H & M Hennes & Mauritz AB (publ) (OTCPK:HNNMY) Q1 2022 Earnings Conference Call March 31, 2022 3:00 AM ET
Company Participants
Nils Vinge – Head of Investor Relations
Helena Helmersson – Chief Executive Officer
Adam Karlsson – Chief Financial Officer
Conference Call Participants
Rebecca McClellan – Santander
Simon Irwin – Crédit Suisse
Adam Cochrane – Deutsche Bank
Daniel Schmidt – Danske Bank
Richard Chamberlain – RBC
James Grzinic – Jefferies
Georgina Johanan – JPMorgan
Anne Critchlow – Société Générale
Fredrik Ivarsson – ABG Sundal Collier
Charlie Muir-Sands – BNP Paribas
Anton Wilen – Bloomberg News
Magnus Raman – Kepler Cheuvreux
Olivia Townsend – UBS
Operator
Good day and thank you for standing by. Welcome to the three months report for 2022. At this time, all participants are in a listen-only mode. There will be a presentation, followed by a question-and-answer session. [Operator Instructions] Please be advised today’s conference is being recorded.
I’d now like to hand the call over to your speaker today Nils Vinge, Head of Investor Relations. Please, go ahead.
Nils Vinge
Thank you and hi, everyone. Thank you all for joining us today and welcome to this telephone conference about the H&M Group’s first quarter results 2022. With me today is our CEO, Helena Helmersson; and our CFO Adam Karlsson.
We will start with a short summary of the first quarter. And after that we will be happy to answer your questions. You will find the three-month report on hmgroup.com Investor Relations.
So I’ll hand it over to you Helena.
Helena Helmersson
Thank you, Nils. I would like to start by saying that we are deeply concerned about the war in Ukraine and sympathize with all of those affected. We closed our stores in Ukraine for the safety of our colleagues. And since the beginning of March, all sales have also been paused in Russia and Belarus.
H&M Group H&M Foundation and the Erling-Persson Foundation have so far donated around SEK 170 million, as well as clothes and other necessities to organizations including UNHCR, Save the Children, the Red Cross and UNICEF. The H&M group cares about all our colleagues and stands with all those around the world who are calling for peace.
If we then look at the first quarter, we ended last year with sales back on pre-COVID levels and with a strong financial position. We began the year with increased growth-related initiatives to create an even better foundation for long-term growth.
The initiatives mainly involve continuing to develop the customer experience by further broadening the assortment and integrating the sales channels and by continuing to invest in infrastructure, such as tech and the supply chain, but also in renewable energy and sustainable materials.
In addition to the general consequences of the pandemic, such as disruptions and delays in the supply chain, some of our major markets were impacted by a new wave of the pandemic in the first quarter.
Despite this, we saw a recovery of sales in physical stores compared with last year, while online sales continued to perform well. This shows the value of having both physical and digital channels, which strengthen and complement each other.
Well-received collections led to full-price sales continuing to increase, which led to more-than-expected decrease of markdowns. We are taking further steps towards offering customers more sustainable products. H&M Group has a long history of working with sustainability and it has been an integral part of our business for many years.
To acknowledge this even further we are integrating our annual and sustainability report, which is launched today. Some of the sustainability-linked highlights are that we have tripled the share of recycled material used in our garments; we have strengthened our climate goals, committing to achieving net zero by 2040 and reducing our absolute emissions by 56% by 2030; and we have launched our innovative circular design tools Circulator underlining our ambition to have all our products designed for circularity by 2025.
Looking at current trading, we are of course impacted by the consequences of the war in Ukraine, but also by continued effects by the pandemic. Sales from 1st to 28th of March were up 6% compared with last year. And adjusted for the closed markets, sales were up 11%.
The group’s plans remain intact apart from the consequences related to the paused sales in Russia, Belarus and Ukraine. We have proven that we can be flexible and act quickly as circumstances change. Value for money is more important than ever. And we are well-positioned to meet customers’ continued increasing demand for affordable and sustainable fashion.
Thank you so much for listening and we are now ready to take your questions.
Question-and-Answer Session
Operator
Thank you. We will now begin the question-and-answer session. [Operator Instructions] Your first question comes from the line of Rebecca McClellan from Santander. Please ask your question.
Rebecca McClellan
Yes. Good morning. Can you hear me?
Helena Helmersson
Yes.
Rebecca McClellan
Yes. Hi. Good morning. A couple of questions. Firstly, can you talk about the trends that — in the neighboring markets that are still open rather than the closed markets what you’re seeing there? And secondly, could you give us any update on China please?
Helena Helmersson
Yes. First, about our neighboring market, it really, really varies. And, of course, it’s difficult to know also the reasons why since we still have the pandemic in some markets and some consequences from that as well as the war. So difficult to say something general since it’s different from market-to-market. However, we see that in those markets where spring has arrived, we do see that our spring collection is very well received by our customers.
And when it comes to China we are still in a complicated situation. As you all know one year has passed and we are still not on the level of sales we would have wished for. Of course, we are working really, really hard on this and we still see China as an important market for us.
Nils Vinge
Just to add on that I remember that China March and — was very strong in China last year for us.
Rebecca McClellan
Thank you.
Operator
Thank you. Your next question comes from the line of Simon Irwin of Crédit Suisse. Please ask your question.
Simon Irwin
Good morning, everyone. Noting your comments about the factors on input costs, can you talk a little bit about what your response is going to be to this? Quite a lot of your peers have now openly discussed price increases in the current year. Will you be following them?
Helena Helmersson
Of course, we will also need to adjust prices. But our overall focus as usual is truly to make sure that customers can feel secure that they can come to us and get the best combination of fashion price quality and sustainability. And, yes, we have seen that competitors have already started to increase prices. We will adjust different on different markets and also different on different product types and always to make sure that we strengthen our position also compared to competition.
Simon Irwin
Thank you. And just in terms of the outlook for gross margins, obviously, you’ve mentioned that 2Q it’s negative versus slightly negative for 1Q. Can you just give us a sense about is — will 3Q and 4Q be worse again than 2Q in terms of input costs?
Nils Vinge
Yes, that’s correct.
Simon Irwin
Okay. Thank you very much.
Operator
Thank you. Your next question comes from the line of Adam Cochrane of Deutsche Bank. Please ask your question.
Adam Cochrane
Hi. Good morning. A couple of questions for me. Firstly, the trajectory of sales as you went through the second quarter last year, can you just remind us of how — because of the impacts of COVID sometimes it’s quite hard for us to really gauge. Can you just tell us as we look through the comparisons from last year how the second quarter evolved from March onwards? Does it get easier or tougher as we look forward? And the second question is…
Nils Vinge
Could we take one question at a time? Adam will take that one.
Adam Karlsson
Yep. Looking into second quarter then April was a month where the number of store closures increased quite substantially versus March of last year. So that’s one part of Q2 last year that we had a fluctuating number of stores, but April was a high level of store closures last year.
Adam Cochrane
So you’d expect the sales to accelerate? On – just on a comparative basis they get easier as you go through the rest of the second quarter?
Adam Karlsson
Well all other things equal yes. We will meet a higher number of store closed in April than we did in March.
Adam Cochrane
Okay. Fine. And then the second question is the – have you been able to work out whether the sales that you’ve been seeing in March appear to be more cyclical factors or more structural factors in terms of the consumer spending? Maybe are you seeing any signs that it’s a bit weaker due to concerns over inflation or anything else, or you still have the view that this is – appears to be more of a cyclical issue.
Adam Karlsson
What we still can see is that customers appreciate novelty and renewal more than a year back when there were more basic demand. So that is our focus to continue to ensure that, the offering is updated and meeting that overall demand.
Nils Vinge
And we see big differences between from market to market again due to various – I mean, various COVID – different COVID situation this year and last year, also different weather. And as Helena said, where we have spring weather we see strong well-received collections in those markets.
Adam Cochrane
Okay. Thank you.
Operator
Your next question comes from Daniel Schmidt of Danske Bank. Please ask your question.
Daniel Schmidt
Yes. Good morning, guys. Do you hear me?
Helena Helmersson
Yes. Good morning.
Daniel Schmidt
Yes. So a couple of questions from me. I might have missed it, but could you give us any indication of what you see in terms of markdowns for the coming quarter if I start there?
Nils Vinge
No, we haven’t guided. We typically don’t guide for markdowns. But just to remind you, the second quarter is more a full price quarter and not so much markdowns typically.
Daniel Schmidt
All right. Coming back to Q1 then and sort of the operating leverage, and you have of course talked about more growth initiatives and expenses for that, and also the pandemic. Is mix an issue as well when it comes to the sales channels off-line versus online? And given that then online is a little bit down and you see strong growth in off-line although you – in my head that would mean good operating leverage as you have a lot of fixed costs in off-line. But could you shed some light on that?
Nils Vinge
It’s true. There are mix effects both channel, but also geographical. So it’s complicated. But you’re right. The online channel obviously has been very profitable during the pandemic. And now when we see that the store channel is picking up and – from very low profitability, of course during the pandemic. So it’s improving, but it has a negative mix effect now. That’s the equation.
Daniel Schmidt
Okay. Okay. Good. And then sort of speaking about these growth initiatives and you mentioned tech and supply chain. Could you quantify in numbers what that was in Q1? And what should we expect for the rest of the year?
Adam Karlsson
Well, the overarching theme is, of course, the nature of the tech agenda. Looking at Q1, we increased the pace and accelerated the innovation and test agenda. And that, of course affects then how the IT costs are taken – rather expensed and capitalized. And of course, we will follow this. When we will build something, we test it, and really roll it out. That will then change, the balance between capitalized and expensed cost. So it’s sort of a moving target. But I think – and one assessment that can be made is that the expense levels will be higher this year than pre-pandemic levels.
Daniel Schmidt
But you can’t give us –sorry, go ahead.
Nils Vinge
You’re on to something here of course. What Adam says, mainly, the delta between 2019, if you refer to that mainly explains — is explained by the nature of the tech investments, which is more forward-leaning more about test and innovation as Adam said thus expensed.
Daniel Schmidt
Okay. But you can’t give any sort of range in how much more is going to be expensed compared to the base that you referred to?
Nils Vinge
We will continue of course, with the test innovation and tech invest, because we are still — our long-term targets and 2030 targets remain intact. However, of course, now with the — given the circumstances we are reassessing a lot of things. But our long-term again is still important. Of course, we will continue to invest. Yes.
Daniel Schmidt
Yeah. Okay. That was all for me. Thank you.
Operator
Thank you. Your next question comes from Richard Chamberlain of RBC. Please ask your question.
Richard Chamberlain
Thank you. Good morning. A couple of questions from me please. So, in the statement you talk about ongoing supply chain efficiency efforts and the integration of sales channels. I mean it sounds like inventory might have been down and — if it were not for orders brought forward. And you think you can run with a sort of lower inventory level structurally in the future. So, can you sort of elaborate a bit more on the work you’re doing in terms of supply chain efficiency and integration? That’s the — that’s my first question. Thanks.
Helena Helmersson
Well, overall, as you know, we’re investing in supply chain and technology. It is a lot about being able to react faster to customer demands and also integrating the different channels. And this will also, of course, make sure that we have a great customer experience. When looking at stock levels of course, this type of efficiency will gradually lead us towards our goals. And what you see in the report now is a slight increase, mainly then due to also the disruptions that the industry has seen overall in the supply chain where we have also placed some of the orders earlier to avoid delays.
Richard Chamberlain
Okay. And another one for me is in terms of costs, so you talked about the tech investments, so are you going to be making any specific sort of cost undertaking any kind of cost control initiatives in response to the Russian-Ukraine crisis or recent sort of COVID outbreak? So, are you going to be taking a different approach now on costs for the rest of the year?
Adam Karlsson
I think the last two years has really shown us that we need to be very agile and flexible. So, of course, we are reassessing based on the current situation. I think we can also conclude that a lot of the work done previous years for example in the store portfolio optimization initiative and so forth will continue to benefit us during this year with higher share of turnover-based rents and so forth. So some initiatives that we’ve previously done will still benefit us. But, of course, we will reassess the plans for the year given the circumstances around us.
Richard Chamberlain
Okay. Understood. All right. Thank you.
Operator
Thank you. Your next question comes from the line of James Grzinic of Jefferies. Please ask your question.
James Grzinic
Yeah. Thank you. Good morning, Helena, Adam, Nils. Just really trying to understand how you’re approaching prices — how you approach prices for the spring/summer season and the autumn/winter season upcoming one. Are you not budgeting for unchanged bought-in margins? Are you basically saying, we’ll keep pricing unchanged to start with then see how competition develops from price points and how we can recover that volume gross margin as the season goes by? And just would be really, really interesting to understand how you’re going about that, because it doesn’t feel as if you’re starting by landing prices at the start of season so to fully recover the incremental costs.
Adam Karlsson
Yeah, but — of course, we are acting on the forecasts that we can do on how the cost will develop going forward. And there are two big levers. One is the price increases that Helena indicated. That will start now to come during the second part of the spring. The other part is, of course, how we can offset that with lower markdowns and more full-price selling. So we’re working with both of these levers. In Q1, it was the markdown lever that was the significant one. But for second quarter and onwards we will work more on the out price.
James Grzinic
Okay. So in terms of that pricing policy you adjust within season in specific markets looking at how the pricing architecture has developed around you basically. Is that the way I should be thinking about it?
Adam Karlsson
Yes exactly. As Helena said, we will do it to ensure that we are competitive in each market and within each product category.
James Grzinic
Great. Okay. That’s very good. Thank you.
Operator
Thank you. Your next question comes from the line of Georgina Johanan of JPMorgan. Please ask your question.
Georgina Johanan
Hi. Thanks for taking my question. Two from me please. I’ll ask them separately. The first one was just with regards to the gross margin and just to understand a little bit better the moving parts there if possible please because if I look at your gross margin back versus 2019, I think it was still down. So is it possible to provide some bridge for us on that please? I would have expected it to being better — be better given that markdowns came in better. That was my first question please.
Nils Vinge
Right. I think it’s easier if we start actually with last year, and as we guided for improvement in markdowns of 100 bps, which we actually exceeded. So, there is one part of deposit compared to last year, and of course we got some leverage on the increase in revenues compared to last year, and then finally we have — as we state in the report, we saw the increased input prices mainly on freight started to come through a bit early that we’ve planned. So that’s basically the equation.
Georgina Johanan
And from a leverage perspective is that now back to normal, or should we be still expecting say next year some further leverage to come through if you can go further on sales?
Nils Vinge
As revenues are coming back to more or less normal levels, of course, that is — but that doesn’t mean that everything is fixed. That’s why we call it semi-fixed because there is always things that we do to improve things and also invest. And part of the investments that Adam was referring to that we talk about is also applying in COGS for logistics and supply chain of course.
Georgina Johanan
Okay. Thank you. And then my second question was — apologies if I missed it in the annual report. But I was just wondering if you could clarify what portion of EBIT and — is actually coming from Russia and Ukraine please.
Nils Vinge
We don’t specify, but it’s not a secret that Russia was one of the most important growth markets and it’s also — it was also very profitable.
Georgina Johanan
Okay, great. Thank you.
Operator
Thank you. Your next question comes from the line of Anne Critchlow of Société Générale. Please ask your question.
Anne Critchlow
Good morning. Thanks for taking my questions. I’ve got two please. So the first one is about Russia. Just wondering how flexible the cost base is there. So what percentage of normal operating costs do you think you might be able to save this year?
Adam Karlsson
It is a flexible cost base in Russia. Not 100% obviously. But we are looking into how to manage that, of course, day by day now given the conditions in the country. So generally it’s a flexible cost base.
Anne Critchlow
Okay. Thank you. And then my second question is about the marketplace that you’ve started in a few countries I think for H&M. Just wondering how many brands so far and how that plays into your assumptions for 2030, the doubling of sales that you’re targeting. Do you think marketplace will be really quite important within that? Thank you.
Helena Helmersson
Yes. We’re now testing several brands on h&m.com. We have started to test it in Sweden and also in Germany. And here, we have invited of course our own amazing brands also the smaller ones. And also, we are in partnership with some external brands.
And this is a trial where we simply want to widen the assortment for our customers and make sure that we can offer them and kind of inspire them to really have their own personal style. So, early days, difficult to say exactly how this will proceed, but very, very interesting testing and positive feedback from our customers. And of course, this is one out of many initiatives to take us towards our 2030 goals.
Anne Critchlow
Thank you very much.
Operator
Your next question comes from the line of Fredrik Ivarsson of ABG Sundal Collier. Please ask your question.
Fredrik Ivarsson
Yeah. Thank you, and good morning guys.
Helena Helmersson
Good morning.
Fredrik Ivarsson
Two from me as well, first, can you help us understand the March figure a bit better? Because if I do my math right we’re looking at a double-digit decline versus March 2019 and that’s obviously a steep deceleration from Q1. So is this a result of the supply chain issues, or is there anything wrong with the spring collection, or yeah, if you could talk around that for a second.
Adam Karlsson
No. But there is of course, as we mentioned here, one effect of the post-operations in Russia. But if we look at the like-for-like versus 2019, we are seeing 2% to 3% decreases versus 2019.
Fredrik Ivarsson
If you take out, Russia?
Adam Karlsson
Yes exactly.
Fredrik Ivarsson
Excluding Russia, okay, and then, a more general question on consumer behavior. Have you seen consumers reacting to the surging inflation rates, yet if you could give any color on what you’re seeing out in the markets?
Adam Karlsson
No. Of course, it’s a competitive environment. And the — with all other costs increasing we closely monitor this. But primarily we see that customers appreciate our collection and believe that we are well positioned with our complete offer to be successful also within this sort of inflationary trends.
Fredrik Ivarsson
Great. Thank you.
Operator
Thank you. Your next question comes from the line of Charlie Muir-Sands of BNP Paribas. Please ask your question.
Charlie Muir-Sands
Yes. Good morning. Thank you. I’ve just got one question, that hasn’t already been asked. It relates to your annual report. Obviously, last year you did a fantastic job with working capital and generated over SEK12 billion in inflows from payables.
And I remember, at the time you said that that was effectively through facilitating your suppliers’ access to reverse factoring or supply chain financing. I wondered, if you could disclose what the figure is as some companies do.
Adam Karlsson
For last year you mean? For 2021?
Charlie Muir-Sands
Yeah correct.
Adam Karlsson
Yeah. The vast…
Charlie Muir-Sands
How much of the SEK12 billion was driven by reverse factoring or supply chain financing that you facilitated?
Adam Karlsson
The vast majority 90% of it, so about SEK11 billion was the total for 2021.
Charlie Muir-Sands
Many thanks.
Operator
Thank you. Your next question comes from the line of Anton Wilen of Bloomberg News. Please ask your question.
Anton Wilen
Yeah. Hi. Thanks for taking my questions. I wonder, if you can tell me those 42 stores that were closed as of yesterday today, due to the pandemic which market.
Helena Helmersson
We have 42 stores closed in China, right now due to the pandemic.
Anton Wilen
All right, and can you tell me which markets do you see now as most interesting for growth going forward?
Helena Helmersson
That’s an interesting question, and of course we see a lot of possibilities moving forward both, when it comes to mature markets, but I would say also a lot when it comes to the new markets. Right now we’re seeing great development in North and South America. So, again a mix of mature markets and more new markets. Also in UK also great development in India just to give a few examples. But we have a lot of initiatives ongoing with integrating channels which obviously it’s a true strength that we have physical presence as well as digital. And we also have a lot of other growth initiatives. So, a little bit of mix of new markets and mature markets when looking at the potentials.
Anton Wilen
Okay. Thanks.
Operator
Thank you. Your next question comes from the line of Magnus Raman. Please ask your question.
Magnus Raman
Yes. Thank you. I would just like to ask about the inventory position in Russia. If you can comment on to what extent you had a sort of currency affected write-down of the inventory due to the ruble depreciating when you exited this quarter since the interest rates, of course, have been jumping up quite a lot and if you use the end date there.
And then if perhaps you can give us any lead into the size of the inventory position in Russia. If I would use for example the global inventory to trailing sales number it will suggest roughly SEK1.5 — SEK1.5 billion of inventory value in Russia. Could you comment on if that’s around the lines correct? Thank you.
Adam Karlsson
If we start with second question, I think the sales proportion of Russia, I think it’s a good proxy for the share of stock as well though even though Russia has been able to trade with slightly lower stock to sales than average. So, your number there is on the high side.
If we look at the — how we handled it for Q1, it is — we haven’t done any adjustments to the inventory levels from a valuation point of view. But of course, we will look into it during the quarter how to assess the situation.
Magnus Raman
All right. But is it correct that you translate the inventory value into Swedish krona each quarter for — in all the markets?
Adam Karlsson
Yes, it is in Swedish krona. It’s valued in — yes, exactly, Swedish currency. Thank you.
Magnus Raman
So, the sort of — if it was a 25% depreciation of the ruble versus the SEK that would be also the — then the impact would have been like 25% of that SEK1.4 billion or whatever. If — so to my question on the depreciation from translation is certainly if you use the average currency rate or if you at the balance sheet post the end sort of date from the quarter the currency effect for the translation.
Adam Karlsson
Look the stock is valued in SEK. And then when it’s sold, it is then paid by the local market. So, it’s kept in Swedish kornas.
Magnus Raman
All right. Thank you very much.
Operator
Thank you. [Operator Instructions] Your next question comes from Olivia Townsend of UBS. Please ask your question.
Olivia Townsend
Thanks. Yes, I just have a few sort of clarification question. So, for markdown in Q2, I understand you might not want to give a number. But I just was wondering if you could give your view in terms of where you were expecting that to go directionally, i.e. up or down and year-on-year that would be helpful.
Nils Vinge
It’s still very early days in the quarter. So, — and we — as I said, we prefer not to guide on markdowns. And it is a small markdown quarter. So, I’m sorry, we will come back to that later.
Olivia Townsend
Okay. Understood. And then just secondly on the investments to be made in order to reach that 2030 target on sales, again I understand you might not want to quantify the amount that’s needed to invest in order to get that. But given you’ve done quite a few investments into online over the last few years, I was just wondering if you could give us some kind of sense of where you feel you are already in terms of the amount that you would need to invest. Are we very early on in that process, or do you think it will come further along? Just would be helpful to get a sense of that please?
Adam Karlsson
I think we can say that a lot of the platform investments have been taken. And we’ve been seeing the benefits of the previous investments during the pandemic and primarily connected to our digital store and our supply chain. Now as mentioned we are accelerating the sort of the test and innovation agenda. So it will still be a high activity to ensure that we develop and primarily within the tech side. But it will be less of the big platform investments this year than compared to pre-pandemic levels.
Olivia Townsend
Great. And just one final clarification just on a question that was asked earlier, just around Q2 and the plans for the investments in Q2. It sounded like you were suggesting that maybe you focused a bit more on protecting profitability for Q2, given the obvious situation in Russia and Ukraine. Is that the right way to think about it that the investments might have been dialed back for Q2, but you would be looking to sort of ramp them up again for Q3, or is that sort of a bit too granular to comment on?
Nils Vinge
No of course, I mean in this current situation we have to be agile and assess and make a holistic assessment so to speak. So of course, margin profitability is also an important part short term.
Olivia Townsend
Thank you.
Operator
Thank you. Your next question comes from Daniel Schmidt of Danske Bank. Please ask your question.
Daniel Schmidt
Yes. Just a follow-up question for me and maybe related to what Adam just talked about a while ago. When it comes to price increases, I think you said that you will start to do price increasing — increases entering the second part of the spring. And does that basically — how should you sort of stack that against external factors entering this quarter? Does that mean that you would — sort of aiming to get half compensation or some compensation or full compensation for what you’re seeing in terms of input costs?
Nils Vinge
Of course, we can’t be that granular. But — and — but what is clear that we won’t give that the — our customers all the burdens, so we’ll take part of it. But as Helena said, and that’s the most important, the customers always trust us to give — you can always find the best combination of fashion quality prices. It’s embedded with H&M. But of course, given the substantial input price increases of course we need to adjust. And then as Adam said and Helena said also, it will vary how much from market to market and from category to category and even product by product.
Daniel Schmidt
And entering the second sort of part of the spring is that April and onwards or…
Nils Vinge
It’s a gradual shift of course. It’s not from one day to the other. So it’s already — I mean it’s a gradual ramp-up of course.
Daniel Schmidt
Okay. But is it fair to say that you haven’t done the adjustments yet?
Nils Vinge
It’s a gradual ramp-up as I said. And if you walk to stores and online you will see that some prices might have been adjusted already.
Daniel Schmidt
Okay. Thank you.
Operator
There are no further questions coming through on the line. Please continue.
Nils Vinge
So, thank you all very much for participating in this conference call and bye for now.
Operator
Thank you. That does conclude our conference for today. Thank you all for participating. You may all disconnect.
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