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Edited Transcript of NTG.L earnings conference call or presentation 28-Jun-16 8:30am GMT

Full Year 2016 Northgate PLC Earnings Presentation

London Oct 31, 2019 (Thomson StreetEvents) -- Edited Transcript of Northgate PLC earnings conference call or presentation Tuesday, June 28, 2016 at 8:30:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Andrew Page;Chairman

* Fernando Ubeda;General Manager, Spain

* Patrick Gallagher;Chief Financial Officer

* Robert Contreras;Chief Executive Officer

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Conference Call Participants

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* Andrew Nussey

Peel Hunt LLP, Research Division - Analyst

* Chris McVey;Citigroup Inc., Research Division;Analyst

* Joseph Spooner;Jefferies LLC, Research Division;Equity Analyst

* Julian Charles Cater

Numis Securities Limited, Research Division - Analyst

* Michael Allen

Zeus Capital Limited, Research Division - Head of Research

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Presentation

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Andrew Page;Chairman, [1]

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Well, good morning, everybody, and welcome, particular welcome to those of you that are listening to this on the webcast. If I can make some introductions, I'm Andrew Page. I'm Northgate's Chairman. I took on that role 9 months ago at last year's AGM. On my left is Bob Contreras, our Chief Executive Officer; next to Bob is Paddy Gallagher, our Chief Financial Officer; and on the far end, last but certainly by no means least, is Fernando Cogollos, who is the Managing Director of our Spanish business.

The format this morning, I'm going to do a very quick introduction. Paddy will then come up and take us through the financials. Bob will talk about the business, the vision, the strategy and indeed, the outlook. And then we'll open it to Q&A. And of course, we will do our best to answer all of your questions.

So just by way of an introductory comment on the performance for year-end April '16. Overall, an in-line performance, in line with our expectations and also those of the market. Adjusting for some accounting quirks around depreciation and the impact of foreign exchange rates, a modest improvement in underlying profit up just over 4%, GBP 3.3 million increase. Very strong conversion of profits into cash, extremely good cash generation. And most of you will already be aware that last year we refinanced, so we have a balance sheet that is in particularly good shape with very sensible levels of leverage.

Our dividend is increasing. We are proposing a full year dividend of 16p per share. That's a 10% increase on last year's 14.5p. And that should be seen very much as a sign or a symbol of our confidence in the ongoing ability of Northgate to continue to generate strong cash flow. Bob and Paddy are going to give a lot more color on that. But in a nutshell, last year, great performance from Spain, very strong, good levels of VOH, extremely good composition of customer mix. There's a lot that's been going on behind the scenes there. Very good levels of utilization, big profit improvement and a very strong performance in return on capital. U.K., more challenged. You'll hear a little bit more about that, but we're on it. There's lots of opportunity, and there's a lot we're going to do to get that moving back in the right direction.

When we spoke a few months ago, I talked about Northgate being a business capable of generating sustainable, long-term growing cash flow. And we said we would do that through a very rigorous discipline over the deployment of capital and a very strong, relentless focus day-to-day on execution. And we talked about how our thinking was evolving in terms of exploring the size of the addressable market. We talked about building the quality of our business, not quantity. It's not just a matter of how many vehicles on hire; it's the composition of our customer base and the profitability and returns from that base. We talked a bit about the brand and how we need to build awareness, and we also talked about day-to-day execution and how we need to do things better. But most importantly is our people, and a huge amount of work has been going on particularly in that area over the last few months. Bob has done a terrific job. We have assembled a brand-new senior U.K. team, new U.K. Managing Director, new sales director, new marketing director, a new operations director and some very important changes in the senior positions.

I should also mention, I'm not going to completely spare his blushes, but we are delighted that Paddy joined us back in February. He's already brought to bear his vast range of experience across a whole host of different sectors, his clarity of thought and some very sensible, logical contributions in terms of the Board.

There is much more clarity now around Northgate. There is much more sense of purpose. We have a vision. We recognize there's a great deal to do, but the opportunity is there to be taken.

So with that, I'm going to hand over to Paddy to talk about the financials.

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Patrick Gallagher;Chief Financial Officer, [2]

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Thanks, Andrew. Good morning, everyone. Although overall results were in line with expectations, FY '16 was very much a mixed bag with a great performance in Spain offset by weakness in the U.K.

Operating profit, though down year-on-year, was ahead of last year at constant currency if the impacts of changes to our depreciation rates are excluded.

Overall group disposal profits held up well, supported by strong residual markets, though there were some differences in the residual market trends between the U.K. and Spain. Reported profit before tax was also down but increased during the year, again, if we exclude the depreciation and currency effects. It was helped by lower interest charges as a result of lower average debt and lower interest margins following the refinancing.

A full year dividend of 16p is proposed in line with both our progressive policy of dividend and our policy of dividend cover in the range of between 2.5x and 3.75x earnings. Cash generation has been excellent, and net debt significantly reduced despite a GBP 16 million adverse impact of exchange rates.

Our effective tax rate for the year was 21%, and I expect this to fall slightly in FY '17. As you all know, there have been a number of changes to depreciation rates over the last few years. This slide seeks to quantify the impacts. The impact in FY '16 has been a year-on-year adverse effects of GBP 3.7 million with the U.K. impact of GBP 5.9 million relating mostly to a change made in 2014, which is partly offset by a change made in Spain at the start of the fiscal year, which resulted in a GBP 2.2 million benefit. Going forward into '17, there remains a year-on-year headwind of approximately GBP 5.7 million. However, it is our intention not to make any further changes to depreciation rates, as we now look at them over the economic cycle rather than over relatively short periods of time. This judgment has been agreed by our auditors, and I look forward in the future of to not talking about it.

This has been another good year of cash generation, largely due to tight control of spend on new vehicles and some working capital benefits due in large part to an excellent credit and collections performance in both major countries. Free cash flow at GBP 63 million reflects the underlying strength of our business and of our business model. In terms of modeling going forward, I would expect working capital movements at existing levels of business to be broadly flat as we have exhausted most of the working capital efficiencies. Leverage at 1.3x net debt-to-EBITDA is at the lower end of where we would like it to be driven largely by soft demand in the U.K. and high utilization in Spain, leading to year-on-year net CapEx reduction of GBP 63 million. At the moment, we have significant headroom over our covenants and headroom in our facilities of approximately GBP 220 million. But going forward, we expect leverage to increase as the business grows.

As previously stated, CapEx spend on vehicles has been lower due to excellent utilization in Spain and a significant focus on maintaining utilization in the U.K. despite a weaker demand environment. The average age of vehicles in Spain is now 23.3 months compared with the U.K. age of 20.9 months. Going forward, it is our intention to age the U.K. fleet marginally in order to optimize our disposal profits and to slightly reduce the age of the Spanish fleet. In terms of utilization, we are looking at marginal improvements in Spain but significant improvements in the U.K. We would expect the U.K. to improve by at least 1 percentage point in the current year, which will dampen the need to buy new vehicles.

Purchase cost per vehicle were relatively flat year-on-year though these are set to rise in the next year due to the introduction of Euro 6 models from September onwards. Euro 6 is likely to cost around 5% more for each vehicle.

As previously mentioned, the U.K. had a weak year overall but even more so post Christmas when hire activity was lower than usual due to sluggish construction activity. This sector accounts for approximately 30% of our business in the U.K. The weakness in hire revenue was partially offset by operational efficiencies, which were secured in our depots in October as a result of the exit from the retail business. This significantly reduced the number of transactions the depots were required to handle.

Of the GBP 11 million year-on-year decline, approximately GBP 6 million reflects the depreciation rate change, GBP 1 million due to a bad debt write-off as a major customer in the renewables sector went into administration. The remaining GBP 4 million was due to underlying weakness in the business. The main issue in the U.K. has been demand generation and sales conversion, which was flagged at the interims. As a result, a new senior team, as Andrew mentioned, has been put into place. And I'd like to remind people that improvements in a rental business take time to come through. The closing on hire position of 47,000 vehicles is somewhat weak in the prior year. This sales issue affects both new sites as well as more mature sites so we have, for the time being, paused our expansion program.

Vehicle disposals were up in the prior year at 20,000 units, but profit per disposal was down approximately 1/3 to just over GBP 1,000 a unit. Of this drop, over half was due to the depreciation rate changes. Disposals via Van Monster improved slightly to 33% of total unit sales, and we opened 5 new Van Monster sites. Net Promoter Score grew to 48%, and our objective is to grow this further to in excess of 50%.

In contrast, our Spanish business had an excellent year albeit helped by a 2.2 million benefit from changes to depreciation rates. Utilization remains high at 91%, and rental margins were strong. Direct costs reduced from 72% to 69% of hire revenues. This demonstrates the cost scalability of our national network. The weekly hire rates also improved, reflecting a slightly heavier vehicle mix, the customer mix to SMEs from nationals and the efforts of the teams in becoming firmer on invoicing for excess mileage.

Like the U.K., Spain was a little slower post Christmas with many government projects postponed as the country could not form a coalition government. As some of you may be aware, there was an election on Sunday in Spain, and the results look more promising for the formation of a stable government. So we hope for this logjam to be resolved in the next couple of months or so.

For the year, underlying flexible rental vehicles on hire improved over 7%, but total vehicles on hire was broadly flat as some larger, less profitable contracts were allowed to expire. Disposals were very strong as demand for good quality used vehicles remains high. Van Monster sales unit mix improved to 17%, and the profit per unit improved 35%. Net Promoter Score at 37% has improved during the year and is targeted for further improvement this year.

Before handing over, I want to mention that from now on, we will be disclosing Ireland separately. The Irish CEO now reports directly in to Bob and is a member of our European team. Although much smaller in scale and opportunity than the U.K. and Spain, Ireland is extremely well-run and is growing fast. It has grown vehicles on hire at a 35% compound annual growth rates over the last 3 years. This, together with its smaller scale, makes it the ideal place to pilot new products, initiatives and technologies. Sometimes, new technologies are best suited to be either on the entire fleet or none of the fleet. And it's difficult to form reliable conclusions as to the business benefit with only a partial pilot. In Ireland, we'll be able to try -- trial innovations across the entire fleet. Clearly, the teams in other countries will import and help these pilots, but they will not have the day-to-day running of their own businesses disturbed.

Thanks. I'll now hand over to Bob.

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Robert Contreras;Chief Executive Officer, [3]

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Good morning. Paddy has covered trading over the past year, and what I want to cover now is our medium-term strategy, which we will be focusing on. And as you can see, it has 3 key elements: firstly, optimizing our core business; secondly, increasing our addressable markets; and thirdly, developing further the Van Monster business.

So dealing with the first of these, optimizing our core business. Now in the U.K., one of the key impacts of our new sales and marketing directors is looking afresh at the 3 key elements of sales and marketing: what do we sell, who do we sell it to and how do we sell. Now in terms of what we sell, it's ensuring our customer proposition is clarified, consistently communicated and fully trained in across the sales team, which is what's happening now. For example, focusing on the hard benefits of using Northgate compared to the traditional ways of obtaining a vehicle, i.e., purchase and contract hire, and bridging through our materials the perceived gap between our headline price and these alternatives to make Northgate a compelling choice.

As Andrew said, our marketing approach will also focus on increasing our brand recognition. And in terms of who we sell to will evolve to -- towards those sectors with the highest need for our solution based on detailed market research that has been undertaken. Now dealing with how we sell, and particularly, this is one of the elements brought in by the new team, in the U.K., from July, we're changing our channels to market to improve effectiveness. So splitting our target customer market into 3 straightforward segments.

Firstly, SMEs. SMEs less than 5 vehicles, what we call internally the micro SME. Now up to now, we've used our regional field sales force to go to this market. But going forward, it will be the responsibility entirely of telesales. And we'll be expanding the existing, very successful telesales team to deal with this. And that's initially a telesales staff of 14. And we're confident not only will this be more efficient, but it will grow our business even further in this area.

Secondly, as you can see, larger SMEs and regional businesses. Historically, our field sales teams have spent too much of their time on the micro SMEs rather than pursuing these larger opportunities. Now the field sales team of over 100 will focus entirely on this area without being distracted by the smaller customer. They're also being supported by revamped marketing collateral and improved demand generation through the marketing that we've already commenced. And they will be selling a clearer, more compelling proposition.

Finally, but not least, large national opportunities. Now we're still convinced this is a profitable area for us. However, we must recognize they have more bespoke requirements, and we're needing to address that with a far more consultative senior sales force who can tailor a solution to the -- to their business needs rather than just simply selling rental. Secondly, we need to deliver an end-to-end solution. We need to have a wider product offering, and I'll cover that further when we talk about our strategy.

There is an opportunity across all our territories to further improve our operational delivery for our customers. Now as Paddy mentioned, we've got strong NPS scores from customers who value greatly our service, but there are still opportunities to improve asset turnaround cycles in our workshops to make more vehicles available for customers faster with a consequent improvement in utilization, which Paddy talked about, and profitability. Additionally, across our business, we are working on upgrading our digital capability to make it easier for customers to do business with us, and that's going to cover making a vehicle booking, providing more information to customers via the customer portal, which is already in operation, and improving our websites.

Now a key element of our strategy is the opportunity, as Andrew mentioned, to expand our addressable markets. Now as a reminder, as you can see from the chart, in all our markets, 90% of the light commercial vehicle park, and that's over 7 million vehicles, is currently purchased, broadly 5% contract hire, 5% rental. Now broadly, that's remained stable over the last few years. And let's remind ourselves in the flexible market, rental market, we have more than 70% market share in both Spain and Ireland and 25% share in the U.K.

Now we believe we have the opportunity not only to grow our market share of the rental market but also to challenge the purchase and contract hire models and in so doing, redefine the market. Now there are some key drivers which we believe will underpin this. There's certainly a trend to more outsourcing due to the increasing complexity, safety regulations and environmental challenges of running a light commercial vehicle fleet.

Increasing demand for a pay-for-use model. We've seen how PCPs have transformed the U.K. car market, which is essentially a rental product. So that will drive the move from ownership to rental. But just to remind you, against contract hire, we also have some significant advantages. Most contract hire companies are owned by banks and outsource the service provision wrapped around the vehicle to third parties. Northgate has its own infrastructure. It provides a superior service, a fast turnaround to keep the customer on the road, allowing them to focus on their business compared to a third-party network who don't always see this referred customer as their first priority and, therefore, do not prioritize the repair. And as I said earlier, our NPS scores underpin consistently the quality of our service. We can, of course, offer a variety of rental times: fully flexible, 12 months, 18 months, 36 months. The contract hire model is a bit more restricted, and they struggle with vehicle returns under 24 months.

Now as we explore this area, there are some concerns that we believe we've overcome. Firstly, will it reduce our returns? Well, no. As in fact, the extended rental period, firstly, increases our utilization, reduces our cost to serve as we reduce the multiple on and off hires when you have business average 4 to 6 months. Also compared to a contract hire company, we have more opportunities to extract value. Almost certainly, we get better purchase discounts. We certainly have a lower cost of in-house maintenance versus third-party networks. And we also have Van Monster in order to achieve higher disposal values.

The second question we asked ourselves is will it cannibalize our business. Now certainly, it will expand our customer base and allow us to meet more of their needs because the larger fleet has a mixture of fixed-term vehicles and rental to cover the peaks. That's how they use rental. So we will be their one-stop shop. Now if there is some cannibalization, and inevitably there's likely to be some, we can be assured it won't result in lower returns, as I've just said. Any fixed-term solution for us is as profitable as our existing rental business, flexible rental business. So what are we going to be doing? Well, we're piloting this extended offering across our territories over the next 6 months or so, starting in Spain, targeting the SME market. And all of that is to learn more at this stage. And if it proves to be successful, as Andrew said, we have an opportunity to double our addressable market if you just look at the contract hire market alone, which provides a significant, exciting opportunity for us.

Now dealing with the product range itself. It is fair to say that the vehicle Northgate has provided to date has mostly been a plain white vanilla van. And we're expanding -- we're examining expanding the vehicle range. And I've named but a few just as examples: refrigerated vehicles, electric vehicles, additional utility vehicles to support infrastructure build. Now in all of these areas, we made some purchases of these vehicles, ensuring that it can be serviced through our existing infrastructure. And we're also convinced it adds to the wide range of solutions we offer to customers and will allow us to expand with some of them into new segments. Now as we develop more in this area from that low base, we're able to size the opportunity from this specialism and its profitability to ensure it provides good returns before we then take the step of expanding further.

Our geographical coverage. Let's start with the U.K. The U.K., we completed the branch network expansion to support London. As Paddy has said, we placed the expansion on hold while we delivered the improvements in our sales and marketing in U.K. However, over the medium term, there still remains 10 to 12 depot gaps across the country. In provincial towns where we today do not operate, the Peterboroughs, the Swindons of this world, where we believe site availability is better than London and therefore, when we are right and ready, we can quickly restart that program.

In Spain, in the last financial year, we opened a site in Vigo on the Portuguese border in November, which is going well. And we also have a potential for 2 to 3 further sites: Cordova, the Basque area, Catalonia, all in the medium term, where we think we can increase our geographical coverage, and therefore, our business.

Paddy mentioned that Ireland had grown over the past 3 years by 35%, but it's grown from its base in Dublin through site openings in Cork, Limerick and South Dublin. And we know there's an opportunity based on that successful model for 3 to 4 more sites to give us truly national coverage and support this growth.

Coming on to Van Monster. As you are very well aware, Van Monster is a key part of our model which we use to maximize the end-of-life proceeds. And it has, as you've seen, a significant impact on our overall returns. And just to remind you, Van Monster is, a, the #1 in the U.K. light commercial used vehicle retailer, operates from over 20 retail sites. And we're growing our presence in Spain, where we have 9 sites, and even in Ireland, where we now have 2 sites. In the U.K. in this last financial year, the number of retail units sold through Van Monster increased by 24% to almost 6,500. 45% of our customers are repeat customers in the U.K., which points to the quality of the brand of Van Monster and the investment we've made in our website is certainly increasing footfall and contributing to the sales increase.

Now on that base, there are opportunities to develop the business further. We believe we've got a potential for retail penetration in the U.K. of between 45% and 50% in the next 2 years. And just to remind you, in the last quarter of the financial year, our retail penetration in the U.K. was just below 40%. So we do believe that's attainable. We're increasing the upselling of ancillary services to enhance our margin. We already sell finance products alongside the Van Monster disposals, but we want to extend warranty and service packages to our customers as an income stream.

And finally, at the smaller end, we're trialing initially the sale of some third-party-sourced vehicles through Van Monster. So we'll probably buy about 1,000 vehicles to sell-through that channel to see what we can develop.

Now all of the above is being worked on not only to increase Van Monster's contribution to our results but also to mitigate any residual headwinds as the supply of used vehicles increase over the coming years. That was the assumption.

And finally, as we consider the outlook, I have to say that the caveats are -- the comments are somewhat caveated by the uncertainty arising from the decision to leave the EU, and we'd clearly be monitoring the reaction of our customers, et cetera, over the coming weeks and months. However, we have confidence in the changes that we've taken to strengthen the management team in the U.K. and the range of initiatives that have been put in place that will benefit the business over the medium term. And we make the point in our announcement that we expect the current financial year to be more heavily weighted towards strength in the second half. I'd also have to mention at this point that Spain and Ireland have very established experienced teams who are more than capable of executing their strategy.

And as Paddy said, we started the financial year with a lower level of vehicles on hire than expected. However, since the start of the new financial year, conditions have been stable over the past months, and we expect to grow on rent across our businesses steadily over this new financial year.

Now I am going to pass over to questions. And for the benefit of those online, if those asking the questions could, a, give your name, your company before asking a question. Thank you.

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Questions and Answers

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Julian Charles Cater, Numis Securities Limited, Research Division - Analyst [1]

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It's Julian Cater from Numis. I've got 2 questions, please. The first relates to the U.K. business. You've obviously made some pretty significant changes over the last 6 to 12 months. And I wonder whether you could perhaps sort of signpost for us the source of improvements and the timing of that, that you hope to realize from that. What do you hope will be evident by the interims that this -- in FY '17, please?

My second question is if you look at most service businesses, there's typically a strong correlation between NPS scores and the profitability. If you look at your 2 main businesses, you see the reverse. And I'm just intrigued as to why, given the success of the Spanish business, the NPS score is much lower than the U.K. score.

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Andrew Page;Chairman, [2]

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Thank you, Julian. Bob, would you like to handle those?

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Robert Contreras;Chief Executive Officer, [3]

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Yes. No problem at all. Dealing with the first of your questions, what impact of the team and what do we see. I mentioned in my presentation the new sales and marketing directors who have come in and are focused on the basics of, as I said, what is it we're selling, who are we selling it to and how we're selling it to -- and how we're selling it. And I believe the changes they make in terms of that clarity, we would hope to see and anticipate seeing some momentum in terms of on rent in the second half of this year. So that would be the first signal that it is going to plan.

Secondly, Paddy mentioned improvement in utilization. I made the point in mind about operational improvements. So again, by that period of time as we come out in the summer, we'd expect some tightening of utilization, which will be a signpost to the operational changes being executed. And that's the final point, the overall impact that we plan to see through the changes is better execution of the strategy. Andrew made the point earlier, it is about execution. We've seen that when you have a strong team, both in Spain and in Ireland, and a clear strategy, they execute against that. It's going to take a while to bed down. I mean they have been in the business now for 4 or 5 months. But certainly, within the second half, we'd expect those sort of pointers to show we're on the right track.

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Andrew Page;Chairman, [4]

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And the question on NPS.

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Robert Contreras;Chief Executive Officer, [5]

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NPS. In terms of NPS, yes, it's -- all I can say in Spain is an improving trend from where we came from. You can -- the methodologies are broadly similar in both. You can make your own judgments about the outlook of different cultures and how they value your service. But all I can point to in Spain is a gradual increase. We've gone -- the last 2 surveys, from memory, have gone 36%, 37%, planned to be over 40%, et cetera. I know when I speak to Fernando, there's an element of cultural, people being used to ask -- they'd asked these questions. And all I can point to is just the continual improving trend from where we started. Yes. The U.K. has averaged 50% across the last 3 or 4 years. We didn't -- 3 or 4 surveys, we didn't start in that position.

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Andrew Page;Chairman, [6]

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Fernando, would you like just to add some color on Spain?

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Fernando Ubeda;General Manager, Spain, [7]

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Yes. Just as a reminder then, as Bob said, we came from a situation where the quality of the team was very low not very long ago, just 5 years ago. So the consideration of our service was really very uncertain. Our NPS measurement, we didn't know that measure 5 years ago, but we can state that was around 0, to be clear on that. So we are now placing the company in the situation where we are because in terms of our market awareness, for example, we are the second recognized company in the rental sector in Spain, above companies like Arval, ALD and LeasePlan. We are second after Caixa because Caixa is a van -- as you know, the awareness of that brand is because Caixa is very popular obviously not because of the rental business but because of the banking business.

But just after Caixa, Northgate today is the best-recognized brand in the market. And NPS is -- I mean it's very important. We don't say it's an absolute mission. So the progress we are experiencing is very promising. As Bob said, that we are now around 37 last measure. It's fine. Yes, there are some cultural things around that. Spanish people are not very used to measure and will consider this type of measurement in the quality. But as time goes by, I think that we are really very, very promising, and we expect to be above 40. That's the trend we want to experience.

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Andrew Page;Chairman, [8]

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Thanks very much. Yes. From the back.

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Joseph Spooner;Jefferies LLC, Research Division;Equity Analyst, [9]

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Joe Spooner from Jefferies. Just a few questions. Firstly, on the new sites. I think when you look at the breakdown, it looks like there was only 200 additional vehicles on hire out of the new sites in the second half of last year. Does that change the way you're thinking about how those new locations mature in terms of timescales and other factors you've spoken about in the past? Additionally, I think you talked about the higher cost of Euro 6. I mean how do you absorb that? Is that something you have to just pass on through the rental rates that you present to the market?

And then finally, when you change the approach of the sales teams and the moving to telesales, how much have you tested that with customers to test their response to those changes?

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Andrew Page;Chairman, [10]

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Bob?

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Robert Contreras;Chief Executive Officer, [11]

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Yes. New sites. I think when we look at new sites, we've always said maturity, we expect to be 600 vehicles after 3, 3.5 years. Undoubtedly, when we look at the new sites' progress in the U.K., yes, we have a site that's up there, and we have some that are on the trend to do there, but we have quite a few that are not progressing at that trend. We can't disaggregate the problems we've had with sales and marketing. It's not specific to new sites. In most cases, it's across the business, which is why we've said let's not distract ourselves by completing the branch rollout. Let's make sure the whole of the business is firing in the right direction. And therefore, that will undoubtedly have a benefit on those sites. There will probably be 1 or 2 sites because there we go -- we entered into those on 5-year leases with relatively small amounts of investment that if we don't believe, even when we are performing better, and we're going to take that judgment, I would say, in about a year's time before we see any new site openings, that we've got it wrong because it's -- a particular site is located, then the costs of exit are quite small for us because we're not tied into long leases. And we did it on that basis. But we do -- there are possibly 1 or 2 that will fall into that boundary.

The second point you made, which is about Euro 6, is an interesting one. Yes, Paddy identified that we see approximately GBP 500 per unit increase in the costs up -- inevitably, we will look to pass that on along with the rest of the marketplace in terms of headline price, but we're going to have to absorb some of that through improved efficiencies. We are on to Euro 6. We've had Euro 2, 3, 4, 5, 6. These new models always cause some disruption because you don't change overnight with the fleet. You basically have to blend it with your existing fleet, and you can't charge a customer a different price for essentially a Euro 5 or a Euro 6 because the customer will then possibly choose the Euro 5. Euro 6 has very limited operating benefits for the customer.

It's the first change in my time at Northgate where we've gone to a new vehicle. And actually, it's made very little difference in terms of the operation for the customer. But it's something that affects all our territories. We're slightly ahead in Spain in terms of Euro 6 cars was introduced earlier, so we'll look to pass on where we can and then look for efficiencies where we can't.

Third one, which was telesales. Yes, that's a really interesting point. If we just decided and started, oh, we're going to go to telesales, and we haven't tried telesales, then I think that would have quite a lot of risk to it. Why I feel comforted is for the last few years, we've had a telesales team within the U.K. So we've been selling to these SME customers, but it's been a small telesales team. Those individuals in that telesales team have the highest sales of any of our network. So we are -- we know the model works well. We also know that the SME typically, at that micro level, is hiring for 4 to 6 months. So it's more transactional. So they're happy to deal with over the phone as opposed to going to a fleet who's got 10 or 20, where we've got to have a little bit more of a consultant to sell.

So we are fairly confident that this is the right split of our business, but the most important part is that releases the sales force to not be distracted by chasing the one-man bands to go to those companies, the 10s, the 20s, the 30 vehicles potential, which has an equally good return for us. And to some extent, if you look back over the last 2 years, we've grown in that micro SME. And even within the last financial year, we've gone backwards in that middle because we've now acquired enough new customers.

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Andrew Page;Chairman, [12]

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Andrew, gentleman with the red tie.

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Andrew Nussey, Peel Hunt LLP, Research Division - Analyst [13]

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Andrew Nussey from Peel Hunt. A couple of questions. First of all, just wondering if there's been any sort of change to your return on capital aspirations or medium-term aspirations. And equally, if we do start to see a bit of a mix shift towards longer rentals or targeting that sort of contract hire space, should that have an influence on returns on capital?

And secondly, in Van Monster, in terms of selling service packages and warranties, is that something that you're delivering yourself? Are you looking to use sort of workshop capability, et cetera?

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Andrew Page;Chairman, [14]

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Paddy, would you like to handle the ROI point first?

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Patrick Gallagher;Chief Financial Officer, [15]

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Yes. There's been no fundamental shift to ROI aspirations with more fixed-term contracts, although the profile of the ROI is a little bit more back-end-loaded. We will expect to generate slightly better profit on sale, and there'll be some excess mileage charges, which are retrospective. But it's not significant in the realm. So no, we're still geared up to ROI. Our fixed cost base is hugely scalable in terms of the depot fixed cost, the sales, marketing, finance, admin, et cetera. So the real focus and the real key metric is the vehicles on hire under -- and to an extended rate. And that in itself, if we get growth in that, will pull up the ROI because of the scalability of the fixed cost as we've seen through the performance in Spain. So the shift to longer rentals, we think it will be absolutely neutral. On Van Monster...

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Robert Contreras;Chief Executive Officer, [16]

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Yes. I'll pick that up, Andrew. Today, in the U.K., we offer, from July, 6 months extended warranty just as part of the sale. So it's 6,000 miles or 6 months. We are, through a third-party, providing extended warranty cover beyond that for which we're selling a third-party product. We've always sold third-party finance through the business, and we have an attachment rate of about 20% in the U.K., where we sell, and we are currently trending towards 25%. So we're pushing to move that towards 30%. And that's a significant profit contributor. We do not particularly hide the figures. It's always been around GBP 600 finance commission essentially for each finance product sold.

And finally, the bit that hasn't been developed that we intend to develop, is what you say, is we service these vehicles through their lives. We have 55 workshops in the U.K. We know the vehicles. So with our customer base on Van Monster, which we said was 45% repeat loyal business, we said that sell a high-quality vehicle here, so we are planning to offer an extended maintenance product. We take it to our workshops, where we think we can compete with the alternatives available to them as another income stream. These are all about income streams to improve the profitability in addition to the profit and loss on sale.

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Fernando Ubeda;General Manager, Spain, [17]

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Let me add something. Just a comment on your question regarding long-term rental, contract hire. In Spain, we have currently 8% of the contracts in long-term rental, and we have increased our return on capital this year. So as always in life, it's not a question of what to do but how to do it and the appropriate segmentation of customers to which we can add value. I think Northgate really can add value to those customers who really want a longer-term commitment with our service proposition, which is really first-in-class, and at the same time, making the return on capital expectations.

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Andrew Page;Chairman, [18]

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Good point. Thank you, Fernando. Would you like to pass the mic along to the gentleman on your right?

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Michael Allen, Zeus Capital Limited, Research Division - Head of Research [19]

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It's Mike Allen from Zeus Capital. Quick questions, if I may. Just in terms of vehicle purchases, can you just outline how sensitive you might think that is to the sterling/euro rate? Might they be slightly more expensive further down the line if we get more sterling weakness? And can you just remind me, within that, the key OEM relationships, please?

And then secondly, in terms of U.K. construction output, how relevant is that to the business now in terms of the overall customer mix? And sorry, third one is just starting in terms of the aging out the fleet, how far do you think that can be aged out relative to...

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Andrew Page;Chairman, [20]

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Sorry, what was your last question again?

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Michael Allen, Zeus Capital Limited, Research Division - Head of Research [21]

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Just the aging of the fleet. How far can you do that compared to previous cycles?

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Andrew Page;Chairman, [22]

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Okay. Are you going to pick up on the aging one first and then let Paddy deal with the others?

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Robert Contreras;Chief Executive Officer, [23]

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Yes. I mean in terms of aging the fleet, we do have a young fleet. So therefore, if we're faced with circumstances that we [plan to ask], it's quite straightforward for us to age the fleet. It has 2 benefits, certainly has a cash flow benefit, has no negativity in terms of operating with our customers. And also, as we've seen in Spain this year, which one of the benefits to the residual value and the profits has been the aging of the fleet slightly in Spain, so you get a slightly higher profit as well.

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Andrew Page;Chairman, [24]

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Paddy?

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Patrick Gallagher;Chief Financial Officer, [25]

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On the pound/euro, there's clearly a long-term relationship between the cost in sterling of a euro appreciation because the LCVs are mainly made in Eurozone.

In the short term, the OEMs are hedged. So we'd have to see what the long-term equilibrium, if there is one, if there's going to be one, of sterling versus euro to understand what the cost of the vehicles are. If it is solely currency-related, the cost of the vehicles were to go on in the medium to long term, it goes up for everybody. It goes up instantly for people purchasing. It doesn't go up instantly for our fleet because we've bought them at previous rates of exchange. So we get closer in terms of fleet rental to purchasing. So we're the most cushioned in terms of the weighted average on the fleet compared with purchase or even contract hire where they go and purchase the vehicle for that contract as and when they get an order. So we're cushioned more.

In terms of relationships with OEMs, we deal with all the big ones, slightly different mix in Spain and the U.K. and Ireland, but we deal with all the big OEMs.

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Robert Contreras;Chief Executive Officer, [26]

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So you go Ford in the U.K., Peugeot, Mercedes, but it's PSA in Spain and Renault.

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Patrick Gallagher;Chief Financial Officer, [27]

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In terms of construction, in the U.K., it's about 30% of the business. It's a broad definition of what construction is. It tends not to be the housebuilders. But it tends to be projects like HS2 rail projects, road projects, all that kind of stuff is the bigger part. So if those projects slow down, then that segment of the business slows down. Ultimately, if the government gives some stimulus to the economy, that's the bit that grows.

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Andrew Page;Chairman, [28]

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Great. Any more questions? Chris?

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Chris McVey;Citigroup Inc., Research Division;Analyst, [29]

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It's Chris McVey from Citi. Very quickly on Ireland, splitting it out. Is that indicative of Ireland becoming noncore perhaps to the group? Or is it just because it's successful that's perhaps not being seen as -- what's the rationale behind the split.

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Robert Contreras;Chief Executive Officer, [30]

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Yes. I think, as Paddy said, it's more reflecting how we now manage the business. With my role moving away from the U.K. and now having a separate MD for the U.K., I have formed a management team which consists of U.K. MD and FD, Spanish MD, Fernando here, and FD but also the MD of Ireland, Peter, as well, as well as the group people.

And it allows -- as Paddy says, it is a very successful business. It's a much smaller business in scale. So as we look at different initiatives, et cetera, as we explained, we've looked at a number of initiatives, we'll look to trial some of those in Ireland because we can put our arms around the fleet across the whole of Southern and Northern Ireland of 4,000. So it's easier to do whether you change technology, whether you try different product initiatives. It's a good arena from that point of view. But it's purely just reflecting how we now manage the business with Peter, the MD there, reporting directly to me.

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Andrew Page;Chairman, [31]

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Any more questions for the team? Please.

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Joseph Spooner;Jefferies LLC, Research Division;Equity Analyst, [32]

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Joe Spooner from Jefferies again. I seem to remember in the past that you have looked at competing more directly with contract hire and other ownership models that you are communicating you're looking at again.

In the past, I think you got into some trouble in terms of underpricing some of those contracts, then spent a period of time unwinding those contracts. So just wondering what kind of reassurances you can give as you look to kind of repeat that history, I guess.

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Patrick Gallagher;Chief Financial Officer, [33]

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It's a very different market and competitor from the past. When you compete against a vanilla finance offering, the tendency is that price sort of decides it all. What they've done to try and differentiate themselves amongst themselves is increasingly add on extra bits of service. Those extra bits of service come from pretty expensive distributors and dealers who are looking to make 70% on labor and 40% on parts before a group discount. So they've evolved their product such that it's much more expensive and the customer expectations are much higher. In terms of our -- we do our labor at cost in terms of service and maintenance, et cetera, rather than looking for 70% margin, and we buy parts in bulk. So we have a big cost advantage, which I think is around about GBP 600 a year per vehicle, against the contract hire with the fuller service packages, which is what the customer accepts. So we're in a completely different price and service environment, which is not just a vanilla financing price. And that's what's fundamentally different.

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Andrew Page;Chairman, [34]

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Thanks, Paddy. Bob, is there anything you'd like to add to that?

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Robert Contreras;Chief Executive Officer, [35]

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Yes. I think, Joe, the other thing that you allude to is what happened in Spain, which was we have fixed contracts in Spain. As Fernando said, overall, they're very, very profitable. But within those, there are a number of large customers which years ago, when the recession hit, we basically did a deal to leave the vehicles out with them for a period of time on much lower rates. So if we were to look back, that was the only area where you're quite right, it was a less profitable business. That's not what we're looking at going forward in Spain. It's very targeted at SME. And in the U.K., it's mostly to our existing customers where we will hope to provide a blend of both term contracts and flexible.

Let's not move away from the fact that flexible rental is the overall driver for this company. But when we talk flexible rental, fixing for 6 months, 12 months, 18 months is within itself an element of flexibility that the customer can choose based on their requirements.

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Andrew Page;Chairman, [36]

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Any more questions for the team?

Okay. Well, thank you all very much indeed for your attendance and time calling in. Thank you to those listening on the webcast or indeed listening in. Thank you.