British American Tobacco : Fireside chat transcript (0.2 mb)

British American Tobacco plc | Deutsche Bank - dbAccess Global Consumer

Conference | June 7, 2023

Gerry Gallagher:

Good morning everybody. My name is Gerry Gallagher. I'm a member of the European Consumer Staples team at Deutsche Bank and it's a very great pleasure to welcome you this morning to a presentation from Tadeu Marroco, the new CEO of BAT. So Tadeu will open with a few comments and we'll then go into Q&A. I've got plenty of questions I can ask but it'd be great if we could have some participation from the audience. Just raise your hand if you've got a question to ask and I'll happily point you out to the crew with the microphones. So with that today, over to you for your opening comments.

Tadeu Marroco:

Okay. Good morning, Gerry. Good morning everyone and thank you for inviting me here to be here today. Well, I would like to start saying that I'm really proud to have been appointed the CEO of BAT. BAT has a wonderful heritage and I'm committed to build on it in terms of bringing a more modern BAT, more agile, more progressive, more inclusive, more collaborative. We have very strong talent people. We have winning brands. We have a strong pipeline ahead of us. And more important, we know we have a deeper insight of consumers. The strategy is right. [inaudible] I would like to start saying. I have been at the center of the strategy, formulating it and implementing it since 2019. We have a massive opportunity ahead of us in order to transform this industry offering smokers a really alternative and a lower risk alternative for the smokers that can have a tremendous positive impact on society and also in terms of their business.

So we had done great progress in this journey. We started basically from scratch after ... Five years ago we reached something close to £3 billion of revenues in these new categories at the end of last year. This by any measure, compared with any other FMCG, is a remarkable achievement. We have established ourselves in leading brands across some of these new categories. We have achieved to convert something close to four million consumers of smokers towards these new products on an annual base and we have just reached more than 23 million of consumers of these non-combustible products. We are very confident in achieving our targets that we set ourselves of five billion by 2025 and we are doing quite well in terms of the profitability of the business that we now expect to achieve earlier, by 2024. Our combustible business, which is fundamental for us to fund all this transformation, is doing exceptionally well outside the US.

We have been able to navigate through all the inflationary pressures, through the costs program that we had put in place three years ago. It's called Quantum. We have delivered double of the targets that we have set ourselves that help us to mitigate some of the pressures that we are seeing. And we have strong cash flows, have been able to deliver a hundred percent of conversion from profits to cash over

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the last few years. And with that we have been able to progress with the leverage, the balance sheet of the company and set ourselves in a very nice position moving forward. So a lot of questions about what I will be doing differently. So like I said, it's not about the what. I think that the strategy is right. It's about the how. I want to sharpen the way that we execute the strategy, with great focus on few bigger initiatives, new bigger priorities.

I want to use the market archetype to do that. Clearly the maturity of these new categories vary substantially market by market. We are global organization, so we want to take this into consideration in order to get the best return from the money that we invest. I also want to reboot the culture and the leadership in the group to become much more collaborative, much more inclusive, which has always been part of my leadership approach. There are for sure operational issues that we have to face. I refer to combustible doing well outside the US. I cannot say the same in the US. I think that we have a long journey ahead of us to better prepare our portfolio to cope with a very difficult macroeconomic environment. This will take some time. In some [inaudible] we have already started changing, implementing some commercial plans, but these will require careful and very thoughtful thinking and initiatives for us to be able to reach where we want to be.

Because we have a very strong pipeline of products in the US, in the combustible in particular, and we want to make it more resilient than they are today. There are early signs of improvement. The premium segment, where we are very present, start to give signs of stabilization. And this, together with the commercial plans that we have put in place, will put us in a much stronger position moving forward. I'm also disappointed with the performance of THP in particular in Q1. We have been facing a lot of competitiveness in some key markets like Japan and Italy. And the good news here is that we now start to have a pipeline of products that we start addressing some of the pain points that we have had in our offers. We have just launched a new version of our GLO Hyper product, is the [inaudible] that you find in the markets, the lightest you find in the market, which start addressing some of the concerns of our offer so far.

I also want to increase engagement with regulators, policy makers, and relevant stakeholders. I think there is a lot of opportunities for the industry as such in order to manage the regulatory environment. And trying to influence with all the science that we have developed in order to take different stakeholders along this journey with us. And I want to do this operating the highest ethical standards possible moving forward. I have done a lot of work in terms of compliance in the group over the last few years and this for me will be a key priority in terms of how we manage the way we do things and the high level of integrity. We want to give continuous focus on strong and consistent cash delivered and the leverage of the company. We understand the importance of cash return for our shareholders. We are committed to the 65% of dividend payout over the long term.

We are making very good progress, this in particular in terms of the leverage and the balance sheet, and we want to be closer to the middle of the range of two to three times in terms of EBTA as much as we can by the end of this year. Once the leverage [inaudible] has reached it, we are committed to sustainably return excess cash to shareholders. So I would just make the pledge for all you that I'm committed to work tirelessly to deliver on this, guided by our purpose and enabled by a focus on flawless execution. I'm confident that the strategy and our transformation will translate into long-term sustainable value for our shareholders, and I maintain also the full guidance for 2023. So it's just skill [inaudible] and then we can go for Q&A.

Gerry Gallagher:

Thank you, Tadeu. So as I said earlier, I'll open with a few questions, but please feel free to raise your hand and we can get a mic to you guys in the audience. So that was a very helpful opening set of

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comments Tadeu. You've set out your stall in various ways. You talked about in terms of the strategy, it's not about what, it's about the how. There's a few things to read in between the lines there. So I'm just going to come a very simple, straightforward question to start with. I think most people would agree that in this room at least that Jack's departure was probably a surprise to most of us. Could you just tell us why the board acted and why they chose to appoint you?

Tadeu Marroco:

Look, what I can tell you is that there is no one single event triggering this. The board made an assessment around the external environment. The economic cycle has been very different. The regulatory environment is also very different than it used to be. And we have a heightened competitive landscape. The boards took all those points into consideration and the management decides that was the time to have a change in leadership. So that's where I came in the picture. So like I said in my opening, what I bring into BAT moving forward is a much more thorough and sharpened execution.

I'm a evidence based person by nature, so I will be much more cautious and measured in terms of the decisions we're going to take. Like I said, less is more. Where we are, there are big, big ticket items that we need to address and that's where I want to focus. And I want to bring people along with me and hence the discussion around, the insights around being more inclusive, more collaborative. I think that this can be very powerful for BAT moving forward and I'm sure that we have a massive opportunity ahead

Tadeu Marroco: [inaudible]

Gerry Gallagher:

Great, that was very helpful. My second question is around the strategy, and you did a very good job in your release yesterday of putting people like me in their place around the purpose of the business and the strategy of the business. So the purpose is better tomorrow is your purpose, which is to reduce the health impact of your business on society. But your strategy, the way to deliver that, is to transform the portfolio by encouraging adult smokers to switch to less risky alternatives. And you are relying on that strategy, but there are questions around that in terms of the share price performance, the valuation of the stock. Could you just expand a little bit as to why you believe the strategy is the right one, given where the valuation is, the stock price, et cetera?

Tadeu Marroco:

Yeah, look, there is a lot of frustration in terms of the valuation, the share price, and I share all this frustrations, but I'm convinced that the best way to address that is persevering in the execution of the strategy. Is walk the talk, let's put it that way. I think that we have done, digging roads over the last few years. If you go for the categories itself, should they in vapor, we have a winning product in not just in the US, which is doing by the way extremely well, but also outside the US. So we are leaders in all the key markets that we consider five in the world. We will be profitable in terms of category contribution, not in terms of gross margin category contribution or out of four, out of these five. So this perception that you cannot make money out of it, this doesn't exist. In reality we have now rich margins around 56% after the work that has been done in terms of trade margins, in terms of product cost.

For sure the regulatory environment if anything, can help us. Because what we need is a level playing field. There is a lot to be done in terms of responsible marketing, for example youth prevention. That is

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critical. What needs to be done. Also in terms of the environmental impact of some of these products and we are on that. Our circularity, the circular economy will be part of our pipeline in the future.

When you migrate to more than oral, we clearly have the best product out there. In Sweden, we have just reached with VELO 13.4% of market share last month. Is the highest oral brand in Sweden that has been dominated by Swedish Match for the 100-year plus. So VELO today has the highest share in the Sweden market. So this is a testament of how powerful can be these brands for sure that we have to work in the US which is a completely different situation because there we cannot bring at this point in time our product there. That's why we filed the PMTA and we are waiting for the approval of the FDA so we can bring this great product that we have outside the US in the US and in THP, like I said, there is work to be done. We were late in that segment specifically, so we had some difficult at the very early stage. But I think that we can accelerate the pace based on the innovation pipeline that we have starting with Glo Air. But there is more to come in the future.

Gerry Gallagher:

Before I move on, I've got one more big picture question, but you referenced something there in terms of vaping and about regulation in vaping and I'd just like to come back to that. Could you talk about regulations? One thing we probably agree that that will potentially hopefully get to the right place at some point in the future. Could you talk about enforcement of the regulation and whether that will follow through once a regulation is hopefully in the right place?

Tadeu Marroco:

Yeah. And you're absolutely right. I think they go in tandem with the regulation. Regulation alone is not enough and we are seeing that in the US in reality because in the US we have a set of regulations for closed systems that should be applying also for synthetic nicotine and the enforcement has been very weak in the US to a point that the modern disposables, these products which is basing synthetic nicotine brought back all the flavors that has been banned at certain stage in January 21 back to the market.

It seems that the FAA now is start to be more active on that. There's a lot of MDOs with mark to deny orders, but a lot of these manufacturers and they are now reaching out directly to manufacturers, distributors, even retailers. So we are trying to work as close as we can with them and in order to help them too, but at the end of the day it will be them trying to make it happen. So enforcement is a Q1 hopefully in the US where we might have the biggest wide space opportunity in the world is been done faster than we expect.

Gerry Gallagher:

Okay. I've got one big picture question. I am going to delve a little bit into yesterday's release and then we'll revert back to other types of questions. So just before we go into the release of yesterday, I said to somebody I was talking to yesterday that there was a subtle shift in the wording of your statement yesterday. There wasn't a subtle shift, it was a very clear shift in terms of the wording of your statement. It feels like you are being more open, more aware of some of the pressures that business is facing, which every business faces. Could you just talk a little bit about the philosophy around being, it appears to be and evidence is more open, about the challenges the business is facing?

Tadeu Marroco:

Yeah, Jerry, like you said, we are not immune to all the complexities out there. The microeconomics, the consumers are changing, the regulatory environment is changing. So it's natural that you face some challenge. I want to be very transparent. That's the way I usually be trying to do things and this is a

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commitment and being transparent has the advantage that I can highlight exactly what am my error of focus was exactly the areas that I think that we have a problem or we are not performing as well as we should naturally becomes area of priority for us. And then we keep track on that. I think that is easy for everyone to understand what is doing well. So we highlighted what is doing well. I said I read a number of things here, but what is not so well. So we can keep track on that and I can also mobilize the organization to ask that. I think that is good for everyone.

Gerry Gallagher:

Agree with that. Okay. Two or three questions around yesterday's release before we move on. So the first one is on the US combustibles situation, I think you referenced you've got a long road ahead of yourself ahead to get that business in a better place and your value share was down 40 basis points. My recollection is you've tended to talk about value rather than volume share in the US. So that was quite a big data point for me. Could you talk a little bit about what you're going to do there and perhaps reference it in the context of the US consumer because not only in a tobacco context, but something that's emerged through yesterday and I'm sure we'll continue to follow through today from this conference, is there is a focus on where is the US consumer generally, how healthy are they or et cetera, et cetera.

Tadeu Marroco:

I don't think it started with the industry that there is anything fundamentally that has changed structurally in the market. What happened is that the consumers have taking all the fiscal stimulus out has been withdrawn and there were a lot of stimulus coming from the state levels, federal levels at the back of Covid that was completely taking out and at the same time got exacerbated by this massive inflationary pressures coming from different angles. At certain stage, mid of last year was a gas price that has a very negative correlation with cigarettes. These things come down, but then energy costs and so on and so forth. So I think that the high single digit decline in the market that we are seeing today is much more related to the macros itself than it is to anything structured in terms of consumers quitting or migrating for other categories. That's the first point. The level of elasticity is still very benign. So before Covid was between 0.3 0.4, today we are seeing between 0.35, 0.4. So it's not much different from before.

So what we need to adapt in our own portfolio is the fact that we didn't have some safety nets to cope with tougher economic cycles. So we have brands like for example, Newport, very premium brands, but without any other support below it. So when the consumer gets hit by, and this can happen in any cycle, economic cycle, you can not be prepared for that. So we need to, that's where price laddering came through. Say more RGMs, revenue growth management, more target pricing, more smart pricing, leveraging the power of our distribution, which is massive in the US.

So I think that when I say that takes time, because we don't want to do this in one goal, we have to do it in a phased way and we know exactly what needs to be done in order for us to adjust and become and make this portfolio, which is a great portfolio. We have a great brands, we have Lucky Strike that is one of the best launch ever in the US market in the low. We have brands like Natural American Spirit that with all the difficulties that I'm referring to on the macro, continue

Tadeu Marroco:

Continued growing. It's the only brand without any discount in the west mark. Has never seen a discount in that brand and we have Newport, we have Camel that complement each other and Pall Mall. It's a very strong set of brands. What we needed to make them more resilient to days of sunny and days of

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