Board of Directors’ report

The Board of Directors and the President of Hemtex AB (publ), Corporate Registration Number 556132-7056, hereby present the Annual Report and consolidated financial statements for the fiscal year May 1, 2007 to April 30, 2008.

General information about the operations

Hemtex is the leading home textile chain in the Nordic region, with a total of 205 stores as of April 30, 2008, of which 143 in Sweden, 38 in Finland, ten in Denmark, 11 in Norway, one in Estonia and two in Poland. Of the stores, 180 are owned by the Group and 25 by franchise holders. On April 30, 2008, there were 23 franchise stores in Sweden and two in Poland.

Under a common brand, Hemtex sells interior decorating products focused on home textiles. The assortment is divided into four product areas: Bedroom, Bathroom, Windows and Dining & Entertainment. All product areas are supplemented by non-textile home accessories. The chain stores have two forms of operation: own stores and franchise stores. Regardless of operation form, the stores are managed in accordance with the Hemtex concept and guidelines, but with scope for local business influences.

Hemtex AB is the Group’s Parent Company. The Parent Company operates Swedish stores and is responsible for concept development, marketing, business management, controlling and product supply to Hemtex stores. In addition to the Parent Company, Hemtex AB, the Hemtex Group includes wholly-owned subsidiaries Hemtex Oy (Finland), Hemtex A/S (Denmark), Hemtex AS (Norway), Hemtex (Shanghai) Co., Ltd. and Hemtex Finans AB.

Hemtex share and ownership

Hemtex AB’s share capital amounts to SEK 73.3 M distributed among 29,337,400 shares, each with a par value of SEK 2.50. Each share entitles the holder to one vote at the Annual General Meeting and all shares carry equal rights to the company’s assets and profits. There is one class of shares and no limitations in terms of the number of votes each shareholder may cast at the Annual General Meeting. There is no regulation in Hemtex’ Articles of Association limiting the right to transfer shares. Hemtex AB has not entered into any agreements that would be affected by a possible takeover bid.

Hemtex AB is a Nordic Mid-Cap company, listed on OMX Nordic Exchange Stockholm AB. The principal owners at the close of the fiscal year were Hakon Invest AB with 14.2% of the shares and AB Industrivärden with 12.6% of the shares. No other shareholder holds, directly or indirectly, more than 10% of the shares in Hemtex AB.

The Board of Directors and any deputy Board members are appointed at the Annual General Meeting for the period until the next Annual General Meeting. There are no regulations in Hemtex’ Articles of Association concerning the appointment and dismissal of Board members.

Risk factors

Hemtex is exposed to a number of risk factors, which are wholly or partly beyond the control of the company, but which may influence the Group’s sales and profit.

Cyclical

Demand for home textiles are highly influenced by overall trends in society, for example, the recent increase in interest for house and home has contributed to growth in the home textile industry. Demand is also naturally influenced by the general development of the economy and in particular by trends in private consumption. A positive business trend normally has a positive impact on Hemtex’ sales and earnings trend. A weak business trend has a negative impact on sales and profits if disposable income simultaneously decreases. However, Hemtex estimates that the home textile industry is less cyclical than certain other retail segments. The reason is that most products are replaced relatively frequently and the cost of purchasing home textiles is comparatively low.

Weather and seasonal variations

The weather affects sales of home textiles. A mild autumn and winter normally has a negative impact on sales and a cold and rainy summer normally contributes to higher sales figures.

Sales of home textiles also have seasonal variations. During the autumn and winter, more expensive products such as quilts and pillows for the bedroom are sold, while summer sales comprise mostly terry towels. In general, sales are highest during the autumn and winter, with December being traditionally the best month. 

Fashion risks

Demand for interior decorating and home textiles is now more influenced by fashion trends than in the past, similar to the clothing industry. Consequently, Hemtex is dependent upon consumers’ preferences in terms of design, quality and prices of goods in Hemtex stores. Accordingly, Hemtex continuously monitors trends within home textiles and associated industries. When fashion trends are about to reach commercial volumes, Hemtex reacts rapidly. In order to choose the correct assortment, time is an important factor and it is also vital that design and purchasing occur as closely as possible to the sales season. It is also important to keep in mind that manufacture and delivery require lead times to keep costs at a reasonable level. Central functions at the head office in Borås are working on ensuring that the entire value chain, from concept to sales, is handled as efficiently as possible.

Financial risk management

For information on financial risks and risk policies, refer to Note 31.

Key events

The market

During the 2007/2008 fiscal year, Hemtex reported extremely strong customer growth. The number of customer receipts increased during the year by slightly more than 12% (15). The average purchase decreased to SEK 188 (201) per receipt, primarily due to a change in the product range mix. Hemtex maintained a strong position as market leader in the Swedish market for home textiles. Measured over the most recent 12-month period (April 2007 – March 2008), Hemtex’ market share dropped to 28.1%, compared with 31.3% during the period April 2006 to March 2007. Hemtex’ closest competitors had 12.7% and 10.0%, respectively. During the first quarter of 2008, Hemtex’ market share declined somewhat to 27.8% (29.1) in a market that, according to figures from the GfK market research company, decreased in value by 5%. According to Hemtex’ calculations, the market share in Finland amounted to approximately 9%. In the Danish market, Hemtex estimates that the market share amounted to slightly more than 2%. The potential for continued growth in the markets outside Sweden is substantial.

Establishments and acquisitions

During the 2007/2008 fiscal year, the Group opened a total of 20 new stores, of which eight in Sweden, five in Finland, four in Norway, two in Denmark and one in Estonia. In Sweden, stores were opened in Falköping, Gävle, Gothenburg (Eriksberg), Landskrona, Nynäshamn, Tyresö, Vällingby and Stockholm (Heron City). In Finland, stores were opened in Helsinki (Kampen), Kuopio, Lojo, Mikkeli and Tampere. In Norway, stores were opened in Drammen, Hamar, Kongsberg and Lorenskog. In Denmark, one store was opened in the district of Valby in Copenhagen and one in Vejle in Jutland. The Group’s first store in Estonia was opened in Pärnu.

Three franchise stores were opened during the 2007/2008 fiscal year. One store was opened in Kiruna and two stores were opened in Warsaw and Rumia, Poland.

The Group acquired a franchise store in Motala, Sweden at the end of the fiscal year. Further details about the acquisition are available in Note 29.

In March, a store in Vetlanda, Sweden was sold to a franchise holder.

During the 2007/2008 fiscal year, four stores were closed. The Group closed one store in central Stockholm, one at CC Vest in Oslo, Norway, and a small store in central Helsinki, Finland. A franchise store was closed in Öland, Sweden.

As Hemtex expands its network of outlets, it simultaneously enhances its ability to project its brand identity. Sales growth in the various markets becomes easier as the number of visitors and customers increases and more opportunities to sell the Hemtex range are established.

Implemented new establishments and acquisitions, combined with the otherwise positive development of the Hemtex Group in recent years, secure the Hemtex strategy, which focuses on continued growth through the establishment of new stores, geographic expansion, launching of new store formats and broadening of the range.

Mergers

During the 2007/2008 fiscal year, seven wholly owned subsidiaries merged with Hemtex AB. For more information, refer to Note 30.

Comments on the income statement

Net sales

Consolidated sales consist of sales to consumers in own stores and wholesale selling to franchise stores in the Hemtex chain. During the 2007/2008 fiscal year, the Group’s total net sales increased by 9.4% (26.8) to SEK 1,608.3 M (1,470.5). Organic growth accounted for 5.6 percentage points and acquired franchise stores for the remaining 3.8 percentage points. Including unchanged exchange rates, the increase was 9.0%. Sales increases during the fiscal year were a result of continued favorable demand for the Group’s products and capital from newly established and acquired stores.

Of the Group’s net sales, the Finnish operations accounted for SEK 227.3 M (197.7), operations in Denmark for SEK 76.3 M (84.4*) and operations in Norway for SEK 56.3 M (25.4). The Group’s first store in Estonia, which opened in June 2007, contributed sales of SEK 3.0 M. Other operating income amounted to SEK 15.6 M (15.1) and primarily comprised franchise fees and bonus payments from suppliers and business partners.

In the 2007/2008 fiscal year, net sales in the consumer operations in all markets (including franchise stores) increased by 4% to SEK 1,674 (1,606) M.

*) In Denmark, a store in Copenhagen’s Illum department store was closed in March 2007.

Earnings

Consolidated gross profit (sales revenues less cost of goods sold) increased by 10.6% to SEK 848.3 M (766.9). The gross profit margin rose to 52.7% (52.2), attributable mainly to a favorable exchange rate trend, an increase in the proportion of consolidated sales in retail stores and lower purchasing prices due to the company’s focus on improved purchasing processes. The increased share of retail sales within the Group resulted from the establishment of new stores and the earlier acquisition of franchise stores. Accordingly, the share of wholesale sales to franchise stores declined to SEK 105.0 M (182.8) during the fiscal year.

During the third and fourth quarters, nonrecurring costs pertaining to inventories were charged against gross profit. Direct additional costs attributable to inventory management amounted to about SEK 31.0 M (0.0) during the 2007/2008 fiscal year.

One aim of purchasing activities is to increase the share of goods purchased directly from producers to approximately 80%. The proportion of direct purchases is currently slightly more than 73%. The objective is that the portion of purchasing from Asia will total 80% and the current level is 69%.

To reduce the exchange-rate risk, Hemtex hedges a significant portion of the Group’s contracted flows in foreign currency. Exchange-rate risks are followed up and exchange-rate differences are calculated as the difference between the actual price paid and the calculated price. In accordance with the Group’s finance policy, at least 65% of contracted flows must be hedged. The exchange-rate differences that affected earnings during the fiscal year were positive and totaled SEK 48.9 M (18.7). The change in the value of outstanding forward contracts, applying IAS 39, had an adverse impact of SEK 1.0 M (0) on gross profit during the fiscal year.

Operating expenses, excluding goods for resale and depreciation, amortization and impairment of tangible and intangible fixed assets, amounted to SEK 683.2 M (534.2). As a percentage of sales, these expenses amounted to 42.5% (36.3). The increase in costs as a percentage of sales was attributable to store expansion and will be offset by growth in the gross margin for newly established and acquired stores.

Of depreciation, amortization and impairment of tangible and intangible fixed assets, goodwill accounted for SEK 0.6 (0.0), rental rights for SEK 6.2 M (5.0) and other depreciation for SEK 32.8 M (21.4).

Operating profit amounted to SEK 141.1 M (221.5), which means that the operating margin dropped to 8.8% (15.1). Operating profit was reported in all markets, apart from the newly established markets of Norway and Estonia, where establishment costs were charged against earnings.

Profit before tax amounted to SEK 132.7 M (221.1), resulting in a profit margin of 8.3% (15.0). Net profit for the year amounted to SEK 96.5 M (159.5), corresponding to a 6.0% (10.8) share of net sales.

During the fiscal year, the return on shareholders’ equity was 20.0% (35.9). The return on operating capital amounted to 24.5% (54.7). The interest-coverage ratio amounted to a multiple of 15.6 (111.9).

Comments on the balance sheet

Goodwill

Total goodwill in the Hemtex Group, as reported in the consolidated balance sheet on April 30, 2008, amounted to SEK 279.2 M (279.3). Swedish operations accounted for SEK 261.4 M (261.7) of the Group’s goodwill and Danish operations accounted for the remainder.

The valuation takes into consideration the Group’s accrued earnings values for acquired operations, the Group’s market shares in Sweden and Denmark, the strength of the Hemtex brand in these markets, established supplier contacts and the expertise of the Group’s employees.

Inventories

The rate of inventory turnover declined somewhat during the year and at the end of the fiscal year amounted to 2.5 (2.9) times annually. On April 30, 2008, inventories amounted to SEK 337.9 M (264.5). The increase in inventories was due to the increased number of stores, the higher share of proprietary imports and sales that were lower than planned. Hemtex’ purchasing function now accounts for slightly more than 95% of the supply of products to the stores, while the share of external brands has continuously been reduced. Of the total inventories, wholesale inventories accounted for SEK 111.3 M (101.7). At the end of April 2008, inventories per store within the Group averaged SEK 1.3 M (1.0). Inventories will decline in conjunction with low volumes of incoming deliveries during the summer.

Financial position

On April 30, 2008, the Group’s cash and cash equivalents amounted to SEK 31.5 M (56.7).

Interest-bearing liabilities increased during the operating year, as a result of major investments in the Group’s store portfolio, and amounted to SEK 205.5 M (72.7) on April 30, 2008. Of the interest-bearing liabilities, SEK 145.5 M will mature during the period ending on April 30, 2009 and the remaining SEK 60.0 M will mature later. All liabilities will mature within five years. Overdraft facilities are reported as a current liability.

The total credit limits for the Hemtex Group amounted to SEK 444.5 M (222.6) on April 30, 2008, including limits on letters of credit and currency forward contracts. Of the total credit facilities, SEK 224.6 M (110.5) was utilized by the end of the fiscal year.

The collective value of purchase orders for which currency forward contracts were signed amounted to USD 15.5 M (13.0) on April 30, 2008. The value of these outstanding currency forward contracts amounted to a negative SEK 3.5 M (neg: 2.5) on the balance-sheet date.

Net debt, defined as interest-bearing liabilities less cash and cash equivalents, increased by SEK 158.0 M and amounted to SEK 174.0 M (16.0) at the end of the fiscal year.

The net debt/equity ratio amounted to 37% (3) on April 30, 2008. The equity/assets ratio declined to 53% compared with 62% on April 30, 2007.

Comments on the cash-flow statement

Cash flow and investments

Cash flow from operating activities decreased by SEK 175.3 M to SEK 24.2 M. Cash flow after investments for the 2007/2008 fiscal year amounted to negative SEK 42.2 M (neg: 43.3) SEK M due to inventory accumulation and sales that were lower than expected.

The Group’s net investments affecting cash flow amounted to SEK 66.4 M (242.8) during the 2007/2008 fiscal year. Of the investments, SEK 1.7 M (186.3) was attributable to the acquisition of stores, SEK 55.0 M (50.8) to investments in new establishments and renovated stores and SEK 9.7 M (5.7) to other investments. Investments in goodwill amounted to SEK 0.2 M (167.0) during the fiscal year.

Personnel

During the 2007/2008 fiscal year, the number of full-year employees was 757 (602). The personnel increase is mainly attributable to store expansion. During the year, the number of Group-owned stores increased from 163 to 180 units, corresponding to an increase of 10%. The distribution is 7% men and 93% women. Approximately 89% work in the store organization and 11% work in central functions such as purchasing, logistics, marketing and administration.

Hemtex’s gender equality plan is continuously revised and shall characterize the work being carried out in many areas. Examples contained in the policy include: salary differences based on gender must not exist, working conditions shall be adapted to both women and men and educational and developmental opportunities shall be equal. A salary survey based on an equality perspective was implemented during the year. 

The systematic work environment effort within Hemtex is based on all employees within the Group being provided with sound, safe and pleasant workplaces and that all managers are educated within the area. Courses on working environment and safety are conducted on a continuous basis to include new employees in the organization. Within Hemtex, all store managers are required to participate in this course. Work environment inspections and subsequent action plans are implemented annually to continuously improve the environment and satisfaction in Hemtex operations.

A comprehensive crisis management plan is in place to ensure efficient crisis management. The plan highlights potential incidents that could occur and how they shall be handled. A central crisis management team and crisis support representatives in stores were appointed and trained. The crisis team meets on a regular basis to develop the crisis management work and ensure that the organization is prepared in the event of unforeseen incidents, such as the risk of injury to an individual employee or the company in its entirety.

Hemtex AB has collective bargaining agreements with the Salaried Employees Union HTF and the Swedish Commercial Employees Union.

Board activities during 2007/2008

The Board of Directors is responsible for the company’s organization and management of the company’s business, which includes establishing the company’s strategy. The Board also has the task of appointing a president. The Board’s work follows an annual agenda that is designed to secure the Board’s requirement for information. In other respects, the Board and the President follow the special work instruction established by the Board that defines the division of work between the Board and the President. The control issues that are the responsibility of the Board will be handled by the Board in its entirety.

During the fiscal year, Hemtex AB was the Franchiser in accordance with contracts signed with each Franchise Holder. The existing franchise contract was most recently revised in the spring of 2004. The Franchise Holders are linked through an association and are represented by the Board of the Franchise Holders’ Association in contacts with Hemtex AB.

An evaluation of the Board’s work was conducted in June 2008. Hemtex’ Nomination Committee has been given access to parts of the evaluation relevant to its work.

For more detailed information about the meetings held by the Board, the work of the Nomination Committee and the Remuneration Committee, refer to the Corporate Governance section on pages 52 to 54.

Guidelines for remuneration to senior executives

The Annual General Meeting held on September 5, 2007 adopted the following guidelines for remuneration and other employment terms for company management. The Board of Directors proposes that the same guidelines apply for the next fiscal year.

For more information about remuneration, refer to Note 4.

Remuneration Committee

The members of the Board of Directors appoint a Remuneration Committee for each fiscal year from within its own ranks. The task of the Committee is to prepare proposals concerning salary and other remuneration for the President and CEO and to decide on proposals concerning salaries and other remuneration for other senior management. During the fiscal year, the members of the Remuneration Committee were Chairman Mats Olsson, Bodil Eriksson and Kia Orback Pettersson.

Basic principles

Remuneration to senior management at Hemtex is based on principles related to performance, competitiveness and merit. To reflect these principles, a variety of remuneration components are applied in various degrees. Accordingly, a combination of several components is used to reflect these remuneration components in a balanced manner.

The total remuneration to senior management comprises fixed salary, variable components in the form of annual variable remuneration and long-term variable remuneration, pension and other benefits. Together, these components form an integrated remuneration package.

Each fiscal year, the details of the total remuneration are presented to senior management in the annual report for the current fiscal year, including previously determined long-term variable remuneration that has not yet fallen due for payment.

The relationship between fixed and variable salary and the connection between performance and remuneration

Fixed salary is determined on the basis that it must be competitive. The absolute level depends on the scope and complexity of the current position and the annual performance of senior management.

Performance is primarily reflected in the variable components with regard to both annual and long-term variable salary. Although variations may occur over time depending on the market for remuneration, the goal in terms of annual variable salary for senior management is currently 40% of fixed salary. Long-term salary is designed to comprise both warrants and employee stock options. For employee stock options, a given goal level must be attained for certain key data in order for this portion of the salary to achieve an outcome. The key data that is currently used is “Earnings per share.” The outcome of employee stock options is limited through the implementation of a “ceiling” – in other words, a maximum outcome.

The relationship between fixed and variable salary shall reflect the Board’s assessment of a reasonable balance between fixed and variable remuneration components and prevailing market practice for senior managers.

Variable remuneration in brief

Annual variable remuneration is cash-based and related to the direct operational goal for budgeted Group earnings before appropriations and tax. This goal was approved by the Board of Directors.

Share-based, long-term variable remuneration plans are submitted to the Annual General Meeting for approval. The outcome of the plans depends on three different variables: the individual’s investment is shares, a long-term goal for earnings per share during the maturity in effect for each program and the share price trend. Prior to the Annual General Meeting to be held on September 3, 2008, no new share-based remuneration programs have been proposed.

Pension

Pension benefits shall be competitive in each native country. For members of senior management whose employment contract contains an agreement concerning pension benefits in addition to ITP, a supplementary premium is included. This premium amounts to a certain percentage based on fixed monthly salary, including bonuses for the President and CEO, and a certain percentage based on the fixed monthly salary of other members of senior management whose agreement includes this benefit.

The retirement age is normally 65, but can vary in individual cases.

Other benefits

The basic rule is that other benefits, such as company cars and healthcare plans, shall be competitive in the local market.

Significant events after the close of the fiscal year

At a meeting held in June 2008, the Board resolved to supplement the Group’s financial goals. The current goals stipulate that the Group shall increase its net sales by 15% annually, that the operating margin shall total 15% during one business cycle and that the market share in the Nordic region shall be 15%. In addition to these three goals, the Board resolved that the equity/assets ratio should be between 30% and 40% and that net debt/EBITDA shall not exceed 3%.

The Board regards acquisitions as a supplement to organic growth.

Two stores were opened in May 2008. The Group opened a store in Narva, Estonia and a franchise store was opened in Warsaw, Poland.

At the end of April 2008, Hakon Invest AB had increased its holding in Hemtex AB to 17.3% of the shares.

Further details about the events after the close of the fiscal year are available in Note 33.

Future development of the Hemtex Group

Hemtex’s future growth and profitability goals will be achieved through the establishment of stores, geographic expansion, new communication and pricing strategies and development of the product range. Following the recent years’ extensive acquisitions of franchise stores, Hemtex has a favorable distribution between wholly owned stores and franchise stores. 

During 2008/2009, the Hemtex Group expects to open some 25 stores in existing markets. In the spring of 2007, a decision was made to establish Hemtex in Estonia, and in June 2007, the Group opened a store in Pärnu. Stores may also be established in the other Baltic States.

To continue geographic expansion, Hemtex has decided to search for cooperation partners through franchise rights to complement the establishment of wholly owned stores. As of June 2008, Hemtex has three franchise stores in Poland. During the 2008/2009 fiscal year, additional franchise stores may be established in Poland and Denmark. In the long term, franchising may be considered for more markets in Europe. There is also long-term potential for a total of 150 Hemtex stores in Sweden, 50 in Finland, 40 in Denmark, 50 in Norway, 80 in Poland and between 20 and 25 in the Baltic region.

The objective of the new communication strategy is to increase market-penetration power through a continued strong offering and by providing customers with inspiration to purchase home furnishing products and refurbish their homes more often. In the autumn, Hemtex will also review its pricing strategy, resulting in lower regular prices for a wide range of products. Reduced prices and expanded communication, combined with an improve product range, will increase the strength of Hemtex’ offering, enabling the company to capture shares in a weak market and increase its competitiveness in the market.

Within the new store design, there is scope for continued review of the store concept, new store format and expansion of store space in current stores. The most recently developed format is Hemtex & More. They are larger and have a broader range than customers are accustomed to. In the long-term, there will be an opportunity to establish some 40 Hemtex & More stores in the Nordic region.

Expanding the product range means that the stores will supply a more modern and coordinated range within all product categories. A broader product range will expand the target group and increase sales to existing customers. Expansion of the range will comprise additional home accessories for Hemtex & More and a licensing agreement for certain brands throughout or in parts of the store portfolio. Hemtex has also signed agreements pertaining to license rights for several strong brands and will focus especially on expanding the range for children as an important part of the effort to expand the product range. Collectively, this will generate favorable opportunities for Hemtex to continue growing in comparable stores in the years ahead.