Oatly Group AB (NASDAQ:OTLY) Q3 2022 Earnings Call Transcript

Oatly Group AB (NASDAQ:OTLY) Q3 2022 Earnings Call Transcript November 14, 2022

Oatly Group AB misses on earnings expectations. Reported EPS is $-0.18 EPS, expectations were $-0.11.

Operator: Ladies and gentlemen, greetings, and welcome to the Oatly Third Quarter 2022 earnings conference call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now pleasure to introduce your host, Rachel Ulsh from Investor Relations. Please go ahead.

Rachel Ulsh: Good morning, and thank you for joining us on Oatly’s third quarter 2022 earnings conference call and webcast. On today’s call are Toni Petersson, Chief Executive Officer; and Christian Hanke, Chief Financial Officer. Jean-Christophe Flatin, Global President and Daniel Ordonez, Chief Operating Officer will also be available for questions. Before we begin, please remember that during the course of this call, management may make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including statements regarding our future results of operations and financial positions, industry and business trends, business strategy and market growth and anticipated cost savings. These statements are based on management’s current expectations and beliefs, and involve risks and uncertainties that could differ materially from actual events or those described in these forward-looking statements.

Please refer to the company’s annual report on Form 20-F for the year ended December 31st, 2021, filed with the SEC on April 6, 2022, our report on Form 6-K for the period ended September 30, 2022 and other reports filed from time to time with the Securities and Exchange Commission for a detailed discussion of the risks that could cause actual results to differ materially from those expressed or implied in any forward-looking statements made today. Please note in today’s call, management will refer to certain non-IFRS financial measures, including EBITADA, adjusted EBITDA, and constant currency revenue. While the company believes these non-IFRS financial measures will provide useful information for investors. The presentation of this information is not intended to be considered in isolation, or as a substitute for the financial information presented in accordance with IFRS.

Please refer to today’s release for reconciliation, non-IFRS financial measures and the most comparable measures presented in accordance with IFRS. In addition, Oatly has posted a supplemental presentation on its website for reference. I’d now like to turn the call over to Toni Petersson.

Toni Petersson : Thanks Rachel. Good morning. We appreciate you joining us to discuss the third quarter results. Today, I will provide an update on our business performance, address strategic actions we have taken as an organization and a future growth opportunity. Christian would review our financial results and update it 2022 outlook. And Jean-Christophe, Daniel, Christian and I will be available for questions. As a reminder, our new Global President, Jean-Christophe and Chief Operating Officer, Daniel Ordonez join Oakley in June. These two accomplished industry leaders have over 60 years of combined experience, at global and fast-growing consumer brand, since joining they’re focused on activating multiple growth initiatives.

And positioning outlet for the next phase of growth. Since our last earnings call in early August, we have faced challenges mainly driven by COVID-19 restrictions in China, and ramp ups that take due to technical issue, in our Ogden facility in the US as well as FX headwinds. In a third quarter results had short of our expectations. However, we believe these challenges are transitory and we are encouraged by our current volume growth, underlying consumer demand and future growth opportunities. In the third quarter, we saw year-over-year sales volume growth of 16% across all regions and continue to see strong category leading velocities, the global demand remains resilient. Yet, I am disappointed with our ability to translate this third quarter gross profit margin and sequential EBITDA improvement due to our operational execution shortcomings, as well as the worsening macro environment, which I will touch on more shortly.

The 2.7% gross margin fell well below our expectations. Past two years have taught us the hard way that being a high growth company in an unprecedented complex and volatile environment demands an even sharper allocation of resources and capital. This is why as shown on slide 5, we have made strategic decisions with immediate action items to achieve three goals. First, prepare for the next phase of continued high growth. Second to pace the simplicity and agility of the organization and third to drive profitability with more asset light strategy. With these goals and increased focus on balancing growth with profitability, we expect to be adjusted EBITDA positive exiting Q4 2023. Christian will walk through the path of profitability shortly. Turning to slide 6, this reset plan involves two fundamental screens, adjusting our supply chain network strategy and simplifying the organizational structure.

Starting with a supply chain network strategy, one of our company’s core strengths is our proprietary expertise in oat-based technology which forms the foundations of a product portfolio. Going forward, we will simplify our supply chain strategy by focusing our investment in our oat-based technology and capacity, which will also reduce the capital intensity of our future facilities. As such, we’re actively pursuing and are in discussions with manufacturing partners to create a more hybrid production network across our geographies. We are specifically looking at transitioning the Fort Worth and Peterborough plants to hybrid facilities versus end to end. This move towards a more hybrid network is expected to significantly reduce our future capital expenditures and have a positive effect on our cash flow outlook.

It will also enable us to support growth and provide us with more flexibility to expand capacity faster in the future. In addition to the facing old CapEx project we laid out last quarter, which has already improved our cash flow to the near to medium term. Moving to the organizational structure, we have been redoing our organizational structure to just a fixed cost base globally for a more balanced growth and profitability equation. To start, we are executing an overhead and headcount reduction impacting up to 25% of the costs related to the group corporate functions and regional EMEA layers. By doing this, we expect annual savings up to $25 million from the reorganization which should take effect starting in Q1, 2023. We have identified incremental opportunities in the rest of the organization for which we expect up to $25 million in additional annual savings in the first half of 2023.

As part of this review, Jean-Christophe has assumed oversight of the global supply chain network following the departure of our Chief Supply Chain Officer. While Daniel has to assume oversight of EMEA markets following the departure of our EMEA President. We to continue to evaluate our global operations and potential opportunities to recalibrate our global organizational structure for the next phase of growth. As shown on slide 7 growth remains a top priority. The strategic actions we are taking are expected to strengthen our positioning entering 2023 and beyond. It’s important to remember we are operating in a category that is still very strong, and this reset is necessary to prepare for the next phase of growth. Plant base is growing globally, an oat continues to be the growth driver we being plant-based beverages.

We are all supply stable; we have strong position. And even when we have not been able to fulfill demand, including in the US, we still have the leading velocities despite a higher price point and lower promotional spent. Turning to slide 8, we see a significant whitespace opportunity as we work to convert dairy users to Oatly consumers globally. We expect to drive conversion by increasing our brand reach, pioneering through new product innovation, driving assets like production capacity expansion to support demand, expanding our presence across channels and entering new markets. Now moving to our business performance, on slide 10, third quarter revenue was $183 million, a 7% increase compared to $171.1 million in the prior year period. However, FX was a significant headwind, the revaluation of the dollar versus all European currencies and the RMB impacted our results by $16.6 million in the third quarter.

In constant currency revenue increased 16.7% year-over-year to $199.7 million. We saw volume growth across regions and we still have the number one selling oat mix SKU and highest velocities across key markets. We have also successfully rolled out new product launches across geographies, and continued channel expansion. Turning to the region starting with EMEA on slide 11. EMEA third quarter revenue was $82.6 million with strong FX headwinds impacting revenue by $14.5 million in the third quarter. In constant currency EMEA revenue increased 11% year-over-year to $97.1 million. Sales volumes increased approximately 7% with a steady performance across different markets in Europe is what’s in line with our expectations but also reflects the difficult macro environment.

We saw our continued ability to drive category growth, proving the resilience of our brand and business model we’re improving velocities and market shares across the board. Turning to slide 12, which is the result of driving growth in our existing markets through one, the synchronization of our brand, portfolio and in store activations. Two, disruptive brand event with the unique deployment of ARAL home activation. Three, focus distribution and execution on new product development with Chilled Barista, as well as the ice cream launch in DACH. And four, distribution gain, both retail and food service. Going forward, we still have a significant international expansion opportunity in EMEA is our current key markets consists only the UK, DACH, The Nordics and the Netherlands.

This quarter continue macro condition in EMEA slowed our new market and channel expansion. We incurred one-time charges relate to highest scrap and Co-packer volume adjustments. Turning to the Americas on slide 13. Americas third quarter revenue increased 22.7% year-over-year to $60.7 million, which was below our expectations. Demand for Oatly brand in the US remains strong with minimal signs of elasticity to our recent pricing action. And number one velocity in the toll of dairy and plant-based milk categories. Our ACV is still limited by supply in US at only 36% with significant upside once we have supply to meet demand. The increase in third quarter sales was driven by the progress we have been making. However, we are still limited by supply.

Turning to slide 14. We ran into production challenges in Ogden at the end of August and into September that disrupted this progress. The technical issue led to one of the two Ogden oat baselines being down for approximately three weeks. It has since been resolved; our production is stabilizing so we can start rebuilding inventory. But it did have an impact on Q3 and we’ll also have an impact on the volumes we can sell in the fourth quarter, which is the main driver of a guidance update Christian will touch on shortly. With Ogden production back on track and we’ll be second oat baseline expansion ahead of expectations. We expect production volumes to improve in Q4 and into 2023. With more volumes we expect to close the fill rate gap and drive distribution and market share gains with our leading velocities.

We also expect accelerated revenue and margin performance in 2023 based on production improvements. Turning to Asia on slide 15. Asia third quarter revenue was $39.8. In constant currency, Asia revenue increased 22.5% year-over-year to $41.9 million which is below our expectations. We are seeing that zero tolerance COVID policy is having a continued impact and changing consumer behavior. A number of businesses have shortened business hours, consumers are traveling less and preventative health measures have been tightened with resurgence outbreaks. The restrictions not only had an impact on top line performance, but also the profitability which Christian will expand on later in this presentation. Our Asia team has been resilient and will continue to adapt the best we can in this restrictive environment, including accelerating our expansion into retail and e commerce.

Retail and ecommerce sales representative 13% to 24% of total Asia sales this quarter respectively, and continue to be an important growth driver going forward. Turning to slide 16. We continue to see the power of the Oatly brand across Asia. Oatly has been nominated as the star pop brand by E-magazine for being a leader in the food industry and named as a leading brand by several other outlets. We continue to have the number one plant-based brand on TMALL with 48% market share in the new plant-based category and 24% market share in the overall plant-based category year-to-date through September. Our innovations forming well, the team is expected to be in 25,000 stores by the end of Q4. We also recently partnered with food company to join to develop prepackaged plant-based drinks under the Langfang Jen and Oatly brand, we have two ready to drink co-branded products available today at convenience stores such as Family Mart and ecommerce platforms including TMALL and JD.com.

From the production standpoint in September, our facility in Singapore started producing at fully ramp capacity and the Maanshan is continuing to increase production. The localized production will enable us to expand to other international markets across Asia as well. The COVID-19 weighs heavily on our results for the third quarter, and our outlook for the remainder of the year, underlying demand remains strong. And we continue to be excited about the growth opportunities across Asia as these external pressures abate. With that I would like to turn the call over to Christian to walk through the financials and guidance.

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Christian Hanke : Thanks, Toni. And good morning, everyone. It’s nice to speak with you today. Turning to the financials on slide 18. Revenue for the third quarter of 2022 was $183 million, an increase of $11.9 million, or 7% compared to revenue of $171.1 million in third quarter of 2021. Excluding a significant foreign currency exchange headwind of $16.6 million, revenue for the third quarter would have been $199.7 million, or an increase of 16.7% in constant currency compared to the prior year period. As Toni mentioned, third quarter revenue results were below our expectations, primarily due to production challenges in Ogden and continued market restrictions in Asia due to COVID-19. However, we experienced growth across retail, food service and ecommerce channel.

Moving to slide 19, sold volume for the third quarter of 2022 amounted to 126 million liters compared to 110 million liters last year, an increase of 14.5%. We experienced the broad base growth with 7% sales volume growth in EMEA, 17% growth in Americas, and 38% volume growth in Asia. Consolidated net sales per liter was $1.45 in the third quarter of 2022, compared to $1.55 in the third quarter of 2021, mainly driven by foreign exchange and promotional activities in Asia, offset by the pricing actions in Americas and EMEA. As a reminder, our highest regional net sales per liter is typically in Asia, followed by the Americas and EMEA. Gross profit in the third quarter was $5 million, or 2.7% gross margin, compared to $44.9 million 26.2% margin in the prior year period, well below our expectation.

Compared to the second quarter of 2022, gross profit margin of 16.8%, we had 1,310 basis point sequential margin decline as shown on slide 20. We did not achieve sequential improvement as we had anticipated, primarily due to the mention production issues in America at our Ogden facilities and continued COVID-19 restrictions in Asia. The decline was mainly driven by continued pricing actions of 390 basis points to offset higher cost inflation of 380 basis points. Continued COVID-19 restrictions in Asia resulted in short term underutilization of our Asian facilities, higher promotional activities, co-packer and inventory positions of 490 basis points. Unexpected production challenges at our Ogden facility impacting our margin by 110 basis points.

Continued macro headwinds in EMEA slowed our new market and channel expansion which impacted cost of production and resulted in charges related to highest scrap and co-packer volume adjustments of 630 basis points, most of which are expected to be non-recurring. And other items net of approximately 90 basis points. We have seen improvement in October gross margin already, which is what gives us confidence in our ability to achieve higher gross margin in the fourth quarter. The gross profit margin improvement in Q4 2022 and into 2023 is expected to be driven by lasting these transitory, largely macro related challenges, as well as by a select number of key actions that we are executing on. First, continued pricing actions to combat inflation.

Second, driving steady production progress at Ogden, and our new Millville oat baseline. Third, optimizing the utilization of our supply chain network driving cost and production efficiencies. Four, expanding our channel footprint and product portfolio in Asia to navigate the COVID-19 uncertainty and lastly, improving our operational execution with a simplified organizational structure. Some improvements in utilization are already taking place. In Asia, Singapore is now at fully ramped capacity, and in Americas, Millville’s oat-based line expansion has commenced commercial runs in November. We expect that the continued and improved ramp up of our production facilities in the fourth quarter of 2022 should result in improved fixed cost absorption as well as a better sales mix.

And the implementation of pricing actions will drive gross profit margin expansion. Moving to slide 21, third quarter of 2022 EBITDA loss was $92.2 million compared to an EBITDA loss of $36.5 million in the third quarter of €˜21. Adjusted EBITDA loss for the quarter, third quarter of 2022 was $82.7 million. The adjusted EBITDA loss was primarily related to the lower gross profit of $39.9 million and to a lesser extent, driven by higher employee branding and customer distribution expenses offset by lower consultant expense and positive impact from foreign exchange rates. In the third quarter, total operating expenses as a percent of revenue increased to 59.7%, compared to 57.6% in the second quarter of 2022 due to the lower-than-expected revenue.

We expect operating expenses as a percent of revenue to improve in the fourth quarter, as we closely manage costs with the actions Toni mentioned earlier. However, we will not see the full benefit until 2023. Now focusing on our balance sheet and cash flow; as of September 30, 2022, we had cash and cash equivalents and short-term investments of $120.3 million and total outstanding debt to credit institutions of $4.4 million. We have not drawn any loans on our revolving credit facility of approximately $320 million, excluding the accordion of an additional $76 million. Net cash used in operating activities increased by $66.6 million to $215.2 million for the nine months ended September 30, 2022, to compare to $148.6 million during the prior year period, driven by our higher loss from operations.

Capital expenditures were $170.5 million for the nine months ended September 30, 2022 compared to $186.7 million in the prior year period. Cap expend was lower than last year due to the facing of our facility investment. Net cash used in financing activities was $10 million for the nine months ended September 30, 2022, primarily reflecting the repayment of lease liabilities and repayment availabilities to credit institution. Turning to the guidance on slide 22, for fiscal year 2022, we are updating our revenue outlook and now expect revenue of $755 million to $775 million based on 2021 exchange rates or constant currency, an increase of 17% to 20% compared to fiscal year €˜21. At the prevailing FX rates, this implies revenue guidance of $700 million to $720 million, an increase of 9% to 12% compared to fiscal year 2021.

Our previous guidance implied accelerated revenue growth in Q3 and Q4 primarily coming from the Americas and Asia, given the lower-than-expected revenue in Q3, and our current outlook for Q4, we have reduced our forecasts, $53 million to $58 million of the reduction is driven by operational challenges in Americas, which limits our ability to accelerate sales momentum, and $32 million to $37 million is driven by COVID-19 pressures, negatively impacting sales in Asia. We believe these challenges are transitory, as COVID-19 restrictions ease in Asia, and we have more stable production in Americas, we have significant opportunities for growth. As you know, currency exchange rates are volatile and difficult to predict. Our updated guidance is now based on spot rate as of September 30, 2022, accounting for approximately $50 million of the change versus the previous revenue guidance.

Please refer to the last slide in the appendix of the earnings presentations for details on exchange rates. As I stated a few moments ago, compared to the third quarter of 2022, we expect the gross margin improvement and operating expenses as a share of net revenue to improve sequentially in the fourth quarter. Moving to slide 23, we continue to expect capital expenditures to be in the range of $220 million to $240 million for fiscal 2022 given the phasing of certain projects, we continue to expect run rate production capacity to be approximately 900 million liters of finished goods by the end of fiscal 2022. With the phasing of CapEx projects, we believe that our current sources of liquidity and capital will be sufficient to meet our existing business needs through the end of 2023.

In terms of our funding plan, first, we are simplifying our organizational structure, which is expected to result in total annual savings of up to $50 million. Second, we have reshaped CapEx projects, and are working to adjust our supply chain network to more asset light model. These measures support our actions to achieve future growth and profitability and will significantly reduce our capital needs. We have lowered the capital raise requirements $200 million and extended the capital raise period until June 30 2023 in our RCF amendments to reflect these actions. With this refined clarity on our capital needs, we are actively working on multiple financing tracks. Turning to slide 24, we are not in a position to provide 2023 guidance until our fourth quarter earnings call in March.

However, we expect higher revenue growth in 2023 than 2022. And to be adjusted EBITDA positive exiting Q4, 2023. In order to get there, we plan to expand our distribution footprint with new geographies and within existing channels, improve gross margin and leverage our improved cost structure with the organizational changes Toni outlined. We see a path to improving gross profit margin with the actions I discussed earlier. In regards to our long-term guidance, we are currently evaluating the impact of the strategic actions we are taking, especially as it relates to a more asset like less capital-intensive operating model. Now I’ll turn the call back to Toni for closing comments.

Toni Petersson: In conclusion, we are disappointed in the quarterly results. I remain confident in our strategy and the strength and uniqueness of our brand, which have continued to demonstrate the ability to generate demand and grow revenue. At the same time, we’ve taken decisive action to address the operational issues to prepare for the next phase of growth. With that review, we are now ready to take your questions. Operator?

Q&A Session

Operator: Our first question comes from the line of Andrew Lazar from Barclays.

Andrew Lazar: Great, thanks very much. Maybe to start off, I think your initial target for self-manufacturing was 50% to 60%. Do you have a new longer-term target for what self-manufacturing would look like given some of the actions you’re taking? And is this move around more of an asset light model targeted to a more specific geographic region? And then as part of that, obviously, the shift to self-manufacturing was a key factor, I think, basically in the longer-term margin improvement story. So I guess how does this margin improvement come about now? And aren’t some of these sort of self-manufacturing facilities already under various states have kind of construction or completion?

Toni Petersson: Hi, Andrew, this is Toni here. Thanks for your question. Just let me — just start off with the gross margin, I will let Christian, double click on the rest of the questions here. Now, in terms of gross margin, transitioning into hybrid will potentially have a small concession on margins. But we are not ready at this time to provide a guidance, as we are discussing with various parties. The small concession, though, our modest will — is outweighed by simplifying supply chain operations and execution. So I can’t give you any clear updates on the margin. Let’s come back to that whilst we’re finalizing all the discussions.

Christian Hanke : I don’t think there’s anything more to add there, Toni. We will come back.

Toni Petersson: No, but in terms of maybe, Christian, the settlement —

Christian Hanke : Factoring piece will obviously have a slightly different share of our total capacity as compared to before. I will have to come back on that point.

Andrew Lazar: Got it. Yes. I just didn’t know how significant the magnitude of that change would be. And then any specific geographic region that that’s focused on and as you make these shifts? Or do we not know that yet either?

Christian Hanke : Well, we’re working across all the various regions. I mean, we’re specifically looking at one facility in the U.S., Dallas Fort work and U.K.

Andrew Lazar: Got it, and then just a quick clarification. I think you had mentioned 4Q, you expect gross margins to improve sequentially. And then Christian, earlier in the prepared remarks, you mentioned 4Q gross margin expansion. So I didn’t know if that made year-over-year expansion or not. I was hoping you could just clarify that. Thank you.

Christian Hanke : Sequential improvement compared to the third quarter is what we meant.

Toni Petersson : Andrew can I just clarify again because you mentioned magnitude. What we see is potentially a small concession of the margins not much.

Operator: Our next question comes from the line of Ken Goldman from JPMorgan.

Ken Goldman : Hi, thank you. I wanted to build on Andrew’s line of questioning about the pivot towards a more hybrid strategy. Obviously, to his point in your point, there were better economics that you had laid out for the NTN manufacturing. But you had also talked about some others, some other tailwinds, right, in terms of having more control over the process. I think you had mentioned some flexibility to maybe build some value-added processes when you control the entire supply chain. So I do appreciate the need to conserve cash right now. I do understand that companies can pivot. But I’m just curious how comfortable you are with some of the choices you have to make. I don’t want to use the word sacrifices, but choices as you kind of veer away from end to end on a more permanent basis.