Ansell Limited (ANN)

CEO & CFO on Outlook
14 August 2012 - CEO & CFO: Magnus Nicolin & Rustom Jilla

In this Open Briefing®, Magnus and Rustom discuss:

-  Drivers of F’12 sales and profit
-  Assumptions underlying F’13 guidance
-  Acquisitions and financial capacity
Ansell Limited today reported net profit of US$133.0 million for the year ended 30 June 2012 (F’12), up 9 percent from the previous year, and EPS of US101.4¢, up 11 percent.  EBIT was US$153.2 million, up 12 percent, on revenue of US$1.3 billion, up 4 percent.  EBIT growth accelerated to 16 percent in the second half from 8 percent in the first half, in spite of a drop in revenue growth to 3 percent from 5 percent.  How do you explain this divergence and, with sales growth apparently slowing, what are the drivers of the EPS growth you expect for the current year ending June 2013 (F’13)?

CEO Magnus Nicolin
We are quite proud of our EBIT and EPS results last year especially in the light of the global economic environment and the challenges of the Fusion implementation.

A number of factors affected sales.  Externally, we have felt the effects of global turmoil.  European sales growth was slower from Q2 onwards and the weaker Euro hurt as well.  The primary internal factor of course was Fusion – where we recovered over the second half but still lost sales.  On the plus side, our sustained investing in emerging markets continued to deliver; with 18 percent growth in F’12.

The other good news is that Sexual Wellness exited F’12 with great momentum.  Industrial had a good F’12 H2 with sales up 9 percent and decent margins.  Specialty Markets performed as expected, with lower margin business being shed and higher value added new products being introduced.  Medical sales too were hurt by the loss of lower margin business but this helped improve profitability.  The F’12 acquisitions are coming along well and will contribute nicely in F’13, and we also have an outstanding pipeline of new product releases about to hit the market.

Ansell is a market leader and has consistently delivered, even in difficult times.  We are confident we can achieve our F’13 mid-single to low double-digit EPS guidance of US107.0¢ to US112.0¢.

CFO Rustom Jilla
Clearly H2 sales growth was lower than envisaged.  However, when looking at F’12 by half, don’t forget that F’11 H2 sales were up almost 13 percent.  That’s a pretty tough comparative period to measure up against!

With regard to EBIT, we had unusual items that offset each other during the full year but pulled down H1 (non-restructuring severance costs) and significantly boosted H2 profits (gains on the sale of surplus land).  Fusion “fix” expenses and additional distribution costs also impacted H1 more than they did H2.  So I would look more at Ansell’s F’12 full year EBIT growth of 12 percent rather than reading too much into the results by half.

After considering planned new product launches, sales initiatives, product mix, GPADE margins, key raw material price trends, FX rates, planned SG&A investments etc., Ansell should be able to replicate F’12’s EBIT growth in F’13 – even before including the positive EBIT contribution from Comasec.  However, interest expenses will be higher and the impact of net deferred tax assets/non-operational tax items (DTAs/NOTIs) adjustments is estimated to be in the range of US4¢ to US6¢ per share (compared with F’12’s US7.5¢), hence the EPS guidance.
Earnings growth in F’12 appears to have been driven largely by the improvement in gross profit after distribution expenses (GPADE) margins to 36.5 percent from 34.8 percent in F’11.  This was partly offset by a US$21.7 million rise in SG&A expenses to US$304.7 million.  What is the outlook for GPADE and SG&A in the current year?  Will continued GPADE growth require further material increases in SG&A?

CFO Rustom Jilla
With our better sales mix, the new products the GBUs are planning to release and with Ansell’s distribution costs in the US steadily returning to pre-Fusion levels, there’s no internal reason margins should not remain strong.  The macro-factors also look promising as, based on current trends, there might be upside from lower raw material costs that more than offsets adverse FX rates.  So the outlook for GPADE is promising.

The increase in SG&A came mainly from adding sales people and field infrastructure, from higher marketing spending (people and promotions) and from extra IT/Fusion costs.  SG&A growth will continue, with funding earmarked for higher sales & marketing spending and a sales & GPADE payback expected from new product releases and expansion into new channels, geographies etc.
Last week, Ansell announced the acquisition of French personal protective glove company Comasec SAS for A$118 million.  This is Ansell’s largest acquisition for many years.  What will be the acquisition’s impact on gearing shorter term and what assumptions underlie your expectation that it will be strongly accretive post F’13?  To what extent will accretion depend on synergies?

CFO Rustom Jilla
Our year end gearing (net interest bearing debt/NIBD + equity), was 7.2 percent and this acquisition, if settled on 1 July 2012, would have taken gearing to 19-20 percent.  Given our free cash flow and normal usage for dividends etc., without additional acquisitions, we should be looking at barely double digit gearing at the end of F’13.

F’13 EPS accretion from Comasec will be held back by having to expense acquisition costs (as required by accounting standards) and integration costs (that we envisage incurring over the first year).  But we nevertheless expect it to be accretive in F’13 and strongly accretive going forward.

CEO Magnus Nicolin
We are very pleased with this acquisition, it is in a genuine sweet spot for Ansell and will add sales, new products, two additional plants (including one in Portugal which is close to the market and has Euro costs) and well regarded management.

We are expecting both revenue and cost synergies, but the acquisition will be accretive, even without any synergies, from year one.
The roll-out of your new ERP system, Fusion, began in North America in July 2011, but experienced design and interface issues that resulted in an adverse financial impact and a project delay.  You expect to continue the global roll-out of Fusion in F’13.  What level of confidence do you have that the same problems won’t recur?

CEO Magnus Nicolin
Although we have gone through a lot of pain, the Fusion project is now looking far better.  We entered F’13 with order & inventory management and warehouse & distribution operations stabilised and inventory back orders at normal pre-Fusion levels.  Between IT and the various other parts of the business, we still have extra resources involved in running our ERP.  But we can see the light at the end of the tunnel.

Our North America (NA)/Latin America (LAC) teams and IT group now fully understand the new ERP, and what the mistakes were. Once we have it working flawlessly in the Americas and delivering benefits, we will continue with the global roll-out.  Having said that, we have learned a great deal, have significant internal expertise now, and have done some early work in the other regions to ensure a smooth roll-out.
Ansell’s Industrial business booked EBIT of US$83.7 million for F’12, up 2 percent, on sales of US$504.1 million, up 7 percent.  EBIT turned around in the second half, growing 12 percent year on year, versus a fall of 7 percent in the first half when the NA segment was hit by Fusion issues.  Can Industrial regain its former growth momentum given a weaker macro environment in its core developed markets, particularly Europe?

CEO Magnus Nicolin
Industrial hasn’t lost its growth momentum: we just had a tough H1.  F’12 H2 sales growth was 9 percent and H2 EBIT growth (as you note) was 12 percent.  And this was achieved despite the economic situation in Europe.  We have the widest range of gloves, are the world number one and have our Ansell Guardian approach which delivers real solutions – so we feel quite confident that we can outperform our peers and grow even in difficult times. 

In any case, we continue to invest in this business, as the recently announced Comasec acquisition (which is roughly 75 percent Industrial) indicates.  And we have a large number of new products that will launch in F’13 so I am very confident about Industrial.
The Specialty Markets business booked F’12 EBIT of US$7.2 million, up from US$2.5 million, reflecting improved mix and pricing.  Your strategy in Specialty Markets is to “weed and feed”, as well as cultivate underdeveloped channels.  What are your parameters for investing in this area and given the small scale of the various product segments, what place do they have in the broader Ansell group?

CEO Magnus Nicolin
Specialty Markets was created to take us into new channels and focus on underperforming verticals such as household gloves, construction, food and first responders.  We have been broadening our military/FR, construction, and oil & gas ranges.  Our small size in some of these channels is not seen as a problem; but an opportunity to grow.

We will continue to invest in organic growth and also acquire businesses that give us added capabilities such as Trelleborg Protective Products (now called Ansell Protective Solutions) which we acquired on 2 May.  APS helps us with a PPE adjacency (clothing) and a priority vertical (first responders) where we expand our offering to customer groups we already serve and also get new customers.

We evaluate M&A opportunities in this space just as we do all the others: strategic and cultural fit, ease of integration, growth prospects, quick accretion and (of course) a price that is reasonable to all parties.  Finally, our expectation is that this business gets to a 12 percent EBIT/sales ratio, but this may take a few years to achieve.
The Medical business booked EBIT of US$39.5 million, up 1 percent, on sales of US$356.4 million, down 1 percent.  Second half EBIT growth was 26 percent, compared with a drop of 22 percent in the first half.   EBIT margin improved to 12.6 percent in the second half from 9.5 percent in the first half.  How sustainable is the second half turnaround and how dependent was it on lower latex costs?

CEO Magnus Nicolin
We now have a product portfolio that has moved further towards surgical (where sales are now twice that of exam gloves) and especially synthetic surgical gloves.  Our surgical glove range is now equal to or better than our competitors, as the recent synthetic (accelerator free) Gammex – Sensoprene release illustrates.  We also expect to build on the Sandel surgical safety products range as we expand further into the perioperative safety space. Moreover, we are also making progress in the Active Infection Prevention space. I am optimistic about the Medical GBU’s potential.

CFO Rustom Jilla
While the portfolio and mix have helped, the biggest EBIT driver of H2’s gains was lower natural rubber latex (NRL) prices, which have continued to decline. This may well provide some EBIT upside in F’13, but we have seen too much volatility in this commodity to take anything for granted.  So it is too early to predict maintaining 12 percent in F’13, though that is certainly the goal.
The Sexual Wellness business booked EBIT of US$33.2 million, up 52 percent, on sales of US$217.3 million, up 8 percent, reflecting a better product mix and operational improvements, partially offset by increased advertising & promotion and restructuring costs.  EBIT margin rose to 15.3 percent from 10.9 percent.  What is the expected impact on margins of category expansion and further growth in emerging markets?

CEO Magnus Nicolin
Our Sexual Wellness business is now getting to the level of profitability we think it should run at.  We have extensively restructured this business in recent years and significantly expanded capacity at our two main plants in Thailand and India.  Our synthetic range, Skyn, is growing rapidly and contributing to improved margins as well.  Our acquisitions of leading condom businesses in China and Brazil have proven to be very successful and position us strongly (at #2) at the mid-high ends of these key markets.  Our expansion into lubricants, devices and fragrances has paid off.  Finally, our move into intimate freshness, once launch costs are absorbed, should also be good for margins. So we would seek to maintain these margins and plough sufficient funding into new product development and marketing.
Free cash flow was US$97.2 million in F’12, up from US$62.5 million in F’11, reflecting a smaller increase in working capital and lower capex versus F’11.  As at 30 June, working capital was US$252.6 million, down US$22.8 million from 31 December.  Does this mean that the negative impact of Fusion on inventory and receivables has worked through the system?  And if so, what scope is there to further improve free cash flow given continuing volume growth and the ongoing roll-out of Fusion?

CFO Rustom Jilla
Cash flow generation has traditionally been solid at Ansell and we are delighted that F’12’s free cash flow has returned to the levels of past years in spite of more aggressive spending on SG&A (thereby impacting EBITDA) and capex (both operations and IT) than in the past.  Certainly, Fusion’s toughest times are behind us, but there is still room for improvement where system capabilities and efficiencies are concerned.  Higher EBITDA helped but the huge improvement in H2 cash generation was achieved through a lot of extra effort with DSO averaging almost half a day less in H2 versus the prior year and reduced inventory.  Now we need to make systems & process improvements to ensure these gains are sustainable. For all these reasons, we will be satisfied with F’13 free cash flow at roughly the same $100 million level.
Ansell ended F’12 with net debt of US$56.1 million, versus net cash of US$10.2 million a year earlier.  Earlier in the year you bought back 2.5 million shares under a 5 million share buyback program announced in August 2011.  Activity under the program stopped in the first half, and you’ve recently increased your available borrowing facilities by US$250 million.  What capacity do you now have for acquisitions?  

CFO Rustom Jilla
We are proud of our cash generation track record and for years we have had a balanced capital management strategy that uses strong free cash flow to pay steadily increasing dividends, make acquisitions and return any surplus cash to our owners via share purchases. Ansell therefore announced a buyback last August and ran it through October – when we decided that the probability of making good acquisitions had increased sufficiently.  In February, we communicated this and made it clear that the buyback had ended until further notice. 

From 1 July 2011 through the end of F’13 Q1, we will have spent almost US$170 million on acquisitions (assuming we settle Comasec by then). After paying for Comasec, we could spend approximately US$200 million more during F’13 without exceeding 30 percent gearing.  We have the capacity and the pipeline and just have to follow through on opportunities swiftly but in a disciplined manner!
Ansell announced an unfranked final dividend of A20.5¢ a share, up from A19.0¢ per share for F’11.  This brings the total dividend for F’12 to A35.5¢ per share, up 8 percent, slightly below the 11 percent growth rate of EPS.  What is the outlook for dividends in F’13? 

CEO Magnus Nicolin
Dividends are a board matter, but our history of consistent increases in interim and final dividends certainly indicates that this practice is likely to continue in F’13.
Thank you Magnus and Rustom.


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