NZX Announcement SMITHS CITY IMPROVES REVENUES AND OPERATING PROFIT 20.12.16

DIRECTOR’S REPORT

The Directors of Smiths City Group Limited, the Christchurch based retailers, have announced an operating surplus after taxation for the six months to 31 October 2016 of $1.37 million compared with $2.55 million last year. (The prior year surplus included a one off profit of $1.8 million flowing from the sale of the company’s Colombo Street, Christchurch store).

Additionally both period results were affected by “one off” costs due to restructuring and the closure of uneconomic stores.

Total revenues for the six months were $113.9 million – a 7.2% increase on the previous half year. This increase rises to 18% ahead of last year if revenue from discontinued operations is removed from the prior year result.

The summary of consolidated results is as follows:

*The deferred tax charge for the current period takes into account temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes as well as the movement in the company’s estimates of future taxable profits on the basis these can be offset against the tax losses available.  Smiths City has available carry forward tax losses of $6.8million, hence no income tax is payable.

The Directors have declared a fully imputed half year dividend of 1.0 cent per share (last year 1.0 cent unimputed) to be paid on Friday 10 February 2017.

For the purposes of the dividend the share register will close at 5.00pm on Friday 3 February and reopen at 9.00am on the Tuesday 7 February 2017.

The Board was pleased to report the 67% improvement in the core trading profits during the six months compared with last year. Many of the structural changes made and closures of loss making businesses have begun to “kick in” now; as the new management team settle in more improvements are expected.

In addition the Balance Sheet shows a strengthened position with Total Assets down by $2.3 million to $131.332 million despite adding $5.0 million of stock due to the acquisition of the three store Furniture City chain. The Group has no borrowings other than that required for Smiths City Finance, our customer finance offering.

The company continued, during this six months, the major restructuring of the business which commenced last year to improve results and prepare the company for growth. The focus, however, has shifted to store and revenue growth, improvements in the customer product, service and finance offering, changes in focus in our branding and promotion, and improvement in gross margin.

In addition we are seeking more economic delivery and logistics processes and our IT systems.

More detail on these initiatives is included in the Chief Executive’s Review to follow.

Shareholders will be pleased that we are now paying a fully imputed dividend which significantly increases the cash amount paid to them.  The company, as at last balance date, had remaining carry forward tax losses of $6.8 million and most of these will be used in the current trading year.  As we move into next year company tax will be payable.  After taking tax advice from Pricewaterhouse Coopers we have decided to anticipate this and begin paying our dividend as fully imputed.

Our sales in all regions were up on last year as outlined in the 7.7% increase in “same stores” sales. Growth was higher in our 13 North Island stores than in the South Island with some regional areas affected by the rural downturn. Overall, however, our stores performed well in both maintaining sales and pushing for higher margins. While supplier rebates are lower as a result of a change in buying policies directed at “what sells” and stock reduction, this is more than compensated by higher profits and lower stock.

The Board and Management are continuously reviewing the Company Strategy and Business Plan. The acquisition of the furniture and bedding chain Furniture City has enabled us to shift our mix of merchandise. The low margin appliance and whiteware business is now, for the first time, a lower percent of sales than the higher margin furniture business.  While appliances is still a very important part of our customer demand and foot traffic, the changes mean we are, in effect, out of “stand alone retail appliance stores”.   The finance product we offer customers has changed to a more relevant “interest free” basis for fixed monthly instalment and our ongoing monthly “revolving credit” account. The Smiths City “store owned finance” offer remains a vital part of the Brand and reason for customers to return.

Many companies and Government departments in New Zealand have been assessing compliance with the Holiday Pay legislation enacted in 2003.   The rules around calculation of holiday pay are complex and open to interpretation, we have decided that a liability does exist and have taken the prudent decision to include in the six month results a provision for this liability. On advice of our auditors, we have taken this amount through prior year reserves.

We look forward to the second half of the year with confidence. The coming Christmas and New Year trading are an exciting and important trading period to Smiths City and we are well prepared.

C D BOYCE – CHAIRMAN

CHIEF EXECUTIVE’S REVIEW

The six months to October 2016 saw Smiths City continue to build on the initiatives taken during the prior year to position the company for growth and improved profitability. Both margin and revenue improved on a same stores basis (7.7% increase in revenue compared to the same period in the year prior and a pleasing 1% increase in Gross Margin).

Additionally, we enjoyed the financial benefit flowing from our acquisition of the Auckland based retailer, Furniture City in April of this year.

The improvement in our trading activities derives in part from our reset of our marketing activities based on the research carried out early in the year; in part from our focus on instore execution and our continued enhancement of our product selection.  It is also appropriate to recognise our team throughout Smiths City who have, through their engagement, ensured that we deliver a superior retail experience to that of our competitors.

Our Retail Proposition

While we still have internal efficiencies to implement that will result in further savings to the Group via continuous improvement to our buying, marketing, logistics and systems platforms, our biggest opportunity is in the reset of how we present our offering to the consumer.

Delivering an improved instore experience will then ensure alignment of our marketing, operational and virtual activities and present one cohesive view of Smiths City.

To achieve this we engaged Studio Gascoigne to redesign our store look and feel. The first rollout of this new concept will be in our new Hastings store opening in February 2017. Our new concept will clearly signal to the market and our customers the value and service they can expect from Smiths City and demonstrates our point of difference when compared to others. This new look and feel will then be rolled out across our network, targeting key locations as a priority.

Inventory and Category Management

We continue to monitor our inventory levels to ensure that they are appropriate to our needs and not those of our suppliers.  The six months to October saw a 20.4% reduction in inventory held in the business, made possible via a more informed structured approach to our purchasing and category management and, in part, by the initiatives taken to centralise inventory held.  There remains considerable work to do in resetting our categories as we move from a rebate driven purchase environment to a structured approach to purchasing based on consumer demand and maximized return on investment to the company.

The majority of the one off costs incurred in the six months to October resulted directly from the reset of our buying department to a Category Management approach that included the addition of a Merchandising Planner to the team. This position brings consistent visibility to purchasing decisions across all categories. It permits structured purchasing against specific event planning going forward, as opposed to promoting what is in stock or what the supplier presents.  The focus on Inventory Management also saw the closure of non-core satellite warehousing across the country.

A core component of our purchase of Furniture City was its Auckland based warehousing facility which is a purpose built modern warehouse facility located in Manukau.

This facility will be repurposed in 2017 to service our growing North Island store network.  Having this facility in our network has the additional benefit of decreasing our reliance on freight movements between the North and South Islands.

Customer Engagement

We are also working hard on improving how we engage, relate and retain our customers through improving our Internet and customer relationship practices. While we see a vibrant future for the “bricks & mortar” retail offering, competitive advantage will be found in the blending of the virtual and physical offering creating a seamless interaction with our customer base, allowing them to enjoy the benefits of shopping with Smiths City how, where and when they chose.

This requires the use of data to more closely provide a relevant, timely offer to our customer base.  To enable this to occur, a comprehensive plan for the introduction of a new information platform has been presented to the Board and the implementation of this is planned during 2017, with final completion mid 2018.

This represents a significant investment for Smiths City and addresses the issues around our current legacy systems, which are outdated and constrain our company from reaching its full potential.

Smiths City Finance

Our finance offering remains a core part of Smiths City, allowing us to form close relationships with our customer base.

Retaining Finance as a division is an aspect of Smiths City Group that is a unique, and I believe, envied advantage we hold over our competitors.

Our launch of interest free terms in July of this year has increased the attractiveness of our finance offer in the market and seen strong increases in profitability as a result.  Our focus in 2017 will be to continue to enhance and expand the finance products we offer across the market.

It is worthy to note that all profit earned from our finance activities are retained in the Group, providing fuel for growth and further improving returns to our shareholders.

To facilitate the planned growth in our Finance Division and to ensure that the Group has an appropriate partner for the provision of its financial needs, we have, as previously advised to the market, entered into a committed terms sheet with a major bank.  This change of provider results in material savings to the Group via both improved interest rates and better transactional processing; we currently believe that this will result in material savings for the Group.

Looking Forward

While we have started to see the positive impact of the reset of our company, it is fair to say that there remains much to be done and I believe there exists significant opportunity for Smiths City to increase market share and continue to deliver improved returns for our shareholders.

The continual feedback we receive from our most important critic, the customer, is that the authenticity of the experience of dealing with Smiths City is valued and is something we are justifiably proud of.

I am sure that looking forward, we can expect a challenging Christmas and remainder of our financial year as I believe the retail market will soften slightly in 2017. The initiatives taken over the past 18 months have placed Smiths City in an enviable position from which to compete and win in a tightening market, or indeed in any market.  Attention to inventory, debt and sales levels have resulted in a leaner, more profitable, more competitive Smiths City that we are justifiably proud of.

Given our strengthened position, it is appropriate for the management and Board to identify opportunities for growth, from both organic and an acquisitive perspectives with a view to providing greater returns for our shareholders and with a clear view to ensuring the longevity of this iconic Kiwi Brand that New Zealanders depend on every day.

R J CAMPBELL

CHIEF EXECUTIVE OFFICER