Chief Executive’s review
Results and Dividends
For the 28 weeks ended 13 November 2004 the Group's total and underlying results, excluding discontinued operations, goodwill amortisation and exceptional items, are as follows:
* Excluding discontinued operations, goodwill amortisation and exceptional items. Discontinued operations comprise the European Property division sold in December 2003.
The Group's underlying turnover increased by 9% to £3,394 million (2003/04 restated: £3,110 million). This included the acquisitions of P. Kotsovolos S.A. (Kotsovolos) and Micro Warehouse, which together contributed £88 million of sales during the period. Group like for like sales were 5% higher.
The increase of 15% in underlying profit before tax to £127.5 million (2003/04 restated: £111.3 million) includes £5.5 million of UK property profits (2003/04: £7.7 million).
Group gross margins were lower year on year by 0.7 percentage points largely as a result of lower credit commissions, the proportionately higher level of business to business sales and changes in product mix. These factors primarily affected the UK. Although costs rose by 6%, the cost to sales ratio improved by 0.5 percentage points. Excluding Micro Warehouse and Kotsovolos, costs grew by 4%.
Exceptional profits of £12.2 million (€18.4 million) were generated from exchanges by holders of the 1% Exchangeable Bonds 2004 into shares in France Telecom S.A. and the sale of the remaining holding of France Telecom S.A. shares. This increased net funds by £45.7 million. This is the final realisation of the Group's Freeserve investment previously sold to Wanadoo S.A.
On 4 June 2004 the Group acquired the UK operations of Micro Warehouse for £20.7 million. These are being integrated into PC World Business.
During the period, the Group paid the final instalment of £19.9 million (€29.8 million) for the purchase of UniEuro.
On 8 September 2004 the Group acquired a controlling interest in Kotsovolos, for cash consideration of £51.5 million (€75.7 million), taking its investment from 13.6% to 68.3%. By 13 November 2004 the Group had further increased its shareholding to 78.0% bringing the consideration to £60.9 million (€89.6 million).Adjusted diluted earnings per share were 4.6 pence (2003/04 restated: 4.1 pence), an increase of 12%. The underlying effective rate of taxation was 28.0% (2003/04 full year effective rate 26.0%).
Net cash generation from operating activities in the period increased by £92.1 million year on year, driven by improvements in working capital. Further analysis is included in the section on Financial Position.
The directors have declared an interim dividend of 1.83 pence per share (2003/04: 1.66 pence per share), an increase of 10%, payable on 28 February 2005 to shareholders registered on 28 January 2005.
Business Performance
UK Retail
UK Retail sales in the period increased by 7% to £2,420 million (2003/04 restated: £2,257 million), with like for like sales up 6%. Operating profit before goodwill amortisation was £88.3 million (2003/04 restated: £90.4 million), 2% down versus last year. Excluding property profits, operating profit was £82.8 million (2003/04 restated: £82.7 million) in line with last year, after bearing an increase in pension costs of £3 million.Gross margins decreased by 0.9 percentage points primarily due to the impact of reduced credit commissions, the growth in business to business sales and product mix changes in the electrical businesses. The cost to sales ratio was 0.6 percentage points better. Progress resulting from the Dixons store closure programme and from improvements in payroll were partially offset by increases in pension, marketing and rental costs. Pension costs in the period increased by £3 million year on year due to the amortisation of the pension deficit under SSAP 24.
Product Markets
UK markets were flat in value terms. The brown goods market grew by 3% in value with strong growth in new technology products including plasma & LCD TVs, digital photography and portable internet audio products such as iPods and other MP3 players. These growth categories were partially offset by lower sales of games consoles, VCRs, domestic audio and 35mm photography. The white goods market grew by 7% in value with strong growth in cooking and laundry. The overall computing market fell by 7% in value while unit sales grew 9%. The market continued to shift away from desktops in favour of laptops. Laptop growth in value of 3% was offset by a 12% decline in the larger desktop market.The mobile phone market grew strongly with total connections up by 28% as a result of reducing average retail prices (ARPs) and the launch of many new feature rich models.
Overall the Group continued to grow its share despite the Dixons store closures. Share growth was achieved in most core categories, including PC hardware, flat panel TVs and audio products.
Currys
Currys sales were £913 million (2003/04 restated: £834 million), an increase of 9%. Like for like sales were up 9%. Good sales growth was achieved in most categories including domestic appliances, plasma and LCD TVs, digital photography, internet audio, portable TVs and laptops. Sales of games consoles and hi-fi products fell.Currys grew sales in a market with decreasing ARPs by driving higher footfall and conversion levels. The chain continued to relocate to larger out of town sites, re-siting three new stores during the period while closing eight high street stores, taking the total number of stores to 371.
PC World
Total PC World sales grew by 17% to £847 million (2003/04 restated: £724 million).PC World sales, excluding PC World Business, grew by 8% to £678 million (2003/04 restated: £625 million) with like for like sales up 3%. This was against a backdrop of significant market ARP decline, including a 17% reduction in desktop ARPs versus last year and a 15% reduction in laptop ARPs. Sales of laptops and business software were strong. PC World increased its focus on wi-fi networking products, media centre PCs and ultra-thin laptops. Four new PC World stores were opened or re-sited during the half year, taking the total to 140.
PC World Business sales grew by 71% to £168 million (2003/04: £99 million). Excluding Micro Warehouse, sales grew by 17% to £115 million (2003/04: £99 million). Good progress was made on the integration of Micro Warehouse into PC World Business. From 2005/06, the Group expects to secure synergies from the combined business. PC World Business operates on lower gross margins than the rest of PC World but does not have to support store infrastructure costs and related capital investment. PC World Business continued its strong growth in the public sector.
Dixons
Dixons sales at £350 million (2003/04 restated: £397 million) were down 12% due to the previously announced store closures. Stores closed represented 28% of the chain's floor space. Like for like sales were up 3% reversing the trend of recent years. This was driven by strong sales of internet audio, plasma and LCD TVs. In the period a refit programme was completed with over 100 stores being updated and re-merchandised. A new advertising campaign, "The Future for Less", was launched in the last eight weeks of the period and has started to drive increased footfall and sales.The large space trials continue but it is apparent that the largest two stores in Birmingham and Cardiff, both over 25,000 square feet, are too big. Dixons will reduce the trading area in these two cities to around 10,000 square feet. A new 10,000 square feet store has been opened in Canterbury. The number of Dixons stores at the half year was 217.
The Link
Sales in The Link were £230 million (2003/04 restated: £201 million), an increase of 14% in total and 8% on a like for like basis. Sales of both contract and prepay phones have been strong. The Link refurbished nearly 200 stores in the period, building on the successful trials of last year. Five stores were re-sited during the period. At the half year, The Link traded from 288 stores.Genesis Communications, the business to business mobile phone service provider, grew its sales by 21% to £53 million (2003/04: £44 million), achieving a 13% increase in its subscriber base.
International Retail
International Retail sales were £974 million (2003/04 restated: £853 million), an increase of 14% in total and 1% on a like for like basis. Excluding Kotsovolos, sales growth was 10%. Sales growth in local currencies was 17%, as most European currencies weakened against Sterling. At constant exchange rates, total sales would have been £38 million higher.Gross margins in the international businesses remained broadly flat. Operating profit (excluding goodwill amortisation) grew by 20% to £24.0 million (2003/04 restated: £20.0 million). At constant exchange rates, profits grew 25% with adverse translation effects having arisen from the weaker Euro and Norwegian Krone. Excluding Kotsovolos, operating profit grew 11% in Sterling and 16% at constant exchange rates.
International Retail - Established Businesses
Sales in the established international businesses (Elkjøp, UniEuro, Kotsovolos and Ireland) increased by 11% to £836 million (2003/04 restated: £755 million). Operating profits grew by 10% at constant exchange rates. In Sterling terms, operating profits were £43.0 million (2003/04 restated: £40.6 million) up 6%. Excluding Kotsovolos operating profit grew 5% at constant exchange rates and 1% in Sterling.Elkjøp
Local currency sales grew 13% with like for like sales up 2%. In Sterling, Elkjøp sales increased by 8% to £465 million (2003/04: £430 million), continuing its strong performance of the last financial year. Operating profits grew by 1% at constant exchange rates. In Sterling, operating profits were £28.1 million (2003/04 restated: £28.9 million), a decrease of 3%.The Group estimates that the product markets in the Nordic region grew by around 3% during the period, with Elkjøp achieving good market share gains in each country with strong growth in computing and telecommunications. There has been good progress in sales of service contracts as Elkjøp continues to benefit from Group expertise in this area. Cost synergies from the Nordic regional structure are being achieved, particularly in marketing, buying and the centralisation of administration functions. Five new stores were opened and two were re-sited in the period, bringing the total to 173.
UniEuro
Local currency sales grew 4% with like for like sales down 2%. Sales growth in Sterling was impacted negatively by the weakening Euro with sales reducing by 1% to £289 million (2003/04: £292 million). Sales growth was strong in computing and vision products but was partially offset by a weaker performance in audio, air conditioning and refrigeration. Operating profits grew by 14% at constant exchange rates. In Sterling, operating profits were £12.4 million (2003/04: £11.3 million), up 10%.As outlined in June 2004, UniEuro is a business in transition. Business operations are being restructured, with investment in new systems throughout head office, supply chain and branch networks. The outcome will be a centralised approach to buying, product pricing, stock control and marketing. This programme will take two years to complete and will create a more robust base from which to enhance UniEuro's current position in the Italian market. During the period, UniEuro opened a new central distribution centre and three new stores taking the total number of stores to 99.
Ireland
Sales in Ireland grew by 15% in local currency with like for like sales increasing by 6%. Sterling sales grew by 10% to £36 million (2003/04 restated: £32 million). Operating profits in the period were £0.5 million (2003/04: £0.1 million). At the half year, the Group had 15 stores in Ireland. A new PC World store was opened in Galway in December.Kotsovolos
Sales by Kotsovolos in the period were £116 million of which £35 million were generated post acquisition on 8 September 2004 and have therefore been consolidated into Group sales. Operating profits included in the half year results were £1.9 million. Kotsovolos is the leading mixed electricals specialist in Greece with 78 stores and a market share of 16%. The Group owned 78% of the share capital as at 13 November 2004. The intention is that an additional 2% will be purchased as Kotsovolos delists from the Greek stock market by the year end. Fourlis Holdings S.A. (Fourlis) will retain 20% of the share capital for a maximum period of five years. Fourlis has the right to sell its shareholding to the Group in two equal tranches after two and four years respectively.International Retail - Investment Businesses
Sales in the investment international businesses (PC City and Electro World) increased by 41% to £138 million (2003/04 restated: £98 million). Investment losses for the half year were 8% lower at £19.0 million (2003/04 restated: £20.6 million).PC City Group
The Group continues to make progress with its PC City brand. Sales increased by 45% to £94 million (2003/04 restated: £65 million). Operating losses in the period were £14.2 million (2003/04 restated: £14.1 million). In the first half PC City increased its store numbers by 23% to 32 adding six new stores - three in Spain, one in Italy, one in France and one in Sweden. Since 13 November 2004 a further four stores have been opened - three in Spain and one in Italy.
Gross margins in PC City have improved year on year in line with expectations. Margin increases have been primarily driven by better purchase prices, successful launch of service contracts and increased credit commissions. The launch of service contracts in PC City Spain has been particularly successful with penetration levels similar to those achieved in the UK. Spain is the most mature PC City market where the Group now trades from 22 stores. The business is delivering consistent sales growth, with all stores making a positive contribution to central costs. In France, where the Group currently trades from seven stores, gross margins have continued to improve towards target levels and sales have been encouraging. The other trial stores in Italy (five stores) and Sweden (two stores) have performed in line with expectations.
Electro World
Electro World sales increased by 33% to £44 million (2003/04: £33 million). Operating losses in the period were £4.8 million (2003/04: £6.5 million). Market conditions remain very competitive and, against this backdrop, Electro World has performed well, gaining market share in both Hungary and the Czech Republic. During the half year, one store was opened in Hungary and subsequently another store was opened in the Czech Republic in November. Electro World now trades from 11 stores, five in Hungary and six in the Czech Republic. In addition a new central warehouse was opened in Brno in the Czech Republic to create a platform for a centralised supply chain serving the Central European region.Financial Position
The Group's financial position remains strong. In the period the net cash generated from operating activities was £220 million, an improvement of £92 million on the same period last year. Free Cash Flow generated in the 28 weeks increased £87 million to £122 million. The Group defines Free Cash Flow as net cash from operating activities, after interest, taxation and capital expenditure, but before acquisitions, disposals, dividends and financing.
Key drivers of the Free Cash Flow improvement were lower working capital of £100 million, driven by increased creditor days and an increase of £12 million from interest income on net funds that include funds held under trust for extended warranty and service contract liabilities. Improving working capital management remains an area of focus for the business. Net capital expenditure increased by £30 million driven by previously announced investments in new store systems.
Free Cash Flow usage in the period included £109 million dividend payment, £43 million share buy back and £98 million for acquisitions made in the period (Kotsovolos £57 million, Micro Warehouse £21 million and deferred consideration for UniEuro of £20 million). It is the directors' intention to continue the £200 million share buy back programme following the announcement of the interim results.
At 13 November 2004 the Group had available net funds (which exclude funds held under trust for extended warranty and service contract liabilities) of £145 million compared with £246 million net borrowings in the previous year, an increase of £391 million.
Tax
The Group tax rate on underlying profit was 28.0% (2003/04 full year: 26.0%). The increase in the current year tax rate reflects the impact of UK Controlled Foreign Companies legislation, which brings certain profits from the sale of extended warranty and service contracts within the scope of UK taxation.Pensions
The triennial valuation of the Group's defined benefit pension scheme, carried out as at 5 April 2004, shows a deficit of £62 million under SSAP 24. The deficit will be amortised over the average remaining service lives of current employees giving an additional charge of around £6 million for the full year.Service Contract Accounting Policy Change
As noted in June 2004, FRS 5 'Reporting the substance of transactions': Revenue Recognition (Application Note G) requires the Group to spread the revenue arising from the sale of extended warranty and service contracts over the life of the agreements. For comparative purposes, the effect of the change, for the 28 weeks to 15 November 2003, was to increase sales by £8.7 million and operating profit by £7.8 million. The change results in revenues relating to extended warranty and service contract sales being included in deferred income and released to the profit and loss account over the life of the agreements. Claims costs are now charged to the profit and loss account as they are incurred. The prior full year reported numbers do not change.
International Financial Reporting Standards
The Group is required to prepare its financial statements, from the financial year 2005/06 onwards, under International Financial Reporting Standards (IFRS). Work on quantification of any differences, detailed disclosures and the restatement of the Group's opening balance sheet position under IFRS, is currently in progress. Following the year end results for 2004/05, it is intended to provide a reconciliation of the Group's results and balance sheet from UK GAAP to IFRS.
Notes
(1) Total sales of PC World include PC World Business. Like for like sales are PC World retail only.
(2) The store base for like for like sales in both Electro World & PC City is not significant.
(3) Total Group sales include a first time contribution from Kotsovolos and Micro Warehouse.
(4) All sales figures are based on local currency performance.Group gross margins were down versus last year in line with that experienced in the first half. This was primarily as a result of lower credit commissions, higher business to business sales, product mix and higher internet sales.
As anticipated in November 2004, the Group had planned for a challenging trading environment in the UK throughout the peak period. The Group competed robustly in the marketplace delivering overall like for like sales growth. The major promotional activity, product propositions and the business operations, including a major new branch system, all worked well. The January sale has started well.
In the international businesses, Elkjøp, Electro World and PC City all performed well, but sales were disappointing in UniEuro.
UK Trading
Currys and Dixons sales were strong, driven by internet audio products, digital imaging, flat panel televisions and portable DVD players. Sales of games consoles were restricted by the industry-wide supply chain issues with PS2 and X-box.A 7% increase in unit sales of desktop and laptop computers failed to fully recover the decrease in their average ticket prices and resulted in sales in PC World being below forecast. Total sales in The Link were up 7% year on year with like for like sales flat. Internet sales were particularly strong (+70%).
International Trading
Elkjøp delivered a good sales performance and a robust margin performance across all Nordic countries. Sales of digital products were particularly strong and the January sale has started well.In UniEuro a strong performance from new store openings helped total sales increase by 1% versus last year in difficult market conditions. However like for like sales were down 9%. Some older smaller stores in particular did not perform well and the Group expects either to close or re-site many of these into larger space over time.
Disappointing sales in Ireland were offset by a strong margin performance.
Elsewhere, the Group's investment businesses, PC City and Electro World, performed in line with expectations as did the new acquisition, Kotsovolos.
Outlook
Four months of the financial year remain, including an important peak for business sales. The Group remains cautious about the prospects for consumer expenditure, particularly in the UK and Italy. At this stage the Group anticipates a year end outcome in line with current expectations.
John Clare
Group Chief Executive
12 January 2005
