Ken Hanna reviews financial performance and strategy
Our objective is to generate consistently superior business performance through focusing our investments and efforts behind those businesses and brands which are capable of generating the highest growth and returns. It is therefore pleasing to report that the acceleration in revenue growth we have seen in 2005 was broadly based across markets and categories. All four regions contributed strongly to growth with both Americas Confectionery and Asia Pacific showing growth well ahead of the Group's average. Both confectionery and beverages reported strong revenue growth.
The strengthening in confectionery revenue growth from 5.8% in 2004 to 6.3% in 2005 compares with an average of 3% between 1998 and 2003. This reflects both an improvement in what we call the legacy Cadbury business and continued strong growth in the Adams business.
We have owned the Adams business for nearly 3 years and have exceeded the acquisition model on key performance metrics. Since acquisition, revenue growth has more than doubled to 11%, driven by an acceleration in growth from the four largest brands - Trident, Halls, Dentyne and the Bubbas - and an improvement in the smaller brands. Margins have increased from 11% to 16%. The business is now fully integrated into Cadbury Schweppes, the problem markets of Brazil and Japan have been turned round and we have grown share in every one of Adams key markets, including the US, which had suffered a protracted period of share loss in gum prior to our acquisition.
Adams - revenue and margin performance
| |
1999-01 |
2004 |
2005 |
| Power Brands |
+8% |
+13% |
+12% |
| Other |
-1% |
+5% |
+7% |
| Total Adams |
+5% |
+11% |
+11% |
| Operating Margins |
11% |
13% |
16% |
We are seeing the strongest rates of growth in our core advantaged confectionery brands and in emerging markets. Accounting for 30% of our confectionery business, we have the largest and most broadly based confectionery business in emerging markets with strong presences in Latin America, Africa and Asia. In 2005, these businesses grew by 12%, the same rate as in 2004. We are increasingly confident that they will continue to be a significant and sustainable source of growth for the Group as we leverage our existing category knowledge, Science & Technology capabilities and our strong routes to market to make confectionery more affordable to consumers in these markets.
Confectionery performance in emerging markets
| Latin America |
+13% |
| EasternEurope/Africa |
+11% |
| Asia |
+11% |
| Total confectionery emerging markets |
+12% |
Sales growth from our beverage businesses also accelerated in 2005. In 2004, these businesses grew at 3.6%, with strong momentum from US carbonates, Mexico and Australia offset by a decline in US noncarbonates. In 2005, Beverages growth accelerated to 6.2% with the key driver of the improvement being the turnaround in US non-carbonates, which grew at 4% - with a particularly strong second half performance driven by some good promotional activity.
Beverages revenue growth: key drivers
At constant exchange rates, margins from our base business improved by 30 basis points, to 15.9%. While we benefited from further Fuel for Growth savings, these were offset by the combination of planned increases in our growth investment and by a significant increase in external costs.
Our Fuel for Growth initiative delivered a further £90 million of cost savings in 2005, bringing total savings of £180 million to date. We expect to generate £90 million of savings in each of the next two years, leaving us on track to deliver cumulative savings of £360 million by the end of 2007. Fuel for Growth is enabling us to undertake a major restructuring of our cost base - realigning it behind our growth priorities and significantly improving our cost competitiveness.
The cost environment was a challenge for us during the year as it was for the industry as a whole. We saw year-on-year increases in a number of areas, specifically: oil and transport costs - where oil prices rose by nearly 40% in the year; PET costs; and glass costs. Input costs for the year were around £50 million higher than originally budgeted, with our Americas Beverages region being significantly impacted.
Despite these unexpected cost increases, we continued to invest behind growth. In 2005, we spent £75 million on incremental growth and capability investment. This included £20 million to put a new IT system into the UK, our biggest confectionery market; £15 million on tactical investments - principally in non-carbonates and confectionery in the US; and £40 million on growth initiatives - including innovation, S&T, product reformulation, strengthening sales teams and training our people.
We are committed to improving our cash flow and capital efficiency and made good progress on both fronts in 2005. Cash flow increased by over 75% in 2005 to £404 million. This is equivalent to £450 million at 2003 exchange rates and brings the cumulative free cash flow generated to over £700 million since 2003. We expect free cash flow for 2006 to be broadly in line with 2005 with further improvements in cash generation compensating for the loss of the Europe Beverages cash flows. We therefore believe we are well on track to deliver our goal of £1.5 billion of free cash flow over the 2004 to 2007 period.
We believe our working capital levels are too high and that more rigorous management will release significant capital over the next few years. In 2005, year end working capital was £37 million lower than prior year, and, while average working capital was impacted by the IT implementation in the UK, excluding the UK, average Days Sales Outstanding were about 5% lower overall. New working capital performance indicators were embedded into our management reporting in 2005. In 2006, we will be specifically incentivising managers on achieving further targeted improvements in working capital.
The allocation of our capital spend has changed significantly in the last three years. In 2003 and 2004, investment in infrastructure, information technology and maintenance expenditure took up over twothirds of our capital budget. In 2005, approximately 60% of our £300 million capital investment was focused on new products, capacity and efficiency. We expect this to be the pattern going forward.
Capital spend allocation
| |
2003 |
2004 |
2005 |
| New Products/Capacity/Efficiency |
33% |
30% |
60% |
| Maintenance/IT infrastructure |
67% |
70% |
40% |
In addition to the £1.26 billion sale of Europe Beverages, our programme to sell non-core brands and businesses also saw us sell the Grandma's Molasses and Holland House Cooking Wines brands and Piasten, our German confectionery business. In early February, we announced our intention to sell Bromor, our South African beverage business. The sale of surplus properties netted us £30 million during the year. In total, excluding Europe Beverages, we expect our disposal programme to net the Group between £350 million and £400 million by the end of 2007.
Just as we are divesting assets which are not delivering the returns which we require, so we are investing behind those businesses and assets which are delivering strong growth and returns. In recent months, we have announced acquisitions and capital investments which have been focused on strengthening our position in emerging markets. These included: increasing our stake in our confectionery businesses in Turkey and Nigeria; and an investment of £70 million to build a green-field gum plant in Poland.
The Finance function
The role of Finance at Cadbury Schweppes is focussed on a strong business partnership with the commercial operators of the Group, while maintaining a robust financial control environment. This was witnessed in 2005 by the speedy and successful divestment of Europe Beverages and other non-core businesses and by our support provided to the commercial functions in areas such as the Building Commercial Capabilities programme and our new innovation methodology. Our IT capabilities have been upgraded in recent years and we expect to begin to benefit from the significant investments we have made in our IT infrastructure.
In 2006, we will report on our compliance with the internal control requirements of the Sarbanes Oxley Act. We have made significant advances in 2005 to ensure that we will be in full compliance with this legislation when we first report in early 2007. I am confident that the significant improvements we have made in Finance over the past two years will ensure that we are well placed to achieve this.
I look forward to another successful year in 2006 and to the even greater support that Finance can provide to the Group as we continue to achieve our strategic agenda.
Ken Hanna
Chief Financial Officer
