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Edited Transcript of CENCOSUD.SN earnings conference call or presentation 30-Aug-19 5:00pm GMT

Q2 2019 Cencosud SA Earnings Call

SANTIAGO Sep 12, 2019 (Thomson StreetEvents) -- Edited Transcript of Cencosud SA earnings conference call or presentation Friday, August 30, 2019 at 5:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Maria Soledad Fernández

Cencosud S.A. - IR Officer

* Matías Videla

Cencosud S.A. - CFO

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Conference Call Participants

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* Antonio Gonzalez Anaya

Crédit Suisse AG, Research Division - Senior Analyst of Latin American Equity Research

* Jamie Nicholson-Leener

Crédit Suisse AG, Research Division - Global Head of Emerging Markets Corporate Credit Research & MD

* Joseph Kogan

Scotiabank Global Banking and Markets, Research Division - Head of Latin American Strategy, Head of EM Strategy, EM Sovereign Strategist & Director

* Nicolas Larrain

JP Morgan Chase & Co, Research Division - Research Analyst

* Pallavi Nagia

HSBC, Research Division - Analyst of Credit Trading Emerging Markets

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Presentation

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Operator [1]

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Good day, and welcome to the Cencosud Second Quarter 2019 Earnings Conference Call. With us today is Marisol Fernández, Investor Relations Officer; Matías Videla, Chief Financial Officer, is also available for the Q&A session. For your information, today's conference is being recorded.

Before we begin, I'd like to inform you that statements made by management involve risks, uncertainties and may relate to future events and any changes in macroeconomics, politics or legislation and other operational results that could affect Cencosud's performance. Cencosud undertakes no obligation to revise or update publicly any forward-looking statements for any reason unless required to do so by law. Please note that no part of this conference call may be recorded in whole or in part without prior authorization from Cencosud.

I would now like to turn the floor over to Marisol Fernández.

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [2]

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Hello, everyone, and thank you for joining us today. With me today is Matías Videla, CFO, who will be available for questions. Now on to a discussion of the business beginning on Slide 3.

The macro environment across the region was once again characterized by challenging macro conditions, particularly in Argentina, with inflation running above 50%, and the currency depreciation, 42% in the quarter. Nevertheless, we continue to make progress, efficiently managing expenses and driving a 95 basis points improvement in EBITDA margin. We have continued promotional environment in the quarter, comping against a strong World Soccer Cup last year and a slower consumer consumption environment. We have been taking actions to address this by focusing on improving our inventory flows and by changing processes in order to be more efficient. In turn, total revenue increased 6.8% year-over-year on a constantly currency basis. This was mainly driven by solid performances in Argentina, Peru and Colombia. On a reported basis, however, which includes Argentine devaluation, revenues was down 1.8%. The key event during the quarter was the successful IPO of Cencosud Shopping Centers. There was a strong demand from local pension funds and international funds. We raised USD 1.1 billion, and we are now in the process of liability management to further reduce debt.

Turning now to our financial performance in the quarter on Slide 4. We delivered a solid quarter with broad-based revenue and profit growth, underlying margins expansion and improving cash flow trends, all on a constantly currency basis. As a reminder, our financial results has been impacted by changes in accounting rules. Commencing in the third quarter '18, we applied IFRS 29 following the categorization of Argentina as a highly inflationary economy. And in the first quarter this year, we adopt IFRS 16 accounting for this. For ease of comparison, we have provided the results under previous accounting standards, then we show the inflation impact, which led to the -- as reported results, although financial results are impacted by the Argentine peso devaluation. This has a temporary impact on our results as inflation generally catches up quickly and offset this. Additionally, our consolidated results are being impacted by slower consumer consumption across the region and FX volatility.

On Slide 5, we have presented the consolidated results for the 6-month period. Results were also impacted by IFRS 29 and 16, as I just mentioned.

Moving on to Slide 6, where we have highlighted some of the key financial events for Cencosud Shopping. Early in the quarter and prior to the IPO, Shopping Centers issued notes in the local market for a total amount of USD 10 million, comprises of a 10-year and 25-years tranches. Profits were used for payment of intercompany debt. We are particularly pleased with the successful IPO of Cencosud Shopping Centers completed just as the quarter end. When they just began trading, it was the largest opening on the Chilean market. Profits are being used for debt repayment as shown on this chart.

Slide #7, omni-channel update. We continue to focus on executing against 3 key areas to accelerate growth on our omni-channel initiative. It's a key growth driver for us. We are bringing national coverage of nonfood categories in Colombia, Click and Collect and ship to store in Peru. We continue to add new features to our supermarket app, such as 1-click payment in the case of Chile. And across all formats, we continue to add more SKUs. We are seeing a positive customer response with a strong growth in e-commerce sales, up 22% in the second quarter in constant currency. E-commerce sales accounted for 4.4% of our total sales in the quarter, up 100 basis points from the same period in the prior year.

Moving on to a discussion of our individual business units, starting with our largest division, Supermarket, on Slide 8. Revenue in constant currency increased nearly 7% year-on-year. This was achieved while facing more difficult comps given the World Soccer Cup last year and higher promotional activity this quarter. We are encouraged with the good performance in online sales across all countries of operations. Adjusted EBITDA in constant currencies was up 21%, benefiting from the adoption of IFRS 16. Excluding IFRS 16, EBITDA margin was flat as improved margins in Brazil and Colombia were offset by higher promotional activity in Argentina, Peru and Chile. Brazil posted a third consecutive quarter of positive EBITDA as we engage on better negotiations with suppliers, reduced promotional sales and see the benefits from our efficiency plan.

Turning to Home Improvement in Slide 9. Revenues rose 18% in constant currency driven by positive same-store sales across this business. Same-store sales in Chile and Colombia continue to grow above inflation. In Argentina, our operations remain impacted by weak economic dynamics. Adjusted EBITDA was up 10% in constant currency, explained by additional cost savings from efficiency plans in Chile and lower energy consumptions in Colombia. This more than offset weaker profitability in Argentina, resulting from lower rebates and higher taxes.

Now moving on to Department Store on Slide 10. Revenues were down nearly 5% year-on-year. Same-store sales declined in the mid-single-digit in Chile due to higher promotional activity as we faced excess industry inventory, which more than offset higher online sales. In Peru, same-store sales were down close to 1% as the year ago quarter benefited from higher electronic sales driven by the Soccer World Cup. Adjusted EBITDA declined 9% driven by higher promotional activity and lower supplier rebates. This was partially offset by lower expenses as we continue to implement efficiency plans and the positive impact from the adoption of IFRS 16.

Please turn to Shopping Centers on Slide 11. Constant currency revenues increased 7% driven by growth in Chile, Argentina and Peru. Chile benefited from higher fixed revenues, while inflation adjustments in a portion of tenants contract drove higher revenues in Argentina. They do continue to deliver a solid performance with the entrance of new tenants, while Colombia saw a low single-digit decline in constant currency revenues due to higher vacancy rates. Adjusted EBITDA in Shopping Centers rose 7% in constant currency, benefiting from IFRS 16 adoption and higher profitability in Chile and Peru. Lower adjusted EBITDA in Argentina reflects the impact of inflation on wages and a lower occupancy rate, given the challenging environment, while Colombia was affected by higher property taxes.

Finally, Financial Service on Slide 12. Revenues declined nearly 1% in constant currency, while loan growth in Argentina and Brazil was down 10% and 7%, respectively, as we take a more cautious approach to growth. By contrast, both Chile and Peru reported loan growth of 18%, although this is not reflected in revenues as the business are not longer consolidated. Adjusted EBITDA was down close to 3% year-on-year in constant currency terms. Profitability in Chile, Argentina and Peru was driven by higher joint venture payments, lower loan growth and their recent joint venture, respectively. This was partially offset by higher profitability in Brazil as we lower risk and in Colombia due to the sale of a written-off portfolio.

Now please turn to Slide 13 for a discussion of our debt structure. Total net debt, however, as shown on this chart, was higher and reflects the adoption of IFRS 16. Excluding this impact, net debt was down 14% year-over-year. Net debt to last 12 months adjusted EBITDA was 3.9x, down from 5x at the end of the first quarter this year. This improvement reflects the funds from the IPO of Cencosud Shopping and the negative effect of IFRS 16. Keep in mind, though, that the year-over-year figures are not comparable since 12 month year-on-year were affected by 2 factors: first, the impact of IFRS 29 starting third quarter '18; and second, the adoption of lease accounting IFRS 16 in first quarter 2019.

On Slide 14, closing commentary. To summarize our second quarter results, our team executed well in key areas of our business, generating operational improvement. In this environment, we are focused on driving profitability growth in countries with opportunities while controlling cost in markets where we are -- experienced headwinds. We are making good progress on our strategic priorities, including debt repayment, efficiency initiatives and omni-channel. Thank you for your time and interest.

I would now like to open the call to questions. Operator, please instruct listener to queue up for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We'll go first to Antonio Gonzalez with Crédit Suisse.

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Antonio Gonzalez Anaya, Crédit Suisse AG, Research Division - Senior Analyst of Latin American Equity Research [2]

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I have 2 very quickly, if I may. First, I wanted to know if it's possible -- I can follow-up later, if needed, but I wanted to ask if you can share with us the decline in EBITDA margin, excluding IFRS 16, when we look at the Chile and the Argentina operations. When I look at the press release, I see that you give this disclosure for Brazil and Peru and for the rest of the markets, but if I'm not mistaken, not on a per forma basis but on a per country basis. I wasn't able to see these numbers for Chile and Argentina. So I wanted to ask if you can share with us the decline on those 2 markets.

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [3]

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Antonio, yes, we are aware that we would -- we are going to provide the information disclosed, excluding the IFRS 16. Obviously, I cannot share only with the people that are in the conference call. So what I'm going to do is to upload that information on the website.

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Antonio Gonzalez Anaya, Crédit Suisse AG, Research Division - Senior Analyst of Latin American Equity Research [4]

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Fantastic. And the second thing, very quickly, I wanted to hear your, I guess, big picture comments on what you are seeing in Argentina at the moment in, I guess, the most recent weeks after the sharp depreciation of the Argentine peso. Is there anything qualitative yet that you can share on how the environment is deteriorating, if it is? And I guess as a consequence of that, obviously, you guys improved your leverage after the IPO of the shopping malls. Do you foresee the net debt-to-EBITDA ratio worsening from here, given the situation in Argentina?

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Matías Videla, Cencosud S.A. - CFO [5]

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Antonio, I would like to answer your question. First of all, I would like to give you some details about what we are doing in Argentina. As you know, we have a 0 financial debt. No financial debt in Argentina. We are working on the inventory days and the working capital situation. We have some pressure from suppliers, especially the food suppliers. So we are working on that. We are reducing inventory days. The third issue that we are doing is to reducing the Financial Services account receivable exposure. As you may imagine, the -- it's a hard time to give credit to people. On the same time, we are putting all the management focus on the positive free cash flow generation. If you see the opportunities in the market, of course, we are suffering the crisis, especially in the supermarket area. But we are getting an opportunity in the Easy sales, in Home Center -- Home Improvement sales because of the -- our import goods proposal. So Argentinian people go to dollar in different way, maybe in property, maybe in U.S. dollar but in goods as well. So we are receiving a lot of new customers in our stores.

The other issue that you should keep in mind, that the government is getting to the people subsidized for construction. That's why we are having a good sales level in the Home Improvement area.

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [6]

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Yes. I would like to add that in the first quarter '19, Cencosud have received $32 million in dividends from Argentina as well. So even though we understand that we have seen a slowdown in consumption because all the measures that we have been taking in terms of efficiency levels in all of the line, we have been able to receive dividends.

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Matías Videla, Cencosud S.A. - CFO [7]

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It's important to say that we are -- from Argentina, the Cencosud is an Argentinian company as well. So we know how to manage the crisis. And in our forecast, we are projecting positive free cash flow for Argentina, even though the crisis, even though the high interest that we are suffering, but we are confident that we can manage that crisis as we did in the past.

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Antonio Gonzalez Anaya, Crédit Suisse AG, Research Division - Senior Analyst of Latin American Equity Research [8]

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No, that's very clear. And I appreciate that this is not the first crisis for you guys in the country. And operationally, you typically adjust very well the local requirements. I just wanted -- if I may, a follow-up. I just wanted to ask more from the -- irrespective of how you are adjusting the operations, there is a natural translation impact, right, obviously, as you move the results from Argentine peso to Chilean pesos. In your conversations with the rating agencies, for example, that's obviously going to impact the reported EBITDA in Chilean peso terms. Do you think the rating agencies already incorporated that in the dialogue? Is that a nonissue from your perspective when you calculate your covenants and so forth? Or you think the translation impact is something that could be relevant when considering your covenants?

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Matías Videla, Cencosud S.A. - CFO [9]

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Antonio, in our projections, we are fully committed with the leverage ratio below 4 in terms of total financial debt, EBITDA. And even though the devaluation in Argentina, we are projecting a lower level by the end of the year. So of course, there is an impact. But you have to keep in mind that Argentina is the lower than 20% of the total EBITDA of Cencosud. So there is a -- I don't know. The market is...

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [10]

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Overreacting.

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Matías Videla, Cencosud S.A. - CFO [11]

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Yes. Overreacting in some way. So you have to keep in mind that even though devaluation, our target is below 4x.

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Operator [12]

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We'll go next to Joe Kogan at Scotiabank.

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Joseph Kogan, Scotiabank Global Banking and Markets, Research Division - Head of Latin American Strategy, Head of EM Strategy, EM Sovereign Strategist & Director [13]

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I wanted to follow up a little on the Argentina question from the previous caller. I was wondering if you could quantify the impact here. I mean I know you can't predict where the currency will go, but perhaps based on your prior experience with crises, you can give a sense of what can happen in the next couple of years to volumes and to margins. I mean to what extent is the Supermarket business and the Home Improvement business a more defensive industry than some others? And how much -- I know EBITDA has already fallen to a lower portion of the total company. So it already has went from, I don't know, 25% to 15%. So I'm wondering, could it fall further? And what does it depend on as far as how the crisis develops?

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [14]

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Joe, this is Marisol. Thank you for your question. Regarding Argentina and how it would impact the company's results, we have been doing our internal rolling forecast, including, obviously, different scenarios or negative difference scenarios in terms of exchange rate. Even though we cannot share those, as Matías just mentioned, we are confident that we are going to be able to have leverage below 4x by year-end with the main objective for Cencosud in terms of financial performance.

When we talk about the business performance now, what we have been doing is taking care of the exposure in Argentina in terms of cash flow. So that means that we have been very strict on inventories for one hand and on the other hand, in terms of the portfolio for the financial retail operation. So both of them, we have been very strict, and we have been going down.

Unfortunately, I cannot share you the different support, the different...

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Matías Videla, Cencosud S.A. - CFO [15]

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Assumptions.

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [16]

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Assumptions. Thank you. The different assumptions regarding what we are foreseeing. But in all of them, the Argentinian results continue to be positive, continue to bring us positive cash flow generation.

And regarding what happened in Argentina, every time Argentina devaluates, increased inflation. And inflation, we are going to be able to pass through at least a portion of it.

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Operator [17]

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(Operator Instructions) We'll go next to Jamie Nicholson at Crédit Suisse.

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Jamie Nicholson-Leener, Crédit Suisse AG, Research Division - Global Head of Emerging Markets Corporate Credit Research & MD [18]

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I'm focused on your bonds side of the business. And I just have 2 quick follow-ups from some of Antonio's questions. First of all, regarding your rating agency dialogue, I see that Moody's still has you on negative outlook, and I'm wondering if there are certain targets or credit metrics that they are focused on you achieving to resolve that or if there's any update that you can give us regarding your most recent dialogue, particularly with them, what you need to do to get off negative outlook. That's my first question.

And then secondly, regarding Argentina, what amount of cash do you have that is in that country, let's say, as of June? I know you paid out some in dividends, but if cash building up in the country, what is your cash balance as of June?

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [19]

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Okay. Jamie, I saw from investor perspective, [16 1]. Regarding your question about the bonds and the rating agencies, they have said that they would like to have us on a leverage ratio, which is the one that includes adjusted debt by lease agreement and EBITDAR, which is the figure that now we are providing according with the new regulation on IFRS, below 4x. By the end of the second quarter, we are getting 3.95x. So we expect, going forward, by the end -- by year-end, to also be below that ratio. I've been saying that the rating agencies probably would provide an update by using the second quarter results. So that is our expectation.

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Jamie Nicholson-Leener, Crédit Suisse AG, Research Division - Global Head of Emerging Markets Corporate Credit Research & MD [20]

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Oh no -- and yes, I was just -- just to follow up on that, when you made comments about expecting leverage to drop even further by year-end, what will be the main sources of that? Is it -- where do you expect your biggest cash generation to come from to further reduce leverage? That's just a follow-up on that. And then, of course, the cash balance in Argentina question.

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Matías Videla, Cencosud S.A. - CFO [21]

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There are so many sources. But if I get to answer your question, I can say to you that we are projecting positive operating cash flow. The better condition of Cencosud Brazil is one source. We are working on the working capital, especially in the inventory days. This is a main source of cash flow. If you see Argentina, we receive -- I'm not saying -- Cencosud Chile received $32 million in dividends in the first quarter and we have an opportunity to do it again. So what I can tell to you is that we have positive free cash flow. And this is a Board decision to send a new annual dividend to Chile. But we are really conservative in Argentina, that's why we are able to send dividends to the holding again.

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Jamie Nicholson-Leener, Crédit Suisse AG, Research Division - Global Head of Emerging Markets Corporate Credit Research & MD [22]

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Okay. So I gather, if you have the opportunity, you'll send up further cash. At least for now, there's no currency restrictions on that cash, and your plan is to get as much cash out and only leave the amount that's needed in the business. Is that kind of a correct characterization?

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Matías Videla, Cencosud S.A. - CFO [23]

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We are going to do the best that we believe, but it is a Board decision and I'm not able to say anything about it -- anything more about it.

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Operator [24]

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(Operator Instructions) We'll go to Pallavi Nagia at HSBC Bank.

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Pallavi Nagia, HSBC, Research Division - Analyst of Credit Trading Emerging Markets [25]

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I have 2 questions, one on the Argentina Financial Services portfolio. You mentioned some of the costs are linked to USD. Could you please provide some color on that? Number two, the inflation pass-through that you mentioned can happen in Argentina. What kind of a time lag is there on that? And additionally, I'd like to have some understanding of what kind of long-term retention policies you have in plan. I understand there were some senior executive turnover last year, which was on the higher side.

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [26]

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Pallavi, regarding the Financial Service operation in Argentina, we have the exposure in Argentine peso. We naturally have been very conservative on the approach. And all the credit lines and the short-term debt, we have reduced the availability in order to protect ourselves in that regard.

When you talk about the long-term incentive, the shareholders' meeting already have approved a program that entails the chairs on that incentive for C-level of the company, Cencosud. And also, a week ago, the Board members -- or the shareholders members have approved the same structure for Cencosud Shopping with our subsidy. So -- and the way that it's going to be implemented, it has been defined by the Board.

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Matías Videla, Cencosud S.A. - CFO [27]

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We are working on that right now. So we are finishing the process. So that's why the C-level is receiving the incentives at this moment. In terms of Argentina or the Financial Services, we are eliminating some products, especially the cash advance, which is so risky. That's why we are eliminating. It's a hard decision but because, on the one hand, we are affecting our sales, but we are -- as I told you, we have a conservative way of managing the business in Argentina.

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Pallavi Nagia, HSBC, Research Division - Analyst of Credit Trading Emerging Markets [28]

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Just if I can follow up. What are those USD-indexed costs exactly for the Financial Services business in Argentina? If you can provide me some clarity.

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [29]

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Sorry. It's choppy so I cannot -- we cannot understood you.

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Pallavi Nagia, HSBC, Research Division - Analyst of Credit Trading Emerging Markets [30]

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Am I audible?

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [31]

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Can you repeat the question, please?

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Pallavi Nagia, HSBC, Research Division - Analyst of Credit Trading Emerging Markets [32]

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Yes, sure. Regarding the Financial Services business in Argentina, I just wanted to have some clarity on what are the USD-indexed costs in that business. In your reports, you've mentioned some of the costs are linked to USD.

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [33]

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We -- I mean we do not index our Financial Service Argentina to USD. We -- what we do is the translation into USD to clarify or to Chilean peso, but we don't follow any index in terms of USD approach.

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Pallavi Nagia, HSBC, Research Division - Analyst of Credit Trading Emerging Markets [34]

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Okay. Okay. No problem. And another question I had was, previously on the call, you mentioned in Argentina, food services and the Supermarket segment, you could -- the inflation can be passed through at least to some extent. Is there any time lags that you face here to pass through the inflation?

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Matías Videla, Cencosud S.A. - CFO [35]

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We are doing as quick as we can. But you have to just keep in mind that the people needs to get affordable prices. So there is a...

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Pallavi Nagia, HSBC, Research Division - Analyst of Credit Trading Emerging Markets [36]

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(inaudible)

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Matías Videla, Cencosud S.A. - CFO [37]

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Yes, it's -- you have to be -- I don't know how to say in English, but it's just...

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [38]

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Cautious of how to increase price.

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Matías Videla, Cencosud S.A. - CFO [39]

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Don't forget that we are not serving figures. Our customers have a history in our store. So everybody is suffering the crisis. So that's why we have to keep in mind that we can -- we must offer to our customer an affordable prices. So it's hard to say how much time we will pass the 100% of the inflation even though the devaluation as well. But we are going to do as fast as we can.

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Operator [40]

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We'll move next to Nicolas Larrain at JPMorgan.

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Nicolas Larrain, JP Morgan Chase & Co, Research Division - Research Analyst [41]

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I wanted to touch a bit on Chile. So when we look at Supermarkets, we saw flat same-store sales. Could you maybe elaborate a bit on what has been the terms of the food products? Because we know that the nonfood is suffering quite a bit here in Chile still. And also in the Department Stores, if you could comment how have you seen inventory trends in the industry evolving over the past quarters. And how should we expect trends in the nonfood and in the food and supermarkets as well to perform during third quarter, fourth quarter?

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [42]

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Nicolas, yes, regarding the food/nonfood split, food categories has been positive. Remember that when we see the average pricing, it has been dropping and dropping because of the promotional activity on electronics and textile and decor, which are the categories that compete with the Department Stores area. When we isolate that, the pricing has been following inflation. And what we have seen at leading department stores going forward -- or so far, is that continues to be negative on the electronics front, the phase, but textile has started to see positive sales, positive same-store sales. So what we said is because a reduction of probably a lower promotion activity in that particular area, supermarkets in Chile should be getting in traction, which is something that we already have seen at least in August.

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Operator [43]

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And that will conclude the Q&A session. I'll now turn the conference back to Marisol for any additional or closing remarks.

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Maria Soledad Fernández, Cencosud S.A. - IR Officer [44]

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As usual, thank you so much for the interest to be -- and to a call of the company. If you need something else, please just call or contact the IR team. Thank you so much. Bye.

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Operator [45]

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Thank you. Ladies and gentlemen, this will conclude today's teleconference. We thank you for your participation. You may disconnect your phone lines at this time, and have a great day.