7 December 2017

DS Smith Plc - 2017/18 HALF YEAR RESULTS

Growing with customers

Highlights

·     Strong organic volume growth⁽²⁾ of 5.2%

o  All regions in growth

o  E-commerce and pan-European strength

·     In-line performance, delivering against all financial KPIs

·     Recovery of paper price increase progressing as expected

·     Excellent start from Interstate, our first fibre-based US business

o  Integration ahead of expectations with positive employee and customer reaction

o  Benefits of global supply chain validated and being delivered

o  Annualised pre-tax cost synergy target raised to $30 million

·     Continuing to grow the business organically and inorganically

o  Proposed €208 million acquisition of Ecopack and Ecopaper in Romania (completion expected January 2018)

o  Packaging capacity investment programme for Europe and US

"We are delighted with our volume growth which has significantly accelerated to over 5%, fuelled by success with e-commerce and pan-European customers. Structural shifts, including changes in consumer preferences, the increased relevance of our packaging at point-of-sale, and the rise in e-commerce are all underpinning the growth of packaging.  The strong customer demand has driven performance and our operating margin is in line with our expectations, despite the substantial input cost pressures in the period, which we continue to recover as planned.

Integration of our recently acquired North American business is going very well and we have been delighted by the reaction from both employees and customers.  The proposed acquisition in Romania is on track to complete in January 2018. We continue to see exciting opportunities for growth, both in Europe and in North America, and, accordingly, the Board remains confident about the outlook for DS Smith."  

Miles Roberts, Group Chief Executive

Sustainable delivery against medium term targets

See notes to the financial tables below

Enquiries

DS Smith Plc                                                                    +44 (0)20 7756 1800

Hugo Fisher, Group Communications Director

Rachel Stevens, Investor Relations Director

Presentation and dial-in details

A presentation to investors and analysts will be held at 9:00am today at Allen & Overy, One Bishops Square, London E1 6AD. Dial-in access for the presentation is available with details as follows: +44 (0) 20 3003 2666 (standard access) or 0808 109 0700 (UK Toll Free) Password: DS Smith. The slides accompanying the presentation will be available on our website shortly before the start of the presentation. Dial-in participants will have the opportunity to participate in the Q&A. A replay is available for 7 days on +44 (0) 20 8196 1998, PIN 1778967#.

Notes to the financial tables

The Group uses certain key non-GAAP measures in order to provide an additional view of the Group's overall performance and position, eliminating significant unusual or non-operational items that may obscure understanding of the key trends and position. These measures are used internally to evaluate business performance, as a key constituent of the Group's planning process, as well as comprising targets against which compensation is determined.  Reporting of non-GAAP measures alongside reported measures is considered useful to enable investors to understand how management evaluates performance and value creation internally, enabling them to track the Group's adjusted performance and the key business drivers which underpin it. Note 15 explains the use of non-GAAP performance measures.

(1)        Before adjusting items and amortisation of intangible assets

(2)        Corrugated box volumes, adjusted for working days, on a like-for-like basis

(3)        GDP growth (year-on-year) for the countries in which DS Smith operates, weighted by our sales by country = 2.4%. Source: Eurostat (14 Nov 2017)

(4)        Operating profit before adjusting items and amortisation of intangible assets as a percentage of revenue

(5)        Operating profit before adjusting items and amortisation of intangible assets as a percentage of the average monthly capital employed over the previous 12 month period. Average capital employed includes property, plant and equipment, intangible assets (including goodwill), working capital, provisions, capital debtors/creditors and assets/liabilities held for sale

(6)        Net debt at average exchange rates over operating profit before depreciation, adjusting items and amortisation of intangible assets for the previous 12 month period, calculated in accordance with banking covenants

(7)        Free cash flow before tax, net interest, growth capital expenditure and pension payments as a percentage of operating profit before adjusting items and amortisation of intangible assets

(8)        Organic volume growth, cash conversion and return on sales given for the 6 months to 31 October 2017, ROACE and net debt / EBITDA given for the 12 months to 31 October 2017

Cautionary statement: This announcement contains certain forward-looking statements with respect to the operations, performance and financial condition of the Group.  By their nature, these statements involve uncertainty since future events and circumstances can cause results and developments to differ materially from those anticipated.  The forward-looking statements reflect knowledge and information available at the date of preparation of this announcement and DS Smith Plc undertakes no obligation to update these forward-looking statements.  Nothing in this statement should be construed as a profit forecast.

Unless otherwise stated, all commentary and comparable analysis in the overview and operating review is based on constant currency performance. Organic volume growth means corrugated box volume growth, on a like-for-like basis.

Overview

In the half year to 31 October 2017, DS Smith has delivered strong organic corrugated box volume growth and maintained return on sales and return on capital employed in line with our medium term targets, despite substantial input cost rises in the period. In addition, we have seen an excellent performance from Interstate Resources since we acquired the business and have had a very positive start to our integration work.

Organic corrugated box volumes have grown at 5.2%, well ahead of our target of GDP+1% which represents a continuation of the momentum of the previous year. Growth is due to market share gains, with strong volumes again from our pan-European customers, particularly within the e-commerce category, together with an improvement in European economic growth. Return on sales for the period was 9.0%, the midpoint of our target range of 8 - 10%. We are pleased with our progress in recovering paper price rises and have also benefited strongly from operational leverage. Return on average capital employed at 14.6% remains near the top of our target range despite the initial dilutive effect of the Interstate acquisition and other acquisitions in the past 12 months. Net debt / EBITDA at the period end was 2.0x reflecting our focus on tight balance sheet management. These results reflect our absolute focus on returns and cash flow in the business and our commitment to bringing net debt back into line with our medium term targets following an acquisition.

On 25 August 2017 we completed our acquisition of Interstate Resources, our first fibre-based packaging business in the United States. We are delighted by the financial performance and operational progress to date, with employees showing great enthusiasm to be part of leveraging our packaging expertise in this exciting market. We are actively engaged in discussions with both international customers of Interstate and DS Smith and have been enjoying positive responses, particularly from large customers of the Interstate Resources group, who recognise the benefit of sourcing from a large company with innovation and expertise in shelf-ready packaging, for example.

We have also increased our estimate of annualised pre-tax cost synergies achievable from the acquisition, from $25 million by the end of the third full year to $30 million over the same period, based principally on greater opportunities to drive operational efficiencies and global supply chain benefits.

For the half year period, Group revenues increased on a constant currency basis by 14%, principally reflecting volume growth in corrugated boxes in Europe, the contribution from acquired businesses, particularly North America, and increased selling prices. Group revenues increased on a reported basis by 19%.

Adjusted operating profit was up 6% (£15 million) on a constant currency basis, reflecting the margin pressure from higher paper prices in part offset by significant volume growth in the period and two months' contribution from Interstate. The profit drop-through from volume growth in corrugated boxes is consistent with prior periods, while sales price and mix increased significantly due to the marked increase in input costs during the period which are being progressively recovered in box prices.

We continue to remain heavily focused on cash and ROACE, delivering 14.6% ROACE, which is towards the top of our target range, despite the initial dilutive impact from the acquisition of Interstate in August 2017, and other smaller businesses in the past 12 months. Net debt / EBITDA increased from 1.8x at 30 April 2017 to 2.0x at 31 October 2017 as net debt increased by £314 million to £1,406 million, due to the impact of acquisitions, (£926 million, including debt assumed of £144 million and £261 million of equity consideration shares issued), particularly Interstate, and the currency translation impact, partially offset by the proceeds from issuing new equity to finance the Interstate acquisition, and by free cash flow (£171m). Underlying cash flow from the business continued to be good, with a further working capital inflow of £25 million generated during the period.

Operating Review

UK

*Adjusted, before amortisation and adjusting items

In the UK revenues increased 18% to £550 million (H1 2016/17: £466 million) while adjusted operating profit has increased 22% to £55 million (H1 2016/17: £45 million). Corrugated box volumes in the period were good, reflecting continued success with e-commerce customers. We have developed a leading position in e-commerce which is being replicated in other European regions.  Margin in the region has been at the top of the Group target range, reflecting the mix of our business, good performance in the acquired TRM and Creo businesses and also good progress in recovering paper price rises.

Western Europe

*Adjusted, before amortisation and adjusting items

In Western Europe organic corrugated box volumes in the period reflected a strong performance in the Iberian businesses and in France, with flatter volumes in the Benelux region. Revenue increased by 8% driven by underlying volume growth and increases in box prices, which partially mitigated the input price rises in the period. There was also a small benefit to revenues from acquisitions in the past 12 months in both France and Iberia. Adjusted operating profit fell by 7%, principally reflecting the lower proportion of paper manufacturing in the region than the Group as a whole, together with the lag between the increase in input costs and the recovery of those costs through corrugated packaging price rises.

DCH and Northern Europe

*Adjusted, before amortisation and adjusting items

DCH and Northern Europe has seen very strong volume growth across the region, with good growth in Northern Europe and excellent growth in Germany and Switzerland, reflecting good progress with customers following the recent investment in the new Erlensee display packaging site in Germany. The acquisition of Deku-Pack in September 2016 also gave a small positive benefit. Adjusted operating profit fell 9% reflecting the lag between the increase in input costs and the recovery of those costs through price rises.

Central Europe and Italy

*Adjusted, before amortisation and adjusting items

Organic corrugated box volumes in Central Europe and Italy have grown ahead of the Group average, reflecting a very good performance from this high growth market, particularly in Poland and the Baltics, and south eastern Europe. Our corrugated box volumes in Italy have also continued to grow well. Revenues increased by 8%, reflecting the volume growth and the benefit of pricing increases in packaging and in external paper sold. Adjusted operating profit decreased 5%, reflecting the organic growth offset by the lag between the increase in input costs and the recovery of those costs through packaging price rises.

North America

*Adjusted, before amortisation and adjusting items

Corrugated box volumes in the two months of ownership were extremely strong in the period compared to the comparative period in 2016 prior to DS Smith's ownership.  This was driven by the strong market for paper and the benefit of beginning to integrate with the wider DS Smith platform. Profit performance is considerably ahead of that in 2016. As expected there has been great customer interest in performance packaging and shelf ready packing. The supply chain benefits between Europe and the east coast of USA will deliver greater benefits than originally assumed.

Plastics

*Adjusted, before amortisation and adjusting items

Plastics has seen revenue grow by 7%, driven by volume growth in the business. Adjusted operating profit grew 5% reflecting volume growth in the core business and through acquisition, with return on sales margins falling 20 basis points to 11.2%.

Acquisition of Interstate Resources

On 25 August 2017, we completed our acquisition of Interstate Resources, our first fibre-based packaging business in the United States. The rationale for the acquisition is to build a business in North America offering similar packaging solutions as has proved successful in Europe, based on demand for our solutions from our pan-European customers who also operate in the United States, and to capitalise on the opportunities from operating a global supply platform.

We are delighted by the financial performance and operational progress to date, with employees showing great enthusiasm to be part of leveraging our packaging expertise in this exciting market. We are actively engaged in discussions with international customers of both Interstate and DS Smith and have been enjoying very positive responses, particularly from large customers of the Interstate Resources group, who recognise the benefit of sourcing from a large company with innovation and expertise in shelf-ready packaging, for example. Plans are in place to develop a PackRight Centre alongside the largest of the US packaging sites, and we are excited by the growth opportunities for the business.

We have also increased our estimate of annualised pre-tax cost synergies achievable from the acquisition, from $25 million by the end of the third full year to $30 million over the same period, based principally on greater opportunities to drive operational efficiencies and global supply chain benefits. Cash benefits of $95 million are confirmed, mainly driven by working capital management. The cash investment required in total until the end of our financial year 2020/21 to integrate the business and bring it up to European health and safety standards is now expected to be $20 million treated as an adjusting item and $40-45 million treated as capital expenditure.

Outlook

The outlook remains positive as we begin our second half with good momentum. Our packaging proposition that delivers real value to our customers is reflected in our volume growth and, while input cost pressures remain, we continue to recover those costs as planned.

We continue to see exciting opportunities for growth, both in Europe and in North America and, accordingly the Board remains confident about the outlook for DS Smith.

Financial Review

Group revenue for the half year to 31 October 2017 increased by 19% to £2,800 million (H1 2016/17: £2,357 million), reflecting acquisitions (£150 million), volume and sales price growth, and a significant positive currency translation effect (£98 million). On a constant currency basis, revenue increased by 14% due to acquisitions and organic growth of £195 million, approximately evenly split between corrugated box volume growth and sales price and mix growth, reflecting the price increases to recover input cost pricing that took place in the period.

Unadjusted operating profit of £174 million was marginally lower than the prior year (H1 2016/17: £175 million) due to the impact of the inclusion of adjusting items of £35 million (H1 2016/17: £21 million) and higher amortisation of £42 million (H1 2016/17: £30 million) due to acquisitions.

Adjusted operating profit increased 11% to £251 million (H1 2016/17: £226 million), with a £10 million benefit due to currency translation. On a constant currency basis, adjusted operating profit growth was 6%, benefitting from a £15 million contribution from the recently acquired North America business plus a further £4 million from other businesses acquired in the past 12 months. The profit drop-through from higher volumes (£39 million) and the benefit of higher pricing and sales mix (£81 million) was offset by higher input and other costs (£124 million). Input costs were substantially higher period-on-period, reflecting a rise in fibre costs and in paper pricing.

Free cash flow (being EBITDA plus the cash flow effect of working capital, pension payments, capital expenditure (net of proceeds), tax and interest) was £171 million (H1 2016/17: £182 million), driven by EBITDA of £332 million and a further positive contribution from working capital of £25 million, partially offset by capital expenditure, tax and interest payments. Reported cash grew from £123 million at 30 April 2017 to £535 million at 31 October 2017 through cash flows from operating activities of £259 million, share issues of £283 million and net proceeds from borrowings of £571 million, offset by acquisitions of £521 million, net capital expenditure of £121 million and dividends of £44 million.

Net capital expenditure was £121 million in the period (H1 2016/17: £84 million) with a total of c. £280 million expected to be spent in the full financial year. The full year increase compared to previous guidance is primarily driven by the addition of capex relating to the North America business.

Amortisation for the period was £42 million (H1 2016/17: £30 million), with a total of £90 million expected for the full financial year, driven by the effect of the acquisition of Interstate. Depreciation for the period was £81 million (H1 2016/17: £74 million), with the charge for the full financial year expected to be c. £175 - £185 million. 

Return on average capital employed of 14.6% for the 12 month period to 31 October 2017 (12 months to 31 October 2016: 15.1%) represents a 40 bps decrease on a constant currency basis and remains near the top end of our target range. This decrease is driven by the initially dilutive impact of recently acquired businesses, partially offset by the continued profitable growth of the business.

Adjusting items after tax of £38 million were incurred in the period (H1 2016/17: £17 million), including £18 million relating to acquisition costs, £5 million of acquisition-related financing costs, £5 million to integration and £5 million relating to other restructuring initiatives. Total adjusting items for the year are expected to be c. £60 - 65 million.  

Net financing costs were £26 million (H1 2016/17: £28 million), reflecting the increase in debt over the period due to consideration paid for acquisitions, less the slightly larger impact of receiving the proceeds of the equity issue before paying for Interstate Resources. The pension interest charge for the period was £2 million, similar to last year, with a charge of £5 million expected for the full year. The interest charge for the year as a whole is expected to be around £60 million, inclusive of the pension interest charge.  Adjusting finance costs of £5 million relate to costs incurred on the acquisition of Interstate.

Unadjusted profit before tax was lower at £144 million (H1 2016/17: £146 million), through higher financing costs and the lower operating profit, offset slightly by improved share of results of associates. Adjusted profit before tax of £184 million (H1 2016/17: £167 million) was higher through the growth in adjusted operating profit and lower adjusted financing charges.

Unadjusted tax on profits has been charged at a rate on continuing operations before amortisation and adjusting items of 23% (H1 2016/17: 22%), similar to the full year 2016/17.

Unadjusted profit after tax for continuing operations was £107 million (H1 2016/17: £115 million). Adjusted profit after tax was £145 million (H1 2016/17: £132 million).

Earnings per share for continuing operations before amortisation and adjusting items increased 6% to 17.4 pence (H1 2016/17: 16.4 pence) or 2% on a constant currency basis, reflecting the growth in operating profit, boosted by the decrease in interest costs. Earnings per share was disproportionately impacted in the period by the equity issue on 29 June 2017 which raised funds for the Interstate Resources acquisition which completed approximately two months later, on 25 August 2017, in addition to the equity issued to the vendors on completion. Total unadjusted earnings per share was 10.6 pence (H1 2016/17: 12.3 pence) due to higher amortisation and adjusting items, together with the issues of equity noted above.

Financial position

Total equity increased to £2,025 million at 31 October 2017 from £1,355 million at 30 April 2017 due to equity issues of £544 million, retained profits of £107 million, actuarial gain on employee benefits of £25 million and foreign currency translation differences of £26 million, offset by dividends of £44 million.

Net debt at 31 October 2017 was £1,406 million (30 April 2017: £1,092 million), representing 2.0x EBITDA for the prior 12 month period, calculated on the basis of a full year contribution from acquired businesses. Expenditure on acquisitions was £521 million and borrowings of £144 million were also assumed. £283 million was raised by the issue of equity, principally in a placing conducted at the time of the announcement of the Interstate Resources acquisition in June 2017. The Group maintains tight capital discipline, and constant attention to working capital means that, despite the increase in working capital on a translated basis due to foreign exchange changes, £25 million has been released from working capital in the period on a like-for-like basis, and working capital as a percentage of sales as an average over the period is now 0.1% (H1 2016/17: 1.7%).

Dividend

The Board considers the dividend to be an important component of shareholder returns. In considering dividends the Board will be mindful of the Group's leverage, earnings growth potential and future expansion plans. As first set out in December 2010, our policy is that dividends will be progressive and, in the medium term, dividend cover should be on average 2.0x to 2.5x through the cycle.

The Board declares an interim dividend for this half year of 4.9 pence per share (H1 2016/17: 4.6 pence per share). This represents an increase of 7%, demonstrating the confidence of the Board in the outlook for the Group. The dividend will be paid on 1 May 2018 to ordinary shareholders on the register at the close of business on 6 April 2018.

Risks and uncertainties

The Board has considered the principal risks and uncertainties affecting the Group in the second half of the year. The principal risks and uncertainties discussed in the Business Review on pages 42 to 45 of the 2017 Annual Report, available on the Group's website at www.dssmith.com, remain relevant.

In summary, the Group's key risks and uncertainties are:

·     Acquisition strategy;

·     Access to capital market and liquidity restrictions;

·     Increasing market consolidation;

·     Governance and compliance;

·     Process changes;

·     Changes in shopping habits;

·     Digital vulnerabilities;

·     Eurozone and macroeconomic limits;

·     Interference in securing required paper supplies;

·     Unanticipated fibre technology changes;

·     Sustainability promise; and

·     Talent barriers.

Going concern

The Group's recent trading and forecasts, after taking account of reasonably foreseeable changes in trading performance, shows that the Group is able to operate within its current debt facilities. At 31 October 2017 there was significant headroom on the Group's committed debt facilities of £2,778 million. As a consequence, the Board believes that the Group is well placed to manage its business risks (as summarised above) successfully despite the uncertainties inherent in the current economic outlook. After making enquiries, the Board has formed a judgement that there is a reasonable expectation that the Group has adequate resources to continue in operational existence for the foreseeable future. For this reason, the going concern basis has been adopted in preparing the interim financial statements.

Responsibility statement

We confirm that to the best of our knowledge:

(a)      the condensed set of financial statements, prepared in accordance with IAS 34 "Interim Financial Reporting" as adopted by the European Union, gives a true and fair view of the assets, liabilities, financial position and profit or loss of the Company and the undertakings included in the consolidation taken as a whole;

(b)      the interim management report includes a fair review of the information required by DTR 4.2.7R (indication on important events during the first six months and description of principal risks and uncertainties for the remaining six months of the year); and

(c)      the interim management report includes a fair review of the information required by DTR4.2.8R (disclosure of related parties' transactions and changes therein).

6 December 2017