Half Year Results - Part 1

RNS Number : 1237B

Home Retail Group Plc

21 October 2009

 



21 October 2009

Home Retail Group plc

Half-Year Results

Home Retail Group, the UK's leading home and general merchandise retailer, today announces its results for the 26 weeks to 29 August 2009.

Operating highlights

• Strength of the operating model and excellent cost management helped to offset further challenges in the market environment

• Growth in market share at both Argos and Homebase

• Remaining highly price competitive while maintaining a focus on absolute cash gross margin

• Leadership in multi-channel convenience, with the internet now accounting for 28% of total Argos sales and online Check & Reserve growing nearly 50%

• More choice at Argos with over 15,000 lines available for immediate store collection and the expansion of online home delivery ranges

• Successful peak trading season at Homebase, with a strong operational performance and tight cost control

• Continuing development of the overall customer offers at Argos and Homebase to meet changing consumer needs

Financial highlights

• Sales up 3% to £2,805m (2008: £2,736m); like-for-like sales down 2% at Argos and up 3% at Homebase

• Cash gross margin down 2% to £1,107m (2008: £1,124m); gross margin rate down approximately 100 basis points at Argos and approximately 325 basis points at Homebase

• Operating and distribution costs reduced by £32m or 3% to £986m (2008: £1,018m), as cost management actions more than offset volume related growth and underlying inflation

• Benchmark operating profit1 up 14% to £121m (2008: £106m), with a decline of £6m or 7% at Argos and an increase of £19m or 66% at Homebase

• Net interest income reduced by £14m to £3m (2008: £17m), with an improved net cash position more than offset by lower interest rates

• Benchmark profit before tax2 up 1% to £123m (2008: £121m)

• Basic benchmark earnings per share3 up 1% to 9.7p (2008: 9.6p)

• Reported profit before tax of £116.8m; reported earnings per share of 9.0p

• Cash generation of £68m; closing net cash position of £352m

• Interim dividend maintained at 4.7p (2008: 4.7p)

Terry Duddy, Chief Executive of Home Retail Group, commented:

"The trading performance at both Argos and Homebase exceeded our expectations. Whilst the consumer environment proved challenging, we have adapted well and maximised the benefit from more favourable weather conditions for Homebase. Our focus on cash margin and an extremely tight control of costs have been the clear drivers of a successful first half performance.

"We continue to plan cautiously for consumer demand over the remainder of the financial year, and there will also be a more significant impact from adverse currency movements during this period. The Group's operational and financial strength will continue to sustain our competitive advantage in the market place."

 1.  Benchmark operating profit is defined as operating profit before amortisation of acquisition intangibles,

     store impairment and onerous lease charges, exceptional items and costs related to demerger incentive

     schemes.

2.  Benchmark profit before tax (benchmark PBT) is defined as profit before amortisation of acquisition

     intangibles, store impairment and onerous lease charges, exceptional items, costs related to demerger

     incentive schemes, financing fair value remeasurements, financing impact on retirement benefit balances,

     the discount unwind on non-benchmark items and taxation.

3.  Basic benchmark earnings per share (benchmark EPS) is defined as benchmark PBT less taxation

     attributable to benchmark PBT, divided by the weighted average number of shares in issue (excluding

     shares held in Home Retail Group's share trusts net of vested but unexercised options and share awards).

Enquiries

Analysts and investors (Home Retail Group)

Richard Ashton        Finance Director            01908 600 291

Stuart Ford             Head of Investor Relations

Media (Finsbury)

Rollo Head                                020 7251 3801

There will be a presentation today at 9.30 am to analysts and investors at the King Edward Hall, Merrill Lynch Financial Centre, 2 King Edward Street, London EC1A 1HQ. The presentation can be viewed live on the Home Retail Group website www.homeretailgroup.com. The supporting slides and an indexed replay will also be available on the website later in the day.

An Interim Management Statement, covering the 18 weeks of 30 August 2009 to 2 January 2010, will be announced by Home Retail Group on Thursday 14 January 2010.

Certain statements made in this announcement are forward looking statements. Such statements are based on current expectations and are subject to a number of risks and uncertainties that could cause actual events or results to differ materially from any expected future events or results referred to in these forward looking statements.  FINANCIAL SUMMARY

26 weeks to £m	29 August 2009	30 August 2008
Argos	1,887.8	1,856.4
Homebase	866.0	829.3
Financial Services	51.1	50.5
Sales	2,804.9	2,736.2
Cost of goods	(1,698.1)	(1,611.8)
Gross margin	1,106.8	1,124.4
Operating and distribution costs	(986.2)	(1,018.4)
Argos	79.7	85.5
Homebase	48.9	29.5
Financial Services	2.5	3.1
Central Activities	(10.5)	(12.1)
Benchmark operating profit	120.6	106.0
Net interest income (see below)	3.0	17.0
Share of post-tax results of joint ventures and associates	(0.9)	(1.6)
Benchmark PBT	122.7	121.4
Exceptional items included in operating profit	-	(549.9)
Costs related to demerger incentive schemes	(7.7)	(5.9)
Financing fair value remeasurements	5.0	(8.3)
Financing impact on retirement benefit balances	0.1	5.7
Discount unwind on non-benchmark items	(3.3)	-
Profit/(loss) before tax	116.8	(437.0)
Taxation	(39.1)	(9.8)
of which: taxation attributable to benchmark PBT	(39.5)	(38.1)
Profit/(loss) for the period	77.7	(446.8)
Basic benchmark EPS	9.7p	9.6p
Basic EPS	9.0p	(51.3p)
Number of shares for basic EPS	860.9m	871.1m
Net interest reconciliation:
Third party net interest income	2.5	9.7
Financing costs charged to Financial Services	1.8	8.6
Discount unwind on benchmark items	(1.3)	(1.3)
Net interest income	3.0	17.0
Financing fair value remeasurements	5.0	(8.3)
Financing impact on retirement benefit balances	0.1	5.7
Discount unwind on non-benchmark items	(3.3)	-
Income statement net financing income	4.8	14.4

The above tables and those throughout this announcement have been prepared in accordance with Note 1 to the Financial Information on page 26.

FINANCIAL SUMMARY (continued)

Sales up 3% to £2,805m, reflecting growth of 1.7% at Argos and 4.4% at Homebase. Like-for-like sales were down 2.1% at Argos and up 2.8% at Homebase, while the net new space contribution was 3.8% at Argos and 1.6% at Homebase.

Cash gross margin down 2% to £1,107m, representing a 160 basis point decline in the Group gross margin rate.  Argos' gross margin rate declined approximately 100 basis points, reflecting the sales mix and the net impact of adverse currency movements. Homebase's gross margin rate declined approximately 325 basis points, driven principally by increased promotional and clearance activity, and the net impact of adverse currency movements.

Operating and distribution costs down £32m or 3% to £986m, with costs held approximately flat at Argos and reduced by 7% at Homebase. This resulted in exceptionally strong cost productivity given the volume growth in both businesses and underlying cost inflation of around 3% at Argos and 1% at Homebase.

Benchmark operating profit up £15m or 14% to £121m, comprising a £6m or 7% decline at Argos, a £19m or 66% increase at Homebase and a £2m cost reduction in Central Activities.

Benchmark PBT up £1m or 1% to £123m, which includes £14m lower net interest income as further strong cash generation was more than offset by the effective interest rate falling substantially to approximately 1%.

An effective tax rate of 32.0% based on benchmark PBT, with the increase from 31.0% in the first half last year driven by a constant absolute amount of disallowable expenditure relative to a reduced level of expected profits for the full year.

Basic benchmark EPS up 1% to 9.7p.

Interim dividend maintained at 4.7p per share.

Net cash of £352m at 29 August 2009, with the cash generation of £68m in the half benefiting from further good working capital management and a reduced level of capital expenditure.  CHIEF EXECUTIVE'S STATEMENT

While the consumer environment is clearly challenging and is likely to remain so for at least the short term, Home Retail Group remains in a position of operational and financial strength. Our businesses continue to adapt well to the changing economic conditions, and have demonstrated good relative performances and share gains in their markets. Given our strong financial position, we continue to invest ahead of the recovery in the wider economy and, more specifically, recovery in consumer demand. We therefore remain confident in the Group's ability to deliver sustainable shareholder returns by maintaining our clear competitive advantage as the UK's leading home and general merchandise retailer.

Managing the businesses successfully in the short term

Adapting the customer offer

Over the last twelve months, household spending and consumer confidence have been severely hit. Hard goods and those products more closely linked to the housing market have suffered the most.

Consumers are managing their reduced household budget by adjusting how they spend both their money and their time. Consumption has become much more considered, along with a desire for the whole purchase process to be more informed, controlled and flexible from the customer's perspective. Categories of household spend have shifted in importance, and there has been a greater customer orientation towards value and promotions. At the same time, however, certain areas of demand have been strong, driven by technology development and commoditisation, or changes in consumer habits and priorities. In addition, online and multi-channel retailing continues to grow strongly.

Argos and Homebase have therefore been further adapting the customer offer in terms of product development and range architecture, pricing and promotional activity, and the wider customer service proposition. For example, own brand ranges have been strengthened, more products to save consumers money in their homes have been added, and further improvements have been made to multi-channel convenience. Our retail brands also continue to benefit from their widespread customer appeal, broad product offerings and relatively high purchase frequency.

Gross margin management

The Group remains committed to delivering customer value during the consumer slowdown. Our product markets are seeing an impact from the weakness of sterling, which is currently only being partially offset by some recent underlying easing in supplier manufacturing costs and beneficial volatility in shipping rates.

The Group is targeting a level of customer price inflation that aims to pass on the impact of cost of goods inflation in absolute terms. This cash gross margin approach results in our businesses remaining highly price competitive, although the gross margin rate is reduced.

Significant cost actions

In a challenging sales environment, with added inflationary pressure on the operating cost base, there is an ongoing need to deliver cost efficiencies.  Argos has a strong track record of achieving efficiencies and positive cost productivity, and there are some inherent benefits in its more flexible operating cost model. At Homebase, cost improvements have been achieved through a more significant step-change programme.

In the first half of the year, there has been exceptionally good cost management, driven across a wide range of actions. At Homebase there was £45m of underlying cost productivity, while at Argos there was £30m. Across the Group, this resulted in an absolute reduction in operating and distribution costs of £32m or 3% being achieved.

Focus on cash generation

The Group maintains its focus on cash, aiming to further build upon the successful track record of net cash generation since demerger. In the short term, capital expenditure is being focussed either where it generates the highest levels of return or to keep our infrastructure well maintained. Expansionary capital expenditure includes new store openings and further investments in a number of other multi-channel, customer offer and format developments. Working capital also continues to be tightly managed, with progress achieved in this latest period leading to a further cash inflow.

Delivering sustainable shareholder returns

Market leadership in long-term growth markets

Home Retail Group is the UK's leading home and general merchandise retailer, with clear scale advantage and well invested infrastructure built up over a period of many years. The Group is well positioned to capitalise on the pick-up in consumer spending in our markets when this comes through. We continue to expect a return to attractive growth rates in spending in our product markets, particularly from the long term trend of consumers investing in their home environment and from the pace of technology and other product development.  Argos and Homebase will continue to strengthen their customer propositions ahead of the market recovery.

Customer choice, for example, still continues to be significantly expanded at Argos. In both businesses, there is a continuous cycle of investment in range reviews, strengthening the brand architectures and enhancing product presentations in store, in catalogues and online. At the same time, weaker competitors are expected to continue exiting the market.

Multi-channel and differentiated retail formats

Both formats will continue to be well positioned and clearly differentiated from other retailers.  Argos will maintain its leadership as a truly multi-channel, value-orientated format across a wide range of product categories, distinct from the more service-orientated models of specialists or the more adjunct offerings of the supermarkets. Homebase will continue to be differentiated with a more style-led offer across a broader range of home enhancement categories.

Future developments at Argos will include ongoing development of online stock finding tools, more flexible reservation and home delivery services, improving payment and pick-up options, and other enhancements to online tools and content. Homebase is able to leverage the scale, skills and infrastructure of Argos where appropriate, and is significantly expanding its own online operations.

At Argos we expect to continue to see new stores opened at a rate of approximately 20 a year, subject to the availability of suitable property developments. The number of annual store relocations may also increase, using the latest format developments that have proved successful in new store openings. At Homebase, relocations and refurbishments will also continue to improve consistency across the portfolio and reflect the complete home enhancement offering.

Leveraging sourcing and other Group benefits

As market leader, the Group's scale will continue to see it well positioned to remain price competitive relative to other retailers operating in the same product markets. The Group's skills and infrastructure, particularly in overseas product sourcing and multi-channel operations, will also drive financial benefits and synergies which are difficult to replicate given the investment and period of time over which these competitive advantages have been established.

Our highly developed sourcing operations enable the Group to deal more competitively with the cost of goods pressures that all retailers in our product markets are experiencing. Our overseas sourcing also supports improvements in our range architectures, particularly in the ability to provide great value own brands on a directly sourced basis; these have recently included the developments of Alba and Bush in consumer electronics, Chad Valley in toys, and Hygena and Schreiber in furniture.

Cost advantaged and highly efficient

As a highly cost efficient and volume-driven model, Argos' operating margin has been less impacted by cyclical pressures and has typically sustained a relative advantage over competitors in its product categories. Homebase is a more operationally geared business, and its operating margin has therefore reduced more substantially over the recent years of market weakness in the DIY industry.

Both businesses have undertaken significant programmes to continue improving the efficiency and effectiveness of their cost bases. This, together with the benefits of scale and synergies across the Group, will underpin profitability through the economic cycle.

Flexibility and benefit from a strong financial position

Home Retail Group has been able to continue investing in its businesses through the economic cycle. The Group's strong financial position has also enabled it to maintain existing and develop new relationships with suppliers.

In contrast to many other UK retailers, this financial strength has furthered our competitive advantage. It also provides support to shareholder returns through the dividend policy.

BUSINESS REVIEWS

Argos

26 weeks to £m	29 August 2009	30 August 2008
Sales	1,887.8	1,856.4
Benchmark operating profit	79.7	85.5
Benchmark operating margin	4.2%	4.6%
Like-for-like change in sales	(2.1%)	(3.0%)
Net new space contribution to sales change	3.8%	4.1%
Total sales change	1.7%	1.1%
Gross margin rate movement	Down c.100bps	Down c.75bps
Benchmark operating profit change	(7%)	(14%)
Number of stores at period-end	739	718
Of which Argos Extra fully stocked-in	329	296

As the UK's leading general merchandise retailer, Argos provides a highly successful and unique offer of choice, value and convenience.

Operational review

Increase in choice

The autumn/winter 2009 catalogue has been expanded by 400 lines to 19,200. Improvements to stockroom systems and operations have enabled this increase to be achieved through the core stocked-in range; there are now 11,500 lines available for immediate collection. 'Extra' lines stocked-in at larger stores and the home delivery only lines have been held broadly flat at 3,700 and 4,000 respectively.

Additional 'internet-only' lines continue to add choice beyond the main catalogue. There are now over 5,000 of these on argos.co.uk, with this expected to reach approximately 10,000 by the end of the year. Major areas of range extension include: technology areas such as video games, office supplies, photography and consumer electronics accessories; white goods; beds; toys and nursery; and sports and leisure equipment.

Range architecture strengthening

Supporting Argos' strong value credentials, the 'Argos Value' range has been further extended to over 300 products, double the number a year earlier. Following excellent demand, the number of 'WOW' deals has also increased to over 300 and covers a broader range of categories. Physical store displays of both 'Argos Value' and 'WOW' products have been increased throughout the estate.

The acquisition of the Alba and Bush brands has successfully enabled a repositioning of Argos' own brand ranges in consumer electronics - particularly TVs - as well as expanding their use into areas such as white goods. Developing our portfolio of own brands in these areas, together with stronger relationships with third party brands, has helped to significantly improve the range hierarchy.

The Chad Valley toy brand, acquired in early 2009, has now been applied to around 120 products in the latest catalogue. There is a broadly even split between its use on lines previously available at Woolworths, lines previously unbranded at Argos, and lines that are new to the market.  Chad Valley has a strong presence in the catalogue with dedicated pages and has already become one of the leading toy brands sold by Argos.

The electricals and toys categories are amongst those where Argos has continued to gain market share, with own brand repositioning a key driver of this. Range hierarchies are being strengthened further across all other categories. This will include in furniture for example, using the previously acquired Hygena brand and the recently purchased Schreiber brand; these brands will also support broadening Argos' furniture offer into new areas.

Multi-channel developments

Multi-channel sales were 42% of all of Argos' sales, up from 38% in the first half of last year. The internet represented 28% of Argos' sales; two-thirds of this or 18% of Argos' total sales were customers using online Check & Reserve, with this channel growing by around 50% in the period. The attraction to customers of immediate fulfilment continues to drive the combined usage of internet research and selection with store-based collection.

For home delivery orders of large products, customers choose one of three slots across the day as they place the order. As a further development, all customers now have the delivery narrowed to a two hour slot via a text message or automated voice message the day before the delivery. The number of lines on shorter lead times (3-5 days) has also increased significantly.

Amongst other multi-channel developments, the full Argos range is now available to residents of Jersey and Guernsey through a third party courier service, while a trial covering 7,500 products is also being carried out in Spain through a separate Argos website with deliveries via a third party courier.

Value commitment

Argos is maintaining its commitment to being highly price competitive. There is a level of retail price inflation in its product markets as a result of product cost pressures driven principally by the adverse currency movements.  Argos remains a value leader, supported by the Group's sourcing scale and infrastructure advantages, together with the benefit of Argos' low cost operating model.

A balanced price position continues to be held on the broadest measured basis; this is measured using weekly internet price 'scrapes' on thousands of product comparisons against competitors. A price position better than the competition is maintained on the approximate 1,000 lines that are considered value perception drivers (Argos Value, 'WOW', lowest price point and best selling lines including, for example, popular branded consumer electronics).  Argos' success at continuing to be advantaged on price versus the market is reflected in further market share growth; this includes significant share growth in product categories that are amongst the most easily price-compared by customers such as televisions and computing.

Store portfolio expansion and development

A net nine stores were opened during the half, taking the portfolio to 739 stores and representing an increase of 21 on a year earlier. Store chain analysis continues to support further years of growth, which is expected to remain at the current run rate of around 20 stores a year, subject to the availability of suitable retail property developments. New stores are predominantly in out-of-town retail parks, although there will also be some new locations in smaller towns as well as further sites sought for the smaller store format within larger cities.

Argos continues to test the latest in-store customer tools including new stock checkers, kiosks and call-forward technology. Latest concept stores are helping to define the store environment as a fully integrated multi-channel experience, with the potential opportunity to roll-back the most successful elements of this to other parts of the store portfolio.

Within the stockroom, the voice putaway trial has recently been extended to 125 stores. This technology helps to automatically guide stockroom assistants to the correct location, with key benefits being quicker processing and further enhanced stock file accuracy, thereby improving availability and customer satisfaction.

Argos brand refresh

Since the brand was last updated, Argos has become multi-channel integrated, expanded through Argos Extra and internet-only ranges, and developed a series of more up-to-date store formats. A programme to improve customer understanding and refresh the brand has therefore recently begun. This programme will run over a number of years to update the brand across all operations, with the initial stages being implemented on new stores and the catalogue and website for Spring/Summer 2010 which will launch on 23 January 2010.

Financial review

Sales in the 26 weeks to 29 August 2009 increased by 1.7% in total; the contribution to sales from net new space was 3.8%, while like-for-like sales declined by 2.1%. There was growth in consumer electronics as a whole, with strong performances in televisions and personal computers offsetting weakness in the video gaming market. Toy sales grew strongly. Challenging market conditions continued in home-related areas such as furniture.

The gross margin rate was down by approximately 100 basis points. This was driven by a continuing sales mix shift towards lower margin consumer electronics categories and away from higher margin home-related areas, together with the net impact of product cost pressures and adverse currency movements which are partially offset by supply chain gains, shipping cost savings and a level of customer price inflation. The dilutive impact on the gross margin rate is expected to increase in the second half of the year, given the more adverse currency rate.

Total operating and distribution costs were held approximately flat. Total sales increased by 1.7%, equivalent to a potential cost increase of around £10m, and underlying cost inflation was around 3% or £20m. There was therefore around 5% or £30m of cost productivity as a result of excellent cost management.

Benchmark operating profit for the 26 weeks to 29 August 2009 was £79.7m, a £6m or 7% decline on the comparable period last year.

Homebase

26 weeks to £m	29 August 2009	30 August 2008
Sales	866.0	829.3
Benchmark operating profit	48.9	29.5
Benchmark operating margin	5.6%	3.6%
Like-for-like change in sales	2.8%	(10.3%)
Net new space contribution to sales change	1.6%	7.4%
Total sales change	4.4%	(2.9%)
Gross margin rate movement	Down c.325bps	Up c.125bps
Benchmark operating profit change	66%	(37%)
Number of stores at period end	350	345
Of which contain a mezzanine floor	190	186
Store selling space at period-end ('000 sq ft)	16,131	15,944
Of which    - garden centre area	3,669	3,614
- mezzanine floor area	1,993	1,954

Homebase continues to be well positioned as a leading home enhancement retailer.

Operational review

Strong peak trading season

While underlying market conditions have remained challenging, Homebase has delivered a strong result in its peak period. There was growth in like-for-like sales, benefiting in particular from weather conditions being significantly more favourable this year for the sale of seasonally-related categories, and by another strong performance in 'big ticket' categories. Homebase gained further market share during the half.

Excellent operational standards were maintained during this busy peak trading period, with further improvements in customer service scores. Investment in colleagues has been central to this; thousands of staff received new training to support the sale of products from the seasonal floor area, while over 200,000 modules of online learning were also completed by store colleagues. These modules have been developed to improve colleague product knowledge as well as covering broader topics of customer service.

Excellent cost management in addition to the strong demand in the period resulted in a sharp improvement in operating profits over the peak financial period.

Range development

Homebase continues to develop its point of differentiation as a more style-led offer across home enhancement. The first half of the year yielded further evidence of this successful positioning, with some of the stronger performances being within the showroom and homewares areas. Homebase continues to protect and develop its core DIY and decorating offer. Sales in these areas were broadly flat in the half, an improvement on preceding periods. This performance has been supported by improved pricing, better ranges and availability of materials for core household projects, greater prominence of advertising and promotions for these areas, and a launch of 'How to' guides on key DIY tasks.

Homebase delivered another exceptional performance in kitchens, where it continues to benefit from the previous national rollout of kitchen installations, as well as from the new ranges and refreshed store displays, and the previous withdrawal of certain competitors.

To replicate the success in installations to the bathroom category, a trial has been operating in 60 stores over the period. Strong results have led to this bathroom installations trial being extended to a further 100 stores in time for the New Year peak trading period.

In contrast to the market, furniture sales at Homebase have grown. The 'Furniture' catalogue continues to be a driver of this, supported by the differentiated style-led home enhancement offer and leveraging the product range, skills and infrastructure of Argos. The latest edition includes 1,500 furniture lines and continues to showcase these with the use of 'create the look', 'look for less' and 'great value' page spreads. A further driver of sales growth has come from keeping promotional furniture displays on the seasonal floor area in around 100 stores, utilising this high footfall space more efficiently throughout the year. A new range of fitted bedroom furniture has also been launched. For these products, customers have the choice of delivery only, delivery with assembly, or delivery with full project-managed installation. This trial has been running in 30 stores and will shortly be extended to a further 70 stores.

Multi-channel development

By the end of the financial year, Homebase will have achieved its target of over 30,000 product lines being transactional or browseable via homebase.co.uk. The 'Stock Check' service was rolled out to all UK stores earlier in the year and customer use of this continues to grow strongly. In the coming months, Stock Check & Reserve will be rolled out to all stores.

Homebase continues to develop its email and web-based promotions to drive further traffic and sales through its website. Work on the email marketing database has seen it extended from 0.5 million relevant customers to 7.5 million by leveraging the combination of Homebase, Argos and Nectar information. These developments have boosted online traffic and helped drive strong growth in transactional sales during the period.

Competing on price and value

Homebase continues to improve its price and value perception. Around 1,000 'key value indicator' and 'entry price point' lines have been matched to the market. Around 100 bulk buy deals have also been implemented, with multi-buy offers often representing market-leading deals. Similar to Argos, Homebase also now undertakes frequent automated price scraping on a broader range of products. This data is supporting more effective management of everyday competitive pricing.

Stronger promotional campaigns and the 'best buy' deals, capitalising on the changes in consumer behaviour in the current economic times, have also been a factor in improving customer satisfaction scores on price and value measures, as well as contributing to the strong profit performance in the first half.

New loyalty scheme

Homebase has successfully transferred its in-house Spend & Save loyalty card programme over to the Nectar scheme. Customer feedback indicated that Nectar was simpler to understand and benefited from use across multiple retailers and service providers, while the scheme was also superior in customer reach with around 11 million active card holders. The Nectar scheme also provides a greater level of customer insight when compared to the former in-house Homebase loyalty card programme.  

Since launch, measures of card usage and related spend have all exceeded expectations. In the five months since launch, there have been five million unique customer swipes, therefore already reaching the previous annual level of the former Spend & Save scheme.

Cost base management actions

The first half of this financial year has seen the combined benefits of actions taken last year both after peak trading and at the end of the year. Total operating and distribution costs have been reduced by around £30m or 7% in the period, including an £8m saving on depreciation (as noted below). This level of cost reduction will not therefore be repeated in the second half.

Store payroll costs had been reduced from the second half of last year through the realignment of shift patterns and task allocations. At the end of the last financial year, further organisational changes were undertaken to improve operational efficiency and cost productivity. These included head office function roles being reduced by approximately 15% and a restructuring of store supervisory positions which reduced store-based full time equivalent roles by approximately 5%. In addition to lowering costs, these actions have given the business a more efficient and effective structure, while protecting customer service, availability and essential processes. Homebase's particularly strong colleague engagement scores have also been maintained.

Financial review

Sales in the 26 weeks to 29 August 2009 increased by 4.4% in total; the contribution to sales from net new space was 1.6%, while like-for-like sales increased by 2.8%. There was strong growth in seasonally-related categories in the first quarter, benefiting from the better year-on-year weather conditions. There was also good growth in big ticket categories, particularly kitchens. Sales for the remaining categories overall were broadly flat.

The gross margin rate was down by approximately 325 basis points. There was increased promotional and clearance activity of previously over-wintered seasonal stocks, which successfully drove sales and profit, but which reduced the gross margin rate. The first quarter saw a sales mix impact given the strong sales of seasonally-related categories as well as big ticket products. There has also been the net impact of product cost pressures and adverse currency movements which are partially offset by supply chain gains, shipping cost savings and a level of customer price inflation. The dilutive impact on the gross margin rate is expected to increase in the second half of the year, given the more adverse currency rate.

Total operating and distribution costs were reduced by around £30m or 7%. Total sales increased by 4.4%, equivalent to a potential cost increase of around £20m, and underlying cost inflation was around 1% or £5m. Depreciation was around £8m lower as a result of the impairment of store-related assets in the previous financial year. There was therefore around 10% or £45m of underlying cost productivity as a result of exceptionally good cost management.

Benchmark operating profit for the 26 weeks to 29 August 2009 was £48.9m, a £19m or 66% increase on the comparable period last year.

Financial Services

26 weeks to £m		29 August 2009	30 August 2008
Sales		51.1	50.5
Benchmark operating profit before financing costs		4.3	11.7
Financing costs		(1.8)	(8.6)
Benchmark operating profit		2.5	3.1
As at	29 August 2009	28 February 2009	30 August 2008
Store card gross receivables	477	488	453
Personal loans gross receivables	2	3	5
Total gross receivables	479	491	458
Provision	(74)	(67)	(60)
Net receivables	405	424	398
Provision % of gross receivables	15.4%	13.6%	13.2%

Financial Services works in conjunction with Argos and Homebase to provide their customers with the most appropriate credit offers to drive product sales, and to maximise profit from the transaction for Home Retail Group.

Operational review

The in-house store card operations drove £258m of Group retail sales in the half, down 1% on the comparable period. Sales penetration decreased from 8.7% to 8.5%. The proportion of promotional credit sales marginally increased, representing 76% of all sales placed on the store cards. The offer of 'buy now, pay later' products remains a key enabler of driving sales in 'big ticket' categories. In addition to credit sales placed on the Group's own store cards, credit offers for purchases of typically over £3,000 are provided through product loans from Barclays Partner Finance. Including these product loans, total sales penetration was flat at 9.2%.

Financial review

Total gross receivables grew by £21m year-on-year, with a £24m increase in the store card and a £3m reduction from the planned run-off of the personal loan receivables.

Delinquency rates have continued to rise in line with our expectations over the period. As a result, the income statement bad debt charge increased by £9m. Changes to credit decisioning have further tightened score card cut-off levels and reduced the acceptance rates.

Financing costs reduced by £7m in the period reflecting a substantially lower funding cost rate being applied, since this non-cash internal recharge is based upon UK base rates. A corresponding impact is recognised in Group net interest income.

The benchmark operating result of £2.5m for the 26 weeks to 29 August 2009 reflects the financial return on the revolving (i.e. interest-bearing) element of receivables, as promotional credit products are recharged to Argos and Homebase at cost. The cost advantage of this internal arrangement versus third-party promotional credit provision is therefore a benefit within the Argos and Homebase benchmark operating profits.

GROUP FINANCIAL REVIEW

Sales and benchmark operating profit

Group sales were 3% higher at £2,804.9m (2008: £2,736.2m) and Group benchmark operating profit increased 14% to £120.6m (2008: £106.0m). Group benchmark operating margin was 4.3% (2008: 3.9%). Within this, the drivers of the Argos, Homebase and Financial Services performance are analysed as part of the preceding business reviews.

Central Activities represents the cost of central corporate functions and the investment costs of new development opportunities. Costs for the 26 weeks to 29 August 2009 were £10.5m (2008: £12.1m). Corporate functions costs for the period were tightly controlled, while the investment costs of new development opportunities were also lower than the prior year. The HomeStore&More format continues to be trialled, with a fourth store opened in the half.

Net interest income

Net interest income was £3.0m (2008: £17.0m). Within this, third party interest income for the period reduced to £2.5m (2008: £9.7m). While the Group's net cash position increased, the effective interest rate earned reduced to approximately 1% from 5%.

Financing costs charged within Financial Services' benchmark operating profit saw the corresponding credit within net interest income reduce to £1.8m (2008: £8.6m). This non-cash internal recharge is based upon UK base rates, and therefore reduced substantially.

The charge within net interest income in relation to the discount unwind on benchmark items was £1.3m (2008: £1.3m). This arises from the accounting treatment whereby provisions for expected future liabilities are required to be discounted back to current value. As settlement of the liability moves closer to the present day, additional non-cash charges to unwind the discount are taken; this will result in the absolute level of provision eventually matching the liability in the accounting period that it becomes due.

Share of post-tax results of joint ventures and associates

These amounted to a loss of £0.9m (2008: £1.6m). The loss is due principally to costs incurred by the joint venture with Barclays Bank PLC in regard to the Argos credit card.

Benchmark profit before tax

Benchmark profit before tax increased 1% to £122.7m (2008: £121.4m).

Costs related to demerger incentive schemes

These amounted to £7.7m (2008: £5.9m). It was originally announced that these costs were expected to amount to a maximum of £45m, to be charged to the income statement over the three-year period commencing from the October 2006 demerger, and are excluded from benchmark PBT. The final charge has now been taken, with the cumulative three-year cost totalling £34m.

Financing fair value remeasurements

Certain foreign exchange movements as well as changes in the fair value of certain financial instruments are recognised in the income statement within net financing income. These amounted to a gain of £5.0m (2008: loss of £8.3m), which arises principally as a result of translation differences on subsidiary cash balances. The gain reflects the strengthening of sterling against other currencies during the period. Equal and opposite adjustments to these translation differences are recognised as part of the movements in reserves. As required by accounting standards, the net nil exchange adjustment is therefore split between the income statement and the statement of comprehensive income.

Financing impact on retirement benefit balances

The credit through net financing income in respect of the excess of expected return on retirement benefit assets over the interest expense on retirement benefit liabilities amounted to £0.1m (2008: £5.7m). The current service cost, which Home Retail Group believes to be a fairer reflection of the cost of providing retirement benefits, is already reflected in benchmark operating profit.

Discount unwind on non-benchmark items

An expense of £3.3m (2008: nil) within net financing income relates to the discount unwind on onerous lease provisions. As these provisions were items excluded from benchmark profit before tax, the discount unwind which began from the second half of the previous financial year has also been excluded from benchmark profit before tax. As set out within the net interest income review above, these non-cash charges arise from the accounting treatment whereby provisions for expected future liabilities are discounted back to current value.

Profit before tax

Reported profit before tax was £116.8m (2008: loss of £437.0m).

Taxation

Taxation attributable to benchmark PBT was £39.5m (2008: £38.1m), representing an estimated effective tax rate for the full financial year of 32.0% (2008: 31.0%), excluding joint ventures and associates. This increase in the effective rate largely reflects the impact of disallowable expenditure for tax purposes being a constant level in absolute terms but representing a greater proportion of a reduced level of expected profit for the full year.

Taxation attributable to non-benchmark items amounted to a credit of £0.4m (2008: £28.3m), reflecting those items which qualify for tax relief. The total tax expense for the period was therefore £39.1m (2008: £9.8m).

Number of shares and earnings per share

The number of shares for the purpose of calculating basic earnings per share (EPS) in the half was 860.9m (2008: 871.1m), representing the weighted average number of issued ordinary shares of 877.4m (2008: 877.4m), less an adjustment of 16.5m (2008: 6.3m) representing shares held in Home Retail Group's share trusts net of vested but unexercised options and share awards.

The calculation of diluted EPS reflects the potential dilutive effect of employee share incentive schemes. This increases the number of shares for diluted EPS purposes by 10.2m (2008: 10.4m) to 871.1m (2008: 881.5m). However, as the Group made a reported loss after tax in the comparable period last year, the effect of employee share incentive schemes is anti-dilutive and therefore diluted EPS equalled basic EPS.

Basic benchmark EPS is 9.7p (2008: 9.6p), with diluted benchmark EPS of 9.6p (2008: 9.4p). Reported basic EPS is 9.0p (2008: loss of 51.3p), with reported diluted EPS being 8.9p (2008: loss of 51.3p).

Dividends

Home Retail Group's dividend policy remains to target dividend cover over the medium term of around two times, based on full-year basic benchmark EPS. The dividend for the prior year was maintained at 14.7p, representing cover of 1.76 times.

While the outlook for earnings remains challenging, the Group has maintained a strong cash position. An interim dividend held at 4.7p is therefore being announced today. This will be paid on 20 January 2010 to shareholders on the register at the close of business on 13 November 2009 (an ex-dividend date of 11 November 2009).

Cash flow and closing net cash position

26 weeks to £m	29 August 2009	30 August 2008
Benchmark operating profit	120.6	106.0
Exceptional items within operating profit	-	(549.9)
Costs related to demerger incentive schemes	(7.7)	(5.9)
Statutory operating profit after exceptional items	112.9	(449.8)
Depreciation and amortisation	64.0	76.5
Movement in working capital	56.8	77.4
Financing costs charged to Financial Services	1.8	8.6
Non-cash Homebase exceptional charges	-	542.3
Cash flow impact of prior year restructuring charge	(11.4)	-
Other operating items	14.2	14.9
Cash flows from operating activities	238.3	269.9
Net interest	5.6	10.1
Taxation	(53.0)	(36.7)
Net capital expenditure	(32.6)	(56.6)
Sale/(purchase) of term deposit	75.0	(75.0)
Loan to joint venture	(2.4)	-
Cash inflow before financing activities	230.9	111.7
Dividends paid	(85.7)	(86.8)
Purchase of shares for Employee Share Trust	(1.7)	-
Other financing activities	0.1	0.1
Net increase in cash and cash equivalents	143.6	25.0
Opening cash and cash equivalents	209.4	174.0
Net cash inflow	143.6	25.0
Effect of foreign exchange rate changes	(0.7)	0.7
Closing cash and cash equivalents	352.3	199.7
Term deposit	-	75.0
Closing financing net cash	352.3	274.7

The Group's financing net cash position at 29 August 2009 was £352.3m, an increase of £67.9m in the half. The comparable financing net cash position includes a £75m term deposit which was purchased in July 2008 and matured on 15 April 2009.

Cash flows from operating activities were £238.3m in the half (2008: £269.9m). This £31.6m reduction was driven by a number of relatively small changes, including lower depreciation, a modestly reduced working capital inflow and a cash outflow for prior year exceptional charges relating to organisational restructuring.

Net capital expenditure was £32.6m (2008: £56.6m). The reduction largely reflects the lower number of stores opened year-on-year. Tax paid of £53.0m (2008: £36.7m) was higher principally as a result of a repayment in the comparable period from the tax authorities in respect of the final settlement of historic tax issues. Other cash flows in the half included reduced interest received of £5.6m, dividends paid to shareholders of £85.7m and an outflow of £1.7m to purchase shares for Home Retail Group's share trusts.

Balance sheet

As at £m	29 August 2009	28 February 2009	30 August 2008
Goodwill	1,541.0	1,541.0	1,541.0
Other intangible assets	99.2	103.6	85.1
Property, plant and equipment	530.4	559.3	618.4
Inventories	1,047.8	930.3	1,011.0
Instalment receivables	405.4	424.5	397.7
Other trading assets	204.2	190.2	221.3
	3,828.0	3,748.9	3,874.5
Trade and other payables	(1,181.7)	(1,063.2)	(1,216.1)
Provisions	(241.6)	(250.2)	(166.0)
	(1,423.3)	(1,313.4)	(1,382.1)
Invested capital	2,404.7	2,435.5	2,492.4
Retirement benefit obligations	(99.4)	(46.4)	(14.1)
Net tax assets/(liabilities)	72.3	32.7	(6.9)
Derivative financial instruments	(37.3)	52.2	37.5
Financing net cash	352.3	284.4	274.7
Reported net assets	2,692.6	2,758.4	2,783.6

Reported net assets amounted to £2,692.6m, which is equivalent to 314p per share, excluding shares held in the EST. The reduction in net assets versus the 28 February 2009 yearߛ-end balance sheet was £65.8m. Within this, invested capital reduced by £30.8m, driven by the working capital reduction of £56.8m and capital expenditure being £24.0m lower. These movements also contributed to the £67.9m increase in financing net cash.

Retirement benefit obligations

Pension arrangements are operated principally through the Home Retail Group Pension Scheme, a defined benefit scheme, together with the Home Retail Group Stakeholder Pension Scheme, a defined contribution scheme.

The IAS 19 valuation as at 29 August 2009 for the defined benefit pension plans was a net deficit of £99.4m (28 February 2009: £46.4m). Plan assets increased to £599.9m (28 February 2009: £504.4m), driven principally by higher market values. The present value of plan liabilities increased to £699.3m (28 February 2009: £550.8m), driven principally by a reduction in the assumed discount rate to 5.7% (28 February 2009: 6.5%).

A full actuarial valuation of the defined benefit scheme is carried out every three years. The latest full review, as at 31 March 2009, is currently underway and is being carried out by independent, qualified actuaries; the results are expected by the end of the current financial year. This valuation will form the basis of discussions with the pension trustee for any necessary changes to funding.  

Liquidity and funding

The Group maintains liquidity by arranging funding ahead of requirements and through access to committed facilities. At 29 August 2009, the Group had £700m of undrawn committed borrowing facilities, £685m of which does not expire until 2013. These facilities are in place to enable the Group to finance its working capital requirements and for general corporate purposes, should the need arise. The Group's net cash position is however expected to continue to be sufficient to meet its financing needs in the foreseeable future.

Accounting standards and use of non-GAAP measures

The Group has prepared its consolidated financial statements under International Financial Reporting Standards for the 26 weeks to 29 August 2009. The basis of preparation is outlined in Note 1 to the Financial Information on page 26.

The Group has identified certain measures that it believes provide additional useful information on the underlying performance of the Group. These measures are applied consistently but as they are not defined under GAAP they may not be directly comparable with other companies' adjusted measures. The non-GAAP measures are outlined in Note 2 to the Financial Information on page 27.

Principal risks and uncertainties

The Group set out in its 2009 Annual Report and Financial Statements the principal risks and uncertainties which could impact its performance; these remain unchanged since its publication. The Group operates a structured risk management process which identifies and evaluates risks and uncertainties and reviews mitigation activity.

On a short-term forward-looking basis over the remainder of the financial year, the main area of potential risk and uncertainty centres on the sales and profit impact from economic conditions and consumer demand, together with the impact of product cost pressures, particularly as a result of sterling weakness, and an associated level of customer price inflation. Other potential risks and uncertainties around sales and/or profits include competitor activity, product supply and other operational processes, product safety, business interruption, infrastructure development, reliance on key personnel, and the regulatory environment. These risks, together with examples of mitigating activity, are set out in more detail in the 2009 Annual Report and Financial Statements on pages 40 and 41.

  Appendix 1. Trading statement information as reported

Financial year 2008/09							Financial year 2009/10
	Q1 13 weeks to 31 May 2008						Q1 13 weeks to 30 May 2009
Argos
Sales	£929m						£937m
Like-for-like change in sales	0.0%						(2.8%)
Net new space contribution	4.0%						3.7%
Total sales change	4.0%						0.9%
Gross margin movement	Down c.125bps						Down c.75bps
Homebase
Sales	£440m						£465m
Like-for-like change in sales	(12.0%)						3.8%
Net new space contribution	7.0%						2.0%
Total sales change	(5.0%)						5.8%
Gross margin movement	Up c.125bps						Down 250bps
	Q2 13 weeks to 30 Aug 2008		H1 26 weeks to 30 Aug 2008				Q2 13 weeks to 29 Aug 2009		H1 26 weeks to 29 Aug 2009
Argos
Sales	£927m		£1,856m				£951m		£1,888m
Like-for-like change in sales	(5.8%)		(3.0%)				(1.4%)		(2.1%)
Net new space contribution	4.2%		4.1%				3.9%		3.8%
Total sales change	(1.6%)		1.1%				2.5%		1.7%
Gross margin movement	Down c.25bps		Down c.75bps				Down c.125bps		Down c.100bps
Homebase
Sales	£389m		£829m				£401m		£866m
Like-for-like change in sales	(8.3%)		(10.3%)				1.6%		2.8%
Net new space contribution	8.0%		7.4%				1.3%		1.6%
Total sales change	(0.3%)		(2.9%)				2.9%		4.4%
Gross margin movement	Up c.125bps		Up c.125bps				Down c.400bps		Down c.325bps
	Q3 18 weeks to 3 Jan 2009		YTD 44 weeks to 3 Jan 2009
Argos
Sales	£1,850m		£3,707m
Like-for-like change in sales	(7.5%)		(5.3%)
Net new space contribution	3.9%		4.0%
Total sales change	(3.6%)		(1.3%)
Gross margin movement	Down c.125bps		Down c.100bps
Homebase
Sales	£479m		£1,308m
Like-for-like change in sales	(10.2%)		(10.2%)
Net new space contribution	6.4%		7.0%
Total sales change	(3.8%)		(3.2%)
Gross margin movement	Down c.50bps		Up c.50bps
	Q4 8 weeks to 28 Feb 2009		H2 26 weeks to 28 Feb 2009		FY 52 weeks to 28 Feb 2009
Argos
Sales	£575m		£2,425m		£4,282m
Like-for-like change in sales	(1.6%)		(6.2%)		(4.8%)
Net new space contribution	3.2%		3.8%		3.9%
Total sales change	1.6%		(2.4%)		(0.9%)
Gross margin movement	Down c.125bps		Down c.125bps		Down c.100bps
Homebase
Sales	£205m		£684m		£1,513m
Like-for-like change in sales	(10.2%)		(10.2%)		(10.2%)
Net new space contribution	4.7%		5.9%		6.7%
Total sales change	(5.5%)		(4.3%)		(3.5%)
Gross margin movement	Down c.175bps		Down c.100bps		Up c.25bps

 

END

 

 

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