Jack Bowles:

Yeah, I think what's very important to note is that, two years ago we had a weak portfolio and we had a weak presence in terms of new categories. Now, what we see sequence after sequence is that we're growing very fast. So, what I can say is that the 5 billion is well in reach, and we will make sure that we reached that 5 billion, but it's not only a 5 billion that I'm interested in because that's just a milestone. What I'm also very interested in is the profitability of these categories. And that's why I said, I could have said that for later, but I said 2021 will be the moment where we start to reduce our losses. And for me, it's very important as an organization and as a company that we continue to have the right balance in terms of the revenue growth, the consumer acquisition and the pricing. And we are taking pricing on a regular basis through these three categories in order to ensure that we have the right balance.

Gaurav Jain:

Sure. Now coming, we are just focusing still on the profitability question and let's go down category by category. So let's take heat-not-burn as a first category where it seems that you are pursuing a discount strategy, especially around the device side of things. And I think even in your H1 presentation, you highlighted that your stick pricing is 90% of your competitor.

Jack Bowles:

Right.

Gaurav Jain:

So does that imply that your terminal margins in heat-not-burn would be lower than what we are observing for IQOS, which is more-

Jack Bowles:

I'm not going to speak about IQOS, but what's important is that as we go along, we have economies of scale. We're innovating very fast in terms of induction heating. And what we see is that our revenue growth is going up very fast. So we are in consumer acquisition mode. We have now 30% of our volume that is coming from competitors and 70% is coming from FMC consumers. So as the right balance, we want to have of course, a more balanced into these two numbers. And we'll continue to invest in that category. As I said, in terms of a geographical spread, we are only in around 40, 45% of the markets that have THP at the moment. So as you said, rightly I'm investing the money in terms of brand building first, consumer acquisition, the devices, I do some discounting, but not on the consumables, which is where you make your money and where you will continue to deliver value in the future.

Jack Bowles:

We are at an index of 90% and some countries at an index of a hundred or even a 107. So we're having a right balance in terms of growing fast, but managing our growth. There is, for me, always a major difference between the rush and speed. So we go at pace, at speed and we expand in markets after markets and we continue to do so on a regular basis. What's very important to me is that we have the right product, the consumers appreciate our product. We have induction heating and the burner is solid.

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