RS Group PLC

LSE:RS1

Earnings Call Analysis

Challenging Markets Yet Company Shows Resilience

In a tough economic landscape, the company encountered a modest 1% decline in revenue, and a steeper 8% on a like-for-like basis. Despite these headwinds, they've managed to maintain a robust above 20% return on capital employed. Adjusted operating profit margin was 10.8%, taking a hit from acquisitions and lower volumes but eased by underlying cost savings. A proactive response, including a GBP 30 million cost reduction program, has mitigated some impacts. The EMEA region fared better than the Americas and Asia-Pacific, which experienced a 14% and 18% like-for-like revenue fall, respectively. The company boosts an interim dividend by 15%, reflecting confidence in long-term prospects.

RS Group Plc Holds Its Ground Amidst Market Headwinds

In a year marked by financial adversity, RS Group Plc has maneuvered through a tough market landscape to maintain its strategic course. Despite a slight 1% drop in revenue—8% on a like-for-like basis—the company's commitment to digital growth, RS PRO, and value-added services has remained unshaken, even managing to uphold double-digit operating margins. The resilience of the Group is evident in their strong performance in return on capital employed, which still exceeds 20%, and the Board's confidence is encapsulated in a recommended 15% hike in their interim dividend. As signs of strategic and operational momentum surface, RS Group Plc eyes more than GBP 30 million in annualized savings for the upcoming year, largely coming to fruition in the subsequent year. This is part of a broader strategy to enhance operational efficiency without compromising the growth trajectory, signaling a poised stance amid the tribulations of a challenging market.

Resilient Performance with Regional Nuances

RS Group's performance across different regions reflects a tapestry of market reactions and strategic adjustments. EMEA showed commendable stability despite a 4% decrease in like-for-like revenue, attributing some success to margin discipline, operational efficiencies, and cost control. The region capitalized on its scale, resulting in a 40 basis point increase in the like-for-like operating profit margin. The Americas faced a 14% like-for-like revenue fall, hit by customer destocking due to inventory normalization. However, Risoul, one of RS's recent acquisitions, showed a better-than-expected performance and strengthened the company's position in Mexico. In contrast, Asia-Pacific grappled with an 18% like-for-like revenue reduction, predominantly due to the electronic cycle and macro uncertainties. Nevertheless, the Group remains focused on enhancing its digital presence and service solutions while also trimming expenses as a response to the competitive environment.

Investing in Growth Accelerators Amidst Short-term Challenges

Even as RS Group faces headwinds, it refuses to relent on its investments to transition from a transactional distributor to a product and service solutions provider. The previous six months have seen improvements in digital infrastructure, the introduction of AI tools, and website enhancements, leading to better customer conversion and increased basket sizes. The ambitious rollout of RS PRO products and the Better World sustainable product range underlines the Group's commitment to broadening its offerings. Efforts to integrate value-added solutions across Europe are also underway, with inventory solutions expanding out of the UK and Ireland. RS Group is leveraging its strong balance sheet to augment organic growth, and the integrations of Risoul and Distrelec are progressing well, which should help to streamline the Group's strategy and generate value in a calculated manner.

Cost Efficiency Measures to Pave the Way for Future Growth

To counteract the tough short-term economic climate and prepare for future growth opportunities, RS Group has resolved to expedite its integration plans, targeting cost reductions in the latter half of the year. These acquisitions are not only valuable in the short run but are part of a longer strategic vision to make RS Group more operationally effective and unlock sustained outperformance. This proactive approach is complemented by adjustments to the cost base, which consists predominantly of personnel expenses, manifesting the company's focus on permanent structural changes rather than temporary bandages. Despite the lack of specific margin targets, these efficiency measures hint at optimistically improved margins once normal business growth resumes.

Earnings Call Transcript 2024-Q2

[Simon Pryce, executive]

[Audio Gap] Can you just go back one slide, please? That one. They're same; they're all really exciting stuff. As you can tell from our headline numbers that we'll talk about in a minute, it's been relatively challenging. But what you won't be able to see in the numbers, what you'll hopefully pick up throughout this presentation today is that it's been a dynamic and very exciting 6 months for me personally. And what I'd hoped I'd find when I started to look under the RS hood, which was good people, and a great growth opportunity to deliver excellent outcomes for all stakeholders is exactly what I've found. And notwithstanding the challenging short-term markets that we're experiencing at the moment, it's actually a great time to be at RS.I'm joined today by Jane Titchener, who's been our excellent Interim CFO since the end of April, and who will continue to support our new CFO until the end of this year, before moving back into a permanent role in the group. And I just like to take this opportunity, Jane, to thank you on behalf of all of our stakeholders for the excellent work that you've done stepping in and up to the role at short notice and for your continuing commitment and enthusiasm.And I'd also like to thank you personally for all the support you've given me in the last 7 months, and I look forward to continuing to work with you as you transition to your new role in Strategic Performance Management at the end of the year.I'm also joined by Kate Ringrose, who many of you will know from her time at Centrica, where she was latterly the CFO. She joined us 5 weeks ago. It's been busy. She's been a great addition to the team and she brings a wealth of experience with her. And aside from gloating about South Africa's recent cricket successes in Rugby World Cup wins, she's already having a positive impact on the Group.And I'm really looking forward to working closely with Kate and the rest of the team to build on the progress that we've made at RS over the last few years and to accelerate realization of that exciting opportunity that I see and I think we all see at RS.The presentation should take about 40 minutes. I'll do a quick overview of the first half. I'll ask Kate to say a few words. Jane will then take us through the numbers. And then I'll wrap up with a quick look at the underlying strategic and operational progress we've made in the half and to share a bit more color with you about the exciting medium- and long-term opportunity that exists here. And then we'll open it up for questions.I know everybody's busy, so we will try and get you away by 10:00. So now we can look at the numbers.Although financially it was a difficult first half, we are making good underlying progress. We delivered a resilient performance in markets that were all a bit more challenging than we anticipated at the beginning of the year, and we've also been trading against strong comparators. So against that backdrop, revenue was down 1%, but 8% down on a like-for-like basis. Although digital was only down 5%, we saw good growth, continued growth in both RS PRO and value added services.We continue to deliver double-digit operating margins. And although declines in PBT and EPS were significant, return on capital employed still remains well above 20%. And the Board's recommending a 15% increase in the interim dividend, reflecting our 3 cycle progressive dividend policy and, of course, confidence in the Group's long-term growth and cash generation prospects.So despite challenging markets and the impact on our numbers, we also did a lot of good things in the first half, and we have good underlying strategic and operating momentum. We're balancing continued investment in growth accelerators with more effective cost management, and we're planning actions this year that will deliver more than GBP 30 million of annualized savings, most of which will come next year.And through the work that we're doing to reduce duplication, simplify and improve our physical process and digital infrastructure, we see opportunity to further optimize our cost base while still delivering and executing our growth strategy. I'm pleased with the long-term potential I see in Risoul and Distrelec, and the Distrelec integration is pleasingly ahead of plan. And perhaps most importantly, after 7 months, I see that we are executing broadly a right strategy and that our exciting growth opportunity is real.We're a strong global player operating in fragmented markets that have attractive through-cycle and underlying fundamentals. Through investment in growth accelerators, there is a potential for continued and sustained outperformance over time here. There is additional opportunity for through-cycle margin expansion and from improving operating leverage and driving operating effectiveness. And we're cash generative with a robust balance sheet that supports accelerating realization of our strategy and enhancing our underlying organic growth.We're beginning to see tighter focus, more alignment, better prioritization and improved execution across the Group, and we're making good underlying progress despite those short-term market challenges I've referred to.So that's a quick trot through what I think has been actually on an underlying basis a pretty good 6 months for RS. But before we move into the numbers, I thought it would be helpful if Kate would just stand up and introduce herself and say a few words about what attracted her to RS. Admittedly, though, after 5 weeks, her impressions are presumably initial.

[Kate Ringrose, executive]

Good morning, everyone. I'm really delighted to be here. And thank you to Simon for the very kind introduction. I chose to join RS principally for 3 reasons. It's an organization that has a very positive impact on a global scale in keeping industry moving, and I like being part of enterprises that really matter. I see significant potential within both the markets in which RS serves as well as within the organization itself. And the Board and the exec team have deep relevant experience and Simon's got a very strong reputation as a CEO. And I'm really excited about the plans for the business.I also believe I can bring a lot of value to the journey that we're on. I joined RS from Centrica, which is a large diversified business and in which I held a variety of financial and operational roles in various parts of the group, and in that, gained a lot of experience across the years. In the last 5 weeks, I visited a number of countries, I've visited distribution site, and I've been very encouraged by what I've seen and the people I've met. The opportunity is very much how Simon and the Board described it to me.I think one of the great things that we have in RS, though, is our will to get after those opportunities. As the markets are tough, they're challenging, we've got a lot more to do, but this is a growth business with many levers and that makes it very exciting for an incoming CFO.So that's probably more than enough for me for now at this stage. You know, as Simon said, before I introduce Jane, she's been extraordinary in stepping into the CFO role on an interim basis and a huge support to me in the coming weeks. So huge thanks to her. I very much appreciate you being with us today. I'm very much looking forward to getting to know you all and to meet you all in the coming weeks.And this stage, I'm going to pass on to Jane.

[Jane Titchener, executive]

Yes, thank you, Kate. And good morning, everybody. So let's then look at our financial performance.On Slide 7, we've summarized the performance during the first half of the year during what's been a challenging trading period against a strong set of comparatives. Revenue declined by 1%, including contributions from our newly acquired businesses, and we saw an 8% decline in like-for-like-revenue, a reflection of that difficult trading backdrop. We delivered 10.8% adjusted operating profit margin, reflecting lower volumes and dilution from our acquisitions, offset by savings in our underlying cost base.We generated GBP 26 million of adjusted free cash flow, with investments in working capital, particularly inventory through the first half. And as Simon has said, our ROCE remains over 20% despite only 1 quarter of trading contribution from Distrelec.Some key metrics at the bottom of the slide to highlight. Industrial Product and Service Solutions revenue, which accounts for 80% of group revenue, was down 2% like-for-like. Our Electronics category declined by 24% like-for-like, reflecting the electronic cycle. Our Digital channel performed better than the overall group, down 5% like-for-like.We've seen good growth in our Service Solutions revenue due to greater uptake of digital solutions. And RS PRO has outperformed with the proposition of a quality alternative to the main branded ranges continuing to resonate well with our customers.So on Slide 8 then we outline the revenue bridge comparing revenue in the first half with the same period in the prior year. So in 2022-'23, we benefited from strong product availability when global supply chains were constrained, mainly in electronics, and we estimated the benefit impacted revenues by about 5%. To the extent, like-for-like decline was largely the result of reduced volumes in challenging market conditions and customers trading down in their mix of products, with inflation contributing a small single-digit increase.On our acquisitions, Risoul contributed a full 6 months of revenue and Distrelec 3 months following the completion of the acquisition at the end of June. And there was a small impact from fewer trading days and foreign exchange movements.On Slide 9, we show our adjusted operating profit margin bridge. So again, we've estimated that the unwind of the inventory benefit from the first half impacted our operating profit by about GBP 26 million. In the first half, we saw a 180 basis point decline in our gross margin, of which 140 basis points was the dilutive impact of the acquisitions. And the acquisitions dropped through to a 30% basis point dilution to adjusted operating profit margin.Adjusted operating costs reduced 4% like-for-like. We flexed down our variable costs and taken targeted actions to reduce overheads, which have more than offset cost inflation. A large proportion of our operating costs -- and in response to the current trading environment, we're taking action to reorganize our cost base, which will deliver around GBP 30 million of savings on an annualized basis, with around GBP 2 million in the first half and GBP 8 million in the second half and most of the remainder in the next financial year.The cost of delivering these savings are estimated to be GBP 15 million and our first half numbers include GBP 4 million of this, the balance to be taken in the second half. Despite the short-term environment, we continue to balance medium-term growth opportunities with some reinvestment of savings into our growth drivers, improving search capability on our website, developing common customer relationship management processes and systems, becoming cloud-based and enhancing our distribution network.So let's move on then to our regions, starting with EMEA on Slide 10. Performance in the EMEA region has been resilient given the challenging market conditions. Like-for-like revenue fell by 4% with margin discipline, improvement to operational efficiencies and tight cost control, allowing us to take advantage of our scale, resulting in the like-for-like operating profit margin growing by 40 basis points. We've maintained share with our higher lifetime value customers and have seen smaller value transactional customers reduce as inventory availability normalizes.We've increased the relative share of our growth drivers, digital, own brand RS PRO and service solutions. In the markets where our offer is broader and more rounded, including the U.K. and France, where we've had our strongest performance, with Germany, in particular, negatively impacted by the cycle due to relatively high exposure to electronics. We've seen good gross margin discipline with some gains from price inflation. We're improving our operating efficiency and leveraging the variable cost base where appropriate, resulting in operating margin gains.Distrelec's trading -- reflects the trading environment, slightly below expectations, particularly with its exposure to German and the electronics market. But we've got detailed plans for integration, and we remain really confident in the delivery of cost savings and synergy benefits from cross-selling opportunities. So going forward, we continue to build on a solid foundation with more focus on high-value customers and growth drivers and continuing to improve our operational efficiency and leveraging our scale in the region.So let's move on then to the Americas on Slide 11. Like-for-like revenue in the Americas fell by 14%, including the unwind of the benefit of last year's inventory availability. In the Americas, our product range is narrower than in EMEA, and we've got a greater proportion of our business in automation and control and a higher proportion of smaller manufacturers in our customer base, and their purchasing patterns are more correlated to the electronics cycle. So as with many in our industry, we've seen customer destocking, which is also depressing volumes.Our like-for-like operating profit margin reduced by 5 percentage points as gross margin gains from the prior year reversed, and we've seen more competitive pricing in electronics. We have taken action to rightsize the cost base, including a reduction in headcount, with benefits delivery into the second half. Revenue performance at Risoul has been better than expected as Risoul benefits from a strong order book and good inventory availability versus peers, and the integration of Risoul is progressing well.So going forward, we're focusing on our value-add areas of digital, service solutions and own brands and operating with a more flexible cost base, leveraging our value drivers to move to a more strategic relationship with our customers.On Slide 12, we detail our performance in Asia-Pacific. So revenue in Asia-Pacific was down 18% like-for-like against a very strong period of growth in the prior year. Trading in APAC continues to be impacted by our exposure to the electronic cycle and continued macro uncertainty, particularly China. Customer destocking also impacting volumes. Our operating profit margin reduced -- during the first half reduced to 2%, affected by high operational gearing, given our relatively small scale in the region.Gross margin gains from the prior year are unwinding and we're seeing more competitive pricing activity, particularly in electronics. We've taken action to adjust our cost base, including a reduction in headcount to deliver benefits in the second half of the year. We're investing in local customer fulfillment centers to improve service and reduce freight costs and focusing on developing our service proposition to capture opportunities with larger industrial customers.So we'll move on now to the cash flow and balance sheet, which is on Slide 13. So starting then with adjusted free cash flow. So just to orientate everybody here, free cash flow doesn't include the acquired balance sheet of Distrelec. So we generated GBP 26 million of adjusted free cash flow in the first half of the year, which is down GBP 86 million from the first half of last year. 40% of the reduction related to lower EBITDA and the balance is largely due to the timing of inventory intake, which is weighted to the first half of the year.And this was impacted by 2 dynamics: the first, a change in our supplier performance, which is rapidly improving as supply chains unwind. Shorter lead times mean that new orders are being fulfilled more quickly than the prior year. And we're also seeing the release of built-up back orders, meaning delayed orders from suppliers are also received. And those backlogs were highest in electronics products, where minimum order quantities required to protect availability are higher than across other parts of our industrial range.And at the same time, customer demand is declining given the market backdrop impacting the rate of throughput of inventory sold. Over half of the inventory intake in the first half was in fast running products, which has already begun to unwind into cash in the second half.And now on to the balance sheet and working capital. So again, just to orientate you, these will include the acquired assets and liabilities of Distrelec. So working capital as a percent of revenue increased by 3.5 percentage points, with about half of this relating to acquisitions.Gross inventories increased by GBP 139 million from the year-end, again, approximately half as a result of the acquisition of Distrelec. Our inventory turn in the first half was 2.3x, and that's already improving as we take action to reduce our order book and sell through our current inventory. Inventory provisions increased by GBP 35 million, and GBP 23 million of that, again, was from Distrelec.And just as a reminder, our inventory provision is calculated on an inventory cover basis, so it reflects the estimated number of years of sales we have of inventories in each product. So the increase in the inventory in the first half is mechanistic. It reflects the effect of the slowdown of sales volumes, which increases our estimate of the time line to sell the inventory, which in turn moves the inventory through our provisions categories.Capital expenditure was 1.2x depreciation as we continue to invest in optimizing our distribution centers, implementing product and customer management systems and strengthening our digital and technology platforms. Our net debt increased to GBP 502 million, with the acquisition of Distrelec increasing net debt by GBP 333 million.So now let's move on to Slide 14 with some themes to consider for the second half. So as we move through a change in cycle, market conditions continue to be challenging and uncertain. However, the factors below are relevant in considering likely outcomes for the second half of the year.So gross margin was more robust than we anticipated in the first half, and we have -- still had some benefit from price inflation. Assumptions we made on gross margin at the prelims for the full-year still holds, and we continue to expect to see prior year inflation to unwind and our acquisitions will have a dilutive impact.On costs, as we've already outlined, we've taken action to manage our cost base more effectively to deliver GBP 30 million of annualized cost savings. And we expect to invest around GBP 11 million of cost investment in the second half and see realization of about GBP 8 million of benefit from the actions we've taken in the first half.And there's also a further GBP 9 million of operating profit benefit from the second half of the prior year. We're anticipating that our full-year interest charge will be around GBP 30 million, reflecting higher net debt position, and our tax charge will be around 26%, reflecting the increase in the U.K. tax rate.On cash, the average lead times, meaning the actions to reduce our inventory order commitments, will lag the decline in sales. But over half of the inventory build in the first half was in fast-running products, which is already beginning to unwind in the second half, which is benefiting cash flow. And as a result of this cash flow, cash generation will be more weighted towards the second half as we reduce our inventory intake and sell through our current inventory.Capital expenditure will be in line with previous guidance, including continued disciplined strategic investment. Further guidance points, including trading days, foreign exchange and some of those operating cost actions is included in Slide 28 of your pack.So thank you. I'll hand back to Simon now.

[Simon Pryce, executive]

Thanks, Jane. Not bad for an Interim CEO -- CFO. So thanks, Jane. Now let's have a look at some of that positive strategic and operational momentum that we're delivering in the first half. And before I get into that, the last 7 months certainly haven't been great for my personal carbon footprint. But pleasingly, as an organization, we're making great strides in improving our emission reduction. And therefore, that's more than made up for by this great RS organization.But it's been important that I visit as many of our sites across the regions as possible. I've been to all 3 regions, sometimes more than once. And I've been talking and listening to our people, understanding more about our business, our markets, the opportunities for us, the projects that we're working on, the progress that we're making and also the barriers to executing more effectively and more quickly.And I'm pleased that everything I've seen and heard supports and confirms that the Group's strategic ambitions and potential are real, that we're mostly working on the right things, if not quite as effectively as we could be. But I've also seen significant opportunities to improve operating performance and execution.But before we get into that, I also thought it would be helpful if I shared with you on Slide 16 something that is an external indicator of what's really going on in our markets. So although we are one global business, at a country market level, markets, products and the verticals that we serve are nuanced. However, when you aggregate everything back together as this chart, which plots composite weighted PMI against RS's like-for-like growth over the last 20-odd years -- as you can see, composite PMI is actually a very good indicator for what our revenue on a like-for-like trading performance does.When you look into the regions, they do behave differently in part due to the specific economic cycles that happen in their major markets, but also because exposure to various different process industry verticals is different and our product mix does vary. Product mix is important, particularly because electronic components, which make up about 20% of the Group, has its own structural cycle, which is driven as much by capacity and demand as it is over production. And that operates slightly differently to broader industrial PMI.And as you heard from Jane, actually, EMEA is performing well versus PMI. Our industrial revenue continues to outperform, partially offset by electronics, which has been and continues to be very soft across the globe due to weakening orders, increased availability and extensive customer destocking. In America, there is slightly less correlation to local PMI because we're more exposed in that market to the automation and control industry. And we also exposed more to small OE, high-complexity, low-volume production manufacture. And both of those areas are more exposed to the electronic cycle than the rest of the group.And so we continue to look in the U.S. at how to better diversify our customer verticals and product range. And over time, I expect the U.S. to continue to migrate more towards the European model. And in Asia-Pacific, again, as Jane said, it is less correlated to broader PMI, principally because it's a less mature market for us, and it has a much higher exposure to electronics.But the key takeaway is when you add everything back together, there's a really good correlation between our organic growth and what PMI is doing. And generally, as you can see from this chart, RS outperforms through the cycle with higher peaks and lower troughs than PMI. And as you can see, and as you will know, the last 6 months, PMI has been moving in a way that reflects the challenging markets in which we continue to trade. And actually, when you step back and look at what our revenue has done on an underlying basis, we have performed broadly as we should.So on Slide 17, notwithstanding the difficult trading environment, I'm pleased to report that we've made progress on all of the key priorities that I talked about at our preliminary results presentation in May. We've been focusing hard on operational effectiveness. This is where the whizzy slides happen. So please bear with me because it's following a sustained period of strong trading post-COVID, it feels like there is an opportunity to optimize our cost base through reducing complexity and improving efficiency and still accelerating execution. And we're making good progress in lots of areas.We are aligning the organization's leadership. We have made some great key hires to enhance our already strong management team. We've streamlined the senior management team and decision-making by creating an aligned and empowered executive committee that is responsible for prioritization, effective resource allocation and driving greater focus and agility and operational and financial performance. And we've created a broader advisory group to shape challenge, test and lead our strategic priorities and cultural evolution.We're reviewing our operating model. We've developed a simplify -- we are developing a simplified and clarified target operating model to improve our operating effectiveness, agility and scalability. We're enhancing the Group's performance management metrics and processes to ensure that we can exercise effective operational oversight, provide better information and share best practice to improve alignment and collaboration across functional, regional and country teams. We're improving strategic alignment and underlying processes. We have improved our strategic planning process to make it more bottoms up, more action orientated and more aligned.We're increasing our process focus, defining those processes that are common across the Group, those that are common, but with local optimization and those that are local and ensuring that they are effective and that we continuously improve them. And we're also clarifying what we mean by the evolution to a purpose-led culture. And this is a priority for our CPI. We've already completed our base culture assessment, and we are in the process of defining the culture we need to have to support acceleration of our strategy and the clear actions and tools and processes that we'll need to implement the change to make it effective, all of which will accelerate more effective execution.We're also continuing to invest in improving our operational leverage and drop-through for when our market returns to growth as they surely will. We see significant medium-term benefits from increased scale with the recent acquisitions of Distrelec and Risoul, enhancing our existing footprint in key markets such as Switzerland and Mexico. And with the effective integration of these and other acquisitions, which allow us to improve and better leverage our existing physical, digital and process infrastructure.We're also optimizing our cost to serve. We're rightsizing the cost base. As you've heard from Jane, we've reorganized and reduced headcounts already in Americas and Asia-Pacific. We're accelerating the integration of Distrelec into H2, and we'll continue to maintain tight but balanced control overhead. We continue to optimize our supply chain and distribution footprint. We've already further improved the performance of our major distribution center in Germany, materially increasing our SKU capacity there and processing efficiency. And we've increased our flexible local fulfillment capacity with third-party customer fulfillment centers in Asia and adding further capacity in Spain and France.And we're investing to ensure that we are both more agile and can scale more quickly. We are now a cloud-based business, having completed the migration of our operating systems with over 100 back office, middleware and front-end applications to [ friction ] and process complexity. And all of this is helping us accelerate into a recovery.And then finally and not least, despite this difficult short-term environment, we continue to invest in those growth accelerators that move RS from being a transactional distributor to a product and service solutions provider for our targeted customers and our strategic suppliers.In the last 6 months, we've materially improved our digital and customer experience. We've introduced sophisticated upgrades to our websites, which is now an AI-enabled tool and contains search capabilities powered by Google technology. This enhanced website is now effective in the U.K. and Ireland and is already showing positive improvement, particularly in conversion and basket size, and we'll be rolling this out across the world in the second half.We're also developing and launching specialist customer management tools initially in Germany, which will be deployed globally over the next 18 months or so. We've enhanced our product offer, not just by the additional 50,000 SKUs -- stock SKUs that we've launched in the last 6 months, but also an additional 5,800 RS PRO products with nearly 4,000 of those particularly targeted at our American customer base, where we also continue to invest in the RS PRO brand.And we've rolled out our now 20,000 Better World sustainable product range in 15 countries across the globe, and we see lots of opportunity for further expansion in that range. And we're also focusing on continuing to develop and scale our value-added solutions that were so well positioned to provide for our customers that they value and that they're prepared to pay for. Inventory solutions have been expanded out of the U.K. and Ireland across the whole of Europe.We're improving the RS integrated supply offering to make it more scalable whilst retaining flexibility for customer optimization, and we're developing service solutions that pull through more product revenue, all of which supports acceleration of customer capture, loyalty and ultimately, share of wallet.And of course, our cash generation and our strong balance sheet allowed us to enhance our organic growth. I visited both Risoul and Distrelec recently, and I'm very pleased with what I found. Good and strategically important businesses, high-quality people, and much that both organizations can learn from each other and that RS can learn from them.I'm also comfortable that we were value disciplined and that over time, both Risoul and Distrelec will accelerate realization of our strategy in a very value-creative way. Integration at Risoul, which ticks a number of our strategic criteria, is progressing well, and we're benefiting from strong markets in Mexico and see the opportunity to cross-pollinate technical expertise in Risoul into our Americas business. And our relationship with Rockwell has strengthened further. And with their support, we've already opened small operations in 2 additional territories.And to Distrelec, which also ticks a number of our strategic criteria, although we only completed the acquisition at the end of June, integration is proceeding well and is ahead of schedule with more potential benefits identified than initially anticipated and with lower cost to deliver them. And with Distrelec, as Jane has said, experiencing some of the slightly challenging market conditions that we ourselves are experienced in Europe. We have taken the decision to accelerate our integration and associated cost reduction into the second half of this year.And I am comfortable that these high-quality acquisitions are accelerating the realization of our growth strategy. So after 7 months and notwithstanding a challenging first half, we're really well positioned. We've got good, hard-working, committed people. We're a strong global player operating in fragmented markets that have attractive underlying fundamentals. We're a relatively unique as a multichannel, high-service MRO distributor and service solutions provider, and we're digitally enabled and very data rich.We have an opportunity, therefore, for sustained outperformance through continued investment in our growth accelerators, enhancing operating leverage and driving operating effectiveness. And we delivered a resilient performance in H1 in challenging markets, but balancing continued investment with cost management actions, some implemented and more to come. We have very positive strategic and operational momentum, and we're already beginning to see tighter focus and more prioritization and improved execution across the group. And this gives me great confidence that the next few years are going to be an exciting and a rewarding time to be part of the RS Group.So with that, I'd like to open up the meeting to questions. There are some people with mics dotted around the room. If you could raise your hand, one of the mics will get to you. If you could then state your name, the institution that you represent and then your question, we'll do our best to answer it.

[Simon Pryce, executive]

So let's start with the lady in the second row there.

[Annelies Vermeulen, analyst]

It's Annelies Vermeulen from Morgan Stanley. So just on the cost savings, could you talk a little bit about how much of those are related to making the cost base more flexible? And to then to what extent are you confident you'll be well positioned when those volumes return? And if you're able to talk a little bit about how much is related to headcount or your distribution centers or technology investments, what could that look like?And sort of a sidestep the second part of the same question, what does that mean for your margins going forward, these cost savings that you're making? And is there a new kind of margin target we should be thinking about over the medium term? That's my very long first question.

[Simon Pryce, executive]

I'll try and take most of those, although I'm not going to answer target margin question. I mean, if we thought we needed to change long-term view of target margin, we would have said so. I think we're very comfortable with what we have today. In relation to these cost savings, I mean, the vast majority of our costs are people. So a good chunk of these are people. They are permanent, and this is reflecting a piece of increased efficiency. It's reflecting a piece of acquisition integration. So a chunk of it is accelerating the acquisition of Distrelec and it's generally just making us fitter for improved conversion. They're permanent. These aren't sort of interim things. There are changes in the structure and the way we work.And that means that clearly, there's opportunity for more accelerated margin improvement when the business turns for growth. And I still think there are opportunities for further improvement in operational effectiveness over time, but we'll tell you about those as and when we do them.

[Annelies Vermeulen, analyst]

And then just secondly, on the destocking piece. We've had relatively mixed messaging from other businesses with U.S. industrial exposure. Do you have a view on whether that destocking piece is now coming to an end? Or is that something we could continue to see through your fiscal second half?

[Simon Pryce, executive]

So I think I'd love to be able to tell you a database, an accurate view of that. Intuitively, we are closer to the end of destocking than we were. However, there is something else going on, particularly in automation and control because actually book-to-bill rates in the manufacturers are still operating at below 1. So not only that you got destocking going on, you've got a slowing in some of the A&C world going on too. So I mean, Fastenal were out the other day, Arrow were out. I think people are all struggling with it a bit. Most people are saying first quarter -- first month next year, so our last quarter this year, that feels a little bit optimistic probably to me. But I would expect to see that destocking sort of finish creeply at some stage in the first half of next year.It's also important to recognize that sort of that's only 20% of what we do, a bit less than that. We don't see similar dynamics in industrials. So there wasn't the same stock build. And whilst there's a little bit of fluctuation in inputs and outputs, it's only in electronics where we see that real stock up won't happening because that's where it was built in the first place.

[Annelies Vermeulen, analyst]

And then the last one, just very quickly on your comment on the gross margin, your expectations for the second half. Do you have a view on what pricing will do through the second half? Do you think this low single-digit will continue? Or should it be more flat?

[Simon Pryce, executive]

Do you want to go at that?

[Jane Titchener, executive]

I mean, again, difficult to predict accurately. I think -- I don't think we'd assume any deflation, and it's low single-digit inflation at the moment, I think flat probably.

[Simon Pryce, executive]

We certainly don't...

[Jane Titchener, executive]

Assumption as any, but I mean --

[Simon Pryce, executive]

We don't see any pricing pressure in industrials, electronics here 6 months ago, but we don't see any deflation out there.

[Rory Mckenzie, analyst]

It's Rory McKenzie from UBS. In the bridges on Slide 8 and 9, you called out the trading benefit in the prior year period. Can you just clarify what that is and how you estimated it and why you're calling it out as separate to the volume and gross margin declines that you're pointing to investors? And then secondly, just a follow-up on that pricing point. Can we get a figure on the pricing contribution to revenues in Q1 and Q2?And with this gross margin dilution getting worse in H2, as you've described, can you explain the dynamics there? Because last year, you had the bigger price inflation contributor in H1. So why is it getting worse this year in H2? I'll take those 2 first, please.

[Simon Pryce, executive]

Jane, do you want to take the trading benefit last year and why we've called it out?

[Jane Titchener, executive]

Yes. So I mean, we talked about this at the prelims where we were definitely seeing a positive impact on our results last year from us having inventory availability, and we were definitely seeing customers that we wouldn't normally see come to buy that inventory from us. And those customers have kind of not stayed with us once inventory levels have returned to normal across the channel. So how do we calculate that? It's an estimate of the impact of those customers who we saw on a transient basis who are now not coming to buy from us.I mean, it's an estimate. It's -- but that's broadly how we've done that across the 3 regions. So that's why we're calling out because it is quite a different business from what we normally see in our underlying business. And we're just trying to give you a feel for what that impact that had year-on-year.

[Simon Pryce, executive]

So pricing contribution to revenue, low single-digit?

[Jane Titchener, executive]

Low single-digit, yes.

[Simon Pryce, executive]

Price margin getting worse in H2, change? Do you want to take that?

[Jane Titchener, executive]

Yes, I think it's a little bit of mix. So I mean, gross margin is down in the first half, but quite a big chunk of that is from the acquisitions. And we haven't seen as much of the inflation unwinding through the margin as perhaps we were expecting to see. So I think that proportion between inflation and acquisitions will kind of change in -- through the second half. That's certainly what we're expecting our kind of price inflation headwinds.

[Simon Pryce, executive]

Yes. I think if you look, this price inflation on our inventory sort of becomes the stock that you're selling, then you see that gross margin...

[Jane Titchener, executive]

A little bit of mix. So which inventory selling which product lines, is that in and is that -- are they the ones that are flowing through. So I think we'd see more of that in the second half.

[Rory Mckenzie, analyst]

And Simon, I appreciate the chart of RS Group organic growth against composite PMI explains where we are today. As you move into the CRO, do you also find that quite sobering in terms of the past outperformance the group has delivered? I know we're never going to move away from the customers having their own cycles. But what was your view on the outperformance that the company has delivered even in the past 5, 6 years? Have you changed your view of that?

[Simon Pryce, executive]

No, I ever haven't and actually, perhaps I didn't make it clear enough in the slide. If you look at that chart and you look at the correlation between RS and PMI, you see that RS outperforms -- through the cycle, i.e., the peaks are higher and the troughs are lower. All of that is real. I do think that the last 18 months because of the timing of the electronic cycle, we did have this one-off trading benefit, which was partly driven by stock availability and partly driven by input cost by price inflation in advance of input cost inflation.And when you back that out, actually, that's why I'm saying, I think we absolutely outperform the cycle. PMI is a good indicator of what's going on. And that's why in our first half, once you back out that one-off trading benefit, actually, this business did exactly what it should do.

[David Brockton, analyst]

It's David Brockton from Deutsche Numis. Can I ask 2 as well, actually related to Rory's question.

[Simon Pryce, executive]

I think you can ask at least 3 if Annelies is to go by.

[David Brockton, analyst]

No, 2 will suffice, but they're quite long. So just trying to get to more detail in terms of the unwind of prior year one-off purchases. Can you just give a bit more detail in terms of what you're seeing in terms of customer count, average order frequency and average order value, just how those have moved if you still monitor those? And then the second question relates to sort of cash flow and capital allocation. I appreciate a lot of the pressures on the first half will unwind in the second half, and the business still looks relatively lowly levered. Can you just touch on your views in terms of deploying more capital into inorganic expansion? And also sort of views on sort of shareholder returns directly as well, please?

[Simon Pryce, executive]

On customer accounts, yes, we do monitor, of course. I would expect, as we increasingly focus on strategic customers with long lifetime values that actually our customer count may drop a little, and it has been dropping a little. It goes back to what Jane has been talking about those transient customers that pop up on the website, they buy one thing and they disappear. They're coming less frequently and less often because there's less of them. So customer count down a bit, but actually customer count and the customers that we care about up and outperforming our broader market. So that's all good.Order frequency and order values taking -- order values up ticking up a bit, but there's a bit of mix change going on.

[Jane Titchener, executive]

There are acquisitions.

[Simon Pryce, executive]

And we've also got some acquisitions in there. But nothing of concern in those KPIs, which we do monitor and actually are going in the right direction based on strategically what we're trying to do. In terms of balance sheet capacity, absolutely, this is a cash-generative business. We have a very strong balance sheet. We continue to look at opportunities for -- to invest both in organic growth and inorganic growth. And we have a fairly clear and stated capital allocation policy, which will continue to comply with.I think when you look at our share price, however, I always think it's important when you're looking at the alternative ways of deploying your surplus capital to bear in mind your own share price because that is an implicit investment that you could make. It doesn't benefit all shareholders versus investing in other things that deliver long-term sustainable value. So we need to keep an eye on it. Certainly, I don't think there's any immediate plans to change that capital allocation policy and to look at buybacks, but we do have, of course, the facility to do it if we need to, and we'll continue to look at the external world where we think we can create a lot of value through selected acquisitions at the right price, but we will also continue to have one eye on what we're investing in our own shares would do.

[James Rosenthal, analyst]

It's James Rosenthal, Barclays. I'll start with going back to the trading benefit you flagged as well. I mean, how confident are you that, that's the extent of it and that there's also no potential sort of one-offs and over earning within the industrial side as well?

[Simon Pryce, executive]

Jane?

[Jane Titchener, executive]

Yes. I mean, look, it's an estimate. It's very difficult to absolutely isolate everything, which is completely out of the ordinary course. But we definitely saw more of this customer behavior in particularly in electronics because that's where they were the most product shortages and most products and allocation. That wasn't the case within our industrial range. So it's much less likely that there was that pattern of behavior within our industrial and therefore, much more focused within electronics and automation.Some of our automation and control products behaved in a very similar way. So we would categorize those as industrial, but actually we've treated them as electronics for the purposes of kind of doing this analysis. So I mean, I think it's going to be a small amount if there was any outside that core of electronics and industrial.

[Simon Pryce, executive]

Honestly, James, we are actually quite sophisticated in the way we monitor purchases of products and who buys them within the group. We have a bunch of people and a tool that looks very hard at inventory planning against prior purchases, current market environment, what's going on in the external world. And usually, and generally, we are very accurate on about 85% of the products that we sell. Over the last 18 months and -- it's all in electronics. They accurately dropped from 85% to about 75%, and that's because we were actually selling things that we don't really sell that much of because they were sitting on the shelves, often they've been provisioned.I think, therefore, we're pretty comfortable that whilst it might not be dead accurate, anything else that is outside of the numbers that Jane has shared is just normal trading. So I'm pretty confident we don't have any more one-offs to burn out other than those 2.

[James Rosenthal, analyst]

Secondly on cost savings, if I can. I mean, how is your thinking evolved over time there? I mean, did you think you'd have to do some at the full-year? Or to think a bit more heavily about the quantum of that as we've progressed through the year?

[Simon Pryce, executive]

This wasn't triggered by any particular financial performance or current market or anything like that, James. This is about us continuing to get much more operationally effective. A number of these plans were in place at the beginning of the year. A scrub of the integration plans identified that we could actually accelerate. The integration of Distrelec and the merger of the 2 businesses much more quickly than had originally been thought.So this is all about continuing to get the organization fitter because I think we have had a couple of years of very strong trading post-COVID and things are not quite as toned as I would hope they'd be. And that's why I say there'll also be a continuing, I suspect, operate -- focus on our operational improvement because we still have very clunky processes. We still are inconsistent in how those processes are deployed. We are not fantastic at driving the headcount efficiencies that some of our process improvements gest.So I think it's a waffly answer to say there's more to go out to get us fighting fit. We're a lot fitted today than we were 6 months ago, and we'll be a lot fitter at the end of the year than we are today.

[Simon Pryce, executive]

Any other questions? Hang on, you're Head of IR.

[Jane Titchener, executive]

That's some online. So can you give us an update on how the new European warehouse is progressing?

[Simon Pryce, executive]

I can do that personally. I've been a couple of times in Germany now. My first visit to Germany in April. I stood on the picking line, picking packages for shipment. And I even as an Idiot Chief Executive, who's never worked as a pick -- in a distribution center before I could outpace the automated software that told me what to pick and what to put in the box. I was back there in September, and I now cannot outpace that picking software.Why do I share this story with you? There has been significant improvement Bad Hersfeld and Bad Hersfeld's operations SKU capacity, and that will continue. There's more potential there. I am learning that when you build new warehouses or when you incur significant expansion costs in warehouses and you upgrade and develop the warehouse management system, it does need to be tuned. It's a bit like an F1 racing car. You do have to treat the spanner, you have to get all the systems operating effectively together. We are doing that and continuing to do that much more effectively in Bad Hersfeld and we did. It's not perfect yet, but it's a lot better than it was 6 months ago.

[Jane Titchener, executive]

I've got a few. Have you met customers and suppliers? And what are the key messages they're giving?

[Simon Pryce, executive]

Have met both customers and suppliers. The key messages are we very much value what you do. We value the high service availability that you give us. We like your shift to creating closer relationships with us by building value-added services that we value and are prepared to pay for. And we like the fact that you're increasingly clear on what you're trying to do. And suppliers actually say the same thing.As the high-service industrial MRO process industry, MRO provider, they understand what we're trying to do, and we understand much better how we can develop value for our customers that are also their customers in a positive way. Occasionally, RS has been a little less focused on what it is trying to do. On occasion, I think we've talked about being a high-service, broad-range electronics distributor. That's not helpful for suppliers because it's a partnership relationship that both we as the distributor and they, as the supplier need to be benefit -- need to benefit from to do that, you've got to be very clear on the customer set that you're pursuing and the product range you therefore need to carry to help them.So I think some of the clarity that we've introduced over the last 6 months has been positively received by both the customers and suppliers.

[Jane Titchener, executive]

Question about exit rates?

[Simon Pryce, executive]

I think it's not getting any worse, but it's not feeling like it's fantastically better. I mean, how you get into the exit rates? Second quarter was slightly worse than the first quarter, but who knows? I mean, I think it's difficult. If I could predict what industrial production was going to do, I probably wouldn't be here. I'd be on a beach somewhere. But what I can tell you is the organization is much fitter at the end of 6 months than it was and that all the work we're doing, which is balancing strategic investment for accelerated growth with -- and one thing you do know about this business and this industry, it will return to growth.It will -- the cycle will turn, and we're a lot closer to that cycle turning today than we were 6 months ago.

[Jane Titchener, executive]

Can you give a little bit more color on Distrelec, please? Why is it performing behind plan? Have you lost any customers?

[Simon Pryce, executive]

So I think -- so no, we haven't lost any customers. In fact, we're gaining customers. We're actually converting customers from Distrelec into RS and using -- and also in certain instances, transferring RS customers into Distrelec systems. So now all the customer transfer is very strong. And in fact, if you look at the Distrelec underlying performance and you compare it to our own underlying performance in the same countries, it's broadly the same. Actually, Distrelec doing slightly better than the RS companies are.So I'm very comfortable with Distrelec's good acquisition. We're accelerating the integration. Probably we should have planned a more rapid integration at the outset. And frankly, when I came on board, that's one of the first things that we did was to turn that integration plan into a proper full integration plan, and we're getting on with that now. The benefits that we'll generate from Distrelec are materially greater than we had in our own investment case and actually the cost delivered them going to be cheaper, too.So for me, Distrelec's going to be a good one.

[Jane Titchener, executive]

And how has the rebranding gone in the U.S?

[Simon Pryce, executive]

I think it's gone. I mean, we are rebranded. It's done. When I made a reference a little earlier to continued investment in the brand in RS, it was actually to RS PRO. So one of the important things that we need to do -- to push RS PRO in America is to improve the brand recognition of RS PRO amongst our traditional customer base. So that's actually what we're investing in, the rebranding is all done.I hope those are questions that were on line. Any other questions? Okay. Well, 2 minutes late. Thanks very much, and thanks for attending. Thanks for your continuing interest, and we look forward to seeing you 6 months or so. Thank you.

[Jane Titchener, executive]

Thank you.