Kuehne & Nagel International's (KHNGF) CEO Detlef Trefzger on Q1 2016 Results - Earnings Call Transcript

| About: Kuehne & (KHNGF)

Kuehne & Nagel International AG (OTCPK:KHNGF) Q1 2016 Earnings Conference Call April 19, 2016 8:00 AM ET

Executives

Detlef Trefzger – Chief Executive Officer

Markus Blanka-Graff – Chief Financial Officer

Analysts

David Ross – Stifel

Mark McVicar – Barclays

Damian Brewer – Royal Bank of Canada

Michael Foeth – Bank Vontobel

David Campbell – Thompson, Davis and Co

Operator

Good afternoon, ladies and gentlemen, and welcome to the Kuehne & Nagel’s Three Months 2016 Results Analyst call, hosted by Detlef Trefzger, CEO; and Markus Blanka-Graff, CFO. My name is Steffi, and I will be your coordinator for today’s conference. For the duration of the call, you will be in listen-only. However at the end of the call, you will have the opportunity to ask questions. [Operator Instructions]

I am now handing you over to Detlef Trefzger to begin today’s conference. Please go ahead.

Detlef Trefzger

Thanks, Steffi. Good morning, good day, good afternoon, ladies and gentlemen, and welcome to our overview call, analyst call, on quarter one 2016. Markus and I are sitting here in beautiful sunny Switzerland, and we will lead you through the figures as well as the business unit results and a financial review. We have distributed a slide deck for that purpose earlier today and I would like to lead you now through Page 4 to give you a first overview on our quarter one 2016 results.

Net turnover, stable in constant currency, slightly decreasing versus previous year quarter one figures. And this is showing a less foreign exchange impacts, but the low rate that we see currently in the market. The picture looks totally different with regards to gross profit. We show a strong gross profit growth of CHF96 million, or 6.4%, and in constant currency with a lower FX impact versus previous year of plus 7.7%.

EBIT growth nominal CHF21 million more EBIT generated in the first quarter 2016, which leads to a 14.2% growth, or a 15.3% growth to CHF219 million EBIT in constant currency. Let me continue with a deep dive in the four business units. Let’s start on Page 6 with seafreight. Seafreight back to significant volume growth, compared to quarter one 2015. We have shipped 53,000 TEU, or 6% more than last year versus a market that was at maximum showing a 1% growth. Also gross profit EBITDA and EBIT improved significantly with an EBIT growth of CHF13 million, or 13.8%, versus previous year and high and strong conversion rate of 30.7%.

Only turnover affected by the low rate showed a slight decrease, mainly rates and no major foreign exchange impact. See that growth? Strong growth on the Far East West Bound and in intra-Asia, Intra-Asia double-digit growth clearly, but also volumes from Asia to Europe show growth again. Also, rate volatilities and overcapacity in the market continues, so all the business that we’re pursuing remains to be negotiated and traded with short contract cycles. Gross profit per TEU up by 1.4%. In total, strong growth and profitable business performance in quarter one 2016 with a higher conversion rate.

Let’s move on Slide or Page 8, airfreight. Airfreight with a continued success. Also here, due to the rates, we saw a slight decrease in turnover, but gross profit, EBITDA and EBIT were strong growth again, versus previous quarter; a high conversion rate of 31.1% and the market declined while we were able to maintain our volumes almost at the same level: 1,000 tons difference to previous year’s quarter. The market declined by approximately 5% that is our latest estimate on the market growth. Where did we see volume increases? We saw a negative trend on the transpac versus previous year first quarter, because we still benefited, at that time, from the West Coast – U.S. West Coast boom and strike where cargo was converted from sea to airfreight. Strong growth in intra-Asia and also, here, luckily enough, Europe/Asia and Asia/Europe trades both showed growth again, gross profit per 100 kilos plus 6.8%.

On Slide 9 we have summarized the two networks and their dynamics quarter-by-quarter for the last two years and you clearly see the growth in the seafreight, volumes of 53,000 TEUs and the yield increase of CHF5 per TEU. By coincidence, we have to say we see the same yield increase of 6.8%, but the same nominal yield increase of CHF5 per 100 kilos year-over-year for the first quarter in airfreight. Both businesses performed very well in the first quarter 2016.

Page 11 overland, a very successful Retrans integration, mission accomplished, we can say, with a performance above the business case that we have calculated during the takeover. A very strong organic growth, profit growth again, in a flat or negative market, in the remaining business. In total, we saw a net turnover growth of 18% and a gross profit growth of 10% and an EBITDA improvement of 25% while the EBIT stayed flat at CHF4 million for this business unit in the first quarter. The growth is significantly above the market. Also, the ReTrans acquisition helps to drive further growth.

Contract logistics, slide 13. We could say contract logistics is up on the way back with substantial new business implemented successfully, and showing the first signs of a P&L impact. Net turnover growth of 6.4%; gross profit growth 5%; and a strong EBIT growth of 37.5%. The contract logistics folks did their homework and we structured those activities that we have mentioned last year that we would have a special focus on. And compared to previous year, we are back on the way up to a growing and higher-margin business. With these remarks and the short overview on the four business units, I would like to hand over to Markus.

Markus Blanka-Graff

Thank you, Detlef. Ladies and gentlemen, also welcome from my side. Let me go into my favorite slide, as I always say, page number 15. Income statement for the first quarter 2016. I want to guide you quickly through two or three numbers. Especially on the variance column, between the first quarter 2016 versus 2015 and showing the impact of the incremental gross profit of CHF96 million on the EBIT line for CHF27 million, which translates into a conversion rate of incremental gross profit of 28% over all business units of the Group. If you were to look into the details on the Group key data sheet, which you’ll find in the annex of the presentation, you would see the incremental conversion rate of – in the gross profit in seafreight is above 50% and, in airfreight, above 30%. So the leverage, the operating leverage effect of the Group, as well as of the main transactional business units, seafreight and airfreight, is performing very well.

On the next two columns explaining the sources for the variances in growth and acquisition, you can see that, from a Group’s perspective, there is a very healthy organic growth with 6.6% on gross profit, again, in constant currency, by 7%; and a relatively small acquisition impact of 1.1%. All of that, in principle, stemming from the ReTrans acquisition in overland.

Let me lead through page number 16 Financial targets and some of the highlights on the KPIs of the balance sheet. We are running on a 35% to 36% equity ratio and cash and cash equivalents, as usual, and as we are used to, on a high level of CHF912 million. Operating cash flow CHF256 million versus CHF236 million an improvement of CHF20 million. The targets remain on a Group EBIT margin to net turnover above 5%, which we have achieved in the first quarter CapEx around the CHF200 million to CHF220 million mark. Again, for reminder, the CHF253 million insurance in 2015 were pertaining to investment in the Singapore logistics hub.

Working capital. We maintain our target between 3.5% and 4%, being conscious that at the current stage we are below that corridor. Cash. Safeguarding high cash position, as I explained, on the balance sheet part. The tax, effective tax rate, we are targeting at 23%. A quick look at the balance sheet. The balance sheet is relative to December 01 2015. So from a comparison point of view, we’re still handling around CHF2.5 billion trade receivables. You can see, in the first three months of the year, we have increased the cash and cash equivalents from CHF841 million to CHF940 million, which is an increase of CHF73 million.

Page number 18 first quarter cash flow, another translation of the first quarter’s performance. You can see the increase in the operational cash flow from CHF256 million to 2016 compared to CHF236 million in 2015. The difference between these numbers and the cash flow from operating activities, as it is shown here, are the decreases and increases in receivables and payables. Cash equivalent at the end of the period. I said it, CHF1.2 billion last year. This is the position March 31, 2015. That was before the pay-out of the dividend, including the special dividend in 2015.

Financial review on Page 19. Working capital development. I usually compare quarter-to-quarter rather than the December numbers, because the December numbers are always on a very low level. When you look into seasonality, then you would have to look March 2015 to March 2016, which means we have improved our net working capital by CHF52 million. And we are currently at a 3.2% working capital intensity.

All that – individual KPIs leading to return on capital employed chart, as per Slide 20, an increase of 5% compared to the first quarter 2015. A continuation around the 70% mark for the three consecutive quarters from the third quarter 2015 until today. With that little chart, I would like to hand over back to Detlef to do the 2015 outlook.

Detlef Trefzger

Thanks Markus. Page 21, our guidance and outlook for 2015. We clearly have gained momentum the last two quarters 2015, remember our last call, analyst calls on that, and we kept that momentum last quarter – or this last quarter in 2016. And that confirms that our strategy is right, and that we will continue on focusing on organic growth.

Markus has just described the leverage of our business, incremental volumes lead to an over-proportional bottom line effect. We will continue with our strict cost management and process optimization; that’s a daily task of all of us. With that all incremental volume will generate an over-proportional bottom line effect.

Innovation, we don’t do things, as you know, for the show. We do that – whatever we do for driving our customer business models, and their customers’ business models to further improvement. We plan to add value through applied innovation, we have made success with that topic very much with KN FreightNet that we have launched 18 months ago. And it’s our aim also this year to continue improving our customer’s business model through innovation.

Having said so, we strongly aim for growth – volume growth, increasing our market share also in a stagnant or negative market environment and, for sure, the nominal and relative EBIT improvement.

And with that, starting to the year 2016 we will – we feel confident that we will achieve those targets this year.

With that little outlook, I would like to open Q&A for you.

Question-and-Answer Session

Operator

[Operator Instructions] The first question comes from the line of David Ross from Stifel. Please go ahead.

David Ross

Yes thanks. Good morning or good afternoon Markus and Detlef. First question on the seafreight side of things. You mentioned that Asia-Europe was finally growing again and intra-Asia was strong. What about transpac, were there – was there a growth seen there, because of I guess assumingly easy comps versus the West Coast port situation?

Detlef Trefzger

Transpac was growing as well. I think I mentioned it. So transpac showed growth as well.

David Ross

Okay. And then aside from just the lane in the seafreight, was there a specific industry group that was faster growing, or a customer type, whether it be large customers or small customers that grew faster than the others?

Detlef Trefzger

No, it’s across all industry, no specific trend.

David Ross

And then on airfreight can you talk a little bit more about gross profit per ton, given the lack of volume growth it was up significantly. What do you attribute that to mainly?

Detlef Trefzger

That’s the way we buy the capacity in the market. Gross profit is driven by trading capacity in the market.

David Ross

Yes, I wasn’t sure if it was that or adding other value-added services around the underlying move?

Detlef Trefzger

Yes, but we mentioned that before, it’s our solution-driven approach. We don’t sell a commodity; we don’t buy for a commodity. We sell a pharma business, we sell an engine business, or a high-value cargo business. So, we have specific solutions in airfreight that drives both, volume growth, as well as margin growth.

David Ross

And then last question on ReTrans. Now the integration’s behind you, is the ReTrans sales force selling all Kuehne Nagel products, including airfreight, oceanfreight, contract logistics? And was that one of the reasons that the US contract logistics business did so well in the quarter?

Detlef Trefzger

I wish that would be the reason, because the life cycle of a project in contract logistics takes much longer. But to answer the first part of your question, it’s clearly that both the Kuehne Nagel organization sells the ReTrans business now, so we have a full end-to-end offering in the U.S. market. And, vice-versa our ReTrans colleagues and sales organization can sell Kuehne Nagel networks via the Kuehne Nagel branches close to their location.

David Ross

Thank you.

Detlef Trefzger

You are welcome David.

Operator

The next question comes from the line of Mark McVicar from Barclays. Please go ahead.

Mark McVicar

Hi, good afternoon, Detlef. Good afternoon, Markus.

Detlef Trefzger

Hi, Mark.

Markus Blanka-Graff

Hi, Mark.

Mark McVicar

Are you good?

Detlef Trefzger

All good, and you?

Mark McVicar

Yes, [indiscernible]. I have two quick questions. First of all, if you look at the overland business now that you’ve got ReTrans in there and bedded down, if you looked out a couple of years, what sort of margins do you think that business could make?

Detlef Trefzger

That’s a good question. First of all, the answer is it’s an above average margin that we see in the market, but overland will never exceed a 2% to 3% margin, also not in the U.S. More important is the growth momentum that we get from a ReTrans product offering in the U.S. So it’s both intermodal and truck brokerage, and these are both growth areas in the North American market.

Mark McVicar

But you think you could get that to somewhere between 2% and 3% as a margin.

Detlef Trefzger

That would be my expectation.

Mark McVicar

Over time, okay; okay. Then my other question was within contract logistics you told us last year you had a couple of contracts in the UK that were losing money and obviously dragging down the total. Are those contracts actually back in profit, or are they just at the moment losing less money than they were a year ago as you recover them back to profitability?

Detlef Trefzger

We have recovered them, but we expect more recovery throughout the next couple of years. But, we are back on track.

Mark McVicar

Okay, and will they be profitable this year, or still slightly loss making?

Markus Blanka-Graff

Mark, I’m happy with the turnaround that has happened, and we have a vision for further improvements to happen in the next couple of years.

Mark McVicar

Okay. That’s great, thank you both very much.

Detlef Trefzger

Thank you, Mark.

Operator

The next question comes from the line of Damian Brewer from Royal Bank of Canada. Please go ahead.

Damian Brewer

Good afternoon.

Detlef Trefzger

Hi, Damian.

Damian Brewer

How are you? I’ve got three questions. First of all, I’d like to follow on from Mark on the contract logistics business. I was wondering if you could tell us how much of the change in year-on-year profitability was due to restructuring within those previously challenged contracts, and how much of it was due to underlying trading?

And within the restructuring, how much of that related to price rather than scope, or requirement of the contract? If you could tell us a little bit more about that that would be very interesting. The second question is just on the overland business, I’m just wondering what the working day impact was there on the impact of Easter and less working days on the quarter, and if it’s possible to quantify that, particularly in terms of gross profit? And very finally, just interested in what your customer retention or turnover rates are looking like, at least on the positive contribution business. Is it now settled down, and there’s more of a core business on which you can build, or is there still turnover on the margin? Thank you.

Detlef Trefzger

Right, Damian, let me start to answer. With contract logistics the restructuring impact is low, or relatively low. We have – and you saw that in the yearend results, we have added almost 800,000 square meters additional warehousing space. This additional business, in total, we operate 9.5 million square meters at the moment around the globe in warehousing, and our unused or idle space has been reduced from 4.2% to 3.2%. So it’s underlying trading and business, more volume, more throughput, the results of our ongoing master location plan where we consolidate warehouses, where we optimize space, where we improve existing facilities, where we re-rent or re-invest into infrastructure.

And we have already mentioned that in our yearend 2015 call, we have won a lot of new business that has been successfully implemented, and that contribute already to the bottom line. The working day impact on overland; yes, it has had a significant impact. Easter happened – Chinese New year happened fully in February; Easter happened in March, so the first quarter had less working days. In total, I think it was three working days less, and that has an impact on the – on each business, but mainly in overland. Can I quantify it? We don’t disclose daily profit, but you can calculate that easily yourself. There is a certain effect on non – on not having activities on public holidays.

And customer retention, your third question. The – that’s an ongoing project, we get a lot of traction. It’s a global approach; all regions and countries are involved. We track that on a quarterly basis, and we get a lot of traction, but we can improve even further. Is that impacting already to a higher degree our bottom line? I doubt, but for sure has an effect on volume, because customers you don’t lose you will not lose volumes with either. And therefore, volume growth is with new customers or existing customers that trade with us on different trade lanes, or new customers that bring new business.

Damian Brewer

Okay, thank you; that’s very interesting. Just to be clear, so on the contract logistics there’s still the benefit – or full benefit of the restructuring to come, and on overland there should be a modest bounce-back sequentially, because of the early Easter effect in Q2?

Detlef Trefzger

Yes, but you didn’t ask that, but I can comment on it. We have a market topic, and that is to be read in all news, at the moment, in Brazil. Let’s see how the market develops, because that is affecting our overland business. Also, in Jordan and Iraq in overland, at the moment, the trading is almost non-existent as the borders are closed and we have a certain political environment that doesn’t allow transporter business, and that is also impacting the overland figures. It’s not only trading days, it’s two markets or it’s two topics that over-proportionally showed a decline in trade.

Damian Brewer

Okay. Thank you very much. That’s very helpful. Thank you.

Detlef Trefzger

You’re welcome.

Operator

The next question comes from the line of Michael Foeth from Bank Vontobel. Please go ahead.

Michael Foeth

Yes. Good afternoon. Congratulations on the good performance. I have a question on airfreight left. The EBIT to gross profit conversion was extremely high, at a record level. You said that the gross profit per unit was high, because of the way you buy and sell. I guess the EBIT to gross profit is related to your internal efficiency. Can you comment on the sustainability of, let’s say, above-average conversion margins in airfreight and how you see this develop in the near future? That would be my first question.

And the second question relates to your EBIT target of above 5% EBIT margin target. We’ve seen that your net turnover is down quite a bit, but it really doesn’t affect the rest of your P&L metrics, so that’s obviously favorable for your EBIT margin. My question is, is that really the right metrics for a target for you guys, given the fluctuations that you have on that turnover, or are there other performance metrics that would make more sense? Thank you.

Detlef Trefzger

Okay, Michael. First of all, let me answer the latter question. We shouldn’t have a discussion on which key figures are describing our business best. But you are right, the rate structure at the moment in the market is favorable. But more important is that we convert these rates into a higher gross profit and EBIT. That is what drives our business, and that is the guidance I gave when we were ending our presentation on page 21.

There is no other criteria that would be a guide – or that would give a guidance for our business units and, therefore, we came up with EBIT margin. But, therefore, also our guidance is we will try hard to stay above 5%. So it’s not a linear function after 1.5% follows 2.5%, and then 3.5%, and so on, yes? So it very much depends, as you rightly said, on the net turnover, but also on the nominal – on the absolute EBIT that we generated.

Airfreight EBIT to gross profit margin. I forgot my crystal glasses here and crystal ball, but I can guarantee we do everything in the airfreight community to keep our margins and conversion rates high. Will we maintain that very much depends whether we find additional customers for our solutions, because the solutions trade has higher margins than the commodity airfreight business.

Michael Foeth

Okay, excellent. Don’t get me wrong, I think it’s an absolutely excellent performance. I’m not saying it’s easy to achieve those metrics. So, yes, thank you very much.

Detlef Trefzger

Fair enough, Michael.

Operator

The next question comes from the line of David Campbell from Thompson, Davis and Co. Please go ahead.

David Campbell

Yes. Good afternoon everyone. I’m sorry I was disconnected briefly, so I may not have heard some of the answers. But, Markus, you mentioned that the airfreight industry was down 5% in your judgment in the first quarter. I was wondering how you got that number, because IATA is not reporting that kind of a decrease.

Markus Blanka-Graff

Hi, David, how are you doing?

David Campbell

I’m fine thank you. I can hear your voice.

Markus Blanka-Graff

All right. Good ears. Listen, the 5% came – and I agree with you, IATA has not reported yet. But there is other sources obviously, like CBRE where we take our information from. And CBRE would – it turned into a minus 5% decline. If that is a – if this is a perfect science, I would probably agree with you it’s not a perfect science, but I would think it’s an indicator where the volumes are. You know, CBRE for me is – is, for me, more accurate than IATA, because not all volumes are being channeled through IATA, as you know.

David Campbell

Right, right. And the second question is in the airfreight business was there any difference in the monthly chain – monthly growth – or there wasn’t any growth, but was there any difference in the January, February, and March? Was March better than the other two months in terms of growth or was March about the same, flat?

Detlef Trefzger

No, I think we saw more decline in March, so the last two weeks in March were less promising or giving less promising signals than the previous months and weeks.

David Campbell

Last two weeks. In your account, do you think that’s because of the dock strike impact?

Markus Blanka-Graff

Yes, I think the comparisons are really difficult to judge on a weekly or monthly basis. I think there is an impact now – or now. There has been an impact in the back end of March on these West Coast difficulties in 2016.

Detlef Trefzger

You will see the real market grows again in May, because then the West Coast effect is almost – or has been almost nil.

David Campbell

All right, thank you.

Detlef Trefzger

You’re welcome, David. Bye-bye.

Operator

We currently have no further questions in the queue. [Operator Instructions] And the next question comes from the line of [indiscernible]. Please go ahead. [indiscernible] your line is now open.

Operator

Okay, there are no further questions. I will now hand you back to Detlef Trefzger for any concluding remarks.

Detlef Trefzger

Thank you very much, Debbie. So let’s conclude. The momentum gains in Q3 and Q4 2015 continued clearly in 2016. We see markets and trade lanes growing again, especially in seafreight and we do our utmost to keep that momentum and to grow further. We are looking forward to have you in our next analyst call, in about three months from now, to discuss half-year results. Thank you very much and enjoy the rest of your sunny days. Bye-bye.

Operator

Thank you for joining today’s conference call. You may now replace your handsets.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!