More Insights from the Calls
Interesting tidbits from PM, NATI, MHGVY, KR, AVY, and SYK
Below are some more interesting insights we came across while doing our quarterly reviews of conference calls. We will continue to provide content to free subscribers including educational pieces on the subject of earnings quality.
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Topic 1- Several companies have still seen supply chain and logistical issues in late 2022. This has led them to pay brokers to obtain supplies/parts and to use air freight more. Between that and inflation overall, margins have been hurt. Some of these companies see those additional costs mitigating going forward:
from the Philip Morris (PM) conference call:
“In 2022, total PMI gross margin contracted by 220 basis points organically. While growing inflationary pressures were a drag, the largest impact came from the combination of the rapid growth of ILUMA and transitory factors such as supply-chain disruption and the need to use air-freight.
The initially higher weight and cost of ILUMA consumable also played a role and this meant that the overall impact of our heat-not-burn business including devices was margin-dilutive in 2022. Importantly, average gross margin on HTUs remain around 10 percentage points higher than for cigarettes on the higher net revenue per unit.
The picture for 2023 is quite different while our gross margin will face increased inflationary pressure, this is now primarily due to COGS for the cigarette business as leaf, acetate tow, salaries and energy cost increase. An acceleration in combustible pricing and lower air freight cost will serve to mitigate this exceptional inflation. However, a time lag is built into our projections.
Importantly, while cost inflation is also headwind for IQOS, the 2023 margin impact of our heat-not-burn business is expected to be favorable due to the positive impact of increased HTU volume at higher net revenue per unit, planned ILUMA efficiencies and a more measured increase in device volumes.
We expect margin pressures to be weighted to the first half, particularly given the challenging Q1 2022 comparison and a progressive decrease in airfreight cost throughout the year.”
from the National Instruments (NATI) conference call:
“Non-GAAP gross margin for both Q4 and full year 2022 was 70%. 2022 non-GAAP gross margin was down 420 basis points year-over-year, driven primarily by broker fees, paid for components that were in short supply. We continue to see supply constraints easing, while there are still some key golden components, especially in legacy semi technology, we expect the supply chain constraints to ease in the first half of 2023 and the reduction in broker purchases to positively impact our 2023 operating margin.
I'll add just a qualitative view of that Dave. We definitely have seen - we talked about improving supply chain. And certainly, this broker market issue has improved quite a bit. So it really peaked, I think, in Q3. And so, we started to see less necessity of using those broker markets to procure the very hard, to procure components. Again, as Karen said in her remarks there's, still some golden screws.”
from the MOWI (MHGVY) conference call:
“1Q22 - You see that Asia is impacted by lower available volumes and rising air cargo costs, closure of parts of the air space available for air cargo to Asia following the Russia-Ukraine conflict. China increased from a low base when comparing to Q1 last year when that quarter was very much impacted by COVID-related restrictions. And we now see more restrictions in China.
2Q22 - In Asia, we see that consumption decreased by 19% on less supply and challenging logistics with the reduced air cargo capacity and thereby high airfreight costs.
3Q22 - Asia saw an increase in some markets as pandemic related restrictions were relaxed. But in general, the Asian market is impacted by still high air freight rates.
4Q22 - And then when it comes to China, China is a market which used to be around 5%. Looking at the 2019 situation before the pandemic. Now it is significant(ly) lower I guess around 3%. There is a significant potential for China. We see still (high) air freight rates that is expected, of course to improve at some point.”
Topic 2- Related to the above, companies in several industries have seen customer working down their own inventories which has hurt recent revenue growth rates. This is expected to normalize in the first half of the year.
from the Avery Dennison (AVY) conference call:
Analyst:
“Can you just give us yes -- can you just sort of elaborate on your view that the near term is largely inventory destocking versus something more broader in terms of recession? I mean you yourself are enacting a recession scenario plan. How do you -- what gives you confidence that this is purely more or less inventory destocking versus something more broader than that?”
Deon Stander:
“Ghansham, this is Deon. When you look at the volume that we saw come out in Q4, largely because the inventory destocking, we see that trend also continue in January that we saw in both November and December. And we expect in our Materials business for that destocking to be completed largely by the first quarter. On the Apparel business, as I called out, we both see inventory destocking happening as we ran through the back half of last year and will continue in Q1 and into Q2 as well.
While we don't have as much forward visibility and also because of the Lunar Year, it's clear that retailers are also factoring in sentiment into their forward volume ordering plans as well. But we anticipate that by the second half of the year that Apparel business will return to its historic GDP growth rates. And then when you factor in our additional growth that we're going to get from our IO platform, the rebounding of China, we expect to be able to deliver above GDP growth rates in the second half of the year.”
Mitch Butier:
“And Ghansham, just to build on that. It's also what we're hearing from the marketplace, our customers are talking about the fact that they had built inventory throughout the year leading up to Q4 as well as the end customers, CPG firms and so forth and the same thing on the Apparel side.
So it's market Intel. It's comparing -- we have pretty clear links between our product consumption and demand relative to consumption of nondurable consumer goods, for example, and they definitely have disconnected to the negative.
They were a bit positive early in 2022, even the end of '21, which is why we called out that we thought there was some excess inventory in the system at the time, and that continued throughout the year. And then it's unwinding just at a much quicker pace than we traditionally see. So there's a number of vectors we're looking at triangulate it gives us a lot of confidence. This is a majority of inventory correction.
That said, we do expect and consumption to moderate a bit. You're already seeing it in Apparel with a weak holiday season. And as far as you're looking at the GDP outlooks for at least Europe and North America, they're modest to a slight recession.”
Topic 3 - More evidence retailers are pushing back on price hikes from suppliers and are willing to grow their private label share more at expense of branded CP companies
Walmart (WMT) at Morgan Stanley conference in December:
“And unfortunately, some of those suppliers are still pointing us towards more inflation next year on top of the mid double digits this year, and we don't like that for any reason. We don't like it for families. We don't like it as it relates to mix and what that can mean for us. So we're pretty incented to try and make that turn happen faster than it might normally. And we've got good insight into commodity costs through private brands and others things. We know we can kind of penny out a P&L on an item and have a productive discussion with a supplier about what they're doing and try to encourage them to focus on market share and growth and the longer term with us. In the meanwhile we will allocate space to private brands and tertiary brands to the degree that we need to, to help make this work for families.”
from Kroger’s (KR) December conference call:
“If you look at in our fresh departments, clearly, inflation is slowing down in many categories. Chicken would be an example. You are starting to see that in some of the other categories as well. And I always make the comment high inflation solves high inflation because farmers produce more when their margins improve. If you look at on CPG companies themselves, right now, it’s kind of mixed. Some CPG companies are willing – much willing to have higher prices and give up growth. And what we find is when CPGs do that, our brand is so strong, we really gained share. And that helps the customers budget and it also improves the stickiness and the loyalty of that customer as well.”
Topic 4- Impairments from higher discount rates eroding fair values of goodwill and intangible assets continue to pour in.
From the Stryker (SYK) 10-K:
“In the fourth quarter of 2022 we determined that our Spine reporting units carrying value was in excess of its estimated fair value and recognized an impairment charge of $216 [million]. The fair value of the Spine reporting unit was determined using a discounted cash flow analysis, which is a form of the income approach. Significant inputs to the analysis included assumptions for future revenue growth, operating margin and the weighted average cost of capital. A hypothetical 1% increase in our estimate of the rate used to discount the estimated future cash flows to their present value would result in an additional impairment charge of $220 [million].”
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