Renishaw PLC

LSE:RSW

Earnings Call Transcript 2023-Q2

[Operator]

The broadcast is now starting All attendees are in listen-only mode.

[Chris Pockett, Head of Communications]

Good morning, everyone. My name is Chris Pockett, I'm Head of Communications for the Renishaw Group. I'd like to welcome you to this live Question and Answer Session event for Renishaw’s Interim Financial Results for the Six months ended December 2022.

Hopefully by now you've all had an opportunity to view the video presentation that was released as part of this morning's RNS statement. And will lead Chief Executive and Allen Roberts, Group Finance Director are here now to answer any questions that you may have in relation to that presentation and the interim results statement.

He will try to answer as many questions as possible, before we close at 11:15. I will try to group similar questions together, so we may not answer all individual questions. If you haven't already done so you can submit questions via the question icon that you can see on the control panel on the right of your screen.

Just to note that based on past feedback, it may help to refresh your browser, should you lose sound or the connection. And now we're going to start with the first question. And this is a question relating to the competitive environment.

[Chris Pockett, Head of Communications]

Has the competitive environment become tougher or easier in the last two to three years and why? Is competition likely to become tougher going forward? And what can Renishaw do to manage these risks? And I think that one's going to go to Will.

[Will Lee, Chief Executive]

Thanks, Chris. So from many years, we've faced really good competitors. I don't think this has changed significantly over the last few years. Probably the theme to draw out here that we've mentioned before is the emergence of new competition in China. I think we're pleased with how we're doing here, differentiating ourselves on performance from the innovation we invest in global support, and also the quality and reliability of the product that we supply that's often integrated into quite high value equipment.

Going forward, we always assume the competition is going to do a really good job. And our strategy is going to remain unchanged here that came to that, that we're going to continue to invest in the R&D, to make sure that we are supplying a differentiated product and make sure we're there to support our customers around the world with the high quality products, and also investing in our manufacturing to make sure that we can maintain that and respond to their needs.

[Chris Pockett, Head of Communications]

Okay, thanks Will. You touched on R&D then, and we have a question relating to that. So that is from many years, your R&D has averaged around 10% of sales, will that be sufficient going forward?

[Will Lee, Chief Executive]

Yes, as you say links in well with the previous question there. So we certainly believe so, that the positive for us probably in this half is, we talked in the past about the last few years, we've had a lot of challenges with supply chains and actually more of our engineering spend has actually been on making sure we keep products going out the door.

You can see for the numbers now, we've actually got more of the engineering effort back onto innovating for the future. We believe with this, it's more about the productivity of making sure we're getting the key disruptive products coming through from our investment. And we think that will really place us well going forward. So we don't see a long term significant change in the amount of percentage that we are going to be investing in R&D.

[Chris Pockett, Head of Communications]

Okay, thanks, Will. And got a question here, which I think is going -- go to Allen. You've been building a network and capsule inventory for an extended period of time, citing safety stock, including around 49 million in FY ’22 and a further 49 million plus in H1 2023. Trade working capital seems to have reached a new all-time high relative to sales. When or where do you expect working capital to peak normalize in light of destocking trends at your customers?

[Allen Roberts, Group Finance Director]

Thank you, Chris. Yes, it's a good question. Increase in our net working capital has been primarily driven by our inventory increases, as you rightly say. Over the last couple of years, the supply chain has been very difficult for us and for many organizations. And we have been building safety stock and quite extended safety stock levels, to be perfectly honest with you. And -- so what we are seeing now is, there's more stability is becoming more normalized. So we do expect, not particularly this year, but into next year, a more normalized inventory level to turn over. And which is the particularly driver between on for our networking capital increases.

So we must bear in mind also that we do have a very short order book, typically two to three months for most products. And so planning is also quite difficult. So we got to get appropriate inventory and to map what our planned -- production plans are.

[Chris Pockett, Head of Communications]

Okay, thanks, Allen. I think Will, you'd like to add something to this.

[Will Lee, Chief Executive]

Yes, I think that building on what Allen said, actually, this is a real area of competitive advantage. For us, if you look, we have a very automated manufacturing that's capable of ramping up quickly, we need the inventory to allow us to do that. Now, as we've seen at the moment, for example, that our electronics, business of selling encoders is weaker. We know when that ramps up, it ramps up very, very quickly. And our ability to respond to that is key in making sure that we're keeping our customers supplied and gaining market share often when we can supply and others can't. So it's vital for us it's a really tricky balance, but it is a core part of our strategy going forward.

[Allen Roberts, Group Finance Director]

But in the first half, the increase in inventory was primarily in our position measurement product line. So we should be in a very good position when the market that peak arrives.

[Chris Pockett, Head of Communications]

Okay, thanks very much both. We're going on to a question that we received in relation to CapEx, I think that's probably going to come to you, Allen. So the question previous guide for Miskin was £30 [ph] million CapEx in FY ‘23 and over £60 million in total, versus now £65 million for FY ‘23. Are you accelerating the build out for what is driving the change in phasing?

[Allen Roberts, Group Finance Director]

Not been any change in the phasing of the development. We spent about £7 million in the first half We're planning to spend around about £25 million in the second half. The balance is other production equipment. So whilst we're expecting £65 million for the total of the year £25 million of that is destined to further Miskin investment with the balance being paid in the first half of next year with completion due to take place at the end of December for whole three.

[Chris Pockett, Head of Communications]

Okay, thanks, Allen. Different area, now to move on to. This question, I think it's going to go to Will. And the question is, what is the likely impact on Renishaw’s business of the US government's export control measures versus the Chinese semiconductor and telecom industries?

[Will Lee, Chief Executive]

Thanks. So the semiconductor stuff here, it doesn't affect us directly. So this is affecting our customers and particularly since really the customers that we sell encoders and laser encoders to. So in terms of how it's going to affect those customers and their demand, then probably the most relevant information is from looking at where they are selling to and their markets.

What is interesting also coming through here probably though is the growth of the domestic Chinese industry here, so Chinese manufacturers have somebody that's an electronics equipment which seems to be accelerating and going well and these are customers of ours as well for our encoder family of products. So we are seeing interesting growth there in some accounts of the more domestic markets.

So whether that's to do with US government export control on -- US controlled equipment, or it's just that the natural what is happening in the growing Chinese market, I don't know, but that's what I would comment of what we're seeing on the ground there.

[Chris Pockett, Head of Communications]

Thanks, Will. We'll stay with you. I think for this one. Please comment on how your order book is trending, growing, declining or flattish? If the order book is growing again, already, when did it through, I meant to say and again.

[Will Lee, Chief Executive]

Okay, so let me talk about -- we have a really healthy order book at the moment. It did peak back in the summer, but at the moment it's relatively flattish, we would say. So, no great changes there at the moment is not really ramping up quickly at the moment, though.

[Chris Pockett, Head of Communications]

Okay, thank you, Will. It's a question on price rises, how come you choose to raise prices only by 2%, given the highly inflationary environment? I think Will is going to take that one.

[Will Lee, Chief Executive]

Yes, so the 2% was the rounds that we have done of which is coming through at the moment. So actually, the impact of that in the first half has been relatively limited, we'd expect to see more of that coming through as that lag of orders comes through into the system. It's always tricky for us to choose what to do on pricing. So clearly, we're always looking at increasing pricing.

But we also want to be making sure that we are -- what we operate in high margin, markets that so the margin we make on our products is high. So the number one thing we're really looking at here is trying to grow market share. So getting new accounts and new business in.

Now, our real strategy for doing that is through the innovation that we put in and the quality of the products that we make, the support we give our customers. But actually, there are other reasons why we end up gaining market. And sometimes that's because it can patent lets a one of a potential customer dine through quality and reliability. And the other is through pricing, which tends to open up the opportunity for us to get in there and get that business and at the margins we're looking at that is a more profitable growth strategy for us often than trying to look at the pricing.

So we're always balancing these things, decisions have been made, pricing increases have been cut in and we'll be looking at this again and going forward and seeing what we think we can put and it'll be different on all our different product lines.

[Chris Pockett, Head of Communications]

Okay, thanks, Will. I got a couple of questions now on margins, which I'm sure going to Allen. Firstly, do you expect margins to improve sequentially in H2 versus H1? The second related question, is what is the long term adjusted PBT margin that the group targets?

[Allen Roberts, Group Finance Director]

Okay. Taking the first point. In terms of margin, our gross margin, we look to be somewhat similar to the first -- as in the second half compared to what it was in the first half.

With the profit before tax, we're looking at a similar -- depends on the range, we're looking at a range from around about 21% to 23%, depending on the beyond the extremities of the forecast.

With regard to long term adjusted profit before tax, group target. Internally, we got this target of around 25% ROS, is sometimes we achieve, but in over the medium term we've been around about 20% between 20% 25%.

[Chris Pockett, Head of Communications]

Okay, thanks, Allen. Next question, which I'm sure Will pick up. Can you specify the growth rate for semiconductor encoders in the half year and your outlook for recovery in this segment? That's going across to Will.

[Will Lee, Chief Executive]

Yes. So with semiconductor encoders what we're talking about here is our encoder family that we sell in semiconductor electronics market, so I'm taking the question of which we have two separate product lines, actually. And it's interesting to look at the difference here. So we have laser encoders, these go into early stage. So frontend equipment for semiconductor manufacturing. And what we're seeing here is we have actually seen good growth over the first half.

And what we think probably is happening here is the lead time that our customers give their customers on these products is quite long and this is part of a very long strategic planning on these. Whereas the encoders, a lot of the encoders goes into the more back end semiconductor packaging up at the semiconductors and a whole range of different equipment there. We think actually, the lead times from our customers to our -- their customers on these are much shorter. And actually, this is an area that has seen a significant reduction in this first half. Now, because of these lead times this, this is the one that we always see it will cycle very quickly.

Now, what we don't know, and we are struggling to understand from those customers I don't think they know themselves is exactly when this is going to recover. We know it will. We know when it does it will recover very aggressively. And our customers will expect those products very quickly in high volumes. But we just don't know at the moment any clarity from that. And exactly when this will happen. They never tend to forecast more than a few months from where we are at the moment. They just don't know.

[Chris Pockett, Head of Communications]

Okay, thanks, Will.

We had a question earlier about CapEx on Miskin. I think Will probably this is more relevant for you. It's related to that expenditure and expansion in Miskin. My question is given Miskin expands the production footprint by 60%. Is it reasonable to assume that is the level of growth you're aiming for in the medium term defined as two to three years by the questioner unconscious revenue might not scale proportionately with production space? And that, one for Will.

[Will Lee, Chief Executive]

Okay, so clearly our plans are for aggressive growth. That's -- that is us. But i.e. you should not draw a correlation between our manufacturing space and our growth targets. One of the bits here will be actually if you look at it, some of our newer products that are growing well, ranging from additive machines to gauging systems to enclosed encoders are significantly larger than the products that we're used to making and therefore need more floor space. So don't draw a correlation between those two.

[Chris Pockett, Head of Communications]

Okay, thank you. We're going to move on to a question now around currency. Given 1% overall constant currency growth, is it correct to assume that volumes overall were negative? And I think Allen's going to pick that one up.

[Allen Roberts, Group Finance Director]

I think that the volumes are pretty similar, given the 1% growth, there is probably a small impact because of the price increases. But overall, we've seen sort of, in certain market segments, increased volumes, and particularly in the Semicon, we've seen a reduction in volumes. But overall, depending on market volumes are sort of similar.

[Chris Pockett, Head of Communications]

Okay, thanks, Allen. Question here for Will. How does trading develops in the early weeks of 2023?

[Will Lee, Chief Executive]

No huge changes here since what we saw at the end, the big bit this time of year is Chinese New Year, which is always with the importance of Asia to us is a quiet time for that region. That's coming back. And we probably expect with a combination of the COVID peak having been and gone in a lot of the China areas that that we are working with. And year over then it's going to be interesting to see how things start to accelerate going forward there.

[Chris Pockett, Head of Communications]

Thank you. Currency question here, which I’m sure, Allen will pick up. The H1 results show 6% of the revenue growth is due to favorable currency. Can you give an indication of the currency impact on profit, with Sterling strengthening against the US dollar in recent months? Are you expecting currency headwinds in the second half? And that's going to go to Allen.

[Allen Roberts, Group Finance Director]

Thanks, Chris. The 6% currency gain, which is around 20 million pounds is measured excluding the impact of the forward contracts we use. In our adjusted profit, we've four contract losses of circa 13 million, compared to a small gain of about 300,000 last year.

Additionally, our overseas costs have increased by around £4.5 million due to currency. So the net benefit of these items on profit is around about £2 million.

Looking to the second half, Sterling has strengthened against the US dollar, but it's weaker against the euro and yen. And we also have better forward contract rates in half two. So, based on the current rates, we would expect to see a benefit in profit in the second half.

[Chris Pockett, Head of Communications]

Okay, thanks, Allen. Another question here on capital expenditure. You possibly may have answered most of this, but I'll read it out anyway. Capital expenditure is estimated at around £45 million in the second half. Can you provide more detail on this and give an indication of ongoing CapEx plans? And I'll put that one on to Allen.

[Allen Roberts, Group Finance Director]

Thank you. In the first half we spent around about £20 million of which most of that was on plant and equipment, and about 7 to 8 on property expenditure. I've covered earlier the spend on Miskin in the second half, which is going to be around about £25 million. We've also got -- we're also building a small facility down in Brazil, which is due to come online later in this fiscal year and further production equipment requirements.

Going into next year, we're seeing the finalization of Miskin development primarily in the first half. So most of the spend will be in the first half. Then of course we've got the subsequent fit out to take place in the second half. So we're looking at probably a similar CapEx spend next year could be to what we're doing this year.

[Chris Pockett, Head of Communications]

Okay, thanks, Allen. Question here on Semicon, I think we've answered that one already. So it's a question -- so I think a question here on profitability at within our analytical instruments business. The question is, why did it fall so sharply on that sales? Who's going to take that one, is that Will going to?

[Will Lee, Chief Executive]

We saw the profitability has drop year-on-year from £1.6 million in ‘22 to just over £100,000 in this year, primarily due to labor costs and increased marketing expenditure.

[Chris Pockett, Head of Communications]

I don’t know, but if you want to?

[Allen Roberts, Group Finance Director]

Yes, just so, the answered to the question. I think that positive part of it is we do have a strong orders that have come in for Raman, really strong order book and planning for a really good second half there, to really pull things through. So.

[Chris Pockett, Head of Communications]

Great, thank you. Some question now about relation to our metrology business. So could you expand on the difference you're seeing in the metrology business between strong five axis demand and weaker three axis job shop trends? Is the strong high end demand sustainable in current economic conditions? And I'll put that one across to Will.

[Will Lee, Chief Executive]

Yes, maybe if we start with the three axis job shop, so I believe here's what we're seeing from talking to manufacturers is that these are more often bought with credit a smaller companies, and that credit has become more expensive and more difficult to obtain. So they have cut back in some investment there. And these also on relatively short lead times.

The five axis machine tools are far more complicated, much longer lead time and often going into more sophisticated, larger companies. So what we've got here is there is quite an order backlog here. If you were to go along and try and buy a high end five axis machine to at the moment, you're still going to be quoted a long lead time, probably more than a year.

And I think in terms of the current economic conditions supporting that, then actually, what we've seen is some markets that have been weak for quite a long time. Defense, I think we've mentioned the saying, actually, that is really driving the need of some of these high end machine tools. So in general, we're not seeing much change there. And this market tends to move far slower than the stuff we're talking about, particularly with the electronics manufacturing earlier on in the webcast.

[Chris Pockett, Head of Communications]

Okay, thanks, Will.

It was a long question on price impact from Richard Page. But, Richard, I see that you have actually said that we have answered that one already. So if you're happy with that, we'll move on. So we'll take another question here, says that bland information on markets suggests no wider development of targeted business, are you able to provide any more encouraging details on your current strategies? And I think Will, you're going to take that one.

[Will Lee, Chief Executive]

Yes, that the bland information will goes back to where we are selling the end markets, which is our estimate from many of the channels we go through or where we sell to end users direct. So always take that in context of that is our estimate. We are never short on that.

In terms of the encouraging on the current strategy. I think it's very positive at the moment. So we have seen as we've talked about existing customers taking less product from us because their demand is less. And what we have managed to do despite that downturn, is some of our newer product line strategies, which have been coming through which have been investing in have made that up and have compensated for that. So that's new market share, new products coming through. And some of this is from enclosed encoders. Some of this is from the more high value capital equipment that we are selling.

So I think actually what it shows is in a depressed market in certain areas, we've managed to power through with the really important stuff that we are in control of gaining customers.

[Chris Pockett, Head of Communications]

Thanks, Will.

Question here about China. You mentioned increased competition in Chinese markets. Are you experiencing attempts to copy your patented products? How difficult are they to defend? And I'll put that one to Will.

[Will Lee, Chief Executive]

Yes, so we'll certainly see people looking at Renishaw as the premium brand and the most recognized in many of the industries and therefore we are the other people that they try and copy. So what we see there is I think two things, in terms of copying, yes, in terms of trying to infringe patterns than less actually. So they will understand where we have patterns. If they're going to try and make success out of it by copying us they have to be able to market it without ending up often outside of China. So typically, they are not trying to infringe patents that have been a case of occasions of software, copyright issues or patents stuff. And we have had discussions on that.

[Chris Pockett, Head of Communications]

Okay, thanks, Will. Right, we got a very large question here. Thanks, Jonathan, for this. There's about four parts to it and quite different. So I think if we take them perhaps a one part at a time.

Can you talk about the level of revenue generated from your multi laser AM machine? And how profitable is this product line? And what is the expected growth rate going forward? Will it continue at double digits? I think Will that's quite a substantial question there, so we'll stop at that point and we'll go back to the other bits. So Will, I'll hand over to you to take that first part.

[Will Lee, Chief Executive]

Okay. So I'm afraid on the first bit then we don't talk about revenue profitability with in the segments that we comment on. It is I will go -- it is a significantly smaller part of the business than some of our more established areas, which is why it's been particularly pleasing to see that the growth and it really starting to accelerate at the moment.

For us is looking at maybe not at the immediate, it's looking at the medium and longer term with this, we see a few key things coming through here. So the first part of our strategy of working with significant potential volume accounts to repeat business is definitely working. So we are now getting the sales that people are established with our equipment, they need more capacity, they are buying.

Then two things that we are putting in in terms of an engineering research and development, which is focusing on sort of continual improvement and some quite neat new features that we'll be bringing forward on our existing platform, adding more productivity to customers.

And then secondly, we are also working on then the next generation, which is learning and all the stuff from existing, and really looking at the automation that we're going to put in to make this the sort of light site manufacturing of the future, which is where we think the real high volume growth is going to come from here.

So that was the first part of the question.

[Chris Pockett, Head of Communications]

Okay, yes. So if I go on to the second part, then Will if I just read that out. So, you are putting through price rises, but are you also repricing the existing order book? And also what level of revenue visibility months? Does the order book give you for H2?

[Will Lee, Chief Executive]

So, no, we are not repricing existing order books. So that is why there has been a lag on the price increase coming through and why it's coming through stronger in this second half of this financial year than it did in the first. I said our order book is still healthy for the group. We've got three months or so of order book going forward now, which for us is good.

[Chris Pockett, Head of Communications]

Okay, thanks. And the third part of this question, I think is probably going to be quite short answer. But, when we last heard from you, you said discussions were ongoing about the 53% stake held by Sir David and John Deere, are these discussions still ongoing?

[Will Lee, Chief Executive]

So yes, these discussions are still ongoing and we're discussing it regularly. And we're good discussions on it. And unfortunately, as I think everyone knows, we really can't comment on this.

[Chris Pockett, Head of Communications]

Okay, thanks. And then the final part of this question. Can you give us a percentage split of encoder revenue between laser and optical?

[Will Lee, Chief Executive]

Yes, it's optical encoders is much bigger here. It's not 80-20 something like that between the two.

[Chris Pockett, Head of Communications]

Okay. Thanks, Will.

We've already touched on AM. But here's a slightly different question relating to additive manufacturing. What types of end products are your AM machines being used for? Look sure, Will is going to take that one.

[Will Lee, Chief Executive]

Yes, so a vast range actually already from the sort of traditional ones that have aerospace, defense, dental, auto implants, through to sort of some of the newer stuff that we talked about six months ago of consumer electronics, where the volumes are clearly much higher.

So a wide range, I think the important thing here maybe is looking at the future. When this becomes more and more a proven way for all sorts of parts of the future and becomes a really established manufacturing process. Not just where you want meet new features or something special, but as a way of making parts more sustainably using less material and energy in the long term in the future.

[Chris Pockett, Head of Communications]

That's great. Thank you. Okay. We're going to appear to be the last couple of questions now if you do have any more questions then please send them through.

Question here on working from home. So what percentage are still of your employees still working from home, if any, and I'll start with Will on that one.

[Will Lee, Chief Executive]

So you got to look really at the job function and the role of that employee within the business. So we still, and we will, I think forever have a high percentage of our software engineers working remotely or connected on teams, reviewing code on each other's screens and it's a highly effective way of working.

At the other stream, clearly manufacturing, we're always in, I have always been in to make product. What we're seeing now is actually, really from a developing hardware versus software development in the hardware people are in working together developing new products, and that's the most productive way of doing that. So it's a really a split across the board.

[Chris Pockett, Head of Communications]

Okay, thanks. And this may well be our last question less than one would like to submit anything quite quickly. Distribution costs seem to have increased 20% against sales, increasing 7%. Should we assume distribution costs have stabilized here? Was there any abnormal expenses in first half as you caught up on expenditures, and I think that one's probably going to Allen?

[Allen Roberts, Group Finance Director]

What we are seeing -- we are seeing here is an increase in more customer facing activities, and hence we're seeing an increase in expedition costs and travel costs, because not a lot took place during the pandemic. But we're not back to pre-pandemic levels, right now. There is nothing abnormal in the first half. So we've more normalized. And of course, there is the impact of the annual peer review that took effect in the first half of this year.

[Chris Pockett, Head of Communications]

Okay, Allen, well, that is all the questions that we've had submitted. So thank you very much to everyone that's attended. Obviously, we've done this in a slightly different way this year. So if there is any feedback positive or negative, then please do send that through to the [e-mail] email address. That'll be much appreciated.

As ever, we'll aim to publish a recording of this webcast on the investor relations section of our website by tomorrow morning. So on behalf of we've had actually we've had one question submitted just before the end, so we'll take it we have a few minutes.

So the question is on a special dividend, question was asked during last webinar, on the Board was reported to be considering such a payment. Any update on that? Allen, I’ll [indiscernible],

[Allen Roberts, Group Finance Director]

Thanks, Chris. Yes, I think this sort of forms part of what we have our capital allocation strategy. And maybe I'll just spend a moment just going through that. We -- our priority is focusing on our organic growth. And the investment is required in our existing businesses, including capital expenditure.

We also then look at the minimum cash target that we've set internally deferred to accommodate any particular severe downturns that may occur. So that we've got, if you'd like rainy day money for that, to have a contingency fund to protect us in severe downturn scenario.

We also there -- we also looking at maybe supplementing the organic growth with some small acquisitions maybe. And we also have what we call a progressive dividend policy for delivering regular cash returns to our shareholders. We do have significant cash balances and we do have minimum cash holdings that we determined internally and that possibly there could be a return or distribution to shareholders. But currently, there are no plans to do so.

[Chris Pockett, Head of Communications]

Okay, thanks, Allen. That really is that it now no more questions that come in. I hope you've enjoyed the session. We've almost gone to the full 45 minutes. So thanks again for attending. And have a good day everyone.