Morning Note: Market news and updates from Reckitt, Heineken, and Assa Abloy.

Market News

Blackstone CEO Steve Schwarzman said the US will probably avoid a downturn no matter who wins the presidential election, as both candidates have policy proposals that appeal to growth. BofA CEO Brian Moynihan had a similar view on the economy, citing strong labour market data but he also urged the Fed to be measured in rate cuts. The 10-year Treasury yield continues to tick higher to 4.23%, as does gold which currently trades at $2,755 an ounce.

Junk-bond yields have rarely been this low in relation to the Federal Reserve’s benchmark rate, underscoring rich credit-market valuations as investors stay unconcerned about the prospect of a recession.

US equities were little changed last night – S&P 500 (-0.1%); Nasdaq (+0.2%). McDonald’s fell 5% postmarket after an E. coli outbreak tied to the chain’s Quarter Pounders sickened dozens of people. Starbucks also fell 5% after it pulled 2025 guidance as same-store sales plunged for a third quarter.

In Asia this morning, the yen slid to 152, its weakest since July 31. Equity markets were mixed: Nikkei 225 (-0.8%); Hang Seng (+1.4%); Shanghai Composite (+0.5%). The IMF is gaining confidence over the sustainability of Japan’s inflation and expects the Bank of Japan to stay on a gradual path of raising interest rates in coming years.

The FTSE 100 is currently little changed at 8,319. Former Bank of England Deputy Governor Jon Cunliffe will lead a review into the UK’s privatised water industry. The panel will report its findings in June. Sterling trades at $1.2965 and €1.2024.

Brent Crude continued to rally and is now above $75 a barrel. The geopolitical risk premium in crude is limited as tensions between Israel and Iran haven’t significantly affected supply, and spare capacity is high, Goldman said.

Source: Bloomberg

Company News

Reckitt has today released Q3 results which were slightly better than market expectations, helped by the health unit. The business is on track to deliver full-year targets, with all businesses well placed to deliver strong like-for-like net revenue growth in Q4. In response, the shares are up 3% in early trading.

Reckitt is a global leader in health, nutrition, and hygiene. Trusted brands, such as Dettol and Lysol, are well placed to benefit from the shift to healthier and more hygienic lifestyles, particularly in emerging markets. To help ease the pressure on state-funded healthcare systems, we expect to see a transition to self-care and growth of over the counter (OTC) brands such as Mucinex, Nurofen, and Gaviscon, all of which are owned by Reckitt. A greater focus on immunity, mental health, and overall well-being is expected to drive growth of the group’s preventative treatments, such as vitamins, minerals, and supplements (VMS).

Earlier in the year, Reckitt announced plans to significantly sharpen its portfolio and simplify its organisation to drive accelerated growth and value creation. Progress has been made, with the new operating model and organisation structure developed and on track for January 2025 deployment.

·       Reckitt will focus on a portfolio of market-leading, high margin Powerbrands, including Mucinex, Strepsils, Gaviscon, Nurofen, Lysol, Dettol, Harpic, Finish, Vanish, Durex, and Veet. Over the last five years this portfolio has delivered a 7% net revenue CAGR and in 2023 generated a gross margin of 61%. The portfolio will also include likely future Powerbrands including Move Free and Biofreeze, and important local brands such as Lemsip, Airborne, and KY.

·       The company will seek to exit its portfolio of leading (but non-core) home care brands including Air Wick, Mortein, Calgon, and Cillit Bang by the end of 2025 and will consider all options to maximise shareholder value. It was recently reported the company has started talks on a £6bn disposal although there was no mention of this in today’s update.

·       The Mead Johnson Nutrition business, with brands including Enfamil and Nutramigen, is now non-core and Reckitt will consider all strategic options to maximise shareholder value.

·       Reckitt is moving to a simpler and more effective organisation with fewer management layers operated through three geographies: North America, Europe, and Emerging Markets.

·       Finally, the company will expand and accelerate its existing fixed cost optimisation initiative to unlock cost efficiencies and deliver at least a 300 basis points reduction in fixed costs by the end of 2027 to achieve a fixed-cost base of 19%.

However, over the medium term the company (and the shares) have struggled because of a string of operational issues, compliance problems in the Middle East, and legal headwinds in the US. In March, the shares fell heavily when an Illinois jury found Reckitt’s Mead Johnson negligent in failing to warn that their cow’s milk-based formula could cause necrotizing enterocolitis (NEC) in premature infants. In July, the shares suffered a further heavy decline when another jury awarded higher-than-expected damages against industry peer Abbott. The latest trial in which the company is a co-defendant commenced on 30 September. Reckitt continues to vigorously defend these claims and believes the lawsuit’s claims are not supported by scientific evidence and that their products are essential for premature babies. Encouragingly, three US federal public health agencies recently issued a supportive consensus statement on premature infants and NEC.

Back to the third-quarter results. During the period, reported revenue fell by 4.0% to £3,455m, including a currency headwind (-3.9%) and the impact of disposals (-0.3%). Stripping out these impacts, the like-for-like (LFL) decline was 0.5%. As expected, this was a slowdown from the 0.8% growth generated in the first half but was better than the 1.7% decline expected by the market.

Price/mix grew by 0.9 % as the group benefitted from strong carry-over pricing from 2023 as it sought to pass on higher input costs. Pushing price increases through was made easier by strong product innovation, with consumers trading up to premium innovations. Volume fell by 1.4%.

By division, Hygiene grew by 2.1% in LFL terms to £1,525m, despite a more competitive market environment, helped by strong contributions from innovation platforms in Lysol and Finish. Health was up 3.2% to £1,476m, driven by Durex, Dettol, Gaviscon, Nurofen, and VMS brands. The smaller Nutrition unit fell by 17.4% to £454m as the North America business continued to rebase due to lapping of the prior-year competitor supply issue and the £100m impact of the Mount Vernon tornado in July.

As expected at this stage, the group hasn’t provided an update on its financial position. At the half-year stage, financial gearing was 2.2x net debt to adjusted EBITDA, a touch above the target to be ‘below 2x’. In response to the share price fall and to reflect the board’s confidence in the continued strong free cashflow generation of the business, Reckitt is currently buying back its shares – £1bn over the next 12 months, with £321m completed so far.

Guidance for 2024 has been confirmed. Net revenue growth is expected to be 1%-3%, although the group now expects a high single-digit decline for Nutrition reflecting the short-term impact to the business from the Mount Vernon tornado (previously low double-digit decline). The Health and Hygiene portfolios are still expected to generate lower end of mid-single-digit growth. Reckitt continues to target operating profit growth ahead of net revenue growth (i.e. a slight margin increase).

Source: Bloomberg

Heineken has this morning released Q3 results which highlight the business continues to deliver in line with management plans in aggregate. As expected, growth was slower than in the first half, although the group has reiterated its operating profit growth guidance for the full year. Ahead of this afternoon’s analysts’ meeting, the shares are trading up 3%.

Heineken is the world’s second largest brewer, generating net revenue of €30bn from a portfolio of iconic brands, many of which have been quenching the thirst of consumers for decades. In addition to the core Heineken brand, the company owns several well-known beers and ciders, including Sol, Tiger, Amstel, and Strongbow, as well as 300 or so local brews. The company also owns around 3,000 pubs in the UK, runs a wholesaling operation in Europe, and has a strong global distribution capability. Over time, the group has expanded and developed its global footprint through investment in new breweries, partnerships, and acquisitions.

We believe the company is well placed to benefit from long-term growth opportunities in emerging markets (which generate more than 50% of revenue), where young and growing populations, low per-capita beer consumption, and increased wealth are expected to drive growth. The company believes the biggest opportunity is in India, with strong prospects also seen in Mexico, Brazil, China, Vietnam, and South Africa.

The group generates more than 40% of its revenue from premium brands, where volume is growing twice as fast as mainstream beer because consumers turn to better brands as they grow older and wealthier. Finally, the group is benefiting from the growth of low and no-alcohol products and increased digital revenue.

We believe the shareholding structure, supported by family ownership, ensures the company is run for the long term and in the best interests of all shareholders.

Over the medium term, the group has faced a challenging macro environment with multiple headwinds including Covid-19, higher input costs, and specific country challenges. In the latest quarter, the business continues to deliver in line with management plans in aggregate, despite some markets navigating challenging consumer and industry trends.

Net revenue grew by 3.3% on an organic basis to €9.1bn. This was in line with the market forecast of 3.2% and leaves growth of 5.1% in the year to date.

Growth was driven by a 2.6% increase in net revenue per hectolitre as pricing was used to mitigate inflationary pressure. Total consolidated volume grew by 0.7%. The underlying price-mix was up 3.0%, mainly driven by pricing and portfolio premiumisation.

Beer volume grew by 0.7% in organic terms with the group gaining or holding market share in more than half of its markets in the year to date. By region, the group generated volume growth in Europe (+1.4%) and Africa & Middle East (+6.4%) which more than compensated for slight declines in the Americas (-1.3%) and Asia Pacific (-1.2%).

The group continues to benefit from an ongoing shift towards product premiumisation, with volume up 4.5% organically, led by Brazil, India, and South Africa. The Heineken brand itself grew volume by 8.7%, with more than 30 markets growing double-digit. In the low & no-alcohol category, the company consolidated its market leadership, with the portfolio (including cider) up 11% and Heineken 0.0 up 3.4%. The group’s e-commerce platforms continued to grow, with gross merchandise value captured via B2B digital platforms up 26% in the year to date to €9.3bn.

Net revenue growth was generated in Africa & Middle East (+23.1%) and the Americas (+1.8%), while Europe (-1.1%) and Asia Pacific (-0.4%) declined. The target to achieve €0.5bn of gross savings target for 2024 is on track.

Heineken has a strong balance sheet. At the end of June, financial gearing was 2.4x net debt to EBITDA, in line with the long-term target to be below 2.5x. The dividend policy is to pay a ratio of 30% to 40% of full-year net profit, with half-year interim payment fixed at 40% of the total dividend of the previous year. At the time of the first-half results in July, the group declared an interim dividend of €0.69 per share, in line with last year.

Given what the company describes as a ‘suppressed’ share price, management now appears more open to allocating capital to share buybacks. Although the priority remains organic investment, the dividend, and bolt-on M&A, the tone regarding buybacks has definitely shifted, with the caveat that financial gearing needs to remain below 2.5x net debt to EBITDA.

Heineken still expects the second half of the year to grow at a slower pace than the first half as it ‘materially’ steps-up investment in marketing and sales expenditure, with notable increases in key markets. This also reflects the easier year-on-year comparatives faced in the first half.

Guidance for the full-year has been confirmed, with operating profit is expected to grow by 4%-8% in organic terms. However, management has previously stressed that the top-end of the range should not be seen as a ‘cap’, potentially leaving the door open to hitting the previous guidance of high single-digit growth.

Source: Bloomberg

Assa Abloy has today announced Q3 2024 results which were slightly better than expected as the company returned to organic revenue growth and achieved a strong margin performance. In response, the shares are little changed in early trading.

Assa Abloy is the global leader in access solutions to physical and digital places, with a portfolio of well-known global and local brands, such as Yale, Union, HID, and Lockwood. Products include doors, sensors, locks, alarms, fencing, gates, and identity systems. The key long-term drivers of the $100bn industry are increased demand for safety and security; growing urbanisation; increased emerging market wealth; the shift to new digital and electronic technologies; the development of sustainable buildings to meet climate change objectives; and changing market regulations. Furthermore, one of the legacies of the pandemic is likely to be a shift towards touchless (hygienic) activation points, automated doors, and location services, which also provide recurring revenue from licenses and software. As the brand leader in most markets, with a large installed base and strong distribution channels, we believe Assa Abloy is well placed to take advantage of these trends.

The long-term financial target is to generate annual sales growth of 10%, half organically and half from acquisitions, and to earn an operating margin of 16%-17% over the business cycle. The aim is to actively upgrade the installed base, generate more recurring revenue, increase service penetration, and expand exposure to emerging markets. The group is on track to exceed its target to generate SEK 25bn of profit from SEK 150bn of sales by 2026, with new 2028 targets – SEK 35bn of profit from SEK 220bn of sales – outlined at the last Investor Day.

The group has previously said it needs to generate organic top-line growth of 3% to offset inflation and drive the margin forward, although clearly more was needed to recoup the elevated raw material cost increases experienced over the last couple of years. The group has a strong track record of innovation and aims to generate 25% of sales from products launched in the last three years.

The company has a very strong track record on cost control. A ninth Manufacturing Footprint Program (MFP9) is currently underway to further increase efficiency and optimise operations. The target savings are SEK 0.8bn (4% of operating profit).

In the three months to 30 September 2024, the market environment remained challenging, although as expected the business returned to growth after the first half decline. Net sales rose 1% to SEK 37.4bn, in line with the SEK 37.5bn market forecast. In organic terms, which strips out the impact of acquisitions & disposals (+4%) and currency (-3%), sales were up slightly. Price growth of 1% was offset by a 1% volume decline.

By business division, the Americas delivered organic growth of 4%, driven by non-residential and Latin America segments. Encouragingly, the residential segment was stable. Global Technologies (a separate global division) delivered good organic growth of 2% with very strong growth in Global Solutions and Physical Access Control in HID returned to growth. Sales growth was stable in the EMEIA region (+1%), with good growth in Central Europe and the Nordics. Asia Pacific reported negative organic growth (-6%), affected by a worsened development in the Chinese real estate market. Entrance Systems (also a separate global division) declined by 2% as a result of weak demand in the logistic vertical as well as in the residential market.

Operating income increased by 8% to SEK 6.26bn, ahead of the market forecast of SEK 6.14bn. The operation margin rose from 15.7% to 16.7%. This was better than expected and helped by ongoing synergies from the HHI acquisition, as well as continued price realisation and effective cost management. The company highlights it has further opportunities to improve the underlying margin performance, however the target level of 16-17% remains unchanged as the group will continue with its acquisition strategy and continue to invest in innovation.

EPS rose by 10% to SEK 3.63, in line with the forecast of SEK 3.64. Operating cash flow fell by 12% to SEK 6.3bn, with strong cash conversion of 118%. The group’s financial position remains robust, with net debt to EBITDA falling from 2.4x to 2.3x during the quarter. Looking forward, gearing is expected to fall rapidly thanks to strong free cash flow generation. In 2023, the group declared a larger dividend than expected – up 12.5% to SEK 5.4, equal to a yield of 1.6%.

M&A will continue to be a core driver of growth, with over 900 potential acquisition targets identified globally. The focus is on acquiring new customers in the core business, extending the core offering, access new technologies to deepen the group’s competitive position, and increased service capacity. However, there is some concern that recent M&A has been skewed towards lower value-added segments (e.g. DIY, window and door hardware components, fencing products, gates, padlocks, cylinders, etc.). Although these acquisitions fit the purpose of growing earnings at lower multiples than the group average, they also dilute the group’s exposure to the fast-growing and structurally more attractive electromechanical and mobile segments, potentially posing a risk to long-term valuation multiples.

In 2023, the group acquired the HHI division of Spectrum Brands for $4.3bn to fill a strategic gap in its US residential business. The unit is performing well, with integration proceeding to plan and the company is even more confident than a year ago that it will be able to realise the five-year synergy target of $100m.

Elsewhere, M&A activity remained buoyant with seven deals completed in the third quarter with combined annual sales of about SEK 4bn. The pipeline remains strong, and the group still plans to make its usual 15-20 acquisitions per year. In July, the group signed an agreement to acquire SKIDATA, an international leading provider of access management solutions, with sales of more than €300m.

Last week, the group signed an agreement to sell its Citizen ID business, part of the Global Technologies division that manufactures, designs, and implements physical and mobile identity solutions for government. It generated sales of SEK 1,300m (£95m) in 2023 but has struggled of late. The disposal is expected to have a positive effect on the group’s operating margin going forward. The capital result before taxes is expected to be insignificant.

Assa Abloy doesn’t usually provide guidance but has previously pointed out that the macroeconomic environment remains uncertain, in particular the speed of recovery in construction markets. Management is dedicated to mitigating any impact from potentially negative changes in demand, through local agility and focus on cost-control. Assa has previously said that during both the global financial crisis in 2008/09 and the Covid-19 pandemic, its decentralised operational model and agile cost base provided flexibility. To further optimise its operational footprint, the group has started to work on its next manufacturing footprint program, with a launch expected at the end of 2024. In addition, the group’s large exposure to after-market service and its structural pricing power leaves the business better positioned to navigate through these uncertain times.

Source: Bloomberg