Board of Directors' Report

During the financial period 2006/07, Tamro Group continued to improve its result. Despite the challenging business environment, Tamro maintained the position as the leading pharmaceutical wholesaler in the Nordic and in the Baltic countries. The fiscal year 2006/07 was the first year Tamro Group operated as a full-line wholesaler in Poland.

Markets and operating environment

During the reporting period the overall pharmaceutical market growth in the Nordic countries remained rather low, 4% (5% in 2005/06) measured at constant exchange rates (CER). Like in many other European markets, new innovative products and the aging population contribute to the growth, which is partly offset by the expiring patents of many pharmaceuticals. Expiring patents have opened markets for new generics, which increases the price competition in all Nordic countries. In some countries the authorities have launched regulatory measures in order to reduce the increasing medicine costs of the ageing population. The main actions include restrictions on reimbursement of medicines as well as significant price cuts. This trend is expected to continue and new measures are likely to be enforced during the next years.

In the full year 2006 the pharmaceutical sales in the Nordic countries totalled EUR 7.1 billion in PPP (Pharmacy Purchase Price), an increase of 2.9% compared to the previous year (rated at CER). Denmark showed the highest growth at 7–8%, the main reason being the strong growth in the hospital sector.

The most notable market growth reduction took place in Finland, where the market decreased by 1.1% compared to 2005. This was largely due to the statutory 5% wholesale price cut of all reimbursable medicines as of 1 January 2006, and the tough price competition between generic products. In addition, the pharmacy-specific wholesale rebates on medicine were prohibited as of 1 February 2006, and this shifted pharmacies’ purchases to the fourth quarter of the previous year. Furthermore, the price cuts on three popular original statins affected the growth. The liberalisation of nicotine treatment products complicated the distribution logistics without any softening in the GDP requirements of pharmaceutical distribution.

In Sweden the pharmaceutical wholesale market grew by 4.5%. The relatively low growth was primarily caused by an increased sales of generics. Norway showed a 2.9% market growth, mainly influenced by higher sales of generics, but also by price cuts from the government side.
 
All the Baltic countries had high growth rates. The Estonian market grew by 12% while the Latvian and Lithuanian markets grew 25% and 17% respectively. Despite the strong growth rates in the Baltic countries, the per capita consumption of pharmaceuticals still remained quite modest compared to the EU average. High inflation rate, fierce competition and unpredictable government actions also put pressure on profitability. The Polish market was characterised by a slow-down in pharmaceutical sales: the market grew only by 4.2%. The main reason for this was the price cuts of selected reimbursable pharmaceuticals.

Tamro continued as the market leader in the Nordic countries. The company’s total pharmaceutical wholesale sales in Sweden, Denmark, Finland and Norway rose by 5.3%, totalling EUR 3,810 million in PPP (rated at CER). This corresponds to a wholesale market share of 53.6%, and was 1.3 percentage points higher than in the previous year.

Moreover, Tamro continued to invest in retail activities in the Baltic and the Norwegian markets. This is in line with Tamro’s strategy of securing the wholesale market position in deregulated markets through an integrated wholesale-retail operation.

Main events in 2006/07

Tamro’s financial year 2006/07 was characterised by the main events described below.

Tamro acquired the Polish pre-wholesaler FarmPlus Sp. z o.o in March 2006. At the end of the reporting period FarmPlus was merged with the wholesale company PHOENIX Pharma Polska, which was acquired by Tamro Group earlier in 2006/07. The merged company continues under the name PHOENIX Pharma Polska Sp. z o.o.

In March, Tamro Group received the competition authorities’ approval for increasing its ownership in ZAO ROSTA from 18% to 42.5%. ZAO ROSTA is Russia’s third largest pharmaceutical wholesaler. ZAO ROSTA is one of the seven nationwide pharmaceutical wholesalers in Russia and it employs 1,700 persons in 27 distribution centres from St Petersburg to Vladivostok.

In June 2006 Tamro MedLab was sold to the Finnish private equity investor CapMan. MedLab sells, markets and imports healthcare and laboratory products, diagnostics and biotechnical products and equipment. After the divestment Tamro continues to focus on its core business of pharmaceutical distribution and retailing.

Additionally, a major investment in Tamro Group’s largest distribution centre in Stockholm was completed. The investment allows further improvements in quality and efficiency. 

In summer 2006, an organisational change was carried out in the Group management of Tamro. Juha Koponen, Tamro Group’s CFO since 2002, was appointed as the Managing Director of Tamro Finland. Tamro Finland’s previous Managing Director Jorma Turunen continued as Managing Director for the divested business unit Tamro MedLab. Lars Birkeland, CFO of Apokjeden since 2001, was appointed as the new CFO of Tamro Group as from June 2006. The Group Management consists of Jo Langmoen, Lars Birkeland, Juha Koponen and Stefan Pflug.

Financial performance in 2006/07

The net sales of Tamro Group amounted to EUR 5,465 (4,857) million, up by 12.5% from the previous year.

Tamro Group’s operating profit was EUR 117 (117) million, and the operating margin was 2.1 (2.4)%. The net profit for the reporting period was EUR 126 (83) million including extraordinary items of EUR 48.5 million coming from the MedLab divestment and operational improvements in many countries, most notably in Norway. The return on equity increased to 36.8 (24.9)% and the equity ratio was 30.8 (29.8)%.

The financial statement reflects a provision of EUR 6 million related to an old reconciliation difference in one of our business units.

The fiscal year 2006/07 was the first year Tamro Group operated as a full-line wholesaler in Poland.
This had a significant turnover impact while the operating profit from Poland was limited, largely due to its small share of the market.

Financing

During the reporting year 2006/07 Tamro Group’s financial position improved significantly. Operational profitability strengthened further combined with an extraordinary cash flow from the divestments. Reported net debt decreased by EUR 95.4 million from the beginning of the financial year to the negative EUR -2.5 million at the end of the financial year.  The back stop arrangement made with the Group’s core banks had a EUR 200 (200) million available limit at the end of January 2007. The arrangement ensured funding for an average of one year and four months forward. The aggregate available limit in the Danish DKK 1,050 (EUR 141) million and in the Swedish SEK 1,200 (EUR 133) million Asset Securitisation programmes was EUR 56 (67) million.

Tamro Finance Ltd has a EUR 300 million Finnish commercial paper programme with the Group’s core banks. In January 2007 Tamro Finance Ltd entered the Swedish commercial paper market by signing a SEK 1,000 (EUR 110) million Swedish commercial paper programme. Both commercial paper programmes are guaranteed by Tamro Corporation.

The effective net debt at the end of the year, including as debt the EUR 190.7 (176.3) million receivables sold, was reduced to EUR 188.2 (269.2) million. The average effective net debt in the financial year 2006/07 was EUR 259.1 (254.0) million. With the current operational cash flow before the net working capital changes and investments, the effective net debt amount could be repaid in one year and seven months.  

EUR 22.9 million or EUR 0.20 per share dividend 2005/2006 was paid in April 2006. Due to excellent liquidity situation at the end of January 2007, Tamro Corporation’s Extraordinary Shareholders' Meeting decided to distribute an additional EUR 0.40 per share, or EUR 45.8 million dividend. The dividend was paid on 29 January 2007. At the financial year end the Group’s liquid assets and short term investments totalled EUR 55.2 (9.9) million. The Group’s net gearing was negative -0.7% (26.4)%, and the equity ratio 30.8% (29.8)%. The effective net debt / EBITDA ratio without extraordinary items improved to 1.3 (1.7) at the end of the financial year.

Free cash flow and net working capital

The full year free cash flow was EUR 152.0 (95.1) million. The operative cash flow before net working capital changes improved slightly to EUR 118.2 (116.8) million. The cash flow from the net working capital changes was positive at EUR 7.7 (32.7) million, but as a change in the sold receivable amount affected the reported cash flow positively by EUR 14.4 (43.2) million, the effective change was EUR -6.7 million negative. The net investments were positive at EUR 26.0 (-54.4) million. More than half of the cash flow gained from non-core divestments was invested back in the core business. The net working capital decreased to EUR 41.3 (48.3) million. The reduction is less than the amount by which the sold receivables increased and so, effectively, the net working capital increased by EUR 7.4 million to EUR 232.0 (224.6) million.     
 
Financial expenses

The Group’s net financial expenses were EUR -6.2 (-5.7) million in the financial year 2006/07. The increase came from the higher interest rates, which have increased steadily. Net interest expenses were EUR -6.7 (-6.0) million. The exchange rate differences were EUR -0.2 (0.3) million, and the other financial income and expenses were EUR 0.7 (0.0) million. The total cost of financing in percent increased to 2.4 (2.2)%. 

Foreign currency related risks and translation differences

The majority of the Group’s net sales are denominated in local currencies. The currency split of the Group net sales was SEK 32 (33)%, DKK 24 (25)%, EUR 20 (22)%, NOK 13 (15)%, PLN 6 (0)%, and EEK, LVL, and LTL, together 5 (5)% of the Group’s net sales. 

The major part of the Group’s purchases is also denominated in local currency. Only 3 (3)%, or EUR 173 (136) million, of the purchases are exposed to currency risk. The currency split for that amount was EUR 97 (89)%, USD 2 (6)% and, in other currencies, 1 (5)%. In Latvia the risk of currency devaluation increased after the financial year end, and actions were taken to hedge the local EUR-dominated purchases. 

The foreign currency denominated shareholders equity and equity type loans were EUR 599 (519) million at the financial year end 31.1.2007. The currency split of the equity exposure was at year end: NOK 38 (40)%, SEK 23 (25)%, DKK 25 (25)%, PLN 5 (0)% and others 9 (10)%. The translation differences from the foreign currency denominated shareholders’ equity and the equity type loans of the overseas subsidiaries were EUR +1.1 (+1.4) million during the financial year 2006/07. This amount affects directly the consolidated equity of the Group.

Assessment of operational risks and uncertainties

The company is subject to strategic and operational risks, of which legislative and regulatory measures imposed by the authorities are the most prominent. Operational risks include changes in the competitive environment, stable and reliable operation of IT systems and availability of the transport infrastructure. 

The company is subject to asset risks and liability risks related mainly to possible property damage of inventory and to liability risks concerning the quality of its own operations. The company also carries limited risk related to product liability to the extent that such risk cannot be transferred to and covered by the supplier.

The foreign currency and other financial risks are managed according to the finance policy of the Group. Additional information about risk and risk management activities can be found in the Financial Risk Management section.

The Group is self-insured and insured through the parent company.

Capital expenditure, acquisitions and divestments

The capital expenditures and acquisitions were EUR 32.8 (71.8) million. Investments were made mainly in the warehouse expansion project in Sweden and in the retail sector in Norway and Lithuania. The new Stockholm warehouse was taken in operation step by step during the third quarter of the financial year 2006/07. The majority of the Norwegian retail investments took place in January 2007.

The sale of Tamro MedLab was the main reason for the increase in divestments to EUR 58.9 (17.4) million. The transaction was the biggest individual divestment made by Tamro Group in several years. Additionally, Tamro Corporation sold the Kylpyläkasino Oyj shares in the third quarter. A non-core real estate was sold in Sweden, and bank bonds in Poland were divested during the financial year 2006/07.

Major changes in the Group structure

In March 2006 Tamro acquired the Polish pre-wholesaler FarmPlus Sp. z o.o. At the end of the reporting period FarmPlus was merged with the wholesale company PHOENIX Pharma Polska acquired by Tamro Group earlier in 2006/07. The combined company continues under the name PHOENIX Pharma Polska Sp. z o.o.

In June 2006 Tamro MedLab was sold to CapMan and in December 2006 the Danish entity Viminco A/S was divested from Nomeco A/S.

In Norway pharmacy acquisitions continued, and by year-end 2006 the number of pharmacies included in Apokjeden’s Apotek1 chain was 219. The retail expansion continued also in the Baltic countries with several acquisitions. For example in Lithuania Tamro Group acquired the second biggest pharmacy Medinsta located in Vilnius.

Personnel and organisation

In 2006/07, the average number of personnel employed by Tamro Group totalled 4,560 (4,223). The number was divided by country as follows: 40% in Norway, 14% in Denmark, 10% in Sweden, 9% in Lithuania, 7% in Finland, 7% in Latvia, 6% in Estonia and 7% in Poland. The divested business unit MedLab employed 133 people.

The Group's personnel costs for the financial period amounted to EUR 195 (186) million (accrually based).

Board of Directors and Auditors

The following six Board members were elected at Tamro Group’s Annual General Meeting on 7 April 2006. Dr Bernd Scheifele was re-elected as Chairman of the Board, and Matti Elovaara, Mikael von Frenckell, Dr Lorenz Näger, Reimund Pohl and Dr Reinhard Rupp were re-elected as Board members.

The Authorised Public Accountants Ernst & Young Oy and Anna-Maija Simola, APA, were re-elected as Tamro’s external auditors.

Events after the financial period

Nothing significant has occured after the financial year-end.

Outlook for 2007/08

Tamro believes that the challenging market conditions with slow growth will continue in 2007/08. For example, in Denmark the prices of RX products have been frozen for two years as of 1 January 2007, while in Norway the revised pricing model for generics will significantly reduce the market growth. During 2007, Tamro expects the market to grow at around 4% in the Nordic countries.

The Baltic markets are expected to grow in the 10–15% range. However, the high inflation rate, fierce competition and unpredictable government actions will put pressure on profitability. In Poland a new pharmaceutical law is under discussion. Its implications are still unclear, but the market growth is anticipated to be modest, less than 1%. In the long-term, nonetheless, Tamro believes that Poland has significant growth potential.

Tamro will continue to follow its strategy based on cost leadership and customer satisfaction. The operational improvements will continue, and the Group will consistently look for attractive expansion alternatives. Tamro expects the profitability to remain at the same level as in the fiscal year of 2007/08.