Just Energy Group Inc Earnings Call
May 18, 2017 AM CEST
Thomson Reuters StreetEvents Event Transcript
E D I T E D V E R S I O N
JE.TO - Just Energy Group Inc
Just Energy Group Inc Earnings Call
May 18, 2017 / 02:00PM GMT
==============================
Corporate Participants
==============================
* Deborah Merrill
Just Energy Group Inc. - Co-CEO, Co-President and Director
* James W. Lewis
Just Energy Group Inc. - Co-CEO, Co-President and Director
* Patrick McCullough
Just Energy Group Inc. - CFO
* Ubavka Rebecca MacDonald
Just Energy Group Inc. - Co-Founder and Executive Chair
==============================
Conference Call Participants
==============================
* Carter William Driscoll
FBR Capital Markets & Co., Research Division - Analyst
* Damir Gunja
TD Securities Equity Research - Director
* Kevin Chiang
CIBC World Markets Inc., Research Division - Analyst
* Nelson Ng
RBC Capital Markets, LLC, Research Division - Analyst
* Sameer Joshi
* Sophie Ksenia Karp
Guggenheim Securities, LLC, Research Division - Senior Analyst
==============================
Presentation
------------------------------
Operator [1]
------------------------------
Good morning, ladies and gentlemen. Welcome to the Just Energy Group Incorporated Conference Call to discuss the fourth quarter 2017 results for the period ended March 31, 2017. (Operator Instructions) I will now return the meeting over to your host, Deb Merrill, Co-Chief Executive Officer. Please go ahead.
------------------------------
Deborah Merrill, Just Energy Group Inc. - Co-CEO, Co-President and Director [2]
------------------------------
Thank you very much. Good morning, everyone, and thank you for joining us this morning for our Fiscal 2017 Year-end Earnings Conference Call. My name is Deb Merrill, I'm the Co-CEO of Just Energy and I have with me this morning the Executive Chair, Rebecca MacDonald; my Co-Chief Executive Officer, James Lewis; as well as Pat McCullough, our CFO. Pat and I will discuss the results of the quarter as well as our expectations for the future. We will then open the call to questions.
Before we begin, let me preface the call by telling you that our earnings release and potentially our answers to your questions will contain forward-looking financial information. This information may eventually prove to be inaccurate, so please read the disclaimer regarding such information at the bottom of our press release.
Fiscal 2017 was a very important year for Just Energy from a financial, operational and strategic positioning perspective. It was a year highlighted by 4 general themes: earnings growth, balance sheet improvement, geographic expansion and product and channel strengthening. This year, we are celebrating our 20th anniversary. We've grown into the leading independent retailer of energy management solutions with a multinational customer-centric approach.
Just as we have transformed ourselves over the last 20 years, we are now setting our sights on becoming the world leader in delivering comfort, convenience and control to homes and businesses around the globe. As I reflect on Just Energy's 20-year history, what has set us apart has been our ability to identify a clear vision for the future and transform it into actions through well-planned strategies and compelling products. Today, our team is in the process of successfully executing a global enterprise strategy that is aggressively pursuing profitable growth, and in the year ahead, we'll continue guiding the business forward by capitalizing on where we see the energy sector heading and what we believe customers will want next as well as where we believe opportunities for new markets exist.
Now I'd like to address some of the important accomplishments we made during the year in more detail before providing some comments on our outlook for the future. First, our business performed well during the year, delivering solid earnings growth that met our expectations and we continued to generate strong cash flow. We delivered this growth while overcoming a tough comparison to 2016 and while navigating a difficult market environment in which we experienced lower-than-anticipated levels of customer switching activity. This was due to price stability and gaps in electricity market which occurred in a low and stable commodity price environment.
While these challenges presented near-term headwinds to our sales and customer addition goals, we are growing increasingly confident in the trends we are seeing. This confidence stems from the improvements in both the attrition and renewal rates we achieved for the year as well as the net customer additions trajectory we are seeing. We feel strongly that these achievements reflect the intended outcome of the steps management has taken to align Just Energy's customer base with a value-add product we've introduced within our various sales channels and regional markets. The sequential customer addition trends we saw in Q4 indicate growing acceptance of our offerings and we feel confident we can drive customer growth in fiscal '18 and beyond.
The second achievement I'd like to highlight today is the successful completion of our balance sheet repair efforts. I'm very pleased to report that through our great effort over the past few years, we've achieved a net debt-to-EBITDA ratio of 1.8 at year-end. This surpasses our targeted level, and we're confident we can maintain a healthy ratio going forward. We also achieved a dividend payout ratio of 60%, marking another important financial target achievement. We have an efficient capital structure in place and an affordable payout ratio and we are -- and we move forward now with a very strong balance sheet. This restored financial flexibility will allow us to focus our resources and make necessary investments to aggressively pursue our growth strategy.
This brings me to the third highlight of the year, our standard geographic footprint. In the second half of the year, we announced the exciting and important entry into Germany as well as obtaining our license do business in Ireland. In Germany, we now have access to a larger energy market in Continental Europe. The U.K. also continues to perform well. This market now represents 8% of our global customer base, having grown net additions by 8% over this past year in both the Consumer and Commercial businesses. We believe we can apply the lessons learned from our U.K. expansion as well as the early lessons learned in Germany to successfully expand into other attractive Continental European markets. We see tremendous potential to grow our platform in 2018 and beyond through prudent investments.
Finally, I'd like to highlight the strides we have taken to strengthen our product and channel offerings. We've received great customer acceptance and feedback around our growing suite of value-add products and long-term loyalty program. Products such as JE Perks, our flat-bill offering, LED retrofit and the smart sprinkler, to name just a few, are proving our ability to disrupt the energy markets while creating stronger, more profitable and longer-lasting customer relationships.
We continue to diversify our sales and expand our sales channels, giving us the ability to connect with more customers in new ways that support our trusted adviser strategy. During the year, we launched a brand-new channel management -- channel engagement strategy with retail storefront partners. We believe this positions Just Energy's values to potential customers that are already in the buying mode. We're very excited about this opportunity and believe it to be one of our largest sales channels in the future. We are focused on investing in new channels that include affinity marketing, authorization, telemarketing and others that align with our long-term growth strategy.
Now let's turn to our outlook. It remains a very exciting time for Just Energy, a time centered on prudent investment and our ability to generate consistent growth and maximize our customer-centric core competencies. Our capital restructuring efforts combined with our ability to consistently generate meaningful cash flow from ongoing operations provide us plenty of runway to make strategic investment in 2018 to capture significant growth opportunities. We are exploring inorganic growth in the areas of North American retail, international retail and strategic [accelerating]. As we look at inorganic opportunities, we remain disciplined and committed to our improved credit metric levels and our superior, low return on investment capital business model.
As you saw in our press release, we expect the OpEx investments that we'll make in fiscal 2018 to challenge our ability to grow our bottom line year-over-year. However, we are confident we can grow our customer base during 2018 and grow base EBITDA for fiscal '19 and beyond, returning to double-digit percentage growth as delivered in the past. This expectation is in line with Just Energy's previous performance under the current leadership team when the company delivered an annual base EBITDA improvement of 10%, or 15% prior to the deductions related to commercial customer addition costs.
With that, I'll turn the call over to Pat so he can provide some additional color on the financial results. Pat?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [3]
------------------------------
Thank you, Deb. As Deb mentioned earlier, this is an exciting time for Just Energy as we've improved our margin performance, credit metrics and overall financial strength. As a result, we're well positioned to make investments that can have a meaningful impact on our future earnings and cash flow potential.
First, I would like to cover some of the highlights of the fourth quarter and fiscal year, and then I will provide some added color in certain areas before turning to some more specific aspects of our outlook for fiscal 2018.
In the fourth quarter, sales of $947 million were down 12% compared to the prior year. Gross margin for the fourth quarter was $175 million, a decrease of 14% year-over-year. The decline in both sales and gross margin is attributable to the 8% decrease in our customer base and the effect of foreign currency translation.
Sales for the full year were $3.8 billion, down 8% compared to the prior year, primarily because of the decrease in our customer base. For the fiscal year, gross margin was $696 million, down 1% from the prior year, driven by unfavorable foreign exchange and partially offset by ongoing margin improvement initiatives. Gross margin for the Consumer division decreased to $513 million, down 5% from the prior year due to lower consumption. Gross margin for the Commercial division increased by 12% from the prior year to $183 million as a result of lower balancing and capacity costs.
Now I would like to spend a few minutes discussing our customer initiatives before going deeper into our financial results. For the fiscal year 2017, the combined attrition rate for Just Energy was 15%. We saw Consumer and Commercial attrition improve 2 percentage points each year-over-year. As you may recall in fiscal 2016, we were able to hold attrition levels year-over-year and this year, we're able to improve on that. This is particularly encouraging when we consider the highly competitive market that we're experiencing today. We're encouraged by the improvement in the trend of customer net additions that we are witnessing and we expect this improvement to continue as our new innovative products are gaining more appeal and presenting more value for our customers. This is allowing us to price our energy management solutions competitively without sacrificing customer satisfaction.
We also saw an improvement in our renewal rate for the year of 3 percentage points, up to 65% overall. We accomplished this in a very competitive market, and what is even more encouraging is that we achieved a renewal rate in the Consumer division of 79%, a level that tops our recent history. We feel strongly that this achievement reflects the intended outcomes of the steps management had taken to align our customer base with compelling value-added products that will drive future growth.
Administrative expenses for the fourth quarter decreased by 34% as a result of lower employee-related expenses, a decrease in legal provisions and the impact from foreign currency translation. Administrative costs were also down for the full year by 1%. Selling and marketing expenses were down 14% to $54 million for the quarter. For the full year, selling and marketing expenses were down 12%. The decline was due to lower commission expense from lower gross customer additions combined with the decreased residual commission costs.
Finance costs net of noncash charges were down 25% during the quarter and down 4% for the year. The lower finance cost was a result of the 25% decrease in long-term debt in fiscal 2017.
Moving to the bottom line, our fourth quarter EBITDA was up 11% to $75 million, and our fiscal full year base EBITDA was up 8% to $224.5 million. This was within our stated guidance for the year. I will also note that the full year base EBITDA included $11.3 million of additional prepaid commission expense compared to last year. If you exclude this additional expense item, base EBITDA increased 14% year-over-year to $235.8 million.
Base funds from operations for the year decreased 8% to $128 million. Although base EBITDA increased, there was a decline in base FFO due to the onetime finance costs related to the repayment of the senior unsecured notes and higher current income taxes resulting from exhaustion of noncapital loss carryforwards in both Canada and the U.K. Dividends and distributions for the year were $77 million, an increase of 3%, reflecting the initiation of dividend payments to perpetual preferred shareholders following the new issuance in February 2017. The payout ratio on base funds from operations was 60% for the year and within our target range.
We generated meaningful cash flow to support our growth. Cash and short-term investments declined $44 million during the year due to several items. We made essential growth investments such as our launch into Germany and investments into ecobee. In addition, we early redeemed 320 million of the 6% convertible debentures and repaid the remaining 80 million on the senior unsecured notes. These repayments were partially offset by the issuance of $160 million in the 6 3/4% convertible debentures and $133 million in perpetual preferred shares and some utilization of the credit facility.
Let me take a moment to talk a bit more about the successful execution of our balance sheet repair, which has us well positioned to aggressively pursue growth initiatives. During the year, we reduced our long-term debt by 25% to $498 million due to the early redemption of convertible debentures and the repayment of senior unsecured notes. As a result, book value to net debt was 1.8x the trailing 12-month base EBITDA at year-end. This is a significant improvement from 2.6x just 1 year ago. At this point, we feel confident in our debt profile and remain committed to maintaining these relative levels moving forward in line with our capital-light strategy.
Before I wrap up my prepared remarks, I'd like to review our outlook for fiscal 2018. As Deb mentioned earlier and as you saw in our press release, fiscal 2018 is a year of investing in growth for Just Energy. We believe we will achieve net customer additions and deliver base EBITDA in the range of $210 million to $220 million. While base EBITDA reflects a decline over 2017 results, it demonstrates solid performance in our base business combined with significant investments in the form of upfront commissions, international operations and product and geographic growth initiatives. Again, we remain committed to maintaining our high ROIC capital-light position and we seek to make these growth investments through existing cash and balance sheet capacity.
Looking beyond 2018, we believe the business can grow earnings in fiscal '19 and beyond, returning to the double-digit growth we've been able to recently achieve. This significant bottom line growth will be achieved with the successful execution of our strategic growth pursuits in new regions, products' channels and inorganic pursuits.
With that, I'll turn the call back over to Deb for her concluding remarks. Deb?
------------------------------
Deborah Merrill, Just Energy Group Inc. - Co-CEO, Co-President and Director [4]
------------------------------
Thank you, Pat. As we look back on the last 20 years, we could not be more proud of what we've accomplished as a company. Just Energy has evolved dramatically over the last 3 years. Since our original Canadian IPO, the company has delivered a 15% annual return to shareholders. We are one of the few companies that can make that claim over a 15-year period. With our proven track record, we are confident that we can continue to deliver superior results to our shareholders and customers around the globe.
Now we'll open it up to any questions you might have for us.
==============================
Questions and Answers
------------------------------
Operator [1]
------------------------------
(Operator Instructions) And I see we have our first question from Damir Gunja with TD Securities.
------------------------------
Damir Gunja, TD Securities Equity Research - Director [2]
------------------------------
Just wondering perhaps, Pat, if you can quantify what sort of embedded growth rate you have in the base business for 2018. Are you expecting it to be flat or low single digits x all of the OpEx?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [3]
------------------------------
So you're asking about base EBITDA, if you were to exclude those onetimers?
------------------------------
Damir Gunja, TD Securities Equity Research - Director [4]
------------------------------
Right.
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [5]
------------------------------
Yes, I mean we are seeing margin and base EBITDA improvement reflecting expected gross additions. So if you think about what we could be doing without that overhang of onetime commissions and those new investments, we'd probably be in the 5% to 10% year-over-year EBITDA range this year if you exclude those.
------------------------------
Damir Gunja, TD Securities Equity Research - Director [6]
------------------------------
Okay. And can you maybe help us quantify? You mentioned the 3 buckets of commissions, international and product and geography. To the extent you're willing to get into numbers, can you quantify sort of the onetime nature of the investment in the 3 buckets? And the grand total of spend that we should be adjusting for or thinking about and the way we're looking at this year?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [7]
------------------------------
Yes, we can. So if you think about the commission buckets, than the first bucket, that's the big one. So the channels where we're paying upfront commissions, think door-to-door, think some of the European channels, we do make decisions with partners to optimize Just Energy's return on investments around how we structure payments. So given that between 40% and 50% of our residential channels, have upfront commission payments associated with them, you're in the land of $20 million to $30 million of overhang when we get back to significant gross additions. If you think about the international market seeding, which shared publicly the U.K. $2 million that was done 4, 5 years ago for an organic startup, that was only starting up the commercial business at that point in time. As we look to expand in Germany, Ireland and Japan, we're looking at bringing both commercial and resi sales operations in at the beginning. So you're generally going to see a few million dollars per market in terms of upfront first-year OpEx that will be mostly recovered in the second year, if not turning a slight profit. New channels, new product, that is generally contained in what we would spend on an ongoing SG&A basis, but you will see single-digit millions of incremental spend as we expand to 10 total channels for the residential business consistent with our Investor Relations [estimates] that we have had out there recently.
------------------------------
Damir Gunja, TD Securities Equity Research - Director [8]
------------------------------
Okay. So it sounds like you've got a high degree of confidence that this upfront commission is going to translate into growth in '19.
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [9]
------------------------------
Again, we saw it in the fourth quarter, Damir. If you look at our fact sheet, you'll see we reported 7,000 net additions in the Consumer business, and Deb just referred to net additions in the U.K. business. So there's already signs of additive customer growth in the most profitable parts of our business. So we have a great deal of confidence that you're going to see that translate to positive total additions in fiscal '18.
------------------------------
Operator [10]
------------------------------
Our next question comes from Carter Driscoll with FBR.
------------------------------
Carter William Driscoll, FBR Capital Markets & Co., Research Division - Analyst [11]
------------------------------
First question, so just if I could kind of sum up. It sounds as though you're not seeing gross margin pressure; you're making a deliberate -- given the low volatility in the commodity -- and the low commodity price environment making it difficult to acquire organically because the switching costs just aren't -- you just don't have as much of an incentive and that's everyone's facing that in the retail energy business. Sounds like you made a conscious decision to pour money into international business, new products and new channels and then, obviously, you've made the decision -- the economic decision to prepay commissions, and that's a significant chunk of growth on the consumer side, which is a big part of your growth strategy, right? So you're kind of taking your lumps now. In particular, Pat, maybe you could -- could you talk about the decision to prepay the economic return versus not prepaying? And could there be an incremental margin of, say, 10%, 15%? How do you think about that return metric by choosing to invest today versus doing so through a different channel where you wouldn't have the same outlay upfront?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [12]
------------------------------
Sure. I'm happy to address that. And I think just to solidify your point on margin pressure, we actually did report higher margins this period on both the Consumer and the Commercial business on an actual trailing 12-month realized basis for RCE. So we reported 2 65 for the Consumer business, up from 2 64, 2 61, 2 52 in prior quarters and $89 for RCE in the Commercial business, up from $82, $80 and $76 in prior quarters this year. So this really is about the sales costs associated with supporting the growth trajectory. Now when we make decisions about how to compensate commissions, we do think about what the market is doing first. So we do need to be as competitive as we possibly can be versus alternatives. For example, if you could make a higher upfront commission selling for one of our competitors, we may lose capable sales channels or support. The other thing that factors into the equation is what you're thinking about, which is the economic returns. So if we are in a position where we're partnering with, let's say, an earlier-stage company who has launched a switching app or a digital presence and working capital support is important to them, then we can potentially design a superior return by negotiating a smaller upfront cash payout on a net present value basis versus a residual model. Normally if we're going through, for example, our new channel, which is a retail big box channel, there will be a small upfront payment to the storefront, but then there will be a residual margin-sharing agreement with our partner that manages the kiosks and the manned, let's say, sales platform within those retail storefronts. So that's a bit of a high grade. And then you get into the Commercial business, which is almost entirely a residual payment business, where cash flow day 1 at the expected margin and there won't be a step-up in margin or free cash flow a year or a few quarters later once we get through that. We do think about this on a net present value basis. It's normally not a 15% difference on a net present value basis. You're in the land of 5% to 10% differences. But we are looking through the short-term. We do not get terribly worried if we're going to have a burden for a few years -- sorry, for a few quarters, because we're looking through the contract for that 2-, 3-, 4-, 5-year contract period for the best shareholder return. And then I think the last comment on this is as we are pursuing growth, if you had stable recurring growth, this only impacts you the first year it starts. Because if you grew, let's just say, net additions 200,000 per year every year for the next 5 years, that first year, you're going to take a $20 million, $30 million burden. But then the following year, you're going to have year 2 of that first 200,000 that's dropping through without any direct sales costs. So the EBITDA impact in year 2, 3, 4 and beyond, once you return to a stable growth rate, is de minimis. We wouldn't see any headwinds on the earnings. It's just the fact that we're transitioning from net attrition to net additions in fiscal '18, where we have this upfront commission burden.
------------------------------
Carter William Driscoll, FBR Capital Markets & Co., Research Division - Analyst [13]
------------------------------
Okay. So that's the commission side. And maybe just kind of elaborating on what Damir just asked, so that's 1 of the 3 buckets. Maybe if not $1 spend, a percentage of your expected incremental OpEx on that first bucket versus the other 2, is it 50% of that incremental spend?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [14]
------------------------------
No, it's not. It's about -- yes, the upfront commission is about 2/3 of the total SG&A OpEx investment. The international markets and the incremental channels are a smaller piece.
------------------------------
Carter William Driscoll, FBR Capital Markets & Co., Research Division - Analyst [15]
------------------------------
Okay. But it is similar in terms of both establishing the decision to go after both the Commercial and the Consumer business abroad is -- there's a component of that same upfront commission, right? Not just building infrastructure, but part of that is having to pay upfront because you see that residual being greater from an [NTV] perspective and the same in the domestic market, is that fair?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [16]
------------------------------
Yes. If you look at commercial, we're generally paying a residual commission. Now sometimes we pay the first year in advance because the market does that. So to be market competitive from a cash flow, you may recognize the cash day 1, but you're going to amortize that first year over the year of sales. So from a P&L perspective, you're not going to experience an EBITDA blip on the Commercial business, which, as a reminder, is a little bit more than half of what we're selling right now. But remember, this is completely tied to gross additions and given Consumer is the place where we see more opportunities to differentiate with value and more profits to be made for customer, that is the focus and the main driver there.
------------------------------
Carter William Driscoll, FBR Capital Markets & Co., Research Division - Analyst [17]
------------------------------
Right. Okay. And then the last portion of the bucket is products designed for the consumer, which, I think, there are a couple of aspects. One is the retail stores and as you talked about, again, there's some upfront portion of that. Could you talk about the reception to the retail store both what you've learned so far and the rollout in fiscal '18? And then as a follow-up to that, if you think about, how to say this, the product, yes, the perks program, right, that's another type of upfront investment. If you could talk about. I know we haven't necessarily gotten to quantification of that but whether it has helped you on the attrition side or the renewable -- on the renewal rates you try to -- if you can quantify, qualify how the perks program has been?
------------------------------
Deborah Merrill, Just Energy Group Inc. - Co-CEO, Co-President and Director [18]
------------------------------
Sure. I'll take that and I'll let Pat jump in. So as -- our retail is more or less on schedule. And we've said publicly that by -- in 18 months, we expect to be in 700 stores and we remain on track for that. We're still about 4 different retailers we're in now and that will continue to grow -- 4 different changed that we'll continue to grow over the next 18 months. So we remain on track for that and we're seeing the results we expected, so nothing has been a big surprise yet, so that's all good. And from the first perspective, this isn't one, I would say, one of our most promising initiatives we've undertaken in the last year. Where we've seen massive improvement in attrition, way higher Net Promoter Scores, longer-term, better conversion and all of these metrics are things that as we started in the Midwest and rolling it out to all of our markets, which will actually be in every single market by the end of this year where we will have that program that will incent customers to stay longer with us. And it's just -- anecdotally, the feedback we get from customers is incredibly positive and continues to kind of thrive or drive our implementation of this program and double-digit percentage growth in percentage improvement in conversions as well as Net Promoter Scores. Right now, we have about 100,000 customers on our perks program and we are committed to driving that over the next several quarters. Our target is to have 1 million on there. And as we look at the improvement, all of that will translate into a (inaudible) a better gross margins, longer customer relationships, as we've seen as evidence so far.
------------------------------
Carter William Driscoll, FBR Capital Markets & Co., Research Division - Analyst [19]
------------------------------
So you're expecting to have greater than 50% of your customer on the perks program by year-end? Is that what...
------------------------------
Deborah Merrill, Just Energy Group Inc. - Co-CEO, Co-President and Director [20]
------------------------------
In the next 12 months, that's our goal.
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [21]
------------------------------
And one of the things -- the reason for this low scaling there is we're looking at repricing our products to capture the value that we're generating through both some LED light bulbs and the perks program, which are the adders to our contracts. So in order to do that, you really have to be looking at new contracts or renewing contracts. You're not just going to roll this out to every customer at the old economics.
------------------------------
Carter William Driscoll, FBR Capital Markets & Co., Research Division - Analyst [22]
------------------------------
Right, right. That makes sense. And then you talked about -- we have looked at the organic opportunities and discussed those. How about inorganic and M&A opportunities? What you're looking at, whether it's books or entire companies? Are you comfortable with the competitive landscape, that there's still some accretive opportunities out there, maybe scale, size or geography, anything you could qualify or quantify there because you haven't really been active in that space as you've been going through the deleveraging process?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [23]
------------------------------
Yes, this is Pat again. So we're looking at 3 areas for inorganic growth. The first one is North American retail. So if you think about books that are probably smaller than us that look similar to us in terms of approach. That's the first bucket that we're looking at and I'll come back to describing that a little bit in just a second. The second bucket we're looking at, our international retailers. So can we, let's say, accelerate our international growth or geographic footprint through inorganic means? That is a challenging one, because we see higher multiples in Europe than we see in North America. Higher multiples in our own multiple. So we'll be disruptive to shareholders if we were to buy a large, mature, profitable company in Europe right now. However, there are opportunities like we did in Germany, where we had an earlier-stage preprofit entity where you're not paying that multiple on a basis of a larger scale transaction. The third bucket we're looking at are strategic accelerants. And that fancy term essentially means anything that can deliver a broader customer experience through product or, let's say, new offerings. So if you think about the Commercial business, can we find CapEx-light ways to further engage with the Commercial accounts and maybe create more value for them. Obviously, if we're looking in this bucket and we see heavy CapEx, then we would not be interested in acquisition. We would be interested in pursuing a partnership model with the CapEx intensive players. The first bucket, though, the North American retail, it's probably where the opportunities are for us. We generally have a multiple advantage over most of the North American market. We are generally buying at larger scale. So there should be cost of goods sold synergy. We're generally making more profit than average retailers and selling a much broader suite of products, so we think there's longer term commercial synergies. But obviously, within this bucket, if you could find a book that didn't have regulatory issues, that didn't have a lot of variable products, that didn't have, let's say, a declining customer base, so we had confidence that there was, let's say, sustainable growth that could be endured. Those are the type of North American retailers that are interesting to us. Now I did not describe the majority of the available books or the majority of the companies that exists. I just described a very, very small subset. So that's what we'll be looking for. We'll be looking for high-quality companies that we could roll into the fold and will not be looking to lever up to do that.
------------------------------
Carter William Driscoll, FBR Capital Markets & Co., Research Division - Analyst [24]
------------------------------
Okay. And maybe just last question before I get back in queue. Can you talk about the regulatory environment, any changes, surprises, any states or territories we should be concerned? Obviously, New York is still an ongoing issue overall. Any comments there?
------------------------------
James W. Lewis, Just Energy Group Inc. - Co-CEO, Co-President and Director [25]
------------------------------
Carter, well, we're seeing some positive conversations in the Western part of the U.S. We've got some early conversations in Arizona, Nevada and California there. So we are happy there that to see those conversations are happening. And like I said, on the flip side, we've got New York. I think we're positive in the sense of they're having conversations, they're having discussions and they're real cooperative in trying to make that market better and we are a part of those discussions as are other industry players out there. But that would be the current landscape. And then I think lastly, I'll talk about the U.K. There are some conversations in the U.K. going on, on price caps there, but we are aware of and we're in discussions there as well.
------------------------------
Operator [26]
------------------------------
Our next question comes from Nelson Ng with RBC Capital Markets.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [27]
------------------------------
So just in terms of geographic expansion, can you give a bit more color on the timing, location and strategy? So you did a small acquisition in Germany in December last year, and I was just wondering whether it's up and running. And then for Ireland, you mentioned that you have a business license. So I was just thinking are you kind of starting from scratch in terms of not having any partners? And then I guess lastly on Japan, just talk about the strategy there.
------------------------------
Deborah Merrill, Just Energy Group Inc. - Co-CEO, Co-President and Director [28]
------------------------------
Sure. So Germany, as we released before, we actually entered the market in December and we are active in the market today. So yes, we're selling customers and kind of building that business from -- it was a very early stage startup so it wasn't -- we still have a little bit of work to do to get our products out there. But one of the things we believe and especially in Germany, there isn't a lot of product differentiation going on there so we have to -- we believe that bringing our product and services and some of the ways that we looked at to bring value to customers like our perks program, our flat bill, all of that will yield better customer switching and higher margin in Germany. So that is groundwork being laid today. We're currently operating in the market, but we're also laying the groundwork for the launch of all of our products that will happen in late Q2, early Q3. In Ireland, we received our license. We are in the testing phase of everything. So we're going through those regulatory testing processes of all our systems and billing systems and all the communications that go back and forth in the market. We expect to be able to launch some time in September this year in Ireland. In Japan, we also -- that one might be a little bit later this year, where that one was a bit more early stage for us, but working hard on getting all of the things in place for us to be able to launch on that, but that will also be an organic play as well.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [29]
------------------------------
So for Ireland, it's purely organic. Is it simply just getting your U.K. platform and expanding that into Ireland?
------------------------------
Deborah Merrill, Just Energy Group Inc. - Co-CEO, Co-President and Director [30]
------------------------------
Yes. So we're leveraging our U.K. capabilities since it's so close. And yes, so we're not -- it's purely organic in the U.K.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [31]
------------------------------
Okay. And then Japan you said is purely organic as well? Or are you kind of looking around for partners?
------------------------------
James W. Lewis, Just Energy Group Inc. - Co-CEO, Co-President and Director [32]
------------------------------
Yes, Japan is organic now. From a partnership perspective, from sales channels, we expect to leverage our retail platform we've been talking about over there as well. But it will be organic with some partnerships as we move forward, but not looking right now to acquire an entity.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [33]
------------------------------
I see. And then for, like, in terms of the expansion, it will mainly impact or will it mainly impact the G&A line item? And so do you see fiscal 2018 G&A have a material increase year-over-year?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [34]
------------------------------
Yes, for -- we see both G&A and selling costs. So if you think about the fixed overheads within building sales offices or channel support, if we're going at it organically from a sales perspective versus partnering with another company, you could see some selling as well. But we're generally thinking a few million dollars per market is budgeted for year 1, so you're probably around $10 million in total.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [35]
------------------------------
Okay, perfect. And then just a few more questions. In Q4, the gross margins declined by about 14%. You mentioned the weakness on the gas side. I was just wondering whether you have, like, a big picture number in terms of whether some of that weakness is due to being a mild winter and what proportion of the decline that contributed to?
------------------------------
James W. Lewis, Just Energy Group Inc. - Co-CEO, Co-President and Director [36]
------------------------------
Yes. I think from the winter sales, we are pretty good there hedgewise. So I think the mild winter didn't have a material impact on us. It's a smaller gas customer base that was part of the issue there in that fourth quarter on the gas side, total margin.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [37]
------------------------------
I see. So it's more about just having a smaller gas base which resulted in a decline in margins?
------------------------------
James W. Lewis, Just Energy Group Inc. - Co-CEO, Co-President and Director [38]
------------------------------
Yes, total margin, yes. Offset some of that higher operating performance there. So on a per unit basis, we had higher margins but with a smaller base.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [39]
------------------------------
Okay. And then, Pat, I have a question for you. In terms of cash taxes, do you have any guidance in terms of where that will be in fiscal '18? I was just wondering whether it will increase again next year or given that EBITDA will be flat to a little lower and also, investing in international growth, will that help reduce taxes in any way?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [40]
------------------------------
Yes. So the short answer on tax is we are a full cash taxpayer right now in Canada and the U.K., and we did see almost an entire year of exhausted net operating losses in those 2 markets. So what you're seeing right now is what we believe will probably happen over the next couple years. As we go into -- well, let me talk about the U.S. first. We still have a net operating loss in the U.S. which we expect to last us another 2 to 3 years. Obviously, if tax reform in the U.S. happens, that may extend beyond that length of time. But we feel like the cash tax payments that we're seeing today would be a good surrogate for '18 and '19, if you want a go 2 years forward. As we invest in new markets, we're obviously creating a loss that will be applied to the future. So in markets like Japan, Germany, Ireland, it may take 2 or 3 years to get to a cumulative profit position where you start thinking about tax. Obviously with the significant presence that we're building in Europe, we'll be able to structure efficiently from a tax perspective how we manage those businesses from a profitability perspective, but it won't impact the '18 or '19.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [41]
------------------------------
Okay. And then just a quick question on legal provisions. I think the notes indicate that there was a $10.6 million of provisions that were either used or reversed during the year. How much of the legal provisions were reversed in the last quarter?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [42]
------------------------------
So first of all, let's talk about what happened there. So the class action suits that we had taken legal provisions for over the prior 2 periods, the surveys and enrollment in this class action suits have been completed and there was a much lower percentage participation than we had expected and accrued for. So upon learning definitively that those participation levels were going to be a fraction of what we planned, we were able to appropriately reverse those accruals. So we did take a significant, let's say, earnings good guy in the year of about $5 million net reduction in legal reserves and accruals.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [43]
------------------------------
Okay, got it. And then just one last question. In terms of solar rooftops, have you -- like, are you still moving forward with that? Or have you ended the initiative after the pilot program?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [44]
------------------------------
Yes. So I've talked about this a little bit in prior periods. And if we're just really honest about Solar, we have taken a different approach for Solar. We're much more bearish on the solar space. The good news with our business model is we're not risking CapEx. So if we see an opportunity and we attempt to address it and then we realize it's not there, there's no big write-off coming or no big sum cost other than the OpEx and the selling cost that we had deployed. Our view on residential rooftop solar is, honestly, the only people that have made money in that business to-date are the banks. And if you look at NRG pulling out, (inaudible) and Sungevity going bankrupt, you have 3 of the top 6 players that have elected to leave or haven't been able to succeed financially. The folks that are into Solar business today that could be white label partners with us are also struggling and we fear with tax reform that whether that tax credit continues to exist, it's going to be a lot less valuable as people need less tax credits with lower tax burdens in the United States. Hopefully border tax doesn't happen, but if border tax happens, you'd obviously have a big, let's say, material stress on the pressure or on the profit pool that their residential rooftop value chain enjoys. So we're looking at it saying, "Wow, if people aren't making money in total today, there's going to be more pressure on profit. We're finding our no CapEx partnership idea harder to do because of those stresses and we are not going to be investing significant OpEx dollars in solar." However, there will be green certification that we continue to bring to customers and as customers inquire about solar, we'll make sure that we can at least generate the leads for their solar experience.
------------------------------
Nelson Ng, RBC Capital Markets, LLC, Research Division - Analyst [45]
------------------------------
Okay, so obviously it's a lot of focus, but it's probably one of the smaller, one of the many products you might offer if consumers ask for it. Is that a fair comment?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [46]
------------------------------
That's right.
------------------------------
Operator [47]
------------------------------
Our next question comes from Sophie Karp with Guggenheim.
------------------------------
Sophie Ksenia Karp, Guggenheim Securities, LLC, Research Division - Senior Analyst [48]
------------------------------
I have a more of an introspective question about long-term plans here. So we get the story that next year, you're going to be investing in growth and some economic value to paying upfront commissions. And -- but is that really a truly onetime thing? Or come 2019, you'll see more growth opportunities and maybe you have to invest in growth again? So what I'm try to get to, what is the level of investment that we should think about as ongoing to sustain the growth rate that you are targeting?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [49]
------------------------------
Yes. And I think, like I said before, this year is the year where gross additions will increase significantly. So there will be a spike in '18 versus '17. It's about $20 million to $30 million by our estimation. And that will be incurred in '18, but it will not have the massive or the larger gross additions from '17 and '16 to offset it and carry the day to the bottom line in '18. So as we grow at a higher level, let's assume in '18, '19 and '20, it's the first year where that upfront earnings hit is taken. As you get into the second and the third quarter, you have the compounding effect of the earlier years' gross margin with no direct commission to cover because it's entirely paid upfront. So as you get into '19 and '20, you're able to drop through a higher rate of profit to the bottom line. So we see that as a 1-year phenomenon as we get back to growth. And if you think about the company's transformation here, we've been taking 100% of our free cash flow to delevering in the past. Now we have $75-plus million per annum to be able to invest in accelerating organic growth and look at inorganic opportunities, and that's why this is happening in '18, because we're pivoting from a delever internal repair to a let's get aggressive about growth.
------------------------------
Sophie Ksenia Karp, Guggenheim Securities, LLC, Research Division - Senior Analyst [50]
------------------------------
Got it. And then as far as the trajectory of the gross margin per RCE, is that something that you see expanding in '18? I think maybe it's a different way of asking the question that's already been asked, but just to clarify.
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [51]
------------------------------
Yes, we hope so. I think you've noticed that the actual realized margin increase is starting to stabilize in the last 3 quarters. So we don't think there's tremendous upside. But as Deb mentioned earlier, perks is not fully penetrated across our customer base. That should be a nice profit uplift, small-profit profit uplift for us. We do have plans to enhance value propositions and hopefully capture some premium pricing. However, market competitiveness is always up a little bit of an unknown issue going to a new year. So we don't see pressure to the downside. We hope to see some opportunity in the upside.
------------------------------
Operator [52]
------------------------------
Our next question comes from Sameer Joshi with Rodman & Renshaw.
------------------------------
Sameer Joshi, [53]
------------------------------
This is Sameer. So most of the questions have been answered, but looking at the long term, as you expand into international markets and the customer or rather margin profiles of each country are likely to be different, are you going to provide some different kind of metrics going forward? Like, instead of RCE, is there some other metric that better represents customers in Ireland versus Japan versus Canada versus U.S.?
------------------------------
Deborah Merrill, Just Energy Group Inc. - Co-CEO, Co-President and Director [54]
------------------------------
Yes, Sameer, we've been talking for several quarters about the RCE metric as we bring in different products becomes a little less, I would say, representative of what is actually going on in our business. So we're definitely going to move maybe towards having RCEs reported as well as something a customer actually -- customer number or products per customer. We're kind of in the process of planning that this year. So -- and I think that based on kind of bringing it down to a more customer base level, that will help us really show what kind of things we're doing with perks, and sprinkler systems and things like that will show up better and tell a more complete story about what we're doing.
------------------------------
Sameer Joshi, [55]
------------------------------
Okay, great. And that's a good segue. You mentioned the sprinkler systems. How is that going? And are there any other smart home initiatives or products that are in the pipeline that you expect to drive growth as well as add margins?
------------------------------
Deborah Merrill, Just Energy Group Inc. - Co-CEO, Co-President and Director [56]
------------------------------
Yes. So we just -- we launched our Skydrop in various markets on a pilot level. So we're thinking about how to package that together and with the real value proposition for customers is. So -- in which channels we want to sell it in. So it will translate into some of our direct sales channels and maybe some of our retail channels. So we're in the process of launching those. And as we look at the smart home, as we view it as -- energy is the biggest part of what a smart and connected home is. So if you think about the thermostat, that connected to your home security system and connected to your phone, it's become interesting for us as we look at a smart home and the things around, I would say, utility, gas, power, water, and how we can pull those together. So we actually have a team in our strategy group that does nothing but look at those things and look for partnerships and products that we can pull forward. So we've got a couple of things in the hopper, but we've rolled out -- we're in the process of really trying to execute upon the products we have so far and getting those going and pulling more in at the same time.
------------------------------
Operator [57]
------------------------------
(Operator Instructions) And our next question comes from Kevin Chiang with CIBC.
------------------------------
Kevin Chiang, CIBC World Markets Inc., Research Division - Analyst [58]
------------------------------
I was wondering maybe looking at the sales and marketing lift you're expecting in fiscal 2018, maybe looking at it in another way. If I look at the total additions you had this year and the amount you spent, it looks like it's about $20 to $29 per RCE of sales and marketing expense. As you pivot towards growth here, I'm wondering are you seeing the intensity per RCE for that line item declining, so you're seeing some level of efficiency? Or is that increasing because of some of the new initiatives you're taking? Just wondering how you see that line item on a per customer basis.?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [59]
------------------------------
Yes. We will definitely go down and go lower. The reason it has been driven up recently is the lower absolute scale of gross adds that we've had for the channels that have been built. So you'll definitely see a movement down on a per RCE basis as we raise the amount of gross additions that we put through the design channels.
------------------------------
Kevin Chiang, CIBC World Markets Inc., Research Division - Analyst [60]
------------------------------
And when I think of some of the initiatives you've spoken about over the longer term here, it seems like a lot of is to create a stickier customer. When you think out longer term and you have lower attrition, higher renewals, how does that -- how do you see that line item playing out? Presumably it should decline because you don't have to incentivize more customers to fight that churn you're seeing today. Or am I wrong in thinking about that?
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [61]
------------------------------
No, I think you're right. We're were thinking about this on a customer, let's say, life cycle basis. And as we see that consumer renewal rate spiking up to 79%, we don't know how much more headroom we have to improve that. That is a very big number. We're very pleased with that. But we definitely think we'll continue to address attrition with things like loyalty, with things like differentiated superior products with more value that allow conservation, if you think about energy efficiency or water conservation. So it really is about attracting a customer, winning over the hearts and minds and keeping them for longer periods of time.
------------------------------
Kevin Chiang, CIBC World Markets Inc., Research Division - Analyst [62]
------------------------------
And just how that rolls into how you think about embedded gross margin, you make some assumptions there on renewal, on attrition, maybe on a product line that was a lot less diverse. Does that metric make sense moving forward? (inaudible)
------------------------------
Patrick McCullough, Just Energy Group Inc. - CFO [63]
------------------------------
It makes a lot less sense. Yes, it makes a lot less sense. The assumptions that are in the embedded margin calculation were really designed for our suppliers who offer us credit. As we think about the subject that we're talking about here, we really do want to understand what is the value of customer contracts on a forward basis. You will see us working with our audit partner on potentially valuing that and maybe even bringing it to the financial statements in the future. But I think the valuation for customer contracts and forward cash flows will look a lot different than the embedded gross margin calculation.
------------------------------
Ubavka Rebecca MacDonald, Just Energy Group Inc. - Co-Founder and Executive Chair [64]
------------------------------
I would just like to add one thing, not just for yourself, but to everyone else. This management team with our (inaudible) CEOs and past has delivered on every single promise they made in the last 3 years. We share a very deep and long discussion about this coming year we're coming into, and with all the growth strategies that are replaced, you might say we are taking a very conservative approach around our EBITDA and our outlook, but that's what we want to do. This management team delivered for the shareholders, delivers the returns and they intend to deliver in the future. We all say, and I always used to laugh, under promise and overdeliver. And I think that we under promise, having a conservative approach to our outlook, but we are very, very bullish on our 2020 plan and everything is wrapped around the 2020 plan particularly this coming year on the execution. And whatever you saw from this management in the last 3 years, you're going to be seeing in the future. And I'm incredibly proud to have them around this business.
------------------------------
Operator [65]
------------------------------
It seems we have no further questions at this time. I will turn the call back over to Deb Merrill for closing remarks.
------------------------------
Deborah Merrill, Just Energy Group Inc. - Co-CEO, Co-President and Director [66]
------------------------------
All right, thank you very much. Well, we appreciate everybody joining us today. I wanted to take a quick second to, again, thank our employees who have really helped us to deliver on a great year this past year and a lot of the employees who have been with us for long time. As we mentioned before, we're celebrating our 20th anniversary this year. It's a huge milestone for us and we wouldn't be here without the dedication and the work, the intelligence, the -- from all of our employees in all the countries we operate in. So I want to make sure we take a few minutes and thank them. And we will look forward to seeing you again in August. Thank you.
------------------------------
Operator [67]
------------------------------
Ladies and gentlemen, this concludes today's meeting. We thank you for participating. You may now disconnect.
------------------------------
Definitions
------------------------------
PRELIMINARY TRANSCRIPT: "Preliminary Transcript" indicates that the
Transcript has been published in near real-time by an experienced
professional transcriber. While the Preliminary Transcript is highly
accurate, it has not been edited to ensure the entire transcription
represents a verbatim report of the call.
EDITED TRANSCRIPT: "Edited Transcript" indicates that a team of professional
editors have listened to the event a second time to confirm that the
content of the call has been transcribed accurately and in full.
------------------------------
Disclaimer
------------------------------
Thomson Reuters reserves the right to make changes to documents, content, or other
information on this web site without obligation to notify any person of
such changes.
In the conference calls upon which Event Transcripts are based, companies
may make projections or other forward-looking statements regarding a variety
of items. Such forward-looking statements are based upon current
expectations and involve risks and uncertainties. Actual results may differ
materially from those stated in any forward-looking statement based on a
number of important factors and risks, which are more specifically
identified in the companies' most recent SEC filings. Although the companies
may indicate and believe that the assumptions underlying the forward-looking
statements are reasonable, any of the assumptions could prove inaccurate or
incorrect and, therefore, there can be no assurance that the results
contemplated in the forward-looking statements will be realized.
THE INFORMATION CONTAINED IN EVENT TRANSCRIPTS IS A TEXTUAL REPRESENTATION
OF THE APPLICABLE COMPANY'S CONFERENCE CALL AND WHILE EFFORTS ARE MADE TO
PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS,
OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE CONFERENCE CALLS.
IN NO WAY DOES THOMSON REUTERS OR THE APPLICABLE COMPANY ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER
DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN
ANY EVENT TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S
CONFERENCE CALL ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE
MAKING ANY INVESTMENT OR OTHER DECISIONS.
------------------------------
Copyright 2017 Thomson Reuters. All Rights Reserved.
------------------------------