British American Tobacco p l c : Presentation transcript (0.3 mb)

UBS Global Consumer and Retail Conference

Fireside Chat with Chief Executive, Tadeu Marroco

Event Transcript

Wednesday 13 March 2024

CORPORATE PARTICIPANTS

Tadeu Marroco

Chief Executive

UBS HOST

Faham Baig

Sell-side analyst, UBS

Faham Baig, sell-side analyst, UBS

I'm the global tobacco analyst at UBS, and I'm very pleased to welcome BAT's CEO, Tadeu Marroco, to this year's Global Consumer and Retail Conference in New York. Tadeu, thank you for joining us.

Tadeu Marroco, Chief Executive

It's a pleasure.

Faham Baig, sell-side analyst, UBS

The format of this session will begin with a brief introductory presentation by Tadeu, followed by questions from myself, before we open it up for Q&A from the audience. You can enter your questions on the application.

Tadeu, I'll hand it over to you.

Tadeu Marroco, Chief Executive

Okay. Thank you, Faham. So, good morning, everyone. Faham, thank you very much for inviting me here and have the opportunity to talk to you and the audience about our, BAT's, journey on our transformation.

So, I have some slides here to go to go through. First, I would like to call your attention for the disclaimers, and if I can move this forward?

Well, yes, on Slide 2, on Slide 3.

Anyway, look, in 2023, BAT performed in line with our guidance, and this is basically a year where we showcase the resilience of our group in terms of our global footprint and also the multi-category portfolio that we have in the group.

Our new categories are now profitable, two years ahead of the original target. We have made very good progress across all the key focus areas, and I'm sure that we'll have time to talk this through during the next few minutes. And what

we are trying to do is basically to deliver the right balance between growth and sustainable returns for shareholders.

We have strong cash flows, and we are committed to reward shareholders through enhanced financial flexibility.

So, in 2023, our revenue was above 3%. We have an organic adjusted operating profit of almost 12%, with an adjusted EPS reported at 4%, organically at 5.2%. I would like to call the attention that, in our case, we don't adjust for transaction FX. And in 2023, we had a 2.5% headwind on transaction FX, which is included in those numbers that you are seeing there.

Our new category revenue grew by 21% last year, and we have a very strong performance in markets in the regions outside the U.S., with APMEA and AME, the other two regions, delivering combined and double-digit revenue growth and high-single-digit adjusted profit growth.

We are now reaching almost 17% of group revenue in the smokeless side of the business. We have grew 170 basis points against the previous year. And more interesting, when you deep-dive into the markets where we are present - we are present today in 76 markets selling new categories products - one-third of those markets, around 24 markets, we have achieved more than 30% of revenues in smokeless products.

If you see here in the right of this chart, we managed to move from a loss position in new categories from £1.1 billion in 2020 to slightly profitable last year. Last year, 2023, we contribute with £400 million in the P&L of the group coming from the new categories. So, this is a testament that new categories become more and more relevant for the group outlook (ph) in terms of revenue growth and operating profit growth.

We have defined what are the priorities when I took over the CEO in order to sharpen our execution. So, you can see here in this slide some of the latest

developments in those priorities. The first one I spoke about in terms of profitability of the new categories. This is all about being more focused not just on the revenue growth, but also on the bottom line and the impact on the profitability of the group.

We have clearly done some exercise in terms of improving our resilience in the U.S. in terms of our U.S. combustible business through economic cycles and regulatory changes, and we have put in place commercial plans. And as a consequence, we're already seeing very good early signs on that growing something like 40 basis points of market share since January 2023 to December 2023 and 20 basis points of value share in the same period.

In THP or HP space, we have concluded settlement in terms of our patent, which bring in more focus for our execution. We also have enhanced our previous device and previous consumables, and we are now in line in - we are now on track to deploy all those new innovations across the different markets.

We were the first to introduce a known tobacco product, our herbal tobacco- heated product. And this is an important feature to deal with flavors ban that came in place from the end of last year in Europe. And some of the markets are now in the process of rolling these out. So, this has been well-received by consumers. And these, together with the improved device, enhance our level of competitiveness compared with what we had before.

The other focus area is around to be much more foot-fronted in the way that we want to advocate for tobacco harm reduction agenda and being basically much more proactive based on the science evidence that we have currently to prove that these products have a much lower risk profile compared with combustibles.

And finally, we have been doing a lot of exercise in order to create flexibility, capital flexibility for the group. You probably have heard about some divestments that we have done recently in ITC, which result in us reestablishing our buyback program and on top of our progressive dividend.

And we are focused also on achieving operational and data excellence. We have a very successful track record in terms of taking cost out of the group. We made big improvements already in 2023, with something like £0.5 billion pounds in cost savings last year. And we are well on track to deliver another £1 billion of savings for the three years between 2023 and 2025.

And all of that underpinned by a more collaborative and inclusive culture, which has been reinforced by the relaunch of the values of the group.

In terms of our cash generation, we have for the fourth consecutive year converted 100% of profit into cash. This means that over the last four years, we have been able to return back £26 billion in cash to our shareholders via dividend, and some of that in buybacks. And also, we expect to generate another £40 billion of free cash flow over the next five years.

We have a very cash-generative company. You saw last year we generated above £8 billion in free cash flow. And we use that to manage the leverage. And now that's reaching 2.6x.

For sure that we don't want to compromise in the short term in terms of the investments to reach our midterm goal to provide sustainability for the company. So, as a consequence of that, we note that the macroeconomic situation in the U.S. is difficult. So, we have now provided a three-year guidance reflecting this difficult year in 2024 and improving as we go along this three- year period towards our guidance of 3% to 5% organic revenue growth and mid- single-digit adjusted profit operating growth by the end of the period.

And finally, in the February year-end results announcement I presented the revised strategy for the group, where we clearly indicate the vision to reach a 50% smokeless revenue vision by 2035 via switching the smokers towards a better choice of these potentially risk products that we have in offer today.

And this strategy, this purpose, this vision, this mission is supported by three defined pillars - quality growth, sustainable future, dynamic business - and all underpinned by the values that I was referring to. What it does for the group is to create a line of sight. So, every single employee in BAT will be aligned in terms of what we want to achieve and how it reflects in terms of our key performance indicators that we are setting for different parts of the business. All those measures or initiatives that you see in this chart here will be followed by clear performance indicators so we can track our performance, moving forward.

And with that, I'm sure that we can reach out to sustainable returns for our shareholders in the medium term.

So, that's what I had to say as an introduction. I think that I'm going to stop here and have more time to answer questions.

Faham Baig, sell-side analyst, UBS

Thanks, Tadeu, for the in-depth presentation. My questions are going to focus on the six areas you highlighted last year to evolve and accelerate BAT's transformation.

Before we go into these, Tadeu, you suggested that the transformation will need to be supported by a more collaborative and inclusive culture. How would you describe the previous efforts and culture at BAT? And how are you looking to evolve this for a better tomorrow?

Tadeu Marroco, Chief Executive

Look, we have to recognize that the world today is much more complex than before. We have geopolitics challenge. We have technological challenge, climate challenge. In our case, we also have regulatory challenge. So, we need really the strength of every single employee in the company in terms of giving them the space to speak their minds and bring ideas and try to collaborate. So, that's the first point.

The second point, we are going through a very comprehensive transformation as a business. We came from 100 years where, for example, innovation was not a feature. If you see the combustibles business, we had an innovation back in the '50s, we have capsules introduced in the early 2000s, and that's it. And all of a sudden, we have to create a business that is innovation obsessive, just to give an example.

This means that we have to create new capabilities and bring more talent from outside, talent that could enhance our skill sets in areas like, for example, intellectual property, in terms of science, in terms of innovations, and so on. So, we need to create a culture that could embrace them. And again, that they can contribute and speak their minds.

So, that's exactly what we are trying to do restating the values of the company, because I'm of the view that together we can be much stronger than work in isolation.

So, I think that that's, I would say, the major difference in terms of focus of the group, moving forward.

Faham Baig, sell-side analyst, UBS

Very good to hear. You've suggested that BAT's multi-category strategy is right, but the company needs to sharpen execution. From the outside, to execute behind four or five categories across several markets simultaneously does not sound straightforward. How are you looking to set those priorities and incentivize employees to ensure better results?

Tadeu Marroco, Chief Executive

First of all, we were the company that on the onset of this ambition to transform into a more less-reliant company on the combustibles, to adopt the idea that these needs should be done through a multi-category, as opposed to one category, one size fits all. And we knew that since the beginning, because we knew that consumers were different, they have different tastes. And also, the regulatory environment is different across the different markets.

Now we proved to be correct, and we have seen more and more consumers poly-using this product. We've seen the different markets for consumers using tobacco-heated products, at the same time using vapor or using nicotine pouches and so on.

So, we were right in adopting this strategy. But clearly, the strategy was more complex, was more costly, and more lengthy. That's why we came to a point in time that we were reaching £1.1 billion loss in the P&L, because we were trying to develop those three global brands at the same time and creating all these new capabilities that I was referring to before.

So, clearly, that is and was the right strategy for us to go for.

At the end of the day, I don't think that looks very much complicated as you suggest, because the consumers are the same. We are dealing with consumers that want to use nicotine. But there are clearly new ways of using this that is potentially much less risky.

So, what is important is for the markets to know the role that they have on this transformation. Because as I said before, regulatory environment is still very incipient. It is still evolving. So, you have clearly markets today that we cannot sell any of these products, and we have markets that are truly embracing the tobacco harm reduction. You take Sweden, for example. They are about to be nominated the first European market to reach risk-free, with an incidence of cigarettes around 5%. They have currently something like 5.6%, at the back of a massive reduction in terms of lung cancers in Sweden and being the lowest incidence of male cancer in Europe.

So, what we have done is creating a kind of market archetype, where we define exactly within BAT what are the roles that each market has, and we have created key performance indicators so everyone understands that if their role, for example, is to extract as much value as possible from combustibles or if their role, in the other extreme, is pretty much focused truly fully on the categories that we are now deploying.

So, that's a way to minimize the complexity.

Faham Baig, sell-side analyst, UBS

Good. Now, the reduction in new category losses was two years ahead of the original target. What areas of investments or savings surprised more positively compared to the original plan?

Tadeu Marroco, Chief Executive

There's no doubt that when you start gaining more scale, you have massive improvements on your cost side. So, we managed, for example, to move a lot of manual tasks into automation, with big improvements on the cost side.

Also, something that we have observed, as you get more relevant in the market with your brands, you have more negotiation power with the trade, for example. And then you can move from percentage of revenue to pay for performance, with some improvements in trade margins.

Surely, when you have more years deploying those and activating those brands, you learn more. So, marketing spend effectiveness is another area.

And finally, I think that I would like to highlight the revenue growth management that we were already using in combustibles that we start using also in those new categories, giving more chance to optimize pricing in those areas that we saw opportunities.

So, when you pull all these together, these are, I would say, the major vectors behind the drive on those categories.

Now, in any single moment - these are consolidated numbers. In any single moment, you'll be seeing markets where those categories has already been deployed two or three years and, hence, are in a positive territory, and some that we have just started. So, out of the 76 markets that I was referring to, we have already more than 20 markets in a profitable position in the group. And if you see the top 10 markets that account for 75% of our revenue, we have moved in terms of a contribution, category contribution, which is equivalent to operating margin, from minus 20% to plus 25% and the gross margin getting very close to 6%. As you know, the gross margin on cigarette is around the 6% to 8%.

Ultimately, what we want is to make indifferent, financially speaking, to sell any of these products vis-à-vis what we have today in cigarette, and that is the ultimate goal. And I think that we can get there.

Faham Baig, sell-side analyst, UBS

Okay. Now, a third area of focus is the highly talked about U.S. market. Over the past five to six years, the industry has passed through significant price increases and witnessed rising returns. What do you see as the volume pricing and operating profit outlook for the U.S. combustibles business over the medium term?

Tadeu Marroco, Chief Executive

We need to put the movement in the U.S. into perspective, because probably it was a very unique situation around the world in terms of a massive U-turn from the consumer point of view and where consumers were fully supported at federal and state level at the time of COVID, without being able to spend much. So, a lot of, in our case, consumer moments to use the product. And all of a sudden, a market that usually has a secular decline around 45% was flattish to actually improving in 2020.

And this whole thing make a massive U-turn with all this support being withdrawn in the same time and at the same time that we were seeing a massive spike in terms of inflation, which makes their purchase baskets much more difficult or challenging for them. And also, interest rates impacting credit card use, impacting mortgage.

And so, we are still facing that moment where salary inflation hasn't catched up yet for these higher levels of price, and the interest rate is still being impacting in terms of discretionary expense that they have. So, we expect these macroeconomics - and macroeconomics is the major reason why we are seeing the increased level of decline in cigarettes.

The other element that we are aware of is the illicit, more than disposable, in vapors, products that hasn't been properly regulated and today represent 60%